Financial Networks and Contagion Elliott, Matthew; Golub, Benjamin; Jackson, Matthew O.
The American economic review,
10/2014, Volume:
104, Issue:
10
Journal Article
Peer reviewed
Open access
We study cascades of failures in a network of interdependent financial organizations: how discontinuous changes in asset values (e.g., defaults and shutdowns) trigger further failures, and how this ...depends on network structure. Integration (greater dependence on counterparties) and diversification (more counterparties per organization) have different, nonmonotonic effects on the extent of cascades. Diversification connects the network initially, permitting cascades to travel; but as it increases further, organizations are better insured against one another's failures. Integration also faces trade-offs: increased dependence on other organizations versus less sensitivity to own investments. Finally, we illustrate the model with data on European debt cross-holdings.
As economists endeavor to build better models of human behavior, they cannot ignore that humans are fundamentally a social species with interaction patterns that shape their behaviors. People's ...opinions, which products they buy, whether they invest in education, become criminals, and so forth, are all influenced by friends and acquaintances. Ultimately, the full network of relationships—how dense it is, whether some groups are segregated, who sits in central positions—affects how information spreads and how people behave. Increased availability of data coupled with increased computing power allows us to analyze networks in economic settings in ways not previously possible. In this paper, I describe some of the ways in which networks are helping economists to model and understand behavior. I begin with an example that demonstrates the sorts of things that researchers can miss if they do not account for network patterns of interaction. Next I discuss a taxonomy of network properties and how they impact behaviors. Finally, I discuss the problem of developing tractable models of network formation.
We survey the literature on the economic consequences of the structure of social networks. We develop a taxonomy of "macro" and "micro" characteristics of social-interaction networks and discuss both ...the theoretical and empirical findings concerning the role of those characteristics in determining learning, diffusion, decisions, and resulting behaviors. We also discuss the challenges of accounting for the endogeneity of networks in assessing the relationship between the patterns of interactions and behaviors.
We examine how the speed of learning and best-response processes depends on homophily: the tendency of agents to associate disproportionately with those having similar traits. When agents' beliefs or ...behaviors are developed by averaging what they see among their neighbors, then convergence to a consensus is slowed by the presence of homophily but is not influenced by network density (in contrast to other network processes that depend on shortest paths). In deriving these results, we propose a new, general measure of homophily based on the relative frequencies of interactions among different groups. An application to communication in a society before a vote shows how the time it takes for the vote to correctly aggregate information depends on the homophily and the initial information distribution.
The “friendship paradox” (first noted by Feld in 1991) refers to the fact that, on average, people have strictly fewer friends than their friends have. I show that this oversampling of more popular ...people can lead people to perceive more engagement than exists in the overall population. This feeds back to amplify engagement in behaviors that involve complementarities. Also, people with the greatest proclivity for a behavior choose to interact the most, leading to further feedback and amplification. These results are consistent with studies finding overestimation of peer consumption of alcohol, cigarettes, and drugs and with resulting high levels of drug and alcohol consumption.
The Diffusion of Microfinance Banerjee, Abhijit; Chandrasekhar, Arun G.; Duflo, Esther ...
Science (American Association for the Advancement of Science),
07/2013, Volume:
341, Issue:
6144
Journal Article
Peer reviewed
Open access
To study the impact of the choice of injection points in the diffusion of a new product in a society, we developed a model of word-of-mouth diffusion and then applied it to data on social networks ...and participation in a newly available microfinance loan program in 43 Indian villages. Our model allows us to distinguish information passing among neighbors from direct influence of neighbors' participation decisions, as well as information passing by participants versus nonparticipants. The model estimates suggest that participants are seven times as likely to pass information compared to informed nonparticipants, but information passed by nonparticipants still accounts for roughly one-third of eventual participation. An informed household is not more likely to participate if its informed friends participate. We then propose two new measures of how effective a given household would be as an injection point. We show that the centrality of the injection points according to these measures constitutes a strong and significant predictor of eventual village-level participation.
We investigate the role of networks of alliances in preventing (multilateral) interstate wars. We first show that, in the absence of international trade, no network of alliances is peaceful and ...stable. We then show that international trade induces peaceful and stable networks: Trade increases the density of alliances so that countries are less vulnerable to attack and also reduces countries’ incentives to attack an ally. We present historical data on wars and trade showing that the dramatic drop in interstate wars since 1950 is paralleled by a densification and stabilization of trading relationships and alliances. Based on the model we also examine some specific relationships, finding that countries with high levels of trade with their allies are less likely to be involved in wars with any other countries (including allies and nonallies), and that an increase in trade between two countries correlates with a lower chance that they will go to war with each other.
I provide a typology of social capital, breaking it down into seven more fundamental forms of capital: information capital, brokerage capital, coordination and leadership capital, bridging capital, ...favor capital, reputation capital, and community capital. I discuss how most of these forms of social capital can be identified using different network-based measures.
We provide an overview of the relationship between financial networks and systemic risk. We present a taxonomy of different types of systemic risk, differentiating between direct externalities ...between financial organizations (e.g., defaults, correlated portfolios, fire sales), and perceptions and feedback effects (e.g., bank runs, credit freezes). We also discuss optimal regulation and bailouts, measurements of systemic risk and financial centrality, choices by banks regarding their portfolios and partnerships, and the changing nature of financial networks.
SOCIAL NORMS AND THE ENFORCEMENT OF LAWS Acemoglu, Daron; Jackson, Matthew O.
Journal of the European Economic Association,
04/2017, Volume:
15, Issue:
2
Journal Article
Peer reviewed
We examine the interplay between social norms and the enforcement of laws. Agents choose a behavior (e.g., tax evasion, production of low-quality products, corruption, harassing behavior, substance ...abuse, etc.) and then are randomly matched with another agent. There are complementarities in behaviors so that an agent’s payoff decreases with the mismatch between her behavior and her partner’s, and with overall negative externalities created by the behavior of others. A law is an upper bound (cap) on behavior. A law-breaker, when detected, pays a fine and has her behavior forced down to the level of the law. Equilibrium law-breaking depends on social norms because detection relies, at least in part, on whistle-blowing. Law-abiding agents have an incentive to whistle-blow on a law-breaking partner because this reduces the mismatch with their partners’ behaviors as well as the negative externalities. When laws are in conflict with norms and many agents are breaking the law, each agent anticipates little whistle-blowing and is more likely to also break the law. Tighter laws (banning more behaviors), greater fines, and better public enforcement, all have counteracting effects, reducing behavior among law-abiding individuals but increasing it among law-breakers. We show that laws that are in strong conflict with prevailing social norms may backfire, whereas gradual tightening of laws can be more effective in influencing social norms and behavior.
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