Bad or good neighbours: a spatial financial contagion study

Abstract

Purpose The purpose of this paper is to study the evolution of financial contagion between Eurozone banks, observing the credit default swaps (CDSs) market during the period 2009–2017. Design/methodology/approach The authors use a dynamic spatial Durbin model that enables to explore the direct and indirect effects over the short and long run and the transmission channels of the contagion. Findings The results show how contagion emerges through physical and financial market links between banks. This finding implies that a bank can fail because people expect other related financial institutions to fail as well (self-fulfilling crisis). The study provides statistically significant evidence of the presence of credit risk spillovers in CDS markets. The findings show that equity market dynamics of “neighbouring” banks are important factors in risk transmission. Originality/value The research provides a new contribution to the analysis of EZ banking risk contagion, studying CDS spread determinants both under a temporal and spatial dimension. Considering the cross-dependence of credit spreads, the study allowed to verify the non-linearity between the probability of default of a debtor and the observed credit spreads (credit spread puzzle). The authors provide information on the transmission mechanism of contagion and, on the effects among the largest banks. In fact, through the study of short- and long-term impacts, direct and indirect, the paper classify banks of systemic importance according to their effect on the financial system.

Systemic risk contagion within US states

“…In this regard, different authors have taken different approaches to determine the effect of this crucial topic. Most researchers in this field have worked on the geographical spillover of systemic risk (Avdjiev et al , 2019; Foglia et al , 2020) at country level, where the USA plays a dominant role in the literature (Dai et al , 2020). Others investigate the devastating effect of the systemic risk in global macroeconomy (He and Krishnamurthy, 2019; McMillan, 2020).…”

Islamic Bank Deposits during COVID-19 Pandemic: A Spatial Finance Approach

“…The pandemic also similarly affected customer orientation in their saving through increasing consumer purchasing power towards basic needs (Baret et al, 2020;Boot et al, 2020). The risks to the performance of banks and Deposits on the IRBs can create a spatial spillover effect on other IRBs through direct relationships between neighbouring banks and among customers that share similar profile (Foglia et al, 2020). Moreover, Zhang et al (2020) stated that the pandemic also created an unpredictable level of liquidation risk, thereby causing losses to all stakeholders within a short period.…”