effects of european sovereign debt crisis on global financial markets
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Prof. Dr. Irena VodenskaBoston University, USA
Effects of European Sovereign Debt Crisis on Global Financial Markets
Greening Financial Sector | Global Sustainable Finance Conference 4th to 5th of July 2013, Karlsruhe ‐ Germany
Outline
Motivation Europe and the Euro European sovereign debt crisis What is systemic risk and why does it matter? Connectivity of financial systems Dynamics in network of financial institutions Distress propagation model Multiplex Financial Networks Discussion and Conclusion
Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, GermanyThursday, July 4th, 2013 2
Motivation
Economic systems are globally interconnected Exogenous or endogenous shocks can provoke cascading
failures Financial systems are susceptible to to sharp transitions from
seemingly stable to irreversibly unstable states Sound policies are necessary to halt cascading failures or
soften their impact
Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, GermanyThursday, July 4th, 2013 3
Creation of the European economic and monetary union – long and carefully planned process
Intended to embrace the historically fragmented European countries and increase their international productivity and trade competitiveness
The creation of the euro has brought some positive and some challenging developments
ECE countries have emerged as market economies from former Eastern European communist regimes
Thursday, July 4th, 2013 4
European Union and the Euro
Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, Germany
The challenges to joining the EU for the former communist countries are at least two‐fold:Changes in the economic environments and conversions of property rights from centralized or Government‐owned to privateImportant cultural and societal transformation
Mortgages and other household loans have been the fastest growing products in the lending market, with the highest growth rates achieved in Lithuania, Latvia, Bulgaria, and Romania (Szapary & Darvas, 2008).
Thursday, July 4th, 2013 5
Challenges – Property, Culture
Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, Germany
Increased trade among the countries that use common currency has been prominently studied (Frankel & Rose, 2002; Micco, et al., 2003; Bun & Klaasen, 2007)
Imports and exports significantly enhance the overall economic performance of a country
Trade is an important determinant of growth in GDP as well as real income
Price stabilization ‐ desirable after turbulent periods of structural price changes during the transitional pre‐EU accession period (Frankel, 2004; Wdowinski, 2005).
Thursday, July 4th, 2013 Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, Germany 6
Common Currency pros
Having local currency, the Government can reduce the real interest rate when needed to encourage investments in domestic businesses or depreciate its currency to boost the exports towards the countries with stronger currencies (Frankel, 2004)
Given the possibility of future economic shocks, economic convergence increases the probability of crisis contagion. Examples include:Western Europe during 1992‐93East Asia in 1997‐98, and the Russian default crisis of 1998 Latin America in 1982, 1994‐95 and 1998‐99 (Frankel, 2004)
Thursday, July 4th, 2013 Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, Germany 7
Common Currency cons
Treaty of Rome of 1957 The Maastricht Treaty of 1992 The Stability and Growth Pact of 1997 Needed:Well‐defined criteria and process for exiting the Eurozone. Maintaining fiscal discipline and required economic criteria after becoming an EU member
Under current circumstances:The EMU and the euro may encounter more and larger crisis
New members may advocate for use of their local currencies.
Thursday, July 4th, 2013 Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, Germany 8
EU accession plan missing link(s)
Distribution of Structural and Cohesion Funds, 1989‐2006
Thursday, July 4th, 2013 Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, Germany 9
Total funds (annual average) (millions of ECUs)
Funds as a percent of GDPa
Group or countryCohesion countriesSpain 111,564.0 (6,198.5) 1.1Portugal 46,283.4 (2,571.3) 2.5Ireland 16,000.8 (895.1) 1.6Greece 50,922.0 (2,829.3) 3.1Other EU countriesAustria 3,096.0 (258.1) 0.11Belgium 4,753.8 (264.1) 0.10Denmark 1,818.0 (101.0) 0.06Finland 3,459.6 (288.3) 0.26France 36,275.0 (2,015.3) 0.13Germany 58,181.0 (3,232.3) 0.14Italy 61,905.6 (3,439.2) 0.30Luxembourg 255.0 (14.2) 0.08Netherlands 6,035.4 (335.3) 0.09Sweden 3,153.6 (262.8) 0.12United Kingdom 33,827.4 (1,879.3) 0.16
ECU = European currency unit.a. GDP for 1996.Sources: The European Union and its “cohesion” policies (Institute for International Economics, http://www.iie.com), European Commission, First Report on Economic and Social Cohesion (Brussels, 1996); European Union, http://www.europa.eu.int/comm/regional_policy/; and Simon Hix, The Political System of the European Union (NY: St. Martin’s Press, 1999) (Pastor, 2001)
Temporal dynamics of selected macroeconomic indicators
Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, GermanyThursday, July 4th, 2013 10
Market Capitalization
EU ECE members
Romania 2 20
Bulgaria 5 15
EU Candidates
Croatia 11 41
Macedonia 0.2 29
Indicators/ Groups/Countries 1999
2000
2010‐
‐2011
Indicators/ Groups/Countries 1999
2000
2010‐
‐2011
GDP per capita growth
EU ECE members
Lithuania ‐0.4 3
Romania ‐1 1.1
EU candidates
Montenegro ‐9 2.2
Serbia ‐11 1.4
Turkey ‐4.8 1.4
Temporal dynamics of selected macroeconomic indicators
Thursday, July 4th, 2013 Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, Germany 11
Indicators/ Groups/Countries 1999
2000
2010‐
‐2011
Sovereign Debt (% of GDP)
EU ECE countries
Bulgaria 74 15
Hungary 60 80
EU candidates
Macedonia 47 28
Iceland 43 99
Inflation
EU ECE countries
Poland 7.3 2.7
Romania 45 6
EU Candidates
Serbia 42 6
Croatia 4 1
Turkey 65 8.5
Indicators/ Groups/Countries 1999
2000
2010‐
‐2011
Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, Germany
Market Capitalization of exchange‐listed companies – EU candidates
0
50
100
150
200
250
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011
Market cap
. of listed Co
's (%
of G
DP)
Euro Zone
Croatia
Iceland
Macedonia
Montenegro
Serbia
Turkey
Thursday, July 4th, 2013 12
What happened to Iceland? In 2001 banks were deregulated By 2007, three major banks in Iceland held foreign debt of over € 50
billion compared to Iceland’s GDP of € 8.5 billion The crisis contributed to the collapse of all three of the country's
major banks following difficulties in debt refinancing and a run on foreign deposits
In 2007, The Economist ranked the Icelandic krona as the most overvalued currency in the world
The 2008–2012 financial crisis is characterized as a major economic and political crisis in Iceland
Relative to the size of its economy, Iceland’s banking collapse is the largest suffered by any country in economic history
Sources: Central Bank of Iceland: External Debt, Oct. 21, 2008,The Economist: Cracks in the crust, Dec. 11, 2008,The Financial Times: The big chill, Nov. 15, 2008
Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, GermanyThursday, July 4th, 2013 13
0
20
40
60
80
100
120
140
160
1990 1995 2000 2005 2010
Governm
ent D
ebt (as % of G
DP)
Government Debt for the PIIGS countries, Germany, France and the United States
Greece
Italy
Portugal
United States
France
Germany
Ireland
Spain
Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, GermanyThursday, July 4th, 2013 14
The case of Greecefrom Boomerang by Michael Lewis
Greece – nation of about 11 million peopleHad roughly $400 billion outstanding debtAnd owed another $800 billion in pensions So, $145 billion bailout was … a gestureGreek railroad annual revenues are €100 million with annual wages of €400 million and €300 million in other expenses
Average railroad employee earns €65,000/y
Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, GermanyThursday, July 4th, 2013 15
Greek Tragedy (or Mystery) from Boomerang by Michael Lewis
In October 2009, estimated budget deficit was 3.7% (George Papaconstantinou – new minister of finance had just took office)
Couple of weeks later, the budget deficit was revised to 12.5% and eventually turned out to be 14%
In 2009, the tax collection collapsed because it was an election year (usual election year practice)
Approx. 30‐40% of taxes are typically not paid It takes about 15 years to resolve tax cases, so people prefer
to go to court rather than pay taxes
Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, GermanyThursday, July 4th, 2013 16
On the Ground in Irelandfrom Boomerang – by M. Lewis
• In 2008 Irish politicians made a decision to guarantee the debts of the largest Irish banks
• In 2010 Anglo Irish Bank declared €34 billion in losses – on total loan amount of €72 billion
• 2006 unemployment rate was 4%, 2010 – 11%• 2007 Ireland had budget surplus and by 2010 its deficit was 32%
of the country’s GDP• Since 2000, lending to construction and real estate has increased
from 8 % to 28% ‐ roughly all Irish deposits have been handed over to the commercial property developers
Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, GermanyThursday, July 4th, 2013 17
Systemic Risk
Global financial crisis of 2007‐2012 Considered to be the worst crisis since the Great Depression
of the 1930s Propagated value deterioration of most financial markets
around the world Contributed to potential complete collapse of major financial
institutions Involved national governments in bailing out too‐big‐to‐fail
banks
Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, GermanyThursday, July 4th, 2013 18
Systemic Risk (cont.)
Adversely affected the housing market and real estate prices globally
Contributed to increased unemployment rates and prolonged workforce unemployment
Significantly reduced consumer wealth and quenched appetite for spending
Contributed to the European sovereign‐debt crisis
Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, GermanyThursday, July 4th, 2013 19
In light of the sovereign debt challenges faced by the Eurozone countries: In December 2011, the European Central Bank committed to
provide €1 trillion of funds for the European banks for up to three years in attempt to stem the effects of the most recent financial crisis
This injection of liquidity intends to give the European governments three years to make necessary fiscal adjustments
Only time could tell whether this added liquidity into the European banking system will end the European sovereign debt crisis
Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, Germany
European Bank Crisis
Thursday, July 4th, 2013 20
Selected Eurozone countries considerably increased their borrowing to unsustainable central government debt to GDP ratios: The Greek and the Irish debt crisis only a wake‐up call for the EUGreek GDP ‐ $300 billionIrish GDP ‐ $200 billion Combined, smaller that the GDP of Pennsylvania.
Italy and Spain – much larger economies ‐> bigger problemsItaly has close to €2 trillion debt outstanding with 50 percent financed externally Spain has over €700 billion of public debt outstanding and unemployment rate of 22 percent (Federal Reserve Bank of St. Louis, 2011).
European Sovereign Debt Crisis
Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, GermanyThursday, July 4th, 2013 21
Economic and Financial Networks as Complex Interconnected Systems
Network A – Global Banking SystemNetwork B – Sovereign (Government) Debt Network C – World Financial MarketsNetwork D – Currency dynamics
Correlations across different networks (layers)Causality relationships within the networks
Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, GermanyThursday, July 4th, 2013 22
Banks and Sovereign Debt Network Dynamics
Equity
Banks
Assets
Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, GermanyThursday, July 4th, 2013 23
Assets
Asset value=area
Liabilities
A CB D
X ZY
Banks and Sovereign Debt Network DynamicsOne bank is distressed sells some assets at reduced prices
Equity
Banks
Assets
Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, GermanyThursday, July 4th, 2013 24
Assets
Asset value=area
Liabilities
A B C D
X Y Z
Banks and Sovereign Debt Network DynamicsSales affect asset values of other banks
Banks’ equity shrinks
Equity
Banks
Assets
Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, GermanyThursday, July 4th, 2013 25
Assets
Asset value=area
Liabilities
A B C D
X Y Z
Banks and Sovereign Debt Network DynamicsBanks get distressed sell more assets
Equity
Banks
Assets
Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, GermanyThursday, July 4th, 2013 26
Assets
Asset value=area
Liabilities
A CB D
ZYX
Banks and Sovereign Debt Network DynamicsEquity of Bank D goes to zero Bank D defaults
Equity
Banks
Assets
Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, GermanyThursday, July 4th, 2013 27
Assets
Asset value=area
Liabilities
A B C D
X Y Z
Banks’ Adjacency Matrix without the Sovereign Debt Holdings weight
Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, Germany
Red – 1 (holdings)
Blue – 0 (no holdings)
Matrix Density is 60%
Average #assets=3
Greece Italy Portugal Spain Ireland
Financial Institutions
Thursday, July 4th, 2013 28
Sovereign Debt Holdings of Financial Institutions (log)
Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, Germany
Financial Institutions
Greece Italy Portugal Spain Ireland
Thursday, July 4th, 2013 29
GIIPS Sovereign Debt Holdings in 2011
Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, GermanyThursday, July 4th, 2013 30
GIIPS Sovereign Debt Holdings by Individual Banks
Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, GermanyThursday, July 4th, 2013 31
Breakdown of GIIPS Debt holdings in Individual Banks’ portfolios
Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, GermanyThursday, July 4th, 2013 32
Banks’ equity level distribution
Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, GermanyThursday, July 4th, 2013 33
Distribution of Banks’ holdings in GIIPS Sovereign Debt
Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, GermanyThursday, July 4th, 2013 34
Measuring Fin. Institution Distress Propagation
Banco Bilbao
Societe Generale
Banco Espirito Santo
110100
100010000
1000001000000
10000000100000000
1E+091E+101E+111E+121E+131E+141E+151E+16
Nam
e abbr ISP
BBVA
UniCred
itAllianz
Santande
rAX
ABM
PSBN
PGen
erali
Unipo
lCo
mmerz
NatB Grec
Cred
itSuisse
Aviva
EFG
Barclays UBI
Zurich FS
Mun
ichR
ECa
ixa
Alph
aKB
C DBSoc Gen BCP
Franklin
Ageas
UBI Pramerica
BES
BPI
HSBC
Union
Natixis
Fide
uram
Blackrock
Mitsub
ishi
RBS
BankInter
UBS
Aegon
Helvetia
Inbe
rcaja
ING
DPB
Land
esbank
Baloise
WLV
Deka
Daiwa
Sella
Swiss
LH
Chuo
Mitsui
Morg Stan
Group
ama
L&G
Erste
BofA
Danske
Gespastor
Phoe
nix
Empo
riki
Opp
enhe
imer
Attica
J Baer
Rothschild
Lloyds
Vien
naMilano
Sumito
mo
Tokio Mar
State st
Riversou
rce
Nom
ura
M&G
Swed
bank
TT elta
Hwang‐DB
SVo
ntob
elFvLanschot
JP M
organ
Mellon
MacKe
nzie
PT Row
e
In m
illion eu
ro affe
cted
by prop
agation of distress Financial Inst. Rankings by influence on the overall system
Rank @ b=‐400,a=‐100 Rank @ b=‐400,a=10 Rank @ b=‐400,a=200 Rank @ b=10,a=‐100Rank @ b=10,a=10 Rank @ b=10,a=200 Rank @ b=150,a=‐100 Rank @ b=150,a=10Rank @ b=150,a=200 Rank @ b=400,a=‐100 Rank @ b=400,a=10 Rank @ b=400,a=200Total Holdings Rank @ b=‐100 Rank @ b=10 Rank @ b=500
Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, GermanyThursday, July 4th, 2013 35
Different regimes of network behavior
Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, GermanyThursday, July 4th, 2013 36
Multiplex two‐layer network of stock markets and foreign exchange
Multiplex networks have been shown to be more fragile to shocks compared to single networks, which is especially critical in financial networks.
We study dependencies of a stock market index network on one hand and foreign exchange rate network on the other.
Create two networks where nodes represented countries and connectivity links were defined as probabilities of contagion derived from correlations between the nodes weighted by the countries’ Gross Domestic Products
We developed a model for systemic risk propagation through the global stock market and foreign exchange coupled networks
Thursday, July 4th, 2013 Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, Germany 37
Stock market and foreign exchange Pearson and Partial correlations
Thursday, July 4th, 2013 Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, Germany 38
PearsonSTKyearlycol
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012
500
1000
1500
2000
2500
3000
3500-1
-0.8
-0.6
-0.4
-0.2
0
0.2
0.4
0.6
0.8
1PartialSTKyearlycol
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012
500
1000
1500
2000
2500
3000
3500-1
-0.8
-0.6
-0.4
-0.2
0
0.2
0.4
0.6
0.8
1
PearsonFXyearlycol
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012
500
1000
1500
2000
2500
3000
3500-1
-0.8
-0.6
-0.4
-0.2
0
0.2
0.4
0.6
0.8
1
PartialFXyearlycol
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012
500
1000
1500
2000
2500
3000
3500-1
-0.8
-0.6
-0.4
-0.2
0
0.2
0.4
0.6
0.8
1
PearsonSTKmonthlycol
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012
500
1000
1500
2000
2500
3000
3500-1
-0.8
-0.6
-0.4
-0.2
0
0.2
0.4
0.6
0.8
1
PearsonFXmonthlycol
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012
500
1000
1500
2000
2500
3000
3500-1
-0.8
-0.6
-0.4
-0.2
0
0.2
0.4
0.6
0.8
1
Stock Markets
Foreign Exchange
Yearly and monthly correlations between stock markets and foreign exchange
Thursday, July 4th, 2013 Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, Germany 39
PearsonTWOyearlycol
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012
500
1000
1500
2000
2500
3000
3500-1
-0.8
-0.6
-0.4
-0.2
0
0.2
0.4
0.6
0.8
1PearsonTWOmonthlycol
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012
500
1000
1500
2000
2500
3000
3500-1
-0.8
-0.6
-0.4
-0.2
0
0.2
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0.8
1
PearsonSELFyearlycol
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012
ARGAUSASTBELBRACANCHI
CHNCOLCYPCZEDENFIN
FRAGERGREHUNICEINDIDOIREISRITA
JAPKAZKORKWTLUX
MALMLTMAUMEXNETNZL
NORPAKPERPOLPORRUSSAUSIN
SLKSLVSAFSPASRI
SWDSWSTHATUNUAE
UKUSABAHOMAQATPHI
VENHK -1
-0.8
-0.6
-0.4
-0.2
0
0.2
0.4
0.6
0.8
1
PearsonSELFmonthlycol
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012
ARGAUSASTBELBRACANCHI
CHNCOLCYPCZEDENFIN
FRAGERGREHUNICEINDIDOIREISRITA
JAPKAZKORKWTLUX
MALMLTMAUMEXNETNZL
NORPAKPERPOLPORRUSSAUSIN
SLKSLVSAFSPASRI
SWDSWSTHATUNUAE
UKUSABAHOMAQATPHI
VENHK -1
-0.8
-0.6
-0.4
-0.2
0
0.2
0.4
0.6
0.8
1
1. Yearly and 2. Monthly
correlations for all possible pairs
1. Yearly and 2. Monthly
correlations for only corresponding countries
Pearson correlation dendrogram for global stock markets
Thursday, July 4th, 2013 Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, Germany 40
Pearson correlation dendrogram for foreign exchange
Thursday, July 4th, 2013 Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, Germany 41
Observations within the coupled network structure and dynamics
For Stock markets, correlations experience sudden increases during crisis
For currency, though not obvious, correlations become weaker during crisis.
The correlations between the stock markets and foreign exchange are mainly negative
This is consistent with the hypothesis that strength in the foreign exchange corresponds to strength in financial markets
Thursday, July 4th, 2013 Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, Germany 42
Distress propagation from stock market to foreign exchange when crisis starts with specific country’s stock market
Thursday, July 4th, 2013 Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, Germany 43
0 50 100 150 200 2500
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attackJAPstock
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attackGERstock
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attackICEstock
stocknetfxnet
USA, Japan, Germany
Malta, Mauritius, Iceland
Distress propagation from foreign exchange to stock market when crisis starts with specific country’s currency
Thursday, July 4th, 2013 Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, Germany 44
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attackUSAfx
fxnetstocknet
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simulation stepnu
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attackJAPfx
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attackGERfx
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USA, Japan, Germany
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attackMLTfx
fxnetstocknet
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attackMAUfx
fxnetstocknet
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attackICEfx
fxnetstocknetMalta,
Mauritius, Iceland
Partial correlation network effect of distress propagation when crisis starts with the US or the Greek stock markets
Thursday, July 4th, 2013 Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, Germany 45
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attackUSAstock
stocknetfxnet
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attackGREstock
stocknetfxnet
USA Greece
Sovereign debt effect on global financial markets
Thursday, July 4th, 2013 Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, Germany 46
PearsonSTKyearly_col
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012
200
400
600
800
1000
1200
1400
1600
1800
2000
2200 -1
-0.8
-0.6
-0.4
-0.2
0
0.2
0.4
0.6
0.8
1PearsonCDSyearly_col
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012
200
400
600
800
1000
1200
1400
1600
1800
2000
2200 -1
-0.8
-0.6
-0.4
-0.2
0
0.2
0.4
0.6
0.8
1
PearsonSTKandCDSyearly_col
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012
200
400
600
800
1000
1200
1400
1600
1800
2000
2200 -1
-0.8
-0.6
-0.4
-0.2
0
0.2
0.4
0.6
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1
Stock Market CorrelationsCDS Market Correlations
Global crisis spreading model results
Some major economies, like USA, Japan, Germany, spread spillover crises faster through the global economy.
For selected smaller countries, like Malta, Mauritius, and Iceland, the speed to spread crises to other countries is slower.
However, some small countries, like Greece, have faster crisis spreading power compared to other small countries.
Pearson and Partial correlations render similar results However for Partial correlation case, if the crisis starts in the stock
market layer the contagion speed differences between big and small countries are
reduced. due to negative partial correlation of USA with other countries, USA
experience the lowest infection rate (due to our method of assigning the contagion probability)
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How to circumvent detrimental market swings
To avoid collapses in interconnected systems of sovereign debt and banks we need:Contrarian banks and regular market (+α and –β)Or contrarian market and regular banks (‐α and +β)Avoiding the herding effectDiverting and/or avoiding bubble creationProtecting the system from a crashWe introduce behavioral finance in the analyses
Vodenska et al., GSFC, July 4th ‐ 5th, 2013 Karlsruhe, GermanyThursday, July 4th, 2013 48
Findings and suggestions
Certain countries are more efficient in spreading financial crisis across both network layers compared to others
The EU countries are strongly related and crisis propagates through the EU very efficiently
PROPOSED: Limiting the additions of new member countries to the
European Monetary Union for the time being Optimizing the timing for the replacement of the local
currencies of the new member candidates with the euro
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DiscussionWe study systemic risk propagation through
interdependent financial networks Focus on the challenges of financial and economic
system dynamics as strongly related networks
How to transform global economic networks into more resilient systems to shocks?
Do crisis have common ingredients? Can we apply proposed methods and models universally?
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Conclusion
Financial and economic systems are highly interdependent and fragile
Bank networks are affected by the banks’ sovereign debt holdings
Sovereign debt values affects banks’ worth Financial markets (banks and national debt are traded on
securities markets) => financial markets can be affected by crises contagion
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Collaborators: Nima Dehmami Boston Univ., U.S.A. Di Zhou Boston Univ., U.S.A. Stefano Battiston ETH, Zurich, Switzerland Shlomo Havlin Bar‐Ilan Univ., Israel Lou Chitkushev Boston Univ., USA H. Eugene Stanley Boston Univ., U.S.A.
Acknowledgments
Greening Financial Sector | Global Sustainable Finance Conference 4th to 5th of July 2013, Karlsruhe ‐ Germany
Research supported by the European Commission FET OpenProject ‘‘FOC’’ 255987 and ‘‘FOC‐INCO’’ 297149Project Coordinator: Guido Caldarelli, IMT Lucca, Italy
Thank You!
Questions?
vodenska@bu.edu
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