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Connectedness and ContagionProtecting the Financial System from Panics$
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Hal S. Scott

Print publication date: 2016

Print ISBN-13: 9780262034371

Published to MIT Press Scholarship Online: January 2017

DOI: 10.7551/mitpress/9780262034371.001.0001

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The Concept and History of Contagion

The Concept and History of Contagion

(p.5) 2 The Concept and History of Contagion
Connectedness and Contagion

Hal S. Scott

The MIT Press

This chapter discusses the second of the three components of systemic risk: contagion. Contagion involves run behavior, whereby fears of widespread financial collapse lead to the withdrawal of funding from banks and other financial institutions. Financial institutions are vulnerable to contagion due to their dependence on short-term borrowing to fund long-term investment activity. When short-term debt investors suddenly refuse to extend funding, institutions relying on such funding engage in fire sales of assets and ultimately fail. The chapter covers the history of contagion in the US financial system; run behavior by short-term creditors which leads to financial panic; information economics as an explanation for the run on repo and collateralized lending; and the three leading measures of systemic risk: conditional value at risk, systemic expected shortfall, and measure of interconnectedness.

Keywords:   financial crisis, contagion, run behavior, financial collapse, financial institutions, short-term borrowing, information economics, systemic risk

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