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‘Tipping points’, ‘thresholds and breakpoints’, ‘regime shifts’ — all are terms that describe the flip of a complex dynamical system from one state to another. For banking and other financial institutions, the Wall Street Crash of 1929 and the Great Depression epitomize such an event. These days, the increasingly complicated and globally interlinked financial markets are no less immune to such system-wide (systemic) threats.
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although the study of payment flows is of immediate interest to central bankers, it may miss an essential aspect of systemic risk, namely the ‘contagion dynamics’ of public perceptions and asset valuation associated with the interaction of balance-sheets (the mutual financial obligations and exposures that link companies).
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It could be useful to examine the dynamic network of balance-sheets, and if possible to quantify the inter active effects of valuations, credit policies, hedging and so on among financial institutions, especially investment banks.
Such balance-sheet networks could be helpful in studying the effects of asset- pricing bubbles, credit crises and the poorly understood but potentially worrying effects of the current widespread use of derivatives (futures and options) and dynamic hedging by investment banks to manage risk on the fly.
Whatever the case, it seems that the ephemeral networks that define financial reality and global markets are a key to understanding the ecology of market robustness and its potential vulnerability to collapse.
Ecology for bankers
Robert M. May, Simon A. Levin and George Sugihara
Nature, Vol 451|21 February 2008
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