Multi-layer Default Risk Contagion in Inter-banking Networks

Default risk spreading processes in inter-banking networks are commonly viewed as contagion processes, with inter-bank loans as a direct spreading channel and overlapping investment portfolios as an indirect channel. In this paper, we propose a multi-layer network default risk contagion model to incorporate additional panic contagions in the networks of depositors as a novel augmentation of previous models, allowing for the direct characterization of the 'bank run' phenomenon, where many depositors simultaneously issue withdrawal requests. Our model is calibrated with post-COVID pandemic data, accounting for macroeconomic factors such as fluctuating interest rates and asset bubbles. Using system identification methods, we analyze relationships between federal interest rates and market prices, and formulate an optimal control problem to mitigate default risk via liquidity ratio requirements in stress tests. Long-term simulation results are presented to reveal threshold structures under varying contagion parameters.