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Connecting the dots: the network nature of shocks propagation in credit markets

Author

Listed:
  • Stefano Pietrosanti

    (Bank of Italy)

  • Edoardo Rainone

    (Bank of Italy)

Abstract

We present a simple model of a credit market in which firms borrow from multiple banks and credit relationships are simultaneous and interdependent. In this environment, financial and real shocks induce credit reallocation across more and less affected lenders and borrowers. We show that the interdependence introduces a bias in the standard estimates of the effect of shocks on credit relationships. Moreover, we show that the use of firm fixed effects does not solve the issue, may magnify the problem and that the same bias contaminates fixed effects estimates. We propose a novel model that nests commonly used ones, uses the same information set, accounts for and quantifies spillover effects among credit relationships. We document its properties with Monte Carlo simulations and apply it to real credit register data. Evidence from the empirical application suggests that estimates not accounting for spillovers are indeed highly biased.

Suggested Citation

  • Stefano Pietrosanti & Edoardo Rainone, 2023. "Connecting the dots: the network nature of shocks propagation in credit markets," Temi di discussione (Economic working papers) 1436, Bank of Italy, Economic Research and International Relations Area.
  • Handle: RePEc:bdi:wptemi:td_1436_23
    as

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    File URL: https://www.bancaditalia.it/pubblicazioni/temi-discussione/2023/2023-1436/en_tema_1436.pdf
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    References listed on IDEAS

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    More about this item

    Keywords

    credit markets; shocks propagation; networks; identification;
    All these keywords.

    JEL classification:

    • C30 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - General
    • L14 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Transactional Relationships; Contracts and Reputation
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages

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