BIS Issues Paper on Measuring Contagion Risk in International Banking
BIS published a working paper on measuring contagion risk in international banking. In the paper, the authors propose a distress measure for national banking systems to incorporate not only banks’ credit default swap (CDS) spreads, but also how they interact with the rest of the global financial system via multiple linkage types. The measure is based on a tensor decomposition method that extracts an adjacency matrix from a multi-layer network, measured using banks’ foreign exposures obtained from the BIS international banking statistics. Based on this adjacency matrix, the authors develop a new network centrality measure that can be interpreted in terms of the credit risk or funding risk of a banking system.
The rapid growth of the global financial system over the past couple of decades has increased the importance of properly measuring contagion risk. This is true not only from a financial stability point of view, but also from a macroeconomic perspective, as financial crises tend to have significant and persistent negative effects on economic activity. Additionally, the increased interconnectedness and complexity of the global banking system have made that task extremely challenging. A novel methodology for measuring contagion risk in international banking has been proposed in the paper.
The empirical analysis suggests that the measure generated using the novel methodology predicts CDS spreads better than an alternative measure based on (unadjusted) past values of CDS spreads. This is the case, especially during crisis times, when the non-linear network effects tend to be more important. The methodology can be rather useful for policymakers, as it gives an early warning measure of a national banking system’s distress levels, which incorporates information on its foreign exposures. The measure can also be extended to any multi-layer financial network, such as an interbank network. Furthermore, the methodology that has been proposed could potentially be utilized in a bottom-up stress test. More precisely, the proposed methodology could generate estimates of the expected losses of an institution, while incorporating all relevant information on (direct and indirect) exposures, linkages, and contagion probabilities.
Related Link: Working Paper
Keywords: International, Banking, Securities, Contagion Risk, CDS, Credit Risk, Stress Testing, Research, Swaps, BIS
Featured Experts

Emil Lopez
Credit risk modeling advisor; IFRS 9 researcher; data quality and risk reporting manager

James Partridge
Credit analytics expert helping clients understand, develop, and implement credit models for origination, monitoring, and regulatory reporting.

Nihil Patel
Data scientist; SaaS product designer; credit portfolio analyst and product strategist; portfolio modeler; correlation researcher
Previous Article
IAIS Publishes Global Insurance Market Report for 2018Related Articles
ISSB Sustainability Standards Expected to Become Global Baseline
The finalization of the two sustainability disclosure standards—IFRS S1 and IFRS S2—is expected to be a significant step forward in the harmonization of sustainability disclosures worldwide.
IOSCO, BIS, and FSB to Intensify Focus on Decentralized Finance
Decentralized finance (DeFi) is expected to increase in prominence, finding traction in use cases such as lending, trading, and investing, without the intermediation of traditional financial institutions.
BCBS Assesses NSFR and Large Exposures Rules in US
The Basel Committee on Banking Supervision (BCBS) published reports that assessed the overall implementation of the net stable funding ratio (NSFR) and the large exposures rules in the U.S.
Global Agencies Focus on ESG Data, Climate Litigation and Nature Risks
At the global level, supervisory efforts are increasingly focused on addressing climate risks via better quality data and innovative use of technologies such as generative artificial intelligence (AI) and blockchain.
ISSB Standards Shine Spotlight on Comparability of ESG Disclosures
The finalization of the IFRS sustainability disclosure standards in late June 2023 has brought to the forefront the themes of the harmonization of sustainability disclosures
EBA Issues Several Regulatory and Reporting Updates for Banks
The European Banking Authority (EBA) recently issued several regulatory publications impacting the banking sector.
BCBS Proposes to Revise Core Principles for Banking Supervision
The Basel Committee on Banking Supervision (BCBS) launched a consultation on revisions to the core principles for effective banking supervision, with the comment period ending on October 06, 2023.
US Proposes Final Basel Rules, Transition Period to Start in July 2025
The U.S. banking agencies (FDIC, FED, and OCC) recently proposed rules implementing the final Basel III reforms, also known as the Basel III Endgame.
FSB Report Outlines Next Steps for Climate Risk Roadmap
The Financial Stability Board (FSB) recently published the second annual progress report on the July 2021 roadmap to address climate-related financial risks.
EBA Plans on Ad-hoc ESG Data Collection and Climate Scenario Exercise
The recognition of climate change as a systemic risk to the global economy has further intensified regulatory and supervisory focus on monitoring of the environmental, social, and governance (ESG) risks.