Essays on the Economics of Networks
Open AccessSince the seminal work of Jackson and Wolinksy (1996), networks havebecome an integral part of economic theory as they provide a tractable framework in which the economic consequences of inter-agent connectivity can be studied. When such interaction structures are present, actions of individuals, or shocks to them, can create systemic externalities. While great progress has been made towards understanding the mechanisms by which networks affect aggregate economic observables, the role of higher dimensional connectivity has been widely overlooked. Real world economic phenomena rely heavily on the existence and structure of multiple layers of interconnection. This dissertation takes a first step towards understanding the theoretical nature and resulting consequences of multidimensional economic interdependence. It consists of two essays on the economics of multiplex networks where fundamental themes related to the economics of networks are revisited in a higher dimensional setting. It also consists of an independent essay on strategic intervention in financial networks.In Chapter 1, I propose a reduced form model of multidimensional economicinterdependence, featuring complementary or substitutionary actions of agents active in multiple networks. The model extends the monolayer network concepts of systemic importance and micro-induced aggregate fluctuations to their multi-layered counterparts, where an idiosyncratic shock can cascade through both intra- and inter-network margins. I find that the centrality rankings of agents in a single network are no longer sufficient to identify key agents in a multilayer framework. Agents least central in one network may be systemically more important in the aggregate system due to their capacity to produce cascades across networks. I also show that microeconomic shocks can generate higher aggregate volatility in a multilayer network, especially when complementarity among networks with similar interconnection patterns transmit and amplify idiosyncratic disturbances. As a consequence, economies exhibiting multiplex connectivity are more prone to large downturns.Chapter 2, co-authored with Sumit Joshi and Ahmed Saber Mahmud, investigatesthe endogenous formation of a strategically interacting multiplex founded on rational decision making. As in chapter 1, network pairs are related due to strategic substitutability or complementarity of actions undertaken on each, implying that socioeconomic outcomes are shaped by agents connections in the full multiplex rather than in just one constituent network. We examine how an initial seed network prompts link formation on the multiplex and any initial asymmetry in connections is either maintained or flipped in its different layers. We characterize duplex and triplex equilibria, demonstrating that positive (negative) externalities emanating from strategic complementarity (substitutability) in actions between network pairs produce parallel (flipped) architectures in which high-centrality agents in one network occupy high (low) centrality positions in the other. Extending to the full multiplex, we show that if the first coupling between networks is one of strategic complementarity, then all non-empty layers of the multiplex display parallel architectures thus perpetuating any initial asymmetry in the seed network. If the first coupling is one of strategic substitutes, then we characterize a class of balanced multiplexes and identify the coexistence of both parallel and flipped architectures on non-empty layers in equilibrium. Finally, we examine the implications of the multiplex architecture for inequality in payoffs.Chapter 3, co-authored with Bo Jiang, studies an optimal liquidityallocation problem in a distressed financial system when agents are embedded in a network of cross ownership. We construct a model in which a benevolent social planner allocates a limited amount of funds to rescue agents facing liquidity shortage and whose liquidation can be avoided if the shortage be met. A discrete allocation problem arises in this setting and the ``Balas'' algorithm is employed to solve this problem. Solving the optimal liquidity allocation problem over a class of core-periphery equity network topologies, we find that there exist a critical value of exposures levels above which the social planner would allocate available funds to the periphery and below which to the core. The algorithm demonstrates how monetary and fiscal authorities may implement rescue plans when the size of the fund is limited and could thus serve as a new intervention tool in the arsenal of policy makers.
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