A Network Theory of Financial Dynamics: Currency Cascades

The instability of international financial markets, as exhibited by persistent periodic crises, is an important issue for all market participants. This paper presents an alternative agent-based network theory of financial crises derived from recent developments in complexity science, and applies it to short-term currency crises. The theory, despite being parsimonious, is capable of generating complex dynamics including cascades. Cascade dynamics are shown to be predominately generated by the pattern of inter-agent linkages and agent characteristics. This work is important from a practical point of view because it demonstrates that whilst periodic crises may be inevitable, market participants may also be able to use knowledge of topology to reduce losses, and in a broader context because it suggests use of agent-based complex network models will improve understanding of the dynamics of market crises and financial dynamics. ____________________________________________________________________________ JEL classification: C15; F31; G12