Default Risk in a Network Economy

In this paper we develop a structural model of counterparty risk . In particular we provide closed form formulae for the price of risky debt and equity, which depend up on the lending/borrowing relationships in the economy. Our model applies to completely general lender/borrower relationships, including among others possible loops. In our model we decouple the financial unit of each firm from its operational unit. Our formula can apply to the case where not only financial flows, but also operations are dependent across firms.