Externality, Leverage, and Too-Connected-To-Centrals-To-Fail : Examining Systemic Liquidity Risk in the Canadian Credit Unions System

A core-periphery structure of Canada’s provincial credit unions system, with Centrals in the center, does more than providing a pool of liquidity sharing, it also constitutes a propagating mechanism in case of liquidity shock on systemic and idiosyncratic levels. Simulations indicate that the knock-on effect due to external liquidity shocks is significant. This cost of externality is more severe for systems with more concentrated roles played by Centrals in the institutional lending market. In addition, higher leverage against customer deposits would exacerbate the cost of liquidity contagion risk