How might the dynamics of a flock of birds in flight, a
group of drivers in a traffic jam, or a panicked crowd of stampeding people
inform our analysis of threats to financial stability?
In the third paper of our Working Paper Series—Using Agent-Based Models for Analyzing Threats to Financial Stability—the staff of the Office of Financial
Research (OFR) explores these questions as we seek better ways to monitor risk
to the financial system.
Agent-Based Models, or ABMs, lie outside the academic
mainstream of economics and finance, but they hold promise for capturing the
dynamics of financial crises. Traditional
models view the future through a lens of historical patterns. But, at times, past events offer little
guidance about the course of a financial crisis, typically marked by unexpected
shocks and interrelationships.
In contrast, ABMs are flexible and are not wedded to
historical patterns. They seek to
understand group behavior by exploring the collective effect of decision rules
and expected actions by individuals. Analogously,
the flight of a flock of birds appears to operate as a system, but is driven by
decision rules of individual birds that are reacting to other birds in the
The paper, authored by Richard Bookstaber of the OFR, discusses
the concepts and research related to agent-based models. It provides a template for how these models might
be applied to issues relevant to the OFR mission, such as the way shocks are
transmitted through an interconnected financial system.
OFR researchers are evaluating whether these modeling
approaches can help the OFR and others in probing the vulnerabilities of the
financial system; understanding contagion, runs, and fire sales; and gauging
the impacts of policy actions.
A key part of the mission of the OFR is to develop analytical
methods for assessing risks to the financial system and to publish the results
of that research. Through the Working
Paper Series, the OFR is making available its research and analysis for
researchers and other interested parties to review and discuss, so they can
offer feedback that will foster continued strides in research aimed at improving
The OFR Working Paper Series is available here.
Jonathan Sokobin is
the Acting Deputy Director of the Research and Analysis Center and Chief of
Analytical Strategy for the Office of Financial Research at the U.S. Department
of the Treasury.