Such developments can stem from the failure of large and interconnected institutions, from endogenous imbalances that add up over time, or from a sizable unexpected event. A seizing-up of the financial system ( or large parts of it ( is what we experienced last autumn. The consequence was an economic freefall, a surge in unemployment and a massive increase in public debt.
So what is it about financial systems that make them prone to systemic risk? The financial system is composed of intermediaries, markets and the infrastructure of payment, settlement and trading mechanisms that support them. Intermediaries are connected with each other through direct transactions, as in interbank markets, and through similar investment and financing decisions with third parties such as other intermediaries or end investors.