  Trust lies at the crux of most economic transactions, with credit markets
being a notable example. Drawing on insights from the literature on
coordination games and network growth, we develop a simple model to clarify how
trust breaks down in financial systems. We show how the arrival of bad news
about a financial agent can lead others to lose confidence in it and how this,
in turn, can spread across the entire system. Our results emphasize the role of
hysteresis -- it takes considerable effort to regain trust once it has been
broken. Although simple, the model provides a plausible account of the credit
freeze that followed the global financial crisis of 2007/8, both in terms of
the sequence of events and the measures taken (and being proposed) by the
authorities.
