Economics at your fingertips  

Optimal Margining and Margin Relief in Centrally Cleared Derivatives Markets

Radoslav Raykov

Staff Working Papers from Bank of Canada

Abstract: A major policy challenge posed by derivatives clearinghouses is that their collateral requirements can rise sharply in times of stress, reducing market liquidity and further exacerbating downturns. Smoothing sharp changes in collateral requirements - an approach known as through-the-cycle margining - however, has its own disadvantages, one of which is increased risk sharing among clearinghouse members when financial risk is high. This can give rise to undesirable side effects, including distorted incentives, which can reverse the conventional knowledge about collateral policy. In contrast to the existing literature, I show that through-the-cycle margining can increase as well as reduce trading in volatile markets. Due to increased risk sharing, clearinghouse members may prefer to overcollateralize transactions, leading to lower than socially optimal trading. This creates a challenge for policy-makers, since it may be challenging to push for lower collateral standards than deemed proper by the industry. For such cases, I propose an alternative policy tool - increasing default penalties - to align private and social incentives.

Keywords: Economic models; Payment clearing and settlement systems (search for similar items in EconPapers)
JEL-codes: G19 G21 (search for similar items in EconPapers)
Pages: 36 pages
Date: 2014
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (3) Track citations by RSS feed

Downloads: (external link)

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link:

Access Statistics for this paper

More papers in Staff Working Papers from Bank of Canada 234 Wellington Street, Ottawa, Ontario, K1A 0G9, Canada. Contact information at EDIRC.
Bibliographic data for series maintained by ().

Page updated 2023-01-25
Handle: RePEc:bca:bocawp:14-29