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Financial Stability Paper No 20: Central counterparty loss-allocation rules

David Elliott ()

No 20, Bank of England Financial Stability Papers from Bank of England

Abstract: Given the increasingly important role of central counterparties (CCPs) in many financial markets, the insolvency of a CCP could be highly disruptive to the financial system if losses fall on participants in an uncertain and disorderly manner. In contrast to most other financial firms, CCPs’ obligations to their members, and vice versa, are governed by a central rulebook. CCPs have the ability to include in this rulebook rules setting out how losses exceeding the CCP’s pre-funded default resources are to be allocated between participants. Indeed, some CCPs have already done so. We term such rules ‘loss-allocation rules’. These could have the advantages, relative to the counterfactual of the disorderly insolvency of the CCP, of offering transparency and predictability to participants; providing for a quick and orderly allocation of losses; and potentially allowing the CCP to continue to provide critical services to the market. The detailed design of such rules has important implications for financial stability, as well as for the CCP and its stakeholders. Given these considerations, there is ongoing international work on the design of loss-allocation rules. This paper analyses the options available and offers principles to guide the design of loss-allocation rules.

Keywords: financial regulations; central counter parties (search for similar items in EconPapers)
JEL-codes: G28 (search for similar items in EconPapers)
Pages: 16 pages
Date: 2013-04-29
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