Clearing, counterparty risk and aggregate risk

Bruno Biais, Florian Heider and Marie Hoerova

No 1481, Working Paper Series from European Central Bank

Abstract: We study the optimal design of clearing systems. We analyze how counterparty risk should be allocated, whether traders should be fully insured against that risk, and how moral hazard affects the optimal allocation of risk. The main advantage of centralized clearing, as opposed to no or decentralized clearing, is the mutualization of risk. While mutualization fully insures idiosyncratic risk, it cannot provide insurance against aggregate risk. When the latter is significant, it is efficient that protection buyers exert effort to find robust counterparties, whose low default risk makes it possible for the clearing system to withstand aggregate shocks. When this effort is unobservable, incentive compatibility requires that protection buyers retain some exposure to counterparty risk even with centralized clearing. JEL Classification: G22, G28, D82

Keywords: aggregate and idiosyncratic risk; central clearing counterparty; counterparty risk; moral hazard; mutualization; optimal contracting; risk-sharing (search for similar items in EconPapers)
Date: 2012-10
New Economics Papers: this item is included in nep-cta and nep-rmg
Note: 276127
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (59)

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Related works:
Journal Article: Clearing, Counterparty Risk, and Aggregate Risk (2012)
Working Paper: Clearing, counterparty risk and aggregate risk (2012)
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Persistent link: https://EconPapers.repec.org/RePEc:ecb:ecbwps:20121481

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