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Centralized clearing for over-the-counter derivatives

  • Gordon Rausser
  • William Balson
  • Reid Stevens

urpose – Systemic risk propagated through over-the-counter (OTC) derivatives can best be managed by a public-private central counterparty clearing house. The purpose of this paper is to outline the market microstructure necessary for such a clearing house. Design/methodology/approach – The paper proposes using an request for quote platform with an active permissioning system that uses analytic approximations based on Monte Carlo simulation to estimate default risk and a two-part pricing scheme to efficiently price that risk. Findings – It is found that comprehensive clearing for complex and standardized derivatives is feasible using the clearing framework. Research limitations/implications – This research is limited by the authors' ability to give empirical examples. The paper gives a short example with data, but given the constraints on length, cannot go into more detail. Practical implications – This comprehensive clearing structure, in contrast to current proposed government regulations, will not drive out the “good” with the “bad” OTC derivative instruments. Originality/value – This is the only paper the authors are aware of that outlines a detailed framework for clearing all OTC derivatives.

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Article provided by Emerald Group Publishing in its journal Journal of Financial Economic Policy.

Volume (Year): 2 (2010)
Issue (Month): 4 (December)
Pages: 346-359

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Handle: RePEc:eme:jfeppp:v:2:y:2010:i:4:p:346-359
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  1. Hardman Moore, John & Hart, Oliver, 1985. "Incomplete Contracts and Renegotiation," CEPR Discussion Papers 60, C.E.P.R. Discussion Papers.
  2. repec:tpr:qjecon:v:116:y:2001:i:4:p:1343-1372 is not listed on IDEAS
  3. Dornbusch, Rudiger, 1976. "Expectations and Exchange Rate Dynamics," Journal of Political Economy, University of Chicago Press, vol. 84(6), pages 1161-76, December.
  4. Francesconi, Marco & Muthoo, Abhinay, 2006. "Control Rights in Public-Private Partnerships," IZA Discussion Papers 2143, Institute for the Study of Labor (IZA).
  5. Grossman, Sanford J. & Hart, Oliver D., 1986. "The Costs and Benefits of Ownership: A Theory of Vertical and Lateral Integration," Scholarly Articles 3450060, Harvard University Department of Economics.
  6. Arnold M. Faden & Gordon C. Rausser, 1976. "Econometric Policy Model Construction: The Post-Bayesian Approach," NBER Chapters, in: Annals of Economic and Social Measurement, Volume 5, number 3, pages 349-363 National Bureau of Economic Research, Inc.
  7. Mario J. Miranda & Paul L. Fackler, 2004. "Applied Computational Economics and Finance," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262633094, June.
  8. Besley, Timothy J. & Ghatak, Maitreesh, 2001. "Government versus Private Ownership of Public Goods," CEPR Discussion Papers 2725, C.E.P.R. Discussion Papers.
  9. Williams, Jeffrey C., 2001. "Commodity futures and options," Handbook of Agricultural Economics, in: B. L. Gardner & G. C. Rausser (ed.), Handbook of Agricultural Economics, edition 1, volume 1, chapter 13, pages 745-816 Elsevier.
  10. Gregory, Allan W. & Reeves, Jonathan J., 2008. "Interpreting Value at Risk (VaR) forecasts," Economic Systems, Elsevier, vol. 32(2), pages 167-176, June.
  11. Pratt, John W & Zeckhauser, Richard J, 1989. " The Impact of Risk Sharing on Efficient Decision," Journal of Risk and Uncertainty, Springer, vol. 2(3), pages 219-34, September.
  12. Oliver Hart & John Moore, 1998. "Foundations of incomplete contracts," LSE Research Online Documents on Economics 19354, London School of Economics and Political Science, LSE Library.
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