Clearing, Counterparty Risk, and Aggregate Risk
The paper studies the optimal design of clearing systems. The paper analyzes 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.
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Volume (Year): 60 (2012)
Issue (Month): 2 (July)
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References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- Koeppl, Thorsten & Monnet, Cyril & Temzelides, Ted, 2012.
"Optimal clearing arrangements for financial trades,"
Journal of Financial Economics,
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- Thorsten Koeppl & Cyril Monnet & Ted Temzelides, 2009. "Optimal Clearing Arrangements for Financial Trades," Working Papers 1222, Queen's University, Department of Economics.
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NBER Working Papers
17000, National Bureau of Economic Research, Inc.
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- Viral Acharya & Alberto Bisin, 2011. "Counterparty risk externality: Centralized versus over-the-counter markets," 2011 Meeting Papers 618, Society for Economic Dynamics.
- Jean-Jacques Laffont & David Martimort, 2000.
"Mechanism Design with Collusion and Correlation,"
Econometric Society, vol. 68(2), pages 309-342, March.
- Koeppl, Thorsten V. & Monnet, Cyril, 2008.
CFS Working Paper Series
2008/42, Center for Financial Studies (CFS).
- David Mills & Francesca Carapella, 2012. "Information insensitive securities: the benefits of central counterparties," 2012 Meeting Papers 1032, Society for Economic Dynamics.
- James R. Thompson, 2010. "Counterparty Risk in Financial Contracts: Should the Insured Worry about the Insurer?," The Quarterly Journal of Economics, MIT Press, vol. 125(3), pages 1195-1252, August.
- Stephens, Eric & Thompson, James, 2011.
"CDS as Insurance: Leaky Lifeboats in Stormy Seas,"
2011-9, University of Alberta, Department of Economics.
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