CCPs and Network Stability in OTC Derivatives Markets

17 Pages Posted: 26 Apr 2016

See all articles by Alexandra Heath

Alexandra Heath

Reserve Bank of Australia - Economic Research

Gerard Kelly

Reserve Bank of Australia

Mark J. Manning

Bank of England

Sheri M. Markose

University of Essex - Department of Economics

Ali Rais Shaghaghi

University of Cambridge - Centre for Risk Studies

Date Written: April 25, 2016

Abstract

Among the reforms to OTC derivative markets since the global financial crisis is a commitment to col-lateralize counterparty exposures and to clear standardized contracts via central counterparties (CCPs).The reforms aim to reduce interconnectedness and improve counterparty risk management in these important markets. At the same time, however, the reforms necessarily concentrate risk in one or a few nodes in the financial network and also increase institutions’ demand for high-quality assets to meet collateral requirements. This paper looks more closely at the implications of increased CCP clearing for both the topology and stability of the financial network. Building on Heath et al. (2013) and Markose(2012), the analysis supports the view that the concentration of risk in CCPs could generate instability if not appropriately managed. Nevertheless, maintaining CCP prefunded financial resources in accordance with international standards and dispersing any unfunded losses widely through the system can limit the potential for a CCP to transmit stress even in very extreme market conditions. The analysis uses the Bank for International Settlements Macroeconomic Assessment Group on Derivatives (MAGD) data set on the derivatives positions of the 41 largest bank participants in global OTC derivative markets in 2012.

Keywords: OTC derivatives reforms, Central counterparty (CCP), Netting efficiency, Collateralization

JEL Classification: G, G1, G20, G21, G28, N2

Suggested Citation

Heath, Alexandra and Kelly, Gerard and Manning, Mark J. and Markose, Sheri M. and Rais Shaghaghi, Ali, CCPs and Network Stability in OTC Derivatives Markets (April 25, 2016). Journal of Financial Stability, Forthcoming, Available at SSRN: https://ssrn.com/abstract=2769918

Alexandra Heath

Reserve Bank of Australia - Economic Research ( email )

GPO Box 3947
Sydney, NSW 2001
Australia

Gerard Kelly

Reserve Bank of Australia ( email )

65, Martin Place
Sydney, NSW 2000
Australia

Mark J. Manning

Bank of England ( email )

Threadneedle Street
London, EC2R 8AH
United Kingdom

Sheri M. Markose (Contact Author)

University of Essex - Department of Economics ( email )

Wivenhoe Park
Colchester CO4 3SQ
United Kingdom
01206 87 2742 (Phone)

Ali Rais Shaghaghi

University of Cambridge - Centre for Risk Studies ( email )

University of Cambridge Judge Business School
Trumpington Street
Cambridge, CB2 1AG
United Kingdom

Do you have a job opening that you would like to promote on SSRN?

Paper statistics

Downloads
106
Abstract Views
719
rank
295,032
PlumX Metrics