Systemic risk in markets with multiple central counterparties

Veraart, Luitgard A. M. ORCID: 0000-0003-1183-2227 and Aldasoro, Iñaki (2024) Systemic risk in markets with multiple central counterparties. Mathematical Finance. ISSN 0960-1627 (In Press)

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Abstract

We provide a framework for modelling risk and quantifying payment shortfalls in cleared markets with multiple central counterparties (CCPs). Building on the stylised fact that clearing membership is shared among CCPs, we develop a modelling framework that captures the interconnectedness of CCPs and clearing members. We illustrate stress transmission mechanisms using simple examples as well as empirical evidence based on calibrated data. Furthermore, we show how stress mitigation tools such as variation margin gains haircutting by one CCP can have spillover effects on other CCPs. The framework can be used to enhance CCP stress-testing, which currently relies on the “Cover 2” standard requiring CCPs to be able to withstand the default of their two largest clearing members. We show that who these two clearing members are can be significantly affected if one considers higher-order effects arising from interconnectedness through shared clearing membership. Looking at the full network of CCPs and shared clearing members is therefore important from a financial stability perspective.

Item Type:	Article
Additional Information:	© 2024 The Author(s)
Divisions:	Mathematics
Subjects:	Q Science > QA Mathematics H Social Sciences > HG Finance
JEL classification:	C - Mathematical and Quantitative Methods > C6 - Mathematical Methods and Programming > C60 - General C - Mathematical and Quantitative Methods > C6 - Mathematical Methods and Programming > C62 - Existence and Stability Conditions of Equilibrium G - Financial Economics > G1 - General Financial Markets > G18 - Government Policy and Regulation G - Financial Economics > G2 - Financial Institutions and Services > G21 - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages G - Financial Economics > G2 - Financial Institutions and Services > G23 - Pension Funds; Other Private Financial Institutions
Date Deposited:	13 Aug 2024 11:24
Last Modified:	16 Aug 2024 13:15
URI:	http://eprints.lse.ac.uk/id/eprint/124535

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