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Central clearing margin

Albert J. Menkveld

VU University Amsterdam; Tinbergen Institute - Tinbergen Institute Amsterdam (TIA); Duisenberg School of Finance

Systemic liquidation risk arises when too many financial intermediaries/arbitrageurs default at the same time. This might happen when they all bet on the same side of a single risk factor. The bet gets crowded. A central counterparty (CCP) is well-positioned to mitigate such risk as it observes all outstanding bets. A model is proposed to aid a welfare-maximizing CCP who considers trade-based margins to steer arriving arbitrageurs away from crowded bets. The CCP needs to maintain a default fund large enough to remain solvent. Perhaps the most surprising result is that such CCP could prefer non-symmetry i.e., crowding, over symmetry in a perfectly symmetric economy.

Number of Pages in PDF File: 60

Keywords: systemic risk, centralized clearing, margin, default fund

JEL Classification: G20

working papers series
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