Counterparty Risk in the Over-The-Counter Derivatives Market
IMF Working Papers, November 1, 2008
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Bibliographic details
- Authors: Manmohan Singh, Miguel A. Segoviano
- Published: November 1, 2008
- Series: IMF Working Papers
- DOI: https://doi.org/10.5089/9781451871166.001
Summary
- The financial market turmoil of recent months has highlighted the importance of counterparty risk.
- The paper discusses counterparty risk that may stem from the OTC derivatives markets and attempts to assess the scope of potential cascade effects.
- Counterparty risk is measured by losses to the financial system that may result via the OTC derivative contracts from the default of one or more banks or primary broker-dealers.
- The importance of "netting" within the OTC derivative contracts is stressed.
- The methodology shows that, even using data from before the worsening of the crisis in late Summer 2008, the potential cascade effects could be very substantial.
- Results are summarized in the context of the stability of the banking system and the paper provides some policy measures that could be usefully considered by regulators in their discussions of current issues.
Findings and Analysis
- Focus on losses to the financial system transmitted through OTC derivative contracts following the default of one or more banks or primary broker-dealers.
- Emphasis on the role of netting arrangements within OTC derivative contracts in mitigating counterparty exposures.
- Methodology applied to data predating the worsening of the crisis in late Summer 2008 indicates that potential cascade effects could be very substantial.
Policy Recommendations (as summarized in the document)
- Provide policy measures for regulators to consider in discussions of current issues related to counterparty risk and OTC derivatives (specific measures are summarized in the paper).