Who pays? Who gains? Central counterparty resource provision in the post-Pittsburgh world

Fernando Cerezetti, Jorge Cruz Lopez, Mark Manning and David Murphy

Abstract

At the Pittsburgh Summit in 2009, G20 leaders agreed to wide-reaching reforms to over-the-counter (OTC) derivatives markets. One of these reforms required the clearing of standardized OTC derivatives through central counterparties (CCPs). Since then, CCPs have become increasingly important. There has been an extensive programme of regulatory change affecting CCPs, OTC derivatives markets and their participants. As OTC clearing has grown, tension has increased between different classes of market participants over the traditional CCP model of resource provision through loss mutualization. We argue that most of this tension can be explained by a misalignment between the policy goal of enhancing financial stability and the delivery of that goal by mandating clearing through CCPs as they are currently organized. Specifically, the traditional model for resource provision makes most CCPs suitable for managing “club goods”, whereas financial stability is a “public good”. The key differences between these two types of goods, driven by the wedge between those who pay for them and those who derive the benefits, create the observed tensions. Based on this analysis, we propose a framework to analyze the functional elements of a CCP and examine whether an alternative clearing model might be more effective. We conclude that incentives would be better aligned if the functions of CCPs were unbundled and the ownership and funding structures that best suit their individual characteristics were selected. Functions that are critical for the provision of financial stability might suggest some form of public sector involvement, whereas other services might lend themselves to a for-profit or traditional club model.