Does a Central Clearing Counterparty Reduce ... - …

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Doesa Central Clearing CounterpartyReduce Counterparty Risk?Darrell Duffie and Haoxiang ZhuGraduate School of Business, Stanford UniversityWe show whether Central Clearing of a particular class of derivatives lowers counterpartyrisk. For plausible cases, adding a Central Clearing Counterparty (CCP) for a class of deriva-tives such as credit default swaps reduces netting efficiency, leading to an increase in av-erage exposure to Counterparty default. Further, Clearing different classes of derivatives inseparate CCPs always increases Counterparty exposures relative to Clearing the combinedset of derivatives in a single CCP. We provide theory as well as illustrative numerical ex-amples of these results that are calibrated to notional derivatives position data for majorbanks.

Does a Central Clearing Counterparty Reduce Counterparty Risk? markets through fire sales of derivatives positions or of collateral held against

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