Systemic risk under different clearing methods for multiple derivatives

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ABSTRACT The superposition of credit and interest rate derivatives brings liquidity and benefits to financial markets but may shock the system. Various clearing methods, including bilateral and CCP clearing, have emerged since the proposal of a mandatory clearing system. Previous research has focused on single derivatives, neglecting multiple derivatives. Thus, this paper constructs a banking network model incorporating two derivatives and investigates the banking systemic risk under two clearing methods: joint clearing in the same CCP and separate clearing in different CCPs. Results show that the systemic risk of joint clearing in the same CCP is lower than that of separate clearing in different CCPs. Increasing the central clearing ratio increases the systemic risk under separate clearing in different CCPs. The systemic risk is low when the central clearing ratios for credit derivatives and interest rate derivatives are similar under joint clearing in the same CCP approach. In addition, the systemic risk can be significantly underestimated by studying only one type of derivatives in the banking network. This paper not only provides theoretical support for the banking systemic risk under multiple derivatives clearing issues, but also offers strategic suggestions for regulators to clear derivatives reasonably and effectively.