Bloomberg reports that a European Parliament committee voted that clearinghouses should have to hold capital of at least 10 million euros ($14.1 million) to absorb possible losses. Assuming the 10 million euro figure is not a typo, is that figure dangerously low?
Protection against CCP member default comes from four sources:
o Collateral provided by the member
o An insurance fund, consisting of contributions by members
o The capital of the CCP
o Limited commitments by members to contribute additional amounts if required
Absent regulatory requirements to the contrary, a CCP may theoretically maintain the same degree of safety with more or less capital, provided other elements of risk protection are adjusted accordingly. Therefore, there is no absolute minimum amount of capital that is theoretically correct; a CCP could operate as safely with zero capital as it could with $1 billion of capital, provided other requirements are adjusted.
Furthermore, a CCP with little capital may be safer than a CCP with a large amount of capital if the CCP clears only limited amounts of swaps, or swaps that involve little credit risk.
The benefit of a lower level of minimum required capital is that it facilitates entry by new competitors. This potentially helps encourage innovation and makes for better pricing. However, given the significance of netting benefits, the large investment in IT and sophisticated staff necessary for strong risk management and the networking benefits of concentration of clearing in a single CCP, CCPs tend to be natural monopolies, at least within a product class. So it is questionable whether encouraging competition is a desirable regulatory objective.
Nevertheless, politically the idea of facilitating entry in the clearing market appears to have great appeal. Requiring a high level of capital would tend to perpetuate incumbents and allow entry only by large players, such as CCPs formed by the major global banks.
