The debated on financial reform as summarized by Krugman in his latest piece in the NYT seems to have boiled down to the Volker position of limiting the size of financial institutions so that they do not reach a too big to fail size or the position of Krugman of tight and generalized regulation of Banks and shadow banks.
It seems to me that both analysis miss the simple but central ingredient needed to secure the financial system while not impending economic growth and that is a centralized clearing of all trades. Centralized clearing by nature remove a lot of the incentives in the buildup of too big to fail financial entities, it brings a level of transparency that all times gives regulator a clear picture of the dangers in the positions taken by financial/ economic actors.
A simple example to illustrate the power of centralized counterparty on trades. When you go online to buy an item or at the to a store and you use a credit card, that transaction is facilitated and secured by the existence of a centralized counterparty who keeps track of your assets and liabilities and authorize the transaction only when you have enough credit. No party to the transaction takes credit risk on the other and the system is robust. If the same worked among financial trading institutions the same efficiency and security would be gained, eliminating much of the systemic risks that are the source of current concerns.
See:
http://www.nytimes.com/2010/04/02/opinion/02krugman.html?src=me&ref=general
The Holistic Theorem
Showing posts with label Financial architecture. Show all posts
Showing posts with label Financial architecture. Show all posts
Saturday, April 3, 2010
Friday, April 10, 2009
The wider scope of BICs
I released this knol on The wider scope of BICs that reaches out to strategic partners.
Saturday, March 21, 2009
Senators Debate Fed's Role in Overseeing Systemic Risk - WSJ.com
Senators Debate Fed's Role in Overseeing Systemic Risk - WSJ.com
Reasonable debate to have. In my book BICs 4 Derivatives Volume I : Theory
(Chapter VIII, pp 192-195), I argued for a central counterparty organization as counterparty of reference on all trades which guarantees the payment of contractual agreements on both sides of a transaction.
The systemic risk overseeing entity should act as central counterparty of reference on all trades whose default may pose a systemic risk or act as a regulator and guarantor of last resort to private entities (exchanges, clearing houses,...) who play such a role.
As a guarantor of last resort, this entity may be best within FDIC; As guarantor of credibility through the power to print money, this entity may be best within the Central Bank authority. What is most important in my view is that its function be articulated as proposed above.
Reasonable debate to have. In my book BICs 4 Derivatives Volume I : Theory
(Chapter VIII, pp 192-195), I argued for a central counterparty organization as counterparty of reference on all trades which guarantees the payment of contractual agreements on both sides of a transaction.
The systemic risk overseeing entity should act as central counterparty of reference on all trades whose default may pose a systemic risk or act as a regulator and guarantor of last resort to private entities (exchanges, clearing houses,...) who play such a role.
As a guarantor of last resort, this entity may be best within FDIC; As guarantor of credibility through the power to print money, this entity may be best within the Central Bank authority. What is most important in my view is that its function be articulated as proposed above.
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