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CCF Seminar
Agostino Capponi
Columbia
Title: Systemic risk: the dynamics under central clearing

Abstract: We develop a tractable model to resemble asset value processes of financial institutions, trading with the central clearinghouse for risk mitigating purposes. Each institution allocates assets between his loan book and trade account. The volatility of the traded portfolio depends both on his and the aggregate amount of trading capital. We show that there exists a unique equilibrium allocation profile when institutions adjust positions with the clearinghouse to perfectly hedge risk stemming from their loan books. We then analyze the dynamic equilibrium path. This shows a buildup of systemic risk, manifested through the increase of market concentration. The associated size externalities can be internalized via a self-funding systemic risk charge mechanism. We provide new testable predictions, including that (i) hedging becomes increasingly costly for an institution as his asset value increases, (ii) market shocks have smaller impact on allocation decisions than operational shocks, (iii) capital raising and centralized trading have opposite effects on market concentration.

Date: Monday, April 6, 2015
Time: 4:30 pm
Location: Wean Hall 6423
Submitted by:  Schwarz