The Collateral Costs of Clearing

We study three generic clearing arrangements in the presence of two-sided limited commitment: simple bilateral clearing, segregated collateral through a third party, and—most sophisticated—central counterparty (CCP) clearing. Clearing secures settlement obligations from over-the-counter forward contracts that smooth income risk-averse traders. requires to guarantee settlement; this is costly, as it reduces investment. More sophisticated require more collateral. As result, welfare gains CCP may be mostly due segregation, while mutualization losses could contribute little welfare.