Central Trading of Otc Derivatives Stabilizes the Real Economy

In order to improve market liquidity and financial stability, the G20 countries decided in 2009 that over-the-counter (OTC) products should be centrally traded on electronic platforms. The research results of Swiss Finance Institute Professor Harald Hau from the University of Geneva, Peter Hoffmann, and Sam Langfield from the European Central Bank, and Yannick Timmer from Trinity College Dublin confirm that such a move will reduce the costs of hedging currency risks for non-financial companies and therefore make an important contribution to risk reduction in the real economy.

Harald Hau

The decision of the G20 countries to trade all standardized OTC derivatives via central electronic platforms will, in particular, affect the foreign exchange market. With a worldwide daily turnover of USD 5.1 trillion, it is the world’s largest financial market. Under the current system, dealer-banks are not obliged to publicly disclose quotes and prices. Correspondingly, low market transparency results in less sophisticated non-financial clients having to pay significantly higher prices for currency hedging.

The trading of foreign exchange derivatives on electronic platforms, on which a large number of dealer-banks are active, counteracts this state of affairs. As the research results show, less sophisticated non-financial clients can benefit from price competition among dealer-banks. This makes the current markup disappear and results in uniform pricing across all clients. For SMEs, in particular, this simplifies access to the OTC market and makes it easier to hedge currency risks. This, in turn, makes an important contribution to the stability of the real economy.

In order to improve market liquidity and financial stability, the G20 countries decided in 2009 that over-the-counter (OTC) products should be centrally traded on electronic platforms. The research results of Swiss Finance Institute Professor Harald Hau from the University of Geneva, Peter Hoffmann, and Sam Langfield from the European Central Bank, and Yannick Timmer from Trinity College Dublin confirm that such a move will reduce the costs of hedging currency risks for non-financial companies and therefore make an important contribution to risk reduction in the real economy.

Harald Hau

The decision of the G20 countries to trade all standardized OTC derivatives via central electronic platforms will, in particular, affect the foreign exchange market. With a worldwide daily turnover of USD 5.1 trillion, it is the world’s largest financial market. Under the current system, dealer-banks are not obliged to publicly disclose quotes and prices. Correspondingly, low market transparency results in less sophisticated non-financial clients having to pay significantly higher prices for currency hedging.

The trading of foreign exchange derivatives on electronic platforms, on which a large number of dealer-banks are active, counteracts this state of affairs. As the research results show, less sophisticated non-financial clients can benefit from price competition among dealer-banks. This makes the current markup disappear and results in uniform pricing across all clients. For SMEs, in particular, this simplifies access to the OTC market and makes it easier to hedge currency risks. This, in turn, makes an important contribution to the stability of the real economy.