DP13230 Completing Markets with Contracts: Evidence from the First Central Clearing Counterparty

Author(s): Guillaume Vuillemey
Publication Date: October 2018
Keyword(s): Central clearing, Contracts, incomplete markets, International trade
JEL(s): F14, G23
Programme Areas: Financial Economics
Link to this Page: www.cepr.org/active/publications/discussion_papers/dp.php?dpno=13230

I study the real effects a contracting innovation that suddenly made financial markets more complete: central clearing counterparties (CCPs) for derivatives. The first CCP to provide full insulation against counterparty risk was created in Le Havre (France) in 1882, in the coffee futures market. Using triple difference-in-differences estimation, I show that central clearing changed the geography of trade flows Europe-wide, to the benefit of Le Havre. Inspecting the mechanism using trader-level data, I show that the CCP was instrumental both to mitigate adverse selection issues and to solve a "missing market" problem. Increased risk-sharing possibilities enabled more gains from trade to be realized. The successful contractual innovation quickly spread to new exchanges.