How Does Mandatory Clearing of Swaps Reduce Systemic Risk?

Mandatory clearing requires all security-based swaps to be processed through a central counterparty (CCP). The CCP steps in as the buyer to every seller and the seller to every buyer, guaranteeing the performance of the trade.

This significantly reduces counterparty risk between the original trading parties. By concentrating and managing risk centrally, the CCP ensures that the failure of one market participant does not trigger a cascading failure across the entire financial system (systemic risk).