Counterparty risk
Definition:
Counterparty risk is the risk of one or more parties in a financial transaction defaulting on or otherwise failing to meet their obligations on that trade.
Details:
Thre are several degrees of risk involved in financial transactions between financial institutions depending on the type of payment rail involved.
In critical RTGS systems there are several ways to ensure liquidity in the system to avoid any conterparty risk. One of the main objective of an RTGS system in in fact to mitigate that risk. As a consequence things like: minimum reserve requirement, blocked collaterals, settlement account credit check, liquidity supervision, limits, billateral limits … are some of the mechanisms used to remove counterparty risk.
In cross border financial transactions, the correspondant model tries to mitigate this risk by requiring that corespondant banks keep some blocked amounts in special accounts to the other party. This will ensure that there are always anough funds to cover almost any crossborder transaction.
Note:
This is a series of posts with definitions for the jargon used in #banking, #fintech and #payments.
Too many people use some terms without understanding them beyond the definition.
Too many “experts” use the terms but they never had experience with the actual implementation of anything in #banking, #fintech and #payments.