Bilateral clearing is the process of consolidating all swap agreements between two parties into a single agreement or master. As a result, instead of any swap agreement leading to an individual payment flow by one of the parties, all swaps are merged, so that a single net payment flow to a party is made on the basis of combined swap flows. Close-out-netting-Netting: Close-out-netting refers to the termination of all obligations arising from the relevant QFCs. The proceedings may be initiated by a QFC party if (i) a delay (not the obligations of a QFC) on the other party`s part or (ii) a termination event, as indicated in the compensation agreement, which gives one or both parties the right to terminate transactions under the agreement. When a contracting party is transferred to the board of directors of the agreement, approval of that party or the administrative practitioner is not required. The administration refers, among other things, to the imposition of a moratorium, liquidation proceedings, insolvency or insolvency. Administrative Practitioner is the unit that manages the affairs of the party. Qualified Financial Contracts (QFC): QFC refers to any bilateral contract notified by the relevant authority as AFC. The Authority may be the Reserve Bank of India (RBI), the Securities and Exchange Board of India (SEBI), the Insurance Regulatory and Development Authority of India (IRDAI), the Pension Fund Regulatory and Development Authority (PFRDA) or the International Financial Services Authority (IFSCA). The central government may, by rating, exclude contracts between certain parties or include certain conditions called QFCs. Finance Minister Nirmala Sitharaman said the law was crucial to the country`s financial stability and said it had a solid legal basis for bilateral compensation for two counterparties.
The inclusion of unqualified financial contracts in a compensation agreement will not end the applicability of QFCs compensation under the agreement. “Bilateral clearing of qualified financial contracts covers financial contracts entered into on a bilateral basis outside the clearing system. It will strengthen the financial supervisory authorities RBI, SEBI, IRDAI, etc. They will inform the contract as part of their competence as a qualified financial contractor. This law, if passed, will have a very large influence on India`s financial stability and we will have a very vibrant market that will allow companies to have more and affordable resources,” Sitharaman told Rajya Sabha about the bilateral clearing of qualified financial contracts, 2020. The bill allows for the application of compensation for qualified financial contracts. The payment is equalized when each counterparty has aggregated the amount owed to the other on the date of payment and only the difference in the amounts is delivered by the party with the amount to be paid. This is also called the billing network.
Payment stretching reduces the risk of settlement, but as all initial swaps are maintained, it does not get compensation for regulatory capital or balance sheet. Bilateral clearing reduces the total number of transactions between the two counterparties. As a result, the actual volume of transactions between the two is declining. This also applies to the level of accounting activity and other costs and royalties related to an increase in the number of trades. While the comfort of reduced transactions is an advantage, the main reason why two parties are netting is to reduce the risk. Bilateral compensation increases security in the event of bankruptcy for each party. By compensation, in the event of bankruptcy, all swaps are executed, instead of only the most profitable for the company that is going bankrupt. For example, if there was no bilateral compensation, the bankrupt company could collect all the cash swaps, but said that because of the bankruptcy, they cannot pay for swaps outside the money. Compensation applicability: The bill provides that QFC compensation is applicable if the contract has a compensation agreement.