GLOBAL FINANCIAL CRISIS: SHOULD CREDIT DEFAULT SWAP BE MADE RESPONSIBLE

Lax monetary policy, sub prime lending, asset securitization, high leverage, role of credit rating agencies, fair value accounting and credit derivative products in general had been identified as an inclusive list of reasons behind global financial crisis. However, credit default swap (CDS) had been marked as the single most heinous reason by Google, Alan Greenspan, and Warren Buffet. On the other hand financial economists in general have found many advantages of CDS including enhancing liquidity, price discovery mechanisms and others. On 4th August 2010 Reserve Bank of India has issued the draft report of the Internal Group on introduction of Credit Default Swap for Corporate Bonds for public comments. Keeping global financial crisis in mind we have become apprehensive about this product. Our study has been classified in two parts. In Part-A we have studied the basic concepts of (i) credit risk, (ii) credit derivative products in general and credit default swap in particular and (iii) valuation of credit default swap through mathematical model and numerical example. Based on the famous exploratory study by Rene M. Stutz, we have made a humble attempt to argue whether CDS has aggravated the recent global financial crisis in Part- B