Financial regulation after 1988 - G-30 policy recommendations and netting

A report called the "Derivatives: Practices and Principles" was published 1993 by the Group of 30 that came to be very influential. They gave 20 policy recommendations in the field of risk management for legislators and regulators. They are summarized below:

Dealers and end-users of derivatives should:
1. Determine at the highest level of policy making the scope of the institution's involvement in derivatives activities
2. Value derivatives position at market value
3. Quantify its market risk under adverse market conditions
4. Assess the credit risk arising from derivatives activities
5. Reduce credit risk by broadening the use of multi-product master agreements with close-out netting provisions
6. Establish market and credit risk management functions with clear authority independent of the dealing function
7. Authorize only professionals with the requisite skills and experience to transact and mange the risk
8. Establish management information systems sophisticated enough to measure, manage, and report the risks of derivatives activities
9. Voluntary adopt accounting and disclosure practices for international harmonization and greater transparency

There are also four recommendations for legislators, regulators and supervisors:

10. Recognize close-out netting arrangements
11. Work with market participants to remove legal and regulatory uncertainties regarding derivatives
12. Amend tax regulations that disadvantage the economic use of derivatives
13. Provide comprehensive and consistent guidance on accounting and reporting of derivatives

Netting is mentioned in number 10 above. Netting refers to a clause in the master agreement between two companies. If one of the companies in a transaction defaults that is covered by the master agreement, it must default on all of its obligations. This has the effect of reducing credit risk.

In mathematical terms, the value before netting is sum(max(V, 0)) and after netting max(sum(V, 0)). In 1995, netting had been tested in court and was subsequently added to the Basel accord in accordance with the G-30 recommendations.