Counterparty Risk in MDB Exposure Exchange Agreements

This report analyzes the counterparty risk associated with Exposure Exchange Agreements (EEAs) utilized by Multilateral Development Banks (MDBs). EEAs are bilateral agreements where two MDBs agree to compensate each other in the event of defaults on matched subsets of their loan portfolios. The report outlines the historical context of EEAs, initiated in 2015, and discusses the implications of different credit ratings among participating MDBs. It details the theoretical framework for assessing counterparty risk, emphasizing the significance of scaling the Exposure at Default (EAD) based on the credit quality of the MDBs involved. The study presents two approaches for adjusting nominal values of guarantee pools: the provisioning approach and the fair value approach, both aimed at equalizing expected losses while considering counterparty risk. Additionally, the report provides empirical scaling factors derived from the analysis, highlighting their relevance for MDBs with varying credit ratings. The findings contribute to understanding risk management strategies in MDB lending practices.