DEFINITION of 'Bilateral Credit Limit'

Intraday credit limits set by two institutions for use with one another, usually within a large clearing system that operates by netting amounts due to and due from institutions by other members on a daily basis. Within the banking community, the most well-known clearing system that uses netting as the mechanism for settlement is the Clearing House Interbank Payments System (CHIPS) in the United States.

BREAKING DOWN 'Bilateral Credit Limit'

The purpose of bilateral credit limits is to reduce the credit risk exposure of each member institution to another, and to ensure the stability of the payment system overall in case one institution fails to deliver on its obligations.

In addition to bilateral credit limits, the payment systems usually have aggregate credit limits, which limit one institution's intraday obligation to all members of the system collectively. Another large payment system, Fedwire, also uses credit limits, although its settlement is known as real-time gross settlement, rather than netting.

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