An arrangement whereby each participant (for example, parties in bilateral trades, or financial market infrastructure (FMI) participants) is required to cover its exposures/ positions to other participants in the arrangement- that is, to absorb losses arising from the arrangement according to a formula whereby losses from a certain party’s default (on its obligations) are borne by the defaulting party through the non-defaulter’s liquidation/ enforcement of the collateral placed by the defaulting party.

“Defaulter pays protection” may also be secured in the form of an additional margin– i.e., money collected from participants with substantial or concentrated positions against a central counterparty (CCP) or in response to adverse information on a participant’s financial position.

It is also known as a defaulter pays approach/ defaulter pays principle.