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February 27, 2019

At a conference in Frankfurt, Benoît Cœuré of ECB spoke about the management of central counterparty (CCP) risk in EU. He examined the challenges faced in regulating and overseeing global cross-border clearing activities, the contribution of central banks in regulation and supervision of CCPs in the Eurosystem, and the complex issues CCPs face in managing defaults.

Mr. Cœuré explained the growing concerns resulting from a few global CCPs becoming systemically important for multiple jurisdictions, besides the one in which they are headquartered. Market authorities, prudential supervisors, and central banks rely on home authorities to conduct due diligence and comply with the highest financial and operational CCP risk management standards. He highlights the need and challenges in striking a balance between facilitating market integration through cross-border access and safeguarding the ability of authorities to fulfill their statutory tasks and objectives. In this context, he welcomed the FSB work to address potential regulatory causes of market fragmentation. He also noted that fragmentation is not always caused by overlapping regulations, but often by a failure to cooperate. Thus, mutually acceptable solutions can, and should, be found to meet the legitimate expectations of all the authorities involved.

He opines that, at the global level, the international framework should be based on the pillars of proportionality and cooperation. With regard to proportionality, where financial stability implications are limited, outcomes-based equivalence and full deference mechanisms, based on compliance with international principles, can allow for cross-border activities that meet minimum standards of safety and soundness. However, where global CCPs are systemically important, each authority should ensure that imported risk is managed as diligently as its own standards would dictate. This is the core purpose of the revisions to the EU recognition framework for third-country CCPs. The success of this framework, however, relies on enhanced cooperation between authorities. ECB has always preferred the approach of cooperation for the oversight of financial market infrastructures but, for several global CCPs, these arrangements do not yet exist or do not involve all relevant authorities, despite the international commitments. He mentioned that such delays are a source of concern and urged all parties involved to accelerate progress in this area.

Mr. Cœuré added that cooperation is also indispensable for CCP liquidity and the role of the central bank of issue. Next, he highlighted the channels through which central clearing interacts with the core central bank objectives. In particular, he explained that CCPs play a key role in the euro money market and are financial market hubs connecting banks as well as other market infrastructures. Additionally, central banks can act as a liquidity backstop or a lender of last resort. Such action could be needed if a banking default were coupled with severe market stress. In such a scenario, a CCP would certainly hold high-quality collateral, but it may be unable to generate cash in the market in the very short time in which it has to manage a default. Given the systemic importance of CCPs and the scale of their potential funding needs, CCPs must have sound liquidity self-insurance so that a liquidity shortage remains an extreme tail risk and the associated moral hazard is mitigated. Therefore, ECB has a clear interest in ensuring the safety and soundness of euro clearing. To this end, ECB must have a clear legal competence that should cover both EU and third-country CCPs.

He highlighted that proposals to differentiate between EU and third-country CCPs would leave considerable pockets of euro clearing without appropriate ECB oversight and would raise concerns about an unlevel playing field. He then described the three safeguards to alleviate the concerns in the regulation and supervision of CCPs. The first is adequate information on the operation and risk management of CCP clearing in euro and the capacity to assess how they would fare in times of market stress, including through stress testing. A second is meaningful involvement in the supervisory process, to ascertain that CCPs’ compliance with prudential and operational requirements provides sufficient guarantees from the perspective of a central bank. Third is the adoption of requirements to address the critical central bank concerns. For instance, it would be the prerogative of the central bank to determine when CCPs should hold central bank accounts for deposit and settlement purposes and to require targeted enhancements to CCP liquidity risk management, in exceptional market environments. Finally, with respect to managing the CCP defaults, Mr. Cœuré welcomed the work of CPMI-IOSCO on default management auctions, which could benefit from further convergence toward shared best practices. 


Related Link: Speech


Keywords: Europe, EU, Banking, Securities, CCP, Proportionality, Cross-Border Activities, FMI, Systemic Risk, Stress-Testing, ECB

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