EU CCPs post-Brexit plans need further development, says EACH
16 January 2019 Brussels
Image: Shutterstock
European central clearing counterparties’ (CCPs) post-Brexit plans need to be further developed, according to Rafael Plata, secretary general at European Association of CCP Clearing Houses (EACH).
Plata suggested that for the development, European authorities need to advance the discussions on the European Commission legislative proposals for CCP resolution, which at the moment is on hold.
The global authorities are currently developing their resolution framework. Meanwhile, there is going to be a consultation for the Financial Stability Board on CCPs resolution, with a deadline of 1 February.
According to Plata, it is important to have a good structure of resolution authorities in order to know who is going to take care of what, which is something that the EU legislation would address. This is why it is also important to have legislation in place.
As part of the EU legislative process, the EU Council and EU Parliament are required to provide their views and combine them and this becomes the framework legislation.
The parliament view was completed at the beginning of last year. Now the council view is on hold because the council gave priority towards other areas.
Plata noted that for the moment, the expectation is that their work will resume in March but this is not yet confirmed.
Explaining why it is important for a resolution, Plata said: “At the moment there is no EU regime for dealing with the resolution of CCPs. This creates legal uncertainty because in a worst case scenario over a CCP resolution, we are really talking about the ‘Armageddon scenario’. If you think about the financial crisis during Lehman when Lehman went down, we were far from reaching a resolution. Resolution for me is step number three out of three potential steps to deal with the defaults of Members of a CCP.”
“Step one is the default management process. This means that it is business as usual (BAU)—the normal default management process of a CCP. It happens on a day-to-day basis. Initially, a member of the CCP—for example, a bank—participate and they can go into default and the CCP will need to apply their BAU tools to deal with that default. All of that is governed by the European Markets Infrastructure Regulation legislation in the EU.”
He continued: “Step two is the recovery of the system. If somehow step one is not efficient enough then you go to step two; the recovery of the CCP is about using additional tools in addition to the ones used in phase one. This phase is also led by the CCP itself.”
“Step three is the resolution. It is operated by the authority and no longer run by the CCP so it would be the authority that is in control. It is a matter of using resources to ensure the continuation of critical services is provided by the CCP.”
Plata highlighted that the industry needs legal certainty for participants that may be under that regime.
He commented: “The other main reason is that in the resolution of our financial institution, potentially the taxpayer's money could be at stake. This is what happened, for example, in the resolution of banks in the past. During the financial crisis, a lot of banks were saved using the taxpayer's money. From a risk management point of view, we are totally against using taxpayers money.”
“The reason for this is because if you have taxpayers’ money at the very end of the process then it could be seen as a safety net by those who need to contribute to avoid reaching that steak.”
“As a risk manager, we don’t want to weaken our current risk management system by including a safety net at the very end, which could incentivise participants of the systems not to contribute to the recovery of the CCP.”
Plata concluded: “I believe authorities are also against it, however, they like to be pragmatic and realistic and therefore they ensure that in the worst case scenario, taxpayers money could be used. We want to make sure that there are rules around it, which is why resolution legislation is needed to ensure that the taxpayer's money is at discretion.”
Plata suggested that for the development, European authorities need to advance the discussions on the European Commission legislative proposals for CCP resolution, which at the moment is on hold.
The global authorities are currently developing their resolution framework. Meanwhile, there is going to be a consultation for the Financial Stability Board on CCPs resolution, with a deadline of 1 February.
According to Plata, it is important to have a good structure of resolution authorities in order to know who is going to take care of what, which is something that the EU legislation would address. This is why it is also important to have legislation in place.
As part of the EU legislative process, the EU Council and EU Parliament are required to provide their views and combine them and this becomes the framework legislation.
The parliament view was completed at the beginning of last year. Now the council view is on hold because the council gave priority towards other areas.
Plata noted that for the moment, the expectation is that their work will resume in March but this is not yet confirmed.
Explaining why it is important for a resolution, Plata said: “At the moment there is no EU regime for dealing with the resolution of CCPs. This creates legal uncertainty because in a worst case scenario over a CCP resolution, we are really talking about the ‘Armageddon scenario’. If you think about the financial crisis during Lehman when Lehman went down, we were far from reaching a resolution. Resolution for me is step number three out of three potential steps to deal with the defaults of Members of a CCP.”
“Step one is the default management process. This means that it is business as usual (BAU)—the normal default management process of a CCP. It happens on a day-to-day basis. Initially, a member of the CCP—for example, a bank—participate and they can go into default and the CCP will need to apply their BAU tools to deal with that default. All of that is governed by the European Markets Infrastructure Regulation legislation in the EU.”
He continued: “Step two is the recovery of the system. If somehow step one is not efficient enough then you go to step two; the recovery of the CCP is about using additional tools in addition to the ones used in phase one. This phase is also led by the CCP itself.”
“Step three is the resolution. It is operated by the authority and no longer run by the CCP so it would be the authority that is in control. It is a matter of using resources to ensure the continuation of critical services is provided by the CCP.”
Plata highlighted that the industry needs legal certainty for participants that may be under that regime.
He commented: “The other main reason is that in the resolution of our financial institution, potentially the taxpayer's money could be at stake. This is what happened, for example, in the resolution of banks in the past. During the financial crisis, a lot of banks were saved using the taxpayer's money. From a risk management point of view, we are totally against using taxpayers money.”
“The reason for this is because if you have taxpayers’ money at the very end of the process then it could be seen as a safety net by those who need to contribute to avoid reaching that steak.”
“As a risk manager, we don’t want to weaken our current risk management system by including a safety net at the very end, which could incentivise participants of the systems not to contribute to the recovery of the CCP.”
Plata concluded: “I believe authorities are also against it, however, they like to be pragmatic and realistic and therefore they ensure that in the worst case scenario, taxpayers money could be used. We want to make sure that there are rules around it, which is why resolution legislation is needed to ensure that the taxpayer's money is at discretion.”
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