How to deal with the Resolution of Financial Market Infrastructures

Financial market infrastructures (FMIs) are the backbone of the financial system, enabling market participants to transact with one another in an efficient manner. If an FMI were to cease operation, it could put a stop to payments and/or securities and derivatives transactions, which in turn could destabilise financial markets and possibly the economy at large. Given their systemic importance, policy-makers have recently turned their attention to FMIs and particularly to the question of how to respond when trouble arises in central counterparties (CCPs). The European Commission is expected to release a proposal on this subject very soon, but market participants are concerned that this proposal will further increase the requirements already set out in the rules on market infrastructures contained in EMIR. This new interim report by the CEPS Task Force on Implementing Financial Sector Resolution welcomes international efforts to devise guidelines to ensure that FMIs are resolvable, i.e. acknowledging that any FMI can fail, but if an FMI fails, critical operations will continue to be performed. The report argues that European rules in this area should focus on facilitating coordination between supervisors and encouraging restraint on the part of authorities from taking precipitous action. At the same time, however, it calls on supervisors to exercise strong vigilance to identify and remove obstacles to the resolution of an FMI if and when necessary. The latter should also ensure that the loss allocation (‘waterfall’) process, especially in a CCP, can be completed, if necessary, over a ‘resolution weekend’, and that the default fund can be replenished. According to the Task Force Chairman, Thomas Huertas: "Resolution of one FMI could impact all G-SIBs (global systemically important banks), other FMIs and the markets at large. Consequently, coordination is critical, not only within the EU but also between the EU and third countries, especially the United States." The Task Force put forward three other recommendations for the resolution process of FMIs. First, FMIs should provide adequate time to a G-SIB in resolution to allow it to meet its obligations towards them. Second, and at the same time, FMIs should be given sufficient time for recovery. And finally, they should be prepared for potential resolution in a worst-case scenario. The report concludes: "Taken together, these recommendations would go a very long way towards ensuring that FMIs could continue to operate, even under extremely adverse circumstances. That in turn would make a significant contribution to financial stability." This timely and authoritative report is the result of deliberations among the members in a CEPS Task Force that examined the current rules on resolution of banks, insurers and financial market infrastructures. The group is composed of financial sector representatives, experts and officials.