Lynn Strongin Dodds looks at the ongoing debate and discussions over the European Commission’s EMIR 3 clearing proposals.
Central clearing has always been a contentious subject in the eurozone so it is no surprise that the European Commission’s active account mandate under the European Market Infrastructure Regulation (EMIR 3.0) would be divisive. Trade groups have called for it to be scrapped while European Union regulators are holding firm.
Active accounts are considered one of the most significant proposals in that they will require financial and non-financial participants to clear a certain proportion of contracts through a European central counter party (CCP). These include interest rate derivatives denominated in euro and Polish zloty, credit default swaps (CDS) as well as short-term interest rate derivatives denominated in euro.
The Commission’s objective is to address the vulnerabilities derived from the current excessive reliance on certain third country CCPs. This is particularly the case for derivatives identified as substantially systemic by the European Securities and Markets Authority (ESMA). Part of the plan is also to ensure EU CCPs are fit for purpose and to draw the lessons from recent developments in energy markets by enhancing the existing supervisory framework.
This means accelerating plans for authorising new derivatives products and responding to industry complaints that EU regulatory approvals are too slow compared with the UK. It also includes increasing the dialogue between national clearing house supervisors, while strengthening the central role of ESMA.
Not everyone is convinced of the need for an active account. Some market participants believe it maybe part of the Commission’s long running game plan to wrest control and force banks to move business from LCH to Deutsche Boerse’s Eurex in Frankfurt. London continues to be the leading light for OTC interest rate derivatives with a 46% chunk of the market and an average daily turnover of $2.6 trn. However, this has slipped from 51% in 2019 due to the transition away from LIBOR as well as the ongoing efforts of EU authorities to bring more derivatives clearing into the bloc.
A plethora of trade associations recently bandied together to voice their objections. The long list includes the European Fund and Asset Management Association (EFAMA), Banking & Payments Federation Ireland (BPFI), European Association of Co-operative Banks (EACB), European Principal Traders Association (FIA EPTA), Alternative Investment Management Association (AIMA), Investment Company Institute (ICI Global), International Swaps and Derivatives Association (ISDA), Futures Industry Association (FIA), Federation of the Dutch Pension Funds, Finance Denmark and Nordic Securities Association.
They have urged the Commission to scrap active accounts because they would create a competitive disadvantage for EU firms compared with third-country counterparts, who would remain able to transact in global markets without restriction. They would “negatively impact EU capital markets by introducing fragmentation and loss of netting benefits, and make the EU less resilient to market stresses, with no benefit to EU financial stability,” the statement says.
They also say that “the introduction of quantitative thresholds in the active account is especially damaging, and could lead to a large, volatile, and unpredictable price difference between CCPs, which would significantly increase the cost and risk of hedging for EU clients. Ultimately, it would harm European pension savers and investors.”
The trade groups also noted if approved, the EU would be the only advanced capital markets with such a policy. By contrast, US clearing participants are significantly exposed to Tier 2 CCPs, since the majority of US-dollar-denominated interest rate swaps are cleared outside the country. “The fact that US authorities have not sought to impose a location policy suggests that most jurisdictions believe central clearing markets are global by nature and financial stability risks are best managed through a solid shared oversight framework between supervisors,” they say in the statement.
Their recommendation is to stick to EMIR 2.2 which they believed provided European authorities with effective tools to supervise and oversee systemically important third country CCPs. They thought the Commission’s efforts would be better focused on streamlining the regulatory structure for EU CCPs across member states as well as making clearing in the EU “more attractive and innovative.”
As they put it, “Incentivising measures would provide a path to sustainable growth of EU CCPs while maintaining competitive and open markets.”
Currently, EMIR 3.0 is going through the requisite regulatory channels and being scrutinised by European Council and European Parliament. UK CCPs, such as ICE Clear Europe, LCH and the London Metal Exchange (LME), were granted a temporary three-year equivalence until June 2025 by regulators in March earlier this year. However, statements have asserted that the EU regulators will not grant any further equivalence decisions and participants should reduce their reliance on CCPs in the UK.
The Commission had hoped that banks and their customers would have moved their clearing activity at a faster pace. The extension gives them more time and avoids any risks to the bloc’s financial stability.
*Want more updates on CCP clearing? See our related articles below.
Related Reading:
FCM Revival – Clearing Sees Growth Potential in Today’s Market – Derivsource
Full Speed Ahead: Pension Funds Take Final Steps Ahead of CCP Deadline – Derivsource
The Error of Margin is Back on the Table – Derivsource
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