Financial trading worth some €1 trillion per day may be forced to move into the EU after Brexit, according to a European Commission proposal which seeks to repatriate transactions of euro-denominated instruments from London.
Not everyone wants the potentially poisoned chalice.
The proposal was political through and through, but technocrats taking a closer look now warn that financial stability may be put at risk by forcing the market infrastructure handling the trades — the central counter-party clearing houses (CCPs) — to move into the bloc.
In June, the Commission proposed amendments to its landmark post-crisis derivatives legislation, called the European Market Infrastructure Regulation. Inspired by Brexit, the proposal would allow forcing CCPs to relocate into the bloc, if they pose substantial systemic risk to the EU. Otherwise, they would be unable to serve European customers.
The proposal would most likely hit London’s largest clearing house, LCH, which clears over 90 percent of euro-denominated derivatives. Regulators, including the European Central Bank, argue that such a high proportion of euro trades should move into the Continent, where they can be overseen by EU watchdogs.
Most onlookers outside London immediately welcomed the proposal.
“The rule must be that euro clearing must be done under EU jurisdiction — no ifs or buts,” said Markus Ferber, a conservative German MEP, said in a statement following publication of the proposals.
Saying no to risk
But many are having second thoughts after six months of mulling it over and listening to warnings from the banks, which generally oppose the idea because relocation would increase the cost of clearing. And some policymakers just don’t want to risk financial instability in their own jurisdictions.
In a November 13 speech, Robert Ophèle, head of French market regulator Autorité des Marchés Financiers, outright warned against it. This is despite the general perception that France is the biggest proponent of the Commission’s proposals given that Paris could gain the lion’s share of any relocating euro-denominated derivatives trading.
“Any measure that involves abrupt relocation of clearing … will hurt firstly the European economy. It must then, in my point of view, be avoided,” Ophèle said.
The use of CCPs is mandatory for certain derivatives products and is designed to reduce the risk of trading such instruments if one party collapses — as happened during the financial crisis. However, they have been criticized for becoming the new “too-big-to-fail” entities due to the risks to financial stability they would pose if they were to run into trouble. This has led to a separate Brussels proposal on CCP recovery and resolution.
In an interview with POLITICO, Danuta Hübner, the rapporteur in charge of the file in the European Parliament, said relocation should be thought of “as the last resort.”
“I would be against any automaticity of this refusal [of access to EU clients] for political reasons,” she added. “What we need is a little bit lacking in the Commission proposal — we have to have very clear criteria.”
MEP Petr Ježek, the shadow rapporteur for the file, also said there is a “lack of clarity” in the Commission’s proposal regarding the grounds for denying a CCP access to clients in the EU, adding that any decisions “must be taken based purely on clear and technical criteria, and with the aim of ensuring financial stability within the single market.”
How these concerns will ultimately affect policymakers’ decisions varies.
Some actively don’t want to take on euro clearing, as the downfall of a CCP would be a huge responsibility for the national regulator overseeing the entity.
Cooperate, not relocate
Then, there are the pragmatists. In a speech in Frankfurton Wednesday, Andreas Dombret, member of the executive board of the Bundesbank, set out a path to “obviate the need for a large-scale relocation of clearing business, at least from an economic standpoint.” The alternative would rely on “intensive cooperation between U.K. and EU supervisory authorities,” and would also have to include “far-reaching powers of information and intervention” for EU supervision relating to U.K. CCPs, he said.
Others just want some conditions in place before any possible move to mitigate any unwanted repercussions.
In documents obtained by POLITICO, the Council asked to add four amendments to the Commission’s proposal so that the extreme measure of forced relocation is not immediately taken. It also wants a 12-month “adaptation period” for any clearing house forced to move. That would allow customers in the bloc to continue using that CCP while it adjusts to new requirements imposed on it. The Commission declined to comment.
In a proposal from the Estonian presidency on behalf of a Council working group on financial services, several conditions may need to be satisfied before a CCP would lose access to EU-based customers. They include an appropriate adaptation period for the clearing house and its members and any measures to be taken during the adaptation period to limit costs to bank clearing members and clients.
Whether that in effect means no relocation — except in the most extreme of circumstances — remains to be seen. But one thing is certain: Remove politics, and EU experts are more nervous than thrilled about the politicians’ power grab for the mammoth clearing industry.