Ruben Lee’s encyclopaedic knowledge of the infrastructure of the world’s financial system shines through this book. But it is far more than a factual history. Its real benefit for all those who are studying the public policy options for the EU’s efforts to create pan-European capital markets lies in his deep understanding of the human dynamics of “governance”. Well-intentioned measures turn out to be side-stepped by conflicts of interest, or simply rendered irrelevant by the pace of technological change and thus market mechanics. The story of these evolving markets is not over yet - by a long way - and Lee’s pithy “morals” at the end of each analytical section should be compulsory reading for policy-makers and market participants alike. Unknowable events have certainly bent the flow of history in this area – and more may be ahead – but Lee has laid out many lessons that should be learnt thoroughly.

The early parts of the book deal with defining what institutions should be included as “infrastructure”. This is the moment when the public interest demands that private firms be governed so that they do not behave anti-competitively, and unfairly deny access to an “essential facility” that competitors cannot effectively duplicate. The author identifies several governance models to achieve this, but goes on to ask the difficult questions about how this is achieved in practical reality, whether such institutions should exercise regulatory powers and what public regulation of their governance is desirable.

In his discussion of market power, Lee points out that trading, clearing and settlement are not independent of each other. They are a bundled, composite good that must all be consumed by market participants to complete a transaction. Thus, competition between exchanges may be foreclosed if the other exchange does not have corresponding access to the clearing and settlement chain.

The definitions very clearly bring out the key differences between, say, a CCP that is clearing cash equities – where the risk exposure (and thus value to the CCP) lasts the few days of the settlement cycle – and a derivatives CCP where the exposure can last many years until the contract expires. Users might want to choose their own CCP to manage this expensive exposure. But Lee explains in some detail, the complexities of doing this and why a “dominant CCP has little incentive to make the interoperability with other CCPs work effectively”.

The final step in the chain - settlement (depositing the security at the national CSD) began to blur once the Eurobond market started up in the 1960’s. Two international CSDs – Euroclear and Cedel – were brought into existence to deal with securities traded across the national boundaries of European states. But what exactly should be the regulatory boundary between a custodian bank and an ICSD holding the actual security? Can investors choose their own CSD? Only if there is interoperability between the competing CSDs! The current furore about exchange ownership of the settlement chain can be traced straight back to the birth of pan-EU markets, where the users were determined to protect their interests by having competing “essential facilities”.

The case studies of clearing and settlement institutions bring out the practical detail and human foibles that diverted the apparently-natural flow of history. Perhaps the most fascinating was the eventual acquisition of Cedel by Deutsche Börse in 2002. Cedel had been formed by users explicitly to counter the growing power of Euroclear. In 1999, Cedel agreed a 50:50 joint venture with Germany’s national CSD (owned by Deutsche Börse) rather than be swallowed by Euroclear. Deutsche Börse was already going pan-European in developing its “strategy of vertical integration between trading, clearing and settlement” – to quote Lee. Many owners of Cedel – who were also its users – resisted this development and after a couple of years, Cedel also had second thoughts. Suddenly “events” intervened: The Cedel CEO was forced to resign amidst a journalist’s accusations of money laundering – which were subsequently completely dismissed! The stock market crashed and some of the banks that owned stakes in Cedel proved willing to trade their high-minded governance principles for Deutsche Börse’s cash offer- especially when the profit on their stake exceeded their investment banking income for the previous year.

Euroclear also offered an excellent case study in “user governance”. By 2006, Euroclear – the ICSD - had acquired many national CSDs but its board was designed to represent the different types of users as well as it shareholders – who were also users. As it developed a Single Settlement Engine to generate efficiencies from combining the national CSD’s, some of its national competitors – who were also both users and shareholders - grew concerned about Euroclear Bank’s privileged access conditions. But the “independent” directors found themselves ensnared in a tangle of conflicts of interest – maintaining confidentiality about Euroclear’s business when discussing matters within their own firms. Lee lays bare the crippling effect of what was designed to be a model governance arrangement.

The commercial risks that can flow from well-meaning, but flawed, governance arrangements were illustrated by the merger of the London Clearing House and Euronext’s CCP to form LCH.Clearnet. After the merger, Euronext held 41 per cent of the equity – causing some alarm to another major customer, the LSE, as Euronext was responsible for 60 per cent of LCH.Clearnet’s income. A careful balancing of the board was designed to ensure that conflicts of interest were properly managed. The company’s objective was to produce a limited profit - with most of any excess applied for the benefit of users, and then for dividends to the owners. Whatever else happened, Euronext did not want to see any impairment of one of its major assets! But there was a technological imperative for the merger in the first place, and the complex holding company structure proved unable to exercise commercial oversight: the principals failed to control their agents. The sophisticated technical project went awry, about €70m was written off and the staff reduced from 100 to 40.

At the end of the section on case studies, Lee draws out several of his pithy morals about contradictory targets, regulators promoting their perception of national interest, conflicted board members and the inability of independent directors to square a structural circle. The central problem is that traditional structures (such as non-profit/mutual/co-operative) risk being unable to innovate at a time of rapid change. In this reviewer’s opinion, the political drive for a single capital market and single currency co-incided with, and indeed forced, regulatory change – with much more to come in the next couple of years. Simultaneously, dramatic technological advances made it necessary to change entire systems with great rapidity.

Can public regulation solve this set of problems? Lee sets out many of the difficulties and often they come back to the same old problem of confusion of objectives. Is it investor protection, reduction of systemic risk or improved efficiency? Should independent directors be appointed by the public? If so, are they fulfilling their general corporate duty to act in the best interests of the institution and its shareholders? Or are they acting for customers/users? In any case, is there a sufficient supply of such well-informed and independent paragons?

“Running the World’s Markets” supplies all the right questions to be asked about governance and regulation. It illustrates some of the pitfalls already experienced and thus at least some “answers” to be avoided in the future. But the canvas of the future still seems to have plenty of scope for new and original thinking.

Ruben Lee is CEO and founder of Oxford Finance Group - for further details and to puchase the book click here.