11 September 2013

ECB/Cœuré: Four years after Pittsburgh - What has OTC derivatives reform achieved so far

The over-the-counter (OTC) derivatives markets were at the heart of the financial crisis and several root causes on what went wrong were identified. Increasingly complex and opaque financial products, combined with a lack of transparency, were contributing factors, but also the failure of public authorities to appreciate and address adequately the risks building up in the financial markets. Not only did regulators and supervisors not keep up with financial innovation, but they lacked the tools to monitor the risks adequately. Regulation also failed to keep up with the dynamics in the OTC derivatives markets over the last two decades, which saw an explosion in outstanding contract volumes. Post-trading infrastructures had become increasingly inadequate for coping with the growing volumes and complexity of such trades.

In the area of OTC derivatives, the objective was to have all standardised OTC derivatives contracts traded on exchanges or electronic trading platforms and cleared through central counterparties by the end of 2012. OTC derivatives contracts were to be reported to trade repositories, and non-centrally cleared contracts subject to higher capital requirements.

So what was done four years after Pittsburgh? Mr. Coeuré focuses to three of the many issues covered by this conference: lack of transparency, the challenges remaining in central clearing and inconsistencies in cross-border application.

In the area of data and transparency there is need to remove barriers to access and provide a mechanism to aggregate data across trade repositories and jurisdictions in order to be able to have a comprehensive overview of the risks in OTC derivatives markets. This is what the G20 leaders had in mind four years ago.

In the area of clearing there is need to monitor the impact of mandatory clearing not only on central counterparties, in terms of capacity and risk management, but the focus should also be on whether an increase in indirect clearing changes the risk profile of the direct clearing members.

The reform will also have an impact on collateral needs. However, authorities should monitor the availability of high quality collateral and related collateral management services. New risks that appear as a result of innovation, such as those relating to collateral transformation, need to be analysed and addressed.

Though substantial progress has been made, it is also true that only just over half of the FSB jurisdictions have implemented the reform agenda so far. Although these include the jurisdictions of the most important OTC derivatives markets, there is need to be vigilant in order to avoid regulatory arbitrage – that is to say, business moving from jurisdictions that stick to the agreed agenda to others that lag behind.

Little over two weeks ago, the BIS published its macro-economic impact assessment of OTC derivatives regulatory reforms. The results are promising. It concludes that the effects of (i) mandatory central clearing of standardised OTC derivatives, (ii) margin requirements for non-centrally cleared OTC derivatives and (iii) bank capital requirements for derivatives-related exposures will result in overall net benefits for economic growth.

The ultimate objective of this reform is to rebuild confidence in the financial system, which has been shattered in the recent years. Not only among market participants but in our societies as a whole, a good deal of trust has been lost.

Full speech

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