While
praising the compromise agreement between the CFTC and the European Commission
on cross-border derivatives regulation as evidence that global policymakers are
pulling together, Andreas Dombret, the member of the Deutsche Bundesbank
Executive Board with oversight of financial stability, cautioned that
Dodd-Frank Act and EMIR regulatory requirements could turn central
counterparties into “juggernauts” of the international financial system that
must be closely monitored. As such, he
advised that every central counterparty must have robust risk management
structures in place. As competition among central counterparties grows more and
more intense, a race to the bottom could ensue as they undercut each other in
terms of the size and quality of their margin requirements. Regulators and
policymakers must prevent this from happening by, among other things, assuring
that the central counterparties’ models for calculating margin requirements are
sufficiently conservative.
In the
board member’s view, the main problem with central counterparties is that
losses could only be distributed among clearing participants, which is usually
a small group of market participants, in particular, global financial institutions, giving rise to
potential contagion risks and domino effects. More broadly, the central banker
said that financial stability cannot be subordinated to the efficiency of
central counterparties. While recognizing that it would be desirable for
derivative users if the central counterparties became interconnected because
the users would not need to join a number of different central counterparties
in order to settle contracts with counterparties that use other central
counterparties, the board member warned against the contagion dangers that
interconnected central counterparties would represent. All of this serves to
illustrate why regulators must continue to keep a close watch on the future
development of the derivatives markets. In Europe ,
he noted, EMIR offers a good starting point for regulators to ensure that the
changes now under way help achieve greater stability in the financial system.
Finally,
the central banker said that appropriate recovery and resolution regimes need
to be available for central counterparties in case of emergencies. The envisaged
loss allocation rules are one core element in designing these regimes.