The WFE published its response to the four global standard-setting boards assessing the effectiveness of incentives to centrally clear over-the-counter (OTC) derivatives. The WFE calls for prompt and concerted action internationally to address issues confirmed in the August 2018 consultation paper from 'the Committees': the Basel Committee on Banking Supervision (BCBS), the Committee on Payments and Market Infrastructures (CPMI), the Financial Stability Board (FSB) and the International Organization of Securities Commissions (IOSCO).
The consultation seeks to "examine whether adequate incentives to centrally clear OTC derivatives are in place…and help inform the relevant standard setting bodies as they identify and deliver adjustments."
The key highlights from the WFE's detailed, technical response are as follows:
- The WFE welcomes the work that has gone into implementing important post-crisis reforms to OTC derivatives markets, and this study into their impact. Whilst agreeing that reforms have generally contributed to incentives to clear, the WFE urges concerted action to resolve the persistent issues with the way the leverage ratio treats segregated client initial margin.
- The WFE agrees with the report's analysis that, left unmodified, the leverage ratio poses disincentives to client clearing, as the current calculation fails to recognise the exposure-reducing impact of segregated client collateral held by a bank. This can render the provision of client clearing uneconomical, driving participants from the market and reducing access to hedging products, potentially increasing risk in the system. The solution is reforming the treatment of client initial margin under the leverage ratio by introducing an offset.
- The WFE believes that the Committees must now work together to deliver a globally consistent approach to the incentives regime and remediate the deficiencies identified in the report. We also call for a future study at the global level that considers the regime for clearing both OTC and exchange-traded derivatives.