Oversight of financial market infrastructures

Financial market infrastructures operate at the heart of the financial system and contribute to its good functioning. Their central position in the financial ecosystem implies that they concentrate a number of risks, including:

The risks inherent in financial market infrastructures

• settlement (or financial) risk. There are two types:
  • credit risk is the risk of loss stemming from a counterparty's failure to meet its contractual obligations at the specified date or in the future;
  • liquidity risk is the risk that a participant in an infrastructure has insufficient funds or securities to meet, partially or wholly, an obligation at the specified date, even if the participant is not insolvent;
• operational risk is the risk of a loss resulting from inadequate or failed internal processes, people, systems or external events.
• legal risk is the risk of a loss resulting from an unpredictable or ambiguous application of a law or regulation, or from a situation where it is impossible to execute a contract.
• systemic risk is the risk that a particular event affecting the infrastructure, resulting notably from a financial or operational risk, leads by a chain reaction to significant disruptions on all capital markets that are liable to produce nearly simultaneous large adverse effects on most or all of the economy.

The financial crisis of 2008 was an important test for the resilience of financial market infrastructures, which proved their robustness. Their contribution to the transparency of financial markets led the G20 to promote their use, including by mandating the central clearing of OTC derivatives transactions.

The growing importance of their role has led to the strengthening of the regulatory standards applicable to financial market infrastructures.

Payment systems

Payment systems are comprised of two kinds of infrastructures :

• retail payment systems that exclusively settle payments flows on behalf of the private individual and the corporate customers of the banks ;
• large value payment systems that settle the flows related to monetary policy, interbank settlements, and some large-value emergency payments on behalf of private customers.

These infrastructures have replaced the correspondent banking model that still exists for international payments. The automatic mass settlement of flows has brought about a high level of efficiency and considerable economies of scale.

The flawless functioning of payment systems is critical to the financial and economic life of the country and to financial stability in general.

Securities settlement systems

Securities settlement systems are closely linked to payment systems, and as such, are likely to transfer risks onto the latter, in particular through the settlement of the cash leg of transactions in payment systems. These settlements are often made on central bank accounts, which is the case in France for the ESES France settlement system (operated by Euroclear France).

In addition, Eurosystem central banks use securities settlement systems to perform the operational processing of the assets put forward as collateral for their credit operations (intraday credit in the RTGS payment systems that make up TARGET2, and overnight credit). Securities settlement systems therefore play an essential role in the implementation of monetary policy.

Central counterparties (or clearing houses)

Clearing financial transactions through the interposition of a central counterparty (CCP) between the initial counterparties reduces any potential losses in the event of a participant’s failure while limiting the number and value of deliveries and transaction-related payments.

However, using these clearing systems also has the effect of concentrating risks on the CCP, giving the latter a systemic importance in the event of its failure. In addition, CCPs are connected to payment systems and may transfer risks onto them, since they are in charge of settling margins and clearing balances.

It is therefore essential that central banks be involved in the oversight of clearing systems given the systemic nature of these infrastructures and the contagion risks they pose.

Finally, in recent years, the integration of financial markets has led to the development of cross-border transactions and to growing requests for strengthening the effectiveness of clearing and settlement systems. In Europe, this movement has taken the form of a consolidation of systems and a search for operational integrations, as well as the development of links between clearing and / or settlement systems, which exposes these systems to heightened contagion risks. This new dimension contributes to increasing their systemic importance in the European Union.

Trade repositories

Trade repositories register derivatives markets transactions in centralized databases. They therefore play an important role in improving transparency on derivatives markets, reducing systemic risks, and promoting financial stability.

The European regulation EMIR (European Market Infrastructure Regulation), and its regulatory technical standards, mandate the reporting of all derivatives transactions to authorized trade repositories since August 2012, whether they are negotiated on a regulated market or over-the-counter. In practice, the reporting of all derivatives transactions on all asset classes is effective since 12 February 2014.

By end-2014, 6 trade repositories established in the European Union had been authorized by ESMA under EMIR, allowing them to offer their services to European counterparties. 4 of them are established in the United Kingdom, one in Luxembourg and one in Poland.

Legal authority of the Banque de France to exercise FMI oversight

The Banque de France fulfils its FMI oversight mission within the European system of central banks (ESCB), as well as according to national the legislative provisions under the Monetary and Financial Code (Code monétaire et financier, CMF):

• Article L. 141-4 I CMF “The Banque de France shall ensure the good functioning and safety of payment systems.”
• Article L. 141-4 II CMF “As part of the oversight role of the ESCB and without prejudice to the powers of the Financial Markets Authority (Autorité des marchés financiers, AMF) and the Prudential Supervision and Resolution Authority (Autorité de Contrôle Prudentiel et de Résolution, ACPR), the Banque de France shall ensure the safety of securities clearing and settlement systems.
• Article 127 of the Treaty on the functioning of the European Union “The basic oversight task of the European System of Central Banks (ESCB) is to promote the smooth operation of payment systems.”
• Article 22 of the ESBC Statute “The ECB and national central banks may provide facilities, and the ECB may make regulations, to ensure efficient and sound clearing and payment systems within the Community and with other countries.”

Standards applicable to infrastructures

The Committee on Payments and Market Infrastructures (CPMI) of the BIS and the International Organization of Securities Commissions (IOSCO) published on 16 April 2012 a set of standards, which is used at the international level for the oversight of infrastructures: these are the Principles for financial market infrastructures (PFMIs).

The Governing Council of the ECB published on 3 June 2013 a declaration stating that the PFMIs had been adopted for the conduct of the oversight of all types of financial market infrastructures by the Eurosystem. The oversight framework used by the Banque de France to fulfil its infrastructure oversight mission is grounded in these principles, as transposed in regulation, and on the assessment methodology they recommend.

This set of standards concerns all financial market infrastructures (i.e. payment systems, central securities depositories, securities settlement systems, clearing systems and trade repositories). It contains 24 principles which were adopted following the financial crisis to strengthen the resilience of the infrastructures, which support financial stability.

In this context, and to make the PFMIs enforceable, they were transposed in legally binding regulations :

• Regulation of the European Central Bank (EU) No 795/2014 of 3 July 2014 on oversight requirements for systemically important payment systems, or “SIPS regulation”: it imposes binding standards on operators of payment systems, and gives the ECB the power to sanction any violation of the regulation. For retail payment systems which are not systemically important, the Eurosystem has developed oversight standards based on the PFMIs. These standards apply according to the classification of the system (prominent important payment systems, or other retail payment systems).
• Regulation (EU) No 909/2014 of the European Parliament and of the Council of 23 July 2014 on improving securities settlement in the European Union and on central securities depositories, or “CSDR”: entered into force on 18 September 2014, it regulates the activities of CSDs and strengthens the safety of securities settlement in Europe. Among other provisions, it imposes the settlement of securities within 2 days after the trade date (T+2), thereby reducing settlement risk.
• Regulation (EU) No 648/2012 of the European Parliament and of the Council of 4 July 2012 on OTC derivatives, central counterparties and trade repositories, or “EMIR”: since its entering into force on 16 August 2012, it regulates the authorization and oversight of CCPs and trade repositories.

In January 2014, the Eurosystem published a specific set of standards, the “Framework for the assessment of securities settlement systems and links to determine their eligibility for use in Eurosystem credit operations”, in order to assess the eligibility of securities settlement systems (SSSs) to process the delivery of assets pledged as collateral for ESCB credit operations.

The eligibility of these systems to carry out pledges of assets as collateral for ESCB credit operations operationally is assessed based on their compliance with nine standards. These standards are also used to assess of the eligibility of links between SSSs, for the cross-border use of pledged collateral.

Within the Eurosystem, the Banque de France carries out its oversight mission of French infrastructures and participates in the cooperative oversight of European and international infrastructures:

• Payment systems: the Banque de France is designated as competent authority for the oversight of systemically important payment system CORE(FR), operated by STET. As part of cooperative oversight arrangements, it also participates in the oversight of the other SIPS overseen by the Eurosystem (TARGET2, EURO1 and STEP2). At the international level, the Banque de France is part of groups of overseers for the multicurrency international system CLS and the interbank telecommunication network SWIFT.
• Securities settlement systems: in accordance with article L. 141-4 of the Financial and Monetary Code, the Banque de France is responsible for the supervision of ESES (Euroclear Settlement of Euronext Securities), the securities settlement system operated by Euroclear France. This system, shared with other CSDs of the Euroclear group, is also used in Belgium and the Netherlands. The Banque de France conducts its oversight in close coordination with the authorities of these countries as well as the French Financial Markets Authority (AMF). Under the CSDR regulation, EU member states designate one or more competent authorities and relevant authorities (both AMF and the Banque de France are competent authorities for the supervision of Euroclear France). ESMA (European Securities and Markets Authority) publishes the list of these authorities on its website.
• Clearing systems: the Banque de France, together with ACPR and AMF, is one of the competent authorities for the oversight of clearing systems. The Banque de France is the chairing authority of the EMIR college of the French CCP LCH.Clearnet SA. It also participates in the EMIR colleges of the Italian CCP Cassa di Compensazione e Garanzia, which is linked to the French CCP through an interoperability arrangement, the German CCP Eurex Clearing AG, and as an alternate for the ECB, of the British CCP LCH.Clearnet Ltd.
• Trade repositories: under EMIR, ESMA (European Securities and Markets Authority) is directly responsible for the authorization and supervision of trade repositories established in the European Union. TRs established outside the EU but that wish to offer their transactions reporting services within the EU must obtain recognition from ESMA according to a specific process. Once authorized by ESMA, TRs are subject to continuous supervision to ensure compliance with EMIR. The Banque de France, as well as ACPR and AMF, have permanent access to TR data on derivatives transactions, to the extent required by its mandate.

The oversight of financial market infrastructures is organised along five axes:

1. Defining principles and standards

The Banque de France participates in the elaboration of the body of principles and standards applicable to FMIs. It is also represented in the various European and international institutions:

• at the international level: the Committee on Payments and Market Infrastructures (CPMI) of the Bank of International Settlements (BIS);
• at the Eurosystem level: the Payment and Settlement Systems Committee (PSSC) and the Working Group on Oversight (WGO);
• at the EU level: frequent consultation of ESCB central banks in the definition of technical standards and other applicable standards.

2. Controlling the implementation of the principles through periodic assessments

In order to fulfil its oversight mission, the Banque de France regularly assesses the compliance of the infrastructures with the set of standards to which they are subject and with the regulatory requirements derived from European regulations.

In accordance with the provisions of the Financial and Monetary Code, the Banque de France has the power to ask the operator of the infrastructure for any information or document it deems useful for the conduct of its assessment. The Banque de France also has an onsite inspection power.

The assessment is concluded by a report which details the level of compliance of the infrastructure with each of the relevant principles and makes recommendations. The operator must implement the recommendations.

3. Overseeing effective operating conditions

Between two assessments, performed at regular intervals, the Banque de France follows the day-to-day operations of the infrastructure and is notified of any incident. When an operator wishes to implement a change to its infrastructure, it notifies the overseer which carries out an ex ante assessment of the compliance of this change with the applicable principles and regulatory standards.

4. Coordinating oversight activities with other relevant national authorities

• at the national level: the powers of the banking prudential supervisor (ACPR) and the markets oversight authority (AMF) regarding infrastructures and their operators imply close cooperation with the Banque de France to exercise their role as overseers and supervisors.

• at the international level: the growing cross-border aspect of overseen infrastructures also implies cooperation with foreign authorities. The Banque de France participates in several arrangements:

  • Within the Eurosystem cooperative oversight arrangements, the Banque de France participates in the oversight of systemically important European FMIs (EURO1, STEP2 and TARGET2)..
  • At the international level, the Banque de France also takes part in the group of overseers of the multicurrency international system CLS and the interbank telecommunication network SWIFT.
  • Regarding the Euroclear group, the Banque de France is a party to the Memorandum of Understanding between the French, Belgian, Dutch, British, Finnish and Swedish authorities regarding the coordinated oversight of joint services offered by Euroclear SA to the CSDs of the group. It is also a party to the cooperation agreement signed between the French, Belgian and Dutch authorities for the coordinated oversight of the securities settlement systems belonging to the settlement platform ESES.

illustration: EMIR colleges

En application du règlement EMIR (European Market Infrastructures Regulation), la surveillance des chambres de compensation implique une coopération entre différentes autorité de surveillance nationales et européennes.

In accordance with EMIR, the oversight of CCPs is carried out through cooperative arrangements between national and European overseers.

The Banque de France chairs the EMIR college of the French CCP LCH.Clearnet SA, which comprises authorities from 9 EU countries and the EU. The Banque de France is a national competent authority for the oversight of the CCP, jointly with ACPR and AMF. Within this framework, the college issues an opinion regarding the compliance of the CCP with EMIR requirements, and the interoperability arrangement with the Italian CCP Cassa di Compensazione e Garanzia. The college also issues opinions on any extension of activities and services, or on any significant change to the CCP risk models. This arrangement has replaced previously existing agreements (including a memorandum of understanding signed in 2001, regarding the coordinated oversight and the supervision of the clearing of transactions negotiated on Euronext markets).

In February 2003, the French and Italian authorities signed a memorandum of understanding laying down a set of rules for the exchange of information and cooperation for the oversight and supervision of transactions between LCH.Clearnet SA and Cassa di Compensazione e Garanzia, for the clearing of transactions on the MTS Italy, Euro MTS and Brokertec markets.

Finally, as the French CCP belongs to LCH.Clearnet Group Ltd, the French and British authorities exchange information on common group issues relevant for the oversight and supervision of LCH.Clearnet SA.