An interoperability arrangement is a link between central counterparties (CCPs) that allows clearing members to execute the same transaction in two different CCPs. These arrangements, approved since the implementation of the European Market Infrastructure Regulation (EMIR), have provided clearing members with increased opportunities for netting and led to a reduction in outstanding gross exposures in the financial system. However, they have also introduced complexity into risk management and added a new contagion source between linked CCPs.
Now, with the Central Counterparty Recovery and Resolution Regulation closing to completion, the European Systemic Risk Board (ESRB) is pushing for a carve-out for interoperable CCPs to reduce the risk of contagion in case of distress.
At present, interoperable CCPs establish bilateral arrangements to deal with a clearing member default. However, the new CCP recovery and resolution rules do not distinguish between a linked CCP and a clearing member, which could eventually prevent a healthy CCP from allocating losses to its clearing members and drag it to start its own recovery or resolution process in case its interoperable CCP was in distress.
To prevent such an undesirable case, lawmakers are considering creating exemptions from the new recovery and resolution rules. To that end, the Croatian presidency of the Council of the EU drafted in late April a non-paper aimed to require CCPs to identify and exclude actions that would cause an interoperating CCP to invoke recovery and resolution procedures.
In words of Giuseppe Insalaco, principal financial stability expert at ESRB: “A straightforward way would be for each CCP to have specific provisions in their rule books that say: if I ever do receive a margin call from the interoperable CCP, then I am legally entitled to pass it on to the clearing members. That could, in theory, address the no creditor worse off principle”.
The non-paper is also advocating for a delay in the introduction of open access, originally scheduled for July 2020, due to its implications for interoperability arrangements.
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