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Brixit and the battle for control of euro clearing - a legal and tactical analysis of the competing regulatory powers of the UK and EU concerning central counterparties

   

Added on  2020-06-04

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Dissertation(Brexit and the battle for control of euro clearing - alegal and tactical analysis of the competingregulatory powers of the UK and EU concerningcentral counterparties)

Table of ContentsCHAPTER – 1 INTRODUCTION..................................................................................................11.1 Background of the study........................................................................................................11.2 Problem statement..................................................................................................................41.3 Research aims and objectives................................................................................................41.4 Potential contribution.............................................................................................................41.5 Disposition.............................................................................................................................5CHAPTER -2 LITERATURE REVIEW.........................................................................................62.0 Introduction............................................................................................................................62.1 Understanding the working of clearing houses......................................................................62.2 Reasons of Brexit and its impact over legal & political uncertainties...................................82.3 Impact of Brexit on Euro Clearing system.............................................................................92.4 Legal & tactical evaluation of UK and EU’s regulatory authorities’ power concerned tocentral counterparties.................................................................................................................11CHAPTER – 3 RESEARCH METHODOLOGY.........................................................................153.0 Introduction..........................................................................................................................153.1 Research philosophy............................................................................................................153.2 Research approach...............................................................................................................163.3 Research design....................................................................................................................163.4 Research type.......................................................................................................................173.5 Data collection.....................................................................................................................183.6 Data analysis........................................................................................................................18

3.7 Reliability & validity...........................................................................................................193.8 Ethical implications..............................................................................................................193.9 Limitation & strategy followed to overcome obstacles.......................................................19CHAPTER – 4 DATA FINDINGS AND ANALYSIS.................................................................214.0 Introduction..........................................................................................................................214.1 Data findings and presentation.............................................................................................21Dominant position of London in the Euro clearing market.......................................................21Brexit consequences on the dominant position of LCH and its trade volume...........................25Impact of brexit over the legislation & regulatory requirement on London based clearinghouses.........................................................................................................................................254.2 Analysis and interpretation..................................................................................................26Dominant position of London....................................................................................................26Legal & tactical issues in relocation proposal...........................................................................27Impact of brexit over uncertainties in the financial sector.........................................................28Eurosystem oversight policy framework...................................................................................28Critical reflection.......................................................................................................................29CHAPTER -5 CONCLUSION & RECOMMENDATIONS........................................................31Conclusion.................................................................................................................................31Recommendations......................................................................................................................32REFERENCES..............................................................................................................................35

CHAPTER – 1 INTRODUCTIONResearch title: Brexit and the battle for control of Euro clearing: a legal & tacticalanalysis of the competing regulatory powers of UK & EU with respect to central counterparties1.1 Background of the study Britain exit from European Union (Brexit) took place on 23rd June 2016 after 43 years oftheir joint membership. The leave decision won by having majority of 51.9% votes, whilst 48.1%people voted in favour of remaining the part of EU. England voted for the refendum by 53.4%,Wales by 52.5%, whilst in Scotland & Northern Ireland, 62% and 55.8% people supportedremain decisions1. The debate mostly revolves around free movement of goods across EUnations without any custom tariffs and economic benefits of EU membership. Before refendum,Cameron, George Osborne and other senior authorities have predicted that if UK voted to leaveUnion than it will lead to sudden economic crisis. Evidencing it, on the day after the brexit, thevalue of pound slumped down by 15% and 10% against dollar and euro2. However, critics argued that predictions are wrong because UK economy is expecting agrowth of 1.8% in 2016 and Germany alone has been expected to grow @ 1.9% among allleading G7 countries3. ONS (Office of National Statistics) reported that undoubtedly, the growthof the country has been slowed still, the economy is expanding4. Clearing houses offer various services covers risk mitigation, capital efficiency, pricetransparency, delivery facilitation and operational efficiencies for various liquid derivatives i.e.1'Brexit: All You Need To Know About The UK Leaving The EU - BBC News'. 2017.Available through: <http://www.bbc.com/news/uk-politics-32810887> [Accessed on 11August 2017]. 2Ibid 3Ibid4What Is London’S Euro Clearing Market And Why Is Brussels Worried?'. 2017.Available through: <https://webcache.googleusercontent.com/search?q=cache:oWsR_mL3RCQJ:https://www.ft.com/content/18dcf566-5025-11e7-bfb8-997009366969%3Fmhq5j%3De4+&cd=1&hl=en&ct=clnk&gl=in> [Accessed on 11August 2017]. 1

bond, equity, interest rate and others. Clearing houses maintains high level of market integrity byplaying an intermediary role between buyer and sellers5. They discount various instrument inreturn for certain margin and becomes the central counterparty for clearing and settling trades.Thus, by this way, they plays a substantial role in maintaining financial stability. Hendersondefined derivatives as a financial product or instrument which value depends upon underlyingassets i.e. currency, security or commodity. It includes future, options and others. Central bank isthe leading authority that owes accountability to maintain financial stability through control overmoney supply. The authority designs laws and economic rules and regulation for efficientfinancial regulative framework6.In London, Financial services and business volume goes beyond $900bn a day and themost important thing is that it centered on Euro-dominated contracts of derivatives by LSE’s(London Stock Exchange) Clearing Houses (LCH). Brussel’s proposal stated that in order tomaintain economic stability, EU regulatory authority must be given power to look overseasclearing houses which can threaten systematic risk on financial stability in Europe. After theeconomic crisis in 2008, clearing becomes a key pillar for boosting stability in the globalfinancial market. There are number of clearing houses i.e. LCH, Dutsche Borse’s Eurex whoplays an intermediary role between sellers and buyers of the financial instruments as theyexchange cheques, bills and other instrument for certain margin. They are also accountable forlooking the future exchanges for the trading account settlement. The city stands in the dominant position for the clearing of derivative instrumentsdenominated in euro even though UK never intended to join eurozone. After the Brexit, the keyissue is that how UK located clearing houses will be regulated and policed because current rulesof EU will be no longer required to be follow7. However, its failure may bring serious issues and5Wood, P. R., 2007. Set off and Netting, Derivatives, Clearing Systems. Sweet &Maxwell. UK. pp.92-101.6Handerson, S. K., 2010. Henderson on Derivatives. LexisNexis UK. pp.42-68. 7What Is London’S Euro Clearing Market And Why Is Brussels Worried?'. 2017.Available through: <https://webcache.googleusercontent.com/search?q=cache:oWsR_mL3RCQJ:https://www.ft.com/content/18dcf566-5025-11e7-bfb8-2

huge ramifications to the EU. It is often complaint that LCH had increased its margin whichmeans that participants have to keep high collateral for the debt which leads to aggravated debtcrisis in Eurozone. Thus, in this regard, the main target of the EU is to give sufficient power toEuropean Security & Market Authority (ESMA) to examine the systematic risks that can beposed by clearing houses located overseas. The body examine their businesses and its proportionwhich is denominated in Euro currencies for ensuring financial stability. Euro Clearing (EC) has been emerged as a key battleground in the negotiation process ofBrexit. European Central Bank (ECB) has made significant efforts to gain insight of lucrativeeuro clearing market after refendum. Currently, the Euro denominated currencies which arecleared in London, BOE (Bank of England) owes accountability to look oversight &supervision8. However, now, after Brexit, settlement of such financial instrument that are tradedoutside EU exposed to the risk of financial stability due to emergence of more than one currency.Politicians believes that Eurozone must control all the Euro clearing covering control overmargin, collateral and managing the risk of credit default by the party. So, that, outside clearingagents will not be able to charge additional margin which they intended to arise from the creditin Euro. Therefore, ECB announced that there is a need of necessary amendments that will allowregulators to examine and monitor such risk that are linked with the clearing houses and lead toaffect the monetary policy and currency stability. ECB recommends several amendments in article 22 of the statue which provides legalbase to the eurosystem to perform role as of central bank under currently European MarketInfrastructure Regulations (EMIR) proposed so as to stabilize the euro currency. According tothe amendments, ECB can make regulations to promote sound clearing system for all thefinancial instruments. EU created a centrally controlled system for the credit rating agencies, put997009366969%3Fmhq5j%3De4+&cd=1&hl=en&ct=clnk&gl=in> [Accessed on 11August 2017]. 8'ECB In Drive To Control Post-Brexit Euro Clearing'. 2017. Available through: <https://webcache.googleusercontent.com/search?q=cache:UIMkjUwUQWkJ:https://www.ft.com/content/8888e560-57e5-11e7-9fed-c19e2700005f%3Fmhq5j%3De4+&cd=1&hl=en&ct=clnk&gl=in> [Accessed on 11 August 2017]3

restrictions on short selling of EU debt and put brake on speculation & hedging9. Authoritieshave been permitted to look over the creditworthiness of euro-denominated instruments. EC(European Commission) also recently planned to investigate EMIR including the examination ofclearers. If ECB provides clear authority to the central bank for creating sound and efficientclearing operations within EU and with others nations than it will be a clear signal to London.These powers present an improved role for central bank with regards to the supervisory systemof CCPs, specifically, to supervise third party for the clearing of euro-denominated instruments. Besides this, relocation of huge clearing agents like LCH will be followed only if EUregulators will be unable to closely supervise the CH located in London. It is just like to that ofAmerica in which US dollar is mostly cleared outside US; still regulators have enough directoversight of UK located clearing houses. Till the time, EU legislations do not allow ECB to havea direct oversight to supervise outsight clearing houses that are clearing euro dominatedinstruments; the EU authority will have power to make policies for liquidity management for theeconomic stability. Currently, euro-sterling swaps are used to cope up with such prevailing issue,still, BOE (Bank of England) is committed to convey necessary information with the ECB that isregulated by EU law and after Brexit, it needs to renegotiate. Thus, more power has been givento EU regulators such as ECB, ESMA and others for managing possible crisis risk. Thus, the keyconcern of the paper is to investigate euro clearing control issues and purposes at examining thelegal and regulatory power of both the UK & EU with respect to central counterparties10.9EU-Managed Control Of Euro Clearing Is Not Viable'. 2017. Available through:<https://webcache.googleusercontent.com/search?q=cache:o1tU8P_Dm-YJ:https://www.ft.com/content/64f5d320-3403-11e7-99bd-13beb0903fa3%3Fmhq5j%3De4+&cd=2&hl=en&ct=clnk&gl=in> [Accessed on 11 August 2017]10Cremades, M. T., 2017. Brexit and the European Union: General Institutional and LegalConsideration.[PDF]. Available through: <http://www.europarl.europa.eu/RegData/etudes/STUD/2017/571404/IPOL_STU(2017)571404_EN.pdf>. [Accessed on 11th August 2017].4

1.2 Problem statement Eurozone is not controlled by a single sovereign and LCH is one of the biggest clearinghouses that alone clear huge amount of euro-denominated financial instruments. They areadjusting their margin on the transactions cleared which created doubt on the credit viability.Divergent national interest for the euro clearing indulged huge risk into the system. Therefore,EU implemented a centrally controlled system so as to create the system on fair basis in views ofeurozone authorities. Thus, this is the key concern for which the study will provide useful insightfor examining legislative framework and competing regulatory authorities power of both the UK& EU. It is a current prevailing issue which gains scholar attention & interest to conduct a newinvestigation in respective field. 1.3 Research aims and objectivesAim: To explore legal and tactical analysis of the competing regulatory powers of UK & EUwith respect to central counterparties for euro clearing system Objectives: To explore the concept of Euro clearing controlled framework To examine the impact of Brexit over political uncertainty & legal complexities To make legal and tactical evaluation of UK and EU’s regulatory authorities power withrespect to central counterparties1.4 Potential contributionUK recently voted to left EU membership on 23rd June 2016, this recent refendum bringssignificant uncertainties in the legal & political environment. As Brexit took place recently,therefore, there are only few studies conducted therefore, the current study will provide aconceptual framework to the scholars who are likely to investigate the issue in future. Inaddition, governing authorities of both UK and EU can also get important insight towardsexamining their competing regulatory powers with reference to the central counterparties in thecurrency clearing system. 1.5 DispositionChapter 1: Introduction: It is the commencing chapter which details out in-depthoverview of the research issue along with its rationale and key aims & objectives. Moreover, itwill discuss the significance and potential contribution of the study. 5

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