In a speech to the Economic and Monetary Affairs Committee of the European Parliament, internal markets commissioner Charlies McCreevey outlines the Commission's proposals for improving cross-border clearing and settlement provision.
Like the rest of the financial industry in the EU there have been important changes in the structure of stock markets and in clearing and settlement in recent years. And there will be more changes as economic actors respond to new market opportunities, and as European capital market integration accelerates.
We have already seen a certain amount of consolidation in clearing and settlement but it is fair to say that you can still see the national systems from which some have evolved.
The Commission has for a number of years now been examining the reasons why cross-frontier clearing and settlement is so expensive by comparison with national systems.
As most people who follow this closely know, there is no one single reason. There are a large range of factors which add costs to cross-frontier trading in shares. In a single market and particularly a single currency zone, we need to get these inefficiencies out of the market.
I said last year that improving the effectiveness of clearing and settlement in the EU was one of my priorities. Neelie Kroes and I published on the web a few weeks ago documents that reflected the ongoing work and issues we were examining.
No-one has contested the basic premise of our analyses – namely that there are important economic gains to be had from improving the efficiency of cross-frontier clearing and settlement. What has proved more elusive is finding the best way of achieving this.
The fact there are many reasons why cross-border clearing and settlement is more expensive than purely domestic transactions, makes any policy response complex. What is clear is that there is no single measure which I can propose that would bring about the changes necessary. We have to continue with an approach that is varied, proportionate and cognisant of the ongoing changes taking place in the market.
In only a couple of years' time the structure of stock trading, and inevitably clearing and settlement, will be different from what it is today. In addition to the takeover/mergers of Exchanges there are a number of factors that will provide a different landscape in a relatively short period of time.
Firstly, there is the impact of the Market in Financial Instruments Directive – or MiFiD, as it is known. This Directive, which comes into force in November of next year, provides for the first time competition to the trading of shares on Stock Exchanges. The monopoly enjoyed by Exchanges will go. This will be a major change.
In addition, article 34 of that Directive provides that investment firms from one Member State have the right of access to counterparty clearing and settlement systems in another Member State. Firms should exercise those rights. This should reduce costs.
Secondly, all regulated markets must offer their members or participants the right to designate the system for the settlement of transactions. This will introduce more competition and drive down costs. Regulated markets should exercise these rights.
Thirdly, the work on the renewal of the so-called “Giovannini Barriers” has started to produce some good results.
For example, industry agreement has been reached on the protocol to eliminate national differences in IT and interfaces used by clearing and settlement providers. Use of ISIN codes and standards for settlement finality will all help to integrate systems and drive down costs by squeezing out unnecessary intermediary interventions.
Some progress, but not enough. There are still enormous gains to be made by finding solutions to some of the other remaining “Giovannini” barriers. I am urging Member States to accelerate work on these. Dismantling unnecessary national requirements in relation to legal and tax issues would make a huge contribution. The mandate of the CESAME group expires in 2008 so a real effort is needed to finish this work by the end of 2007.
Another important consideration that needs to be factored in is the announcement last Friday by the European Central Bank in relation to settlement services for securities transactions in central bank money. This could lead to the processing of both securities and cash settlements on a single platform through common procedures. The European Central Bank announced last week that it was exploring further cooperation with central securities depositories and other market participants, the setting up of a new service for securities settlement in the euro area.
The implementation of such a facility, which would be fully owned and operated by the Eurosystem, could allow large cost savings as a result of the high level of technical harmonisation that this facility would entail for all market participants and would represent a major step towards a single Eurosystem interface with the market.
While a final decision is not expected until early 2007, it could be a significant stimulus to eliminating many of the inefficiencies in the clearing and settlement system in the EU.
A lot is happening and there is even more to come in the time ahead. So I find myself gazing into my crystal ball and trying to see what all these changes mean for the future of clearing and settlement. While I see that the changes taking place will bring big improvements, there is still the necessity to ask: Are extra measures necessary over and above what is now taking place?
One thing I am absolutely sure about is: whatever we do, we should work with the grain of the market. The role of the Commission is not to pick winners nor dictate a particular outcome. Nor determine the final architecture.
Many have argued that a pan-European clearing and settlement system operated as a utility would be the best solution for capital markets in the EU. They may be right.
Again, it is not our role to impose a particular model on the market. The Commission’s role is to ensure the markets work efficiently, that unnecessary barriers are done away with and that EU Treaty provisions, particularly competition policy, are applied to the full.
In short, much change is underway.
I am convinced that if the Commission were to propose any kind of a regulatory measure, we could slow down, or even block the restructuring process already underway – possibly even for years.
A regulation now would be a distraction to market participants. It could lead to an outcome far less optimal than letting things evolve and then assessing what, if anything, is necessary at EU level.
In reaching this conclusion which is very much embedded in the Better Regulation approach I am conscious of the need for the industry to do more to ensure that the market changes underway continue and that benefits are seen by users and customers of clearing and settlement systems. Neelie Kroes will outline the vital role competition policy will continue to play in this regard.
We all agree that improved price transparency and increased competition are the only way to achieve the efficiency necessary for capital markets in the EU. I therefore welcome the undertaking I have received that the clearing and settlement industry is prepared to work on an ambitious and achievable code of practice which can deliver real benefits and which will work with the market changes currently underway.
In this code of conduct I want the industry to commit itself unequivocally to deliver the following results:
- By the end of this year a series of measures to improve price transparency will be in place.
- By 30 June next year agreement on a roadmap and conditions for ensuring effective rights of access on a fair, transparent, non-discriminatory basis, so that the conditions are set for implementing interoperability between Exchanges/CCPs/CSDs etc as soon as possible thereafter.
- By 30 December 2007, there will be separate accounting of the main clearing and settlement activities.
- By the same date there will be price unbundling of the main services and activities.
These principles have already been applied in many network industries in the EU.
This is an ambitious agenda. It will be backed up by a strong procedure for verification and external auditing of the commitments made. Other stakeholders will be involved in the process. It will initially apply to cash equities. It should also be extended in time to cover other instruments such as derivatives etc and I expect full cooperation from the industry on this and a clear timetable.
I recognise that this code of practice is not without risks. But then, financial markets are all about risk. All my life I have been prepared to take risks where I believed this was the right thing to do. In the present state of the evolution of the market in the EU there is no doubt in my mind that this is the best option at this moment in time.
It presents a challenge to the industry. The ball is in their court. Can they voluntarily put in place and implement changes? At the end of the day, if they fail regulators always have the range of measures at their disposal to force changes through.
But as I said on many occasions, an industry-led solution is the best outcome for improving the efficiency of clearing and settlement in the EU. This is their opportunity to show they can contribute to the solution.
In parallel, with the elaboration of the code of practice, the Commission will be continuing its analysis and monitoring of clearing and settlement. An external study to monitor prices and volumes has been launched to that effect and I am asking the industry to contribute constructively to this exercise. The work on removing the "Giovannini" Barriers in the CESAME Group needs to be accelerated. I cannot overstress the important gains to be reached from progress in this area. The implementation of MiFiD will require a huge effort.
As I said at the outset, there are no magic solutions here, but if my reading of what I see in the crystal ball turns out to be less than I had hoped then the Commission will take further measures.
We want dynamic, integrated capital markets in the EU – not segmented ones. And we are determined to achieve them. For all our consumers, investors and companies.
And to strengthen the European economy.