US clearing houses need not take collateral damage from Brexit

In July, the US Commodity Futures Trading Commission proposed two new ways for foreign clearing houses to service US clients without submitting to US regulations.

This, as Steven Maijoor, chair of the European Securities and Markets Authority, recently told Risk.net, “should be a moment of joy”.

If enacted, the proposed rule changes would bring the CFTC closer into line with the approach taken by the European Union. At present, European central counterparties (CCPs) such as LCH and Eurex must submit to full regulation by the CFTC in order to clear swaps for US clients, so their lives could be about to get easier.

But the atmosphere has turned sour as the EU has moved in the opposite direction. Previously, Esma deferred fully to foreign regulators in regimes deemed equivalent. But recent revisions to the European Market Infrastructure Regulation – dubbed Emir 2.2 – grant Esma direct supervision powers over foreign CCPs that are deemed to pose a systemic risk to European markets.

While Esma was asking for these powers before June 2016, no-one really doubts that Brexit has supercharged the EU’s extraterritorial ambitions. From the very genesis of Emir 2.2, Risk.net saw evidence that the rules were designed to target one specific clearing house: London’s LCH, which handles a huge proportion of the EU interest rate swaps market.

The US would have good reason to complain if its CCPs become collateral damage in the EU-UK divorce. The EU’s relationship with the UK is fundamentally different to the one it has with the US. The latter is a major foreign financial jurisdiction, and there are reciprocal advantages to each side offering the other more access to their home market. But the UK is Europe’s financial centre, and the EU is understandably anxious about such a large part of what is currently its home market moving beyond its regulatory control after Brexit day.

If Emir 2.2 is truly designed with Brexit in mind, it should not disrupt the hard-won equivalence deal between the EU and US. The latest noises from the US suggest uncertainty – rather than the basic concept of the EU’s ‘tiering’ requirements – is the main cause of alarm within the CFTC

US and EU may be closer on CCP oversight

“We should judge this tiering exercise on its results,” CFTC commissioner Brian Quintenz said in a statement on September 24. “There are results that create a positive regulatory and market framework for the appropriate supervision of CCPs that operate across jurisdictions, and there are results which would create very negative regulatory and market consequences. The earlier that I and my colleagues receive clarity on the outcomes of this tiering process, the more likely it is we can all work to avoid any negative outcome.”

That suggests there is room for a compromise that would avoid a pile-up of duplicate supervision in the US and EU. But it may not be such good news for the UK. If the main focus of US and EU regulators is on maintaining a good relationship with each other, the UK may find itself left out in the cold after Brexit.