96464 FINANCIAL INFRASTRUCTURE SERIES PAYMENT SYSTEMS POLICY AND RESEARCH GUIDELINES FOR THE SUCCESSFUL REGIONAL INTEGRATION OF FINANCIAL INFRASTRUCTURES January 2014 GUIDELINES FOR THE SUCCESSFUL REGIONAL INTEGRATION OF FINANCIAL INFRASTRUCTURES January, 2014 ©2014 The International Bank for Reconstruction and Development / The World Bank 1818 H Street NW Washington DC 20433 Telephone: 202-473-1000 Internet: www.worldbank.org E-mail: feedback@worldbank.org All rights reserved. This volume is a product of the staff of the International Bank for Reconstruction and Development/ The World Bank. The findings, interpretations, and conclusions expressed in this volume do not necessarily reflect the views of the Executive Directors of The World Bank or the governments they represent. The World Bank does not guarantee the accuracy of the data included in this work. The boundaries, colors, denominations, and other information shown on any map in this work do not imply any judgement on the part of The World Bank concerning the legal status of any territory or the endorsement or acceptance of such boundaries. Rights and Permissions The material in this publication is copyrighted. Copying and/or transmitting portions or all of this work without permission may be a violation of applicable law. The International Bank for Reconstruction and Development / The World Bank encourages dissemination of its work and will normally grant permission to reproduce portions of the work promptly. For permission to photocopy or reprint any part of this work, please send a request with complete informa- tion to the Copyright Clearance Center Inc., 222 Rosewood Drive, Danvers, MA 01923, USA; telephone: 978-750-8400; fax: 978-750-4470; Internet: www.copyright.com. All other queries on rights and licenses, including subsidiary rights, should be addressed to the Office of the Publisher, The World Bank, 1818 H Street NW, Washington, DC 20433, USA; fax: 202-522-2422; e-mail: pubrights@worldbank.org. Book cover and interior design by Michele de la Menardiere. FOREWORD Cross-border financial activities continue to intensify worldwide, keeping pace with the liberalization of trade and finance and with the growth of regional economic communities and free-trade zones. This scenario has prompted authorities and private sector stakeholders in various countries to pursue the integration of their financial infrastruc- tures. Operators, participants and customers of financial systems, along with regulators and oversight bodies, are all aware that such initiatives have the potential to produce significant benefits such as cost reduction, improved risk- management, and extended reach of services. Financial infrastructure integration supports the expansion of trade and investment flows and ultimately contributes to the deepening and broadening of regional financial and capital markets. Yet, several efforts to integrate financial infrastructures across borders have failed to provide many of their expected benefits and other projects remain non-operational despite the significant amount of time and money invested in them. Observing that flawed projects are often repeated, even in vastly different country contexts, led the World Bank to convene an international group of regulators and practitioners - the “G25 Panel of Experts” - to share and help codify the lessons learned from many experiences of regional, cross-regional, and global integration of financial infrastructures. Their first-hand insights are reflected in this report, complemented by the observations of World Bank staff and others. We hope that they will provide valuable factual and anecdotal input for addressing the challenges to achieve successful regional integration. The Guidelines for the Successful Regional Integration of Financial Infrastructures presented in this report have been derived directly from those experiences and insights. They provide a set of practical steps to assist stakeholders who are considering the merits of regional financial infrastructure integration, as well as those who are already involved in such efforts. In publishing this report, I would like to thank the Payment Systems Development Group team led by Massimo Cirasino, part of the World Bank’s Financial Inclusion and Infrastructure Global Practice. I would particularly like to recognize the efforts of World Bank staff members Jose Antonio Garcia, Marco Nicolì and Ceu Pereira. Special thanks go to Gertrude Tumpel-Gugerell, the Chairperson of the G25 Panel of Experts, and to each of the members of that panel for their efforts in putting together these guidelines. Klaus Tilmes Acting Vice President and Head of Network Financial and Private Sector Development The World Bank and International Finance Corporation TABLE OF CONTENTS Abbreviations v I. INTRODUCTION AND SUMMARY 1 1.1. KEY ELEMENTS IN RELATION TO REGIONAL FI INTEGRATION, 2 1.1.1 Drivers of Regional FI Integration, 3 1.1.2 Potential Benefits of Regional FI Integration, 3 1.1.3 Barriers, Risks and Other Challenges that Can Prevent Successful Regional FI Integration , 4 1.2. THE GUIDELINES FOR SUCCESSFUL REGIONAL INTEGRATION OF FINANCIAL INFRASTRUCTURES, 5 1.3. ORGANIZATION OF THE REPORT, 9 II. DRIVERS AND BENEFITS OF THE REGIONAL INTEGRATION OF FINANCIAL INFRASTRUCTURES 11 2.1 WHAT DRIVES REGIONAL FINANCIAL INFRASTRUCTURE INTEGRATION?, 11 2.2 POTENTIAL BENEFITS OF REGIONAL FINANCIAL INFRASTRUCTURE INTEGRATION, 12 III. GENERAL MODELS AND TRENDS OF REGIONAL INTEGRATION OF FINANCIAL INFRASTRUCTURES 19 3.1 FORMS OF INTEGRATION, 19 3.2 MODELS OF REGIONAL INTEGRATION OF FIS FOR PAYMENTS, 20 3.2.1 Payment Settlement Infrastructures, 20 3.2.2 Payment Clearing Infrastructures, 23 3.2.3 Retail Payment Transaction Services, 26 3.3 MODELS OF REGIONAL INTEGRATION OF FIS FOR SECURITIES AND DERIVATIVES, 28 3.3.1 Trading Infrastructures, 28 3.3.2 Central Securities Depositories and Securities Settlement Systems, 30 3.3.3 Central Counterparties, 33 3.3.4 Trade Repositories, 35 IV. LESSONS LEARNED: BARRIERS, RISKS AND OTHER CHALLENGES FOR EFFECTIVE REGIONAL FI INTEGRATION 37 4.1 BARRIERS TO EFFICIENT AND SAFE REGIONAL FINANCIAL INTEGRATION, 37 4.1.1 Legal and Regulatory Barriers, 38 4.1.2 Differences in Financial Market Organization, Practices and Technical Standards, 39 4.2 PROJECT PLANNING AND PROJECT MANAGEMENT CHALLENGES, 39 4.2.1 Developing a Strong Business Case, 39 4.2.2 Costs and Funding, 41 iii iv REGIONAL INTEGRATION GUIDELINES 4.2.3 Inadequate or Diminishing Commitment of Key Stakeholder Groups, 42 4.3 RISKS IN REGIONAL FINANCIAL INTEGRATION, 43 V. THE GUIDELINES FOR SUCCESSFUL REGIONAL INTEGRATION OF FINANCIAL INFRASTRUCTURES 47 5.1 ENABLING AND INSTITUTIONAL GUIDELINES, 47 5.2 PLANNING GUIDELINES, 49 5.3 DESIGN GUIDELINES, 52 5.4 IMPLEMENTATION GUIDELINES, 54 5.5 SUSTAINABILITY GUIDELINES, 55 ANNEX 1: Members of the G24 Panel of Experts, 57 ANNEX 2: Cross-border Integration Experiences of Financial Infrastructures for Payments, 58 ANNEX 3: Cross-border Integration Experiences of Financial Infrastructures for Securities and Derivatives, 64 ANNEX 4: Comparative Table of Cross-Border Financial Infrastructure Integration Projects, 72 ANNEX 5: Graphical Representations of Horizontal and Vertical Integration of Securities Trading, Clearing and Settlement Systems, 77 ANNEX 6: Legal and Regulatory Framework Harmonization Efforts, 79 ANNEX 7: Overview of Technical Standards Relevant for Regional FI Integration, 80 ANNEX 8: Glossary of Selected Terms, 82 List of Figures Figure 1: Decentralized Payments System, 21 Figure 2: Centralized Payments System, 22 Figure 3: Integration of CCPs: Peer-to-peer Model, 32 Figure 4: Integration of CCPs – Participant CCP model, 34 Figure 5: A Governance and Planning Framework for Regional FI Integration, 50 Figure 6: HKMA’s Pilot Platform for the Settlement of Cross-Border Securities Trades, 67 Figure 7: SADC Cross-Border DVP Settlement for Public Debt Securities, 69 Figure 8: Horizontal and Vertical Integration in the Central and Eastern European Stock Exchange Group (CEESEG), 77 Figure 9: Horizontal and Vertical Integration in NYSE Euronext (BE, FR, NL), LCH.Clearnet SA, Euroclear ESES, 77 Figure 10: Horizontal and Vertical Integration in NasdaqOMX, 78 List of Boxes Box 1: Definition of Financial Infrastructures, 2 Box 2: Main Drivers for regional FI Integration, 3 Box 3: Potential Direct Benefits of Regional FI integration, 4 Box 4: A Currency for Final Settlement in Cross-Border FI Arrangements, 24 Box 5: Main Types of Standards Relevant for Regional FI Integration, 40 Box 6: Key Elements to be Substantiated by the Business Case Analysis, 41 Box 7: Key Elements of the Business Framework for the new Regional FI Arrangement, 54 ABBREVIATIONS ABMI Asian Bond Market Initiative CPSS Committee on Payment and ACH Automated Clearing House Settlement Systems (www.bis.org/cpss/) ALADI Latin American Integration CSD Central Securities Depository Association (Asociación CSM Clearing and Settlement Mechanism Latinoamericana de Integración) DNS Deferred Net Settlement (ww.aladi.org) DTC Depository Trust Company AMF Arab Monetary Fund DTCC Depository Trust & Clearing ASEAN Association of Southeast Asian Corporation (www.dtcc.com) Nations (www.asean.org) DVP Delivery versus Payment ATM Automated Teller Machine EACH European Association of CCP Clearing BCBS Basel Committee on Banking Houses (www.eachorg.com) Supervision (www.bis.org/bcbs/) EACHA European Automated Clearing House BCEAO Central Bank of the Western African Association (www.eacha.org) States (www.bceao.int) EAPS East African Cross-Border Payments BNM Bank Negara Malaysia System (www.bnm.gov.my) EAPS Euro Alliance of Payment Schemes CCP Central Counterparty (www.card-alliance.eu/) CDS Canadian Depository for EBA Euro Banking Association Securities (www.cds.ca) (www.abe-eba.eu) CEESEG Central and Eastern Europe ECB European Central Bank (www.ecb.int) Securities Exchange Group ECCB Eastern Caribbean Central Bank (www.ceeseg.com) (www.eccb-centralbank.org) CHATS Clearing House Automated ECSDA European Central Securities Transfer System Depositories Association (www.ecsda.eu) CLS CLS Bank International EEA European Economic Area (www.cls-group.com) EMCF European Multilateral Clearing CMU HKMA’s Central Money Facility (www.emcf.com) management Unit (www.cmu.org.hk) EMU European Monetary Union v vi REGIONAL INTEGRATION GUIDELINES EPC European Payments Council MILA Latin American Integrated Market (www.europeanpaymentscouncil.eu) (Mercado Integrado Latinoamericano) ESCB European System of Central Banks (www.mercadointegrado.com) EU European Union (www.europa.eu) MTO Money Transfer Operator FESE Federation of European Stock NACHA National Automated Clearing House Exchanges (www.fese.eu) Association (www.nacha.org) FI Financial Infrastructure NCB National Central Bank FIX Financial Information Exchange NSCC National Securities Clearing (www.fixprotocol.org) Corporation (www.nscc.com) FMI Financial Market Infrastructure OTC Over-the-Counter FPML Financial Products MarkUp Language PE-ACH Pan-European Automated Clearing (www.fpml.org) House FX Foreign Exchange PVP Payment versus Payment GCC Gulf Cooperation Council RFI Request for Information (www.gcc-sg.org) RTGS Real Time Gross Settlement GTR Global Trade Repository SADC Southern African Development HKMA Hong Kong Monetary Authority Community (www.sadc.int) (www.hkma.gov.hk) SCT SEPA Credit Transfer IAN Intra-ASEAN Network SDD SEPA Direct Debit IAT International ACH Transaction SEPA Single Euro Payments Area IBAN International Bank Account Number (www.sepa.eu) ICSD International Central Securities SICA- Automated Interbank Clearing Depository UEMOA System of the UEMOA IMF International Monetary Fund (Système Interbancaire de (www.imf.org) Compensation Automatisé IOSCO International Organization of dans l’UEMOA) (www.bceao.int) Securities Commission (www.iosco.org) SIP Payments Interconnection System IPF International Payments Framework (Sistema de Interconexión de Pagos) (www.ipf-a.org) (www.secmca.org) IPFA International Payments Framework SML Local Currency Payments System Association (www.ipf-a.org) (Sistema de Pagos en Moneda Local) ISDA International Swaps and Derivatives (www.bcb.gov.br/?SMLEFAQ) Association (www.isda.org) SSS Securities Settlement System ISIN International Securities Identification STAR- Automated Transfer and Payment Number (www.isin.org) UEMOA System of the UEMOA (Système de ISO International Organization for Transfert Automatisé et de Standardization (www.iso.org) Règlement dans l’UEMOA) LSE London Stock Exchange (www.bceao.int) (www.londonstockexchange.com) STP Straight Through Processing SWOT Strengths, Weaknesses, Opportunities, Threats REGIONAL INTEGRATION GUIDELINES vii T2S Target 2 Securities (www.t2s.eu) TARGET2 Trans-European Automated Real-Time Gross Settlement Express Transfer System (www.target2.eu) TR Trade Repository UEMOA Western Africa Monetary Union (Union Economique et Monétaire Ouest Africaine) Abbreviations SECTION I INTRODUCTION AND SUMMARY 1. Over the past decade or so, the prospects of long- during the 2008 crisis has reinforced their reputation, term economic, institutional and social gains from even while raising the bar on their stability roles and regional and global financial and trade liberalization risk-management responsibilities as defined in sub- have become more appealing to public and private sequent rule-making reforms, regulations and princi- stakeholders. Indeed, since the late 1980’s both devel- ples. Moreover, successful integration of FIs may help oping and advanced economies have seen greater lev- address cross-border and even some local challenges. els of cross-border banking and the cross-border trad- ing, issuance and investment in securities and financial 4. The objective of this report is to offer a framework derivatives. for policy makers, authorities, and market players involved in regional integration of FIs by offering 2. At the same time, recent events like the global finan- insights from practitioners, in particular those of a cial crisis that emerged in 2008 have prompted mar- “G25”’ panel of experts (see Annex 1) who have been ket participants, their supervisors and other national directly involved in a range of regional and cross-re- authorities, international organizations and standard- gional FI integration projects. For this purpose, the re- setting bodies to support more robust and ultimately port first provides an overview of specific experiences effective mechanisms to enable cross-border financial of regional and cross-regional financial infrastructure market connectivity and liquidity, for the benefit of integration, identifying and typifying the main models overall financial stability and also of the final users of and trends. Then, on the basis of the lessons learned cross-border financial services. from those integration experiences, a set of practical guidelines is produced to assist stakeholders consid- 3. Greater attention is therefore being given to the ering the merits of regional FI integration as well as potential benefits of regional and cross-regional in- those already involved in an effort of this kind. tegration of infrastructures for payments, securities, listed futures and options, and, lately, over-the-counter 5. The guidelines are designed to correspond to the (OTC) derivatives. The fact that no critical financial main public and private sector objectives for financial infrastructure (FI)1 failed or needed to be resolved market and infrastructure integration, and to facilitate stakeholder realization of the main benefits that are 1 See Box 1 for an explanation of the term “financial infrastructure” as used typically associated with FI integration. The guidelines throughout this report and how it differs from the term “financial market infra- structures”, as per CPSS-IOSCO. also address commonly experienced barriers and chal- 1 2 REGIONAL INTEGRATION GUIDELINES lenges to efficient, effective and safe regional FI inte- gration, in order to improve accessibility and reach- BOX 1: DEFINITION OF FINANCIAL ability for customers and to help minimize the various INFRASTRUCTURES costs and risks often associated with integration efforts like these. The practical definition of a financial infrastructure (FI) used in this report corresponds to a legal or functional entity or- 6. None of the guidelines in this report refer exclusively ganized to provide multilateral transaction and post-transac- to any particular functional infrastructure, nor does tion services for payments, securities, derivatives and other the report specifically endorse any of the specific initia- financial transactions. tives mentioned above other initiatives. Moreover, the guidelines are intended to be widely applicable to the This definition of a FI is conceptually similar to a financial various types of regionally integrated infrastructures, market infrastructure (FMI) as per the CPSS-IOSCO Principles whether large value or retail payment mechanisms for Financial Market Infrastructures (2012), but is function- and networks, securities trading venues or post-trade ally broader in scope. According to these Principles, the securities or derivatives infrastructures, and whether definition of an FMI includes payment systems (only those public or private sector initiatives. that are systemically important are within the scope of the Principles), central securities depositories, securities settle- ment systems, central counterparties and trade repositories. 7. In including trading mechanisms and retail pay- Functionally, FIs refer additionally to other types of infrastruc- ment systems this report goes somewhat beyond the tures, notably trading systems for securities, derivatives and definition of financial market infrastructures (FMIs) as foreign exchange as well as shared transaction systems for per the CPSS-IOSCO Principles for Financial Markets payments, such as traditional ATM and POS card payment Infrastructures (see Box 1). networks and more modern on-line payment and mobile- payment networks. 1.1 KEY ELEMENTS IN RELATION TO REGIONAL FI INTEGRATION 8. Regional integration of FIs typically aims at en- ical elements is referred to collectively as the “scheme” abling cross-border transactions for financial market of a FI integration model or initiative. participants or for their customers, often between the countries within a region. In some cases FI integration 10. The forms of integration at the regional or cross- spreads across regions and even globally. regional level can range from relatively simple agree- ments among FIs to facilitate direct or indirect cross- 9. Regional integration is not just about linking or in- participation among the participants in each of the FIs, tegrating technological platforms (i.e. “systems”) from to interoperability arrangements involving technical a technical standpoint. It is equally about defining a interfaces between the separate operating platforms of common framework for transacting, clearing and set- the FIs involved, to full harmonization of the operat- tling cross-border transactions, including operating ing schemes and integration of the technical platforms rules, business practices and standards, participation into a common unified system for dealing with cross- requirements and funding schemes, among others. For border transactions - and at times even supporting do- the purposes of this report, this set of non-technolog- mestic transactions. REGIONAL INTEGRATION GUIDELINES 3 11. While this report intends to cover the various types of integration forms, it focuses mainly on more BOX 2: MAIN DRIVERS FOR advanced integration mechanisms which, as earlier REGIONAL FI INTEGRATION described, are characterized by common multilateral schemes (i.e., common rulebooks, protocols, proce- • Political agreements (and possibly mandates) among dures and technical standards), agreements, and com- countries in a region for FI integration in the context of a munication and processing interfaces and interoper- broader economic and financial plan for wider trade and ability among technical systems operated by regionally to attract investment. participating FIs or by single FIs operating regionally or even cross-regionally. • Demands of customers and/or participants of national FIs for cost-effective cross-border access to regional 12. Moreover, the focus of this report, and especially and cross-regional markets and services of the guidelines, is on the integration of FIs at the re- • Growth orientation and imperatives of existing FIs gional level, rather than on cross-regional integration for expansion into new market areas within or across and/or global solutions. Nonetheless, some of the most regions. relevant experiences of the latter types are described in Chapter 3, underscoring the fact that some FI integra- tion initiatives are global by design. Lessons learned from these cross-regional and global experiences have 15. The indirect benefits arise where regional FI inte- also been taken into account for the development of gration contributes to the economic and financial ben- the guidelines. efits broadly associated with the: 1.1.1 Drivers of Regional FI Integration • Expansion of trade and investment flows among market participants in the region 13. There are three main drivers of regional FI inte- to enable deeper regional economic and financial gration that have to do with realizing the full potential integration; of a broad economic integration effort, responding to customer demands, and the existing FI’s own business • Attraction of external investment capital to the objectives. These three drivers are depicted in more region, which deepens and broadens regional detail in Box 2. financial and capital markets; 1.1.2 Potential Benefits of Regional FI Integration • Diversification of trade concentration and capital exposure of countries within the region across 14. Quantifying and valuing the benefits specific to re- more and larger market areas; and gional FI integration can be extremely difficult and is usually based on highly assumptive scenario analysis. • Deepening and broadening of regional financial Even so, several actual regional FI integration initia- and capital markets. tives around the world provide direct evidence that such integration can help unleash certain “external” 16. Direct benefits are easier to identify and measure. macro benefits, and at the same time also lead to sev- In developing a regional integration strategy for FIs, eral “internal” or direct micro benefits. market players and other key stakeholders will gener- Section I. Introduction and Summary 4 REGIONAL INTEGRATION GUIDELINES ally seek to design a model that will maximize the di- rect benefits. The potential direct benefits are greater BOX 3: POTENTIAL DIRECT BENEFITS OF and more widely shared when there is a focus on the REGIONAL FI INTEGRATION long-term gains not only for the financial institutions that are direct participants in the FIs, but also to the • Lower user-costs for individuals, businesses and public end-users (i.e. financial and non-financial businesses, administrations as end-users of the regional FI arrange- public administrations and individuals). In this con- ment. text, the most commonly cited potential direct benefits are shown in Box 3. • Lower end-to-end transaction costs for the financial firms participating in the regional FI arrangement. 1.1.3 Barriers, Risks and Other Challenges that Can Prevent the Successful • Improved cross-border access and reach to all market participants to financial services, with faster, more reli- Regional FI Integration able, and simpler transaction services. 17. Barriers relate to differences or incompatibilities • Lower FI development costs and operating costs for across the various countries that want to participate in individual participating members through broader cost- the common regional arrangement. These may cause sharing in regional FI arrangements than in fragmented severe delays or otherwise impair or even impede national FI arrangements for regional cross-border successful regional FI integration in terms of the ef- transactions and, depending on the regional FI architec- ficiency, safety and overall effectiveness of the regional ture, possibly even for domestic transactions. solution. The barriers will need to be addressed as prerequisites of the regional FI integration program. • Improved risk management, greater risk reduction and The main barriers center on two themes: i) Insufficient stronger financial stability resulting from widespread compatibility of the national legal, regulatory, super- utilization of consistent and up-to-date international visory and oversight regimes, and/or laws that may policy, legal and technical standards, as well as best- practice risk-management designs and procedures. impede or otherwise disfavor regional FI integration projects (e.g. some provisions in competition laws); and, ii) Inadequate harmonization of national FI op- erating schemes, rules and technical standards, and of the underlying market practices or conventions. 19. In this regard, the major challenges are: i) Developing a strong business case for the regional 18. The planning, development and rollout of the ac- FI integration proposal to cope with the natural un- tual regional FI integration project will typically face certainties and skepticism about the viability of the numerous challenges, most of which are rooted in the project as a whole and for the various individual par- difficulty to align the expected individual benefits and ticipants; ii) Avoiding that cost considerations create a costs over the various classes of participants, and also disincentive to participate in the project, since many in the inherent difficulties to manage a complex proj- costs are often immediate and certain, whereas ben- ect involving numerous stakeholders with different efits are more diffuse and will likely be obtained in the backgrounds (e.g. private versus public sector) and/or medium and long term; iii) Ensuring there is effective from different jurisdictions. leadership throughout the project life cycle so that the various stakeholder groups cooperate effectively and REGIONAL INTEGRATION GUIDELINES 5 remain committed to the project; and, iv) Ensuring schemes and systems, and of the regional political, le- there is sufficient expertise and adequate financial gal and regulatory environment in which it operates. and human resources to develop and implement the regional FI integration program and, once launched, maintain an efficient and safe operation of the new ar- 1.2 THE GUIDELINES FOR rangement on an ongoing basis. SUCCESSFUL REGIONAL INTEGRATION OF FINANCIAL 20. In terms of risks, once the new regionally integrat- INFRASTRUCTURES ed FI is rolled out it will be subject, together with its participants, to cross-border and cross-FI extensions 23. While some of the key stakeholder groups and the of the standard FI network risks, i.e. legal risks, credit business frameworks, technical issues and specific de- and liquidity risks, and operational risks - which can sign features of regional integration may vary to some be finely graded into numerous specific risks. Precisely extent with regard to the specific types of FIs proposed because of the cross-border nature of the regional ar- for integration, the general institutional requirements rangement, these risks may take on new dimensions and the underlying approach to planning, designing, that may be more difficult to understand and man- implementing and operating a regionally integrated FI age in an effective manner than in a single country arrangement are essentially the same for all. arrangement. 24. This report focuses on “process” guidelines to fa- 21. Regional FIs can also be more interdependent, and cilitate a best practice approach toward dealing with these interdependencies can significantly influence the the many specific business, technical, and design and/ risks affecting them. While this is also relevant for FIs or implementation issues that need to be resolved for that operate at the national level only, in certain cases efficient, secure and reliable regional FI integration. interdependencies might be more difficult to manage when it comes to regional FI arrangements. For exam- 25. The headlines of the guidelines are presented be- ple, national FIs that are already integrated horizon- low and are then discussed in detail in Chapter 5. The tally and/or vertically at the national level and further guidelines are intended both for initiatives that are in decide to integrate across borders will add layers of the early stages of discussion, as well as for projects al- operational interdependencies and potential sources ready underway, possibly in the design or implementa- of risk. In other instances, interdependencies in a re- tion stages. Hence, some guideline categories may be gional, cross-regional or global FI can reduce or even more useful at a certain point in time for some projects eliminate other sources of risk. than for others. 22. Just as the nature and scale of the potential net ben- 26. The first set of guidelines consists of enabling and efits of regional integration of FIs will depend in large institutional guidelines. Their purpose is to outline the part on the type and complexity of the FI integration set of institutional arrangements that enable a regional model, so too will the potential barriers, challenges FI integration proposal to move forward from its pre- and risks. Moreover, the specific risks that may arise liminary vision to an actual operational arrangement once the new regional FI becomes operational will in an effective fashion. depend on its business, procedural and operational Section I. Introduction and Summary 6 REGIONAL INTEGRATION GUIDELINES 27. These guidelines stress that both public and private stakeholders have particular roles and responsibilities ENABLING AND in moving forward a regional FI arrangement in an ef- INSTITUTIONAL GUIDELINES fective manner. The principles underlying this first set of guidelines are therefore: (i) inclusiveness of all key 1. Define and promulgate a clear vision and general stakeholders – existing FIs, financial service provid- proposal as to the purpose, scope, form and need ers, end-users (individuals, businesses, public admin- for regional FI integration that encompass a ratio- istrations), and policy-makers and regulators - in the nale for participation by all key stakeholders. The development of the initiative, through representative vision and proposal are open, flexible and living bodies, in a broad consultative effort; and, (ii) coop- concepts at the initial stage. eration and coordination throughout the life of the 2. Locate the vision within the national policies of the project, from planning and design to the implementa- participating countries to crystallize and attract an tion, launch and ongoing operation of the regional FI initially acceptable and potentially growing level of integration model. political support for regional FI integration. 28. The planning guidelines then refer to the basis for 3. Co-opt, or if necessary set up, regional fora for key determining if regional FI integration is necessary and stakeholders appropriate to the scope and needs of justifiable for the stakeholders in the region at that par- the FI integration vision to help identify the public ticular time. This is the “make or break” stage at which and private sector roles and responsibilities and fa- regional FI integration initiatives either move forward cilitate the necessary communication, cooperation or are postponed. and coordination among and within the stakeholder groups. 29. Through completion of the planning exercise it- 4. Establish the necessary leadership from within the self, it should be possible to estimate when participa- representatives of the public and private sectors tion in regional FI integration may be most feasible for stakeholder groups that will actively commit to the the various countries and parties involved. Most im- regional FI integration program and will help secure portantly, this provides the background information the financial and human resources needed for the as to what type of regional integration model may be initiative. most beneficial and can help determine whether the ultimate integration plan might best involve a multi- stage process for FI integration. It might start, for ex- 31. The design guidelines and the implementation guide- ample, with a decentralized model involving network lines deal with the heart of the regional FI integration arrangements among existing FIs as an intermediate program. It is at these stages of the integration initia- step toward the future establishment of a centralized tive that leadership, commitment, consultation and ef- regional FI. fective management become most crucial. 30. The underlying principles for this set of guidelines 32. The design stage is often much more complex than are: (i) understand what you already have; (ii) identify initially anticipated. For example, even with firm in- needs and opportunities on which to proceed; and (iii) tentions to proceed with regional FI integration, the recognize what needs to be changed to make FI inte- initiative often falters when the model design is too gration work effectively, efficiently and safely. narrowly focused on technical aspects or other spe- REGIONAL INTEGRATION GUIDELINES 7 PLANNING GUIDELINES DESIGN GUIDELINES 5. Devise specific governance and planning frameworks, 10. Devise a broadly acceptable feasible model for FI including creating and empowering an effective project integration, based on consultations and discus- team to lead the planning, design and implementation sions among all stakeholders around the stock- stages. taking and business case analyses. 6. Conduct a comprehensive stock-taking of the eco- 11. Outline the selected integration model as compre- nomic and financial profile, institutional environment, hensively as possible with due regard to the results overall financial structure and the FIs of the countries of the studies and analyses performed during the interested in participating in the regional integration planning stage. This should include the structural initiative. A review of previous initiatives elsewhere architecture, operating schemes, regulatory and should be conducted before or as part of this exercise normative aspects, and technical design and oper- to understand what has worked and what not and why, ating systems. and form a view of what might be appropriate locally. 12. Specify the business framework for the new re- 7. Identify the gaps and key divergences in existing na- gional FI arrangement, including its organization, tional, and if applicable regional, arrangements and management and governance, business manage- assess the strengths, weaknesses, opportunities and ment functions, operational scope and core busi- threats (i.e. a SWOT analysis) with respect to effec- ness functions, business practices and controls, tive, efficient and safe regional FI integration. Pay close rules and procedures, and technical conditions and attention to the legal, regulatory and other relevant standards, among the main features. public policy characteristics of the participating coun- tries (and/or the stakeholders involved) to assess their 13. Establish effective cooperative public governance, compatibility and the alignment of national regula- regulatory and oversight mechanisms in line with tory frameworks with international legal and technical Responsibility E of the CPSS-IOSCO Principles for standards and best practices. FMIs to allow effective monitoring of the proposed regional FI arrangement. 8. Set a clear plan to address all pending gaps in a rea- sonable timeframe to minimize barriers for integration. Propose mechanisms and realistic schedules for any required changes by participating countries. The rollout cific operating features, and not well thought through strategy might nevertheless need to be flexible to al- ahead of the push for implementation. low sufficient time for some entities intending to join to meet the participation requirements. 33. The principles underlying the design guidelines 9. Develop a strong business case that considers not only are: (i) as the proverb warns, do not let the “perfect” the information from the stock-taking exercise and become the enemy of the “good”; (ii) the complexity subsequent analyses, but also the benefits and costs of a task should be confronted with pragmatism when of various types of schemes, systems and structural designing a solution; and, (iii) the institutional foun- models for FI integration as well as potential future de- dations (e.g. the key legal, regulatory, contractual and velopments and opportunities of integration. Deciding organizational arrangements) are at least equally im- who will finance the costs of the initiative is a key part of establishing the business case. Section I. Introduction and Summary 8 REGIONAL INTEGRATION GUIDELINES IMPLEMENTATION SUSTAINABILITY GUIDELINES GUIDELINES 16. Regularize the consultative arrangements among 14. Establish proper project management procedures key public and private sector stakeholders to en- and processes under the supervision of a desig- sure that the evolution of the regional FI arrange- nated project manager, who needs to be supported ment in terms of new business functions, services, by sufficient and scalable human and financial re- and operating procedures is broadly responsive to, sources. Include an effective and strictly enforced beneficial for, and accepted by stakeholders. project control function that interacts closely with project governance and oversees on progress and 17. Regularize regulatory and oversight arrangements issues of the regional FI integration program. of public sector authorities to ensure ongoing com- pliance of the regional FI arrangement with the 15. Set up an effective communication function to legal and regulatory requirements and any other inform all relevant stakeholders properly and the relevant policy standards that apply to it. general public throughout the implementation process of the project. The regional FI integration 18. Maintain sound and committed organizational plan and its proposed business practices, organi- governance and senior managerial leadership for zation, and operations should be comprehensively the regional FI arrangement and ensure that staff documented and made public to create awareness dedicated to the regional FI organization are well- on the new arrangement and its benefits, and build informed and well-trained in the goals, functions support for using it. and operations of the regional FI arrangements. 19. Institute a regular program of self-evaluation and reporting on the regional FI arrangement’s organi- zational structure, business functions and perfor- mance. portant for FI integration as are its operational and manner to minimize delays in the rollout schedule so technical solutions. as not to compromise the overall project. 34. The implementation stage can also be challenging, 35. Not only do the implementation guidelines pro- even if the previous stages of the project have proceed- mote the efficient management of project resources; ed smoothly and an agreement has been reached as to they also foster ongoing commitment to the project, the optimal type of regional FI arrangement and the effective consultation as project implementation pro- commitment to that solution (and the overall project) gresses, and awareness on the regionally integrated appears to be strong. Some changes to the originally FI arrangement. The underlying principles for these agreed proposals might still be necessary and will guidelines are therefore: (i) accountability; (ii) adequa- need to be managed effectively and in a cost-efficient cy of resources; and, (iii) effective communication. REGIONAL INTEGRATION GUIDELINES 9 36. Finally, the sustainability guidelines are needed to help establish a strategic direction and sound business culture for the regional FI arrangement that, together with the continuous oversight from public sector au- thorities, will help ensure that it will continue to evolve and develop to meet future stakeholder needs and legal and regulatory requirements and policy standards af- fecting its operations, and do so in a transparent and credible fashion. 37. The underlying principles for sustainability are therefore: (i) transparency; and, (ii) sound business management of the regional FI organization and un- derlying arrangements under the overall oversight and supervisory framework. 1.3 ORGANIZATION OF THE REPORT 38. The remainder of the report expands upon the ba- sic elements and issues covered in this introductory chapter with regard to the key elements of regional FI integration and the approaches used in practice to deal with them. Chapter 2 describes in further detail the drivers for FI integration and the potential benefits that may stem from an effort of this kind. Chapter 3 provides an overview and a basic taxonomy of differ- ent types of regional FI models and actual projects and initiatives undertaken worldwide. Chapter 4 discusses the lessons learned from a variety of actual regional and cross-regional FI integration experiences as to the barriers, challenges and risks to effective, efficient and safe FI integration. These lessons form the basis of the Guidelines for Successful Regional Integration of Financial Infrastructures, which are then presented and discussed in detail in Chapter 5. The main report is supported by a number of annexes providing more details on several FI projects and initiatives, global harmonization efforts with regard to the legal and reg- ulatory framework, an overview of technical standards relevant for regional FI integration, and a glossary of selected terms. Section I. Introduction and Summary SECTION II DRIVERS AND BENEFITS OF THE REGIONAL INTEGRATION OF FINANCIAL INFRASTRUCTURES 2.1 WHAT DRIVES REGIONAL eign financial markets and services. Alternatively they FINANCIAL INFRASTRUCTURE may wish to expand and improve existing access chan- INTEGRATION? nels and means, for example by using new technolo- gies and/or common platforms that increase speed, 39. One of the main underlying motivations for region- reduce costs or reduce risks, among other desirable al and cross-regional integration of FIs is the potential features. Regional integration of public sector-owned for increasing and/or improving regional and inter- FIs can also be driven by this type of participant/cus- regional trade and investment activity. In this context, tomer demands. a first driver of regional FI integration is constituted by the political agreements (and possibly mandates) among 41. For existing privately-operated FIs there are also countries in a region for FI integration in the context of a market incentives to expand their operations across broad regional economic and financial integration effort. borders. Such “supply-side-led” initiatives will most FI integration efforts of this kind are typically support- likely be based on competitive, commercial, operation- ed actively by a core group of countries in organized al, risk management and legal considerations. Hence, regional development policy and planning forums.2 a third driver of regional FI integration is the growth orientation and imperatives of existing FIs for expansion 40. A second driver is the demand of customers and/ into new market areas within or across regions. or participants of national FIs for cost-effective cross- border access to regional and cross-regional markets and 42. Although in specific cases one of these drivers may services. The cross-border expansion and conglomera- be more dominant than the others, some combina- tion of private sector FIs is motivated in many cases tion of political willingness and market incentives is by the demand by market participants (and/or their typically required to create the basic conditions for a customers, including asset managers, other securities regional FI integration initiative. Even supply-side-led servicers, other types of businesses) for accessing for- initiatives must count on at least minimal political and regulatory acceptance as well as potential demand for their products and services as a motivator for expan- 2 For example, the FI integration projects of the Association of Southeast Asian Nations (ASEAN), Central America and the Dominican Republic, the European sion into a new cross-border market. Union (EU) and the Southern African Development Community (SADC), among others, are prime examples of this driver. All these projects are discussed in fur- ther detail in Chapter 3. 11 12 REGIONAL INTEGRATION GUIDELINES 43. It should also be noted that, for all three drivers “internal” micro-benefits for FI operators and their identified, financial sector regulators and overseers may direct and indirect participants, including end-users, be an additional force pressing for a regional solution.3 that relate directly to the FI integration project. They may do so based on certain public policy con- siderations like reducing systemic risk, enhancing ef- 46. In the first case, regional FI integration can con- ficiency and/or ensuring an adequate level of competi- tribute significantly to the economic and financial ben- tion in the provision of the underlying services. efits broadly associated with the: • Expansion of trade and investment flows 2.2 POTENTIAL BENEFITS OF among market participants in the region to REGIONAL FINANCIAL enable deeper regional economic and financial INFRASTRUCTURE INTEGRATION integration; 44. Quantifying and valuing the benefits specific to • Attraction of investment capital, for example, regional FI integration is usually based on highly as- investments both from within the region and sumptive scenario analysis, dependent on the pro- even from outside for new securities offerings posed FI integration model, and used mainly for il- and money markets; lustrative purposes with no pretense to offer accurate forecasts. Post-integration assessment of the benefits • Diversification of trade concentration and capital has also proven difficult since the various benefits of exposure of countries within the region across regional FI integration accrue over time, typically in more and larger market areas; and the long-term, and are difficult to isolate from other events that occur along with regional FI integration - • Deepening and broadening of financial and some possibly as an indirect consequence. capital markets in the region, for example through enhanced market liquidity as a result 45. Even so, indicative empirical evidence from sev- of higher trading volumes. eral actual FI integration projects suggests that suc- cessful regional FI integration has the potential to 47. With regard to the direct benefits of regional (and help achieve certain broad benefits and also assists even cross-regional and global) integration of FIs, the directly in achieving other more concrete ones.4 ones most commonly cited as potentially achievable Indeed, the primary drivers discussed earlier suggest are the following: there are two broad classes of benefits to consider: (i) the “external”, macro-incentives or benefits that moti- • Reduction of end-to-end transaction costs; vate the public sector’s push for regionalization of FIs such as regional commercial and financial develop- • Lower costs for end-users; ment opportunities shared by the participating coun- tries and their consumers and businesses; and, (ii) the • Improved accessibility and reach to all market participants to cross-border transactions and other services, including an expansion of 3 Other types of statutory regulators may also be involved, like anti-trust or competition authorities. investment assets; 4 Several actual projects and case studies are presented and discussed in Annex 2 and Annex 3 of this report. REGIONAL INTEGRATION GUIDELINES 13 • Resource and skill/capabilities sharing, and schemes like basic cross-border correspondent bank- ing arrangements. • Systemic risk reduction. 50. Two of the most relevant indirect costs are liquidity These direct benefits and the way in which they are as- costs and the costs associated with collateral require- sociated with regional FI integration are explained in ments. Reductions in these and other indirect costs more detail below. are attributable more to the efficient unification of the regional FI’s scheme (i.e. the business, organizational Reduction of end-to-end transaction costs for cross- and other institutional arrangements) than to the ef- border transactions ficiencies achieved through purely technological up- grades and other similar improvements. 48. The potential reduction of transaction costs may come from two different sources: i) a reduction in the 51. Essentially, liquidity-cost savings are related to the direct operational cost of a transaction, achieved at settlement asset for cross-border transactions and the one or more of the processing stages; ii) reduction in settlement mechanisms and resources used. The basic one or more of the indirect costs associated with per- finding has been that the fewer final settlement cur- forming the transaction. rencies are involved, the better. In addition, the more effective are the suite of mechanisms used to reduce 49. Operational or direct cost reductions are pos- the need for using those currencies and to re-cycle sible due to: (i) end-to-end straight-through them promptly and safely among the participants in processing (STP) of cross-border transactions, the settlement scheme as needed, the greater will be achievable through harmonization and standard- the liquidity-cost savings for settling cross-border ization in regional payments, securities or deriva- transactions. tives schemes, as well as through interoperabil- ity among core systems operated by the inter-linked 52. Arguably, other things being equal, potential li- FIs or the use of a single technological platform5; quidity saving is greater where there is a single regional and, (ii) the potential scale economies from more currency used to settle all domestic and cross-border business activity, the adoption of common processes, regional payments. For example, where funding and business solutions and even operational software for asset trading and management are region-wide, the integrated schemes and systems. Potential cost savings markets for the regional currency and assets denomi- from scale economies, which are highly associated nated in it are potentially broader and deeper, making with the volume of transactions and processing capac- the settlement assets more available at a lower trans- ity of the FIs’ operating systems, are considered to be action cost than otherwise. Where there is no single most achievable in centralized single platform systems regional currency, liquidity-cost savings depend on that process not only cross-border but also domestic the use of a settlement currency that is highly available transactions. Even so, scale economies are also con- throughout the region and that has relatively deep and sidered achievable to some extent in other arrange- active markets accessible to the financial institutions ments that centralize a large share of the cross-border participating in the regional FI. Typically, global re- transactions now flowing through highly fragmented serve assets – the US dollar and the Euro, in particular6 – satisfy this requirement. 5 Harmonization/standardization and systems integration tend to reinforce each other. 6 These currencies are the two dominant counterpart currencies in foreign exchange transactions settled through CLS Bank International, indicating that most major financial institutions have ready access to both. Section II. Drivers and Benefits of the Regional Integration of Financial Infrastructures 14 REGIONAL INTEGRATION GUIDELINES 53. Liquidity recycling schemes for payment and se- ample, allowing assets held in one jurisdiction to serve curities settlement are generally built around one as collateral for a transaction in another jurisdiction.11 or more of the following mechanisms: i) immedi- In the case of CCP arrangements, collateral require- ate crediting of funds/securities received, and, when ments may also be optimized through so-called applicable, requirements for immediate crediting cross-margining, i.e. an agreement among the CCPs of such funds/securities received to participant ac- to consider positions and supporting collateral at counts; ii) in the case of central bank-operated FIs, their respective organizations as a common portfo- the use of liquid reserve requirements for intra-day lio for individual participants that are members of settlements; iii) funds and/or securities lending for two or more of the organizations. The aggregate col- both intra-day real-time settlement and for end-of- lateral requirements for their positions held in cross- day overnight settlement of final account positions;7 margined accounts may be reduced if the assets are iv) use of optimization algorithms to maximize correlated, transactions are offsetting and the value settlements throughout the day;8 v) in schemes with of the positions held at the separate CCPs moves in- cash and/or securities netting, multilateral netting to versely in a significant and reliable hedging effect.12 reduce end-of-day settlement requirements system- The possibility to optimize collateral requirements wide for cash and/or traded securities, compared to in this way will depend on certain organizational cumulative end-of-day settlement requirements.9 arrangements and agreements at the level of the par- ticipating FIs.13 For example, open inventory sourc- 54. For regional cross-border transactions, the li- ing, where collateral users can keep their collateral quidity saving and recycling mechanisms mentioned with whatever service provider they like but can above are most efficiently operated at a central- move it through an open FI to its place of use (e.g. a ized regional level, either in a single platform or in CCP), provides a model to use collateral efficiently.14 a hub organization integrating national platforms.10 For the latter to be effective in this area, however, the Lower costs for end-users participating FIs need to have very similar schemes and systems for liquidity efficiency that can easily be- 56. When regional integration of FIs leads to a reduc- come interoperable. tion of transaction costs, there is the presumption that most of those savings in the production of the services 55. A regional FI arrangement may help optimize col- by the FIs involved will be passed through to FI par- lateral requirements, where required when undertaking ticipants and on to the end-users that are their cli- any form of cross-border financial activity, by, for ex- 11 This will need to be accompanied by a technical-operational arrangement to ensure that collateral can be transferred safely and efficiently if needed. 7 For example, in many real-time payment settlement schemes, central banks 12 CPSS-IOSCO, “Principles for Financial Market Infrastructures”, Basel, April are usually designated as intra-day and overnight lenders of settlement funds. In 2012. See pages 54-55. others, the scheme participants are active lenders and borrowers in an overnight 13 For example, agreeing on a haircut methodology for the various assets held funds market that operates continuously through the day, or as the final end-of- in different jurisdictions (possibly denominated in different currencies), and in cycle transactions at the end-of-day, for same-day settlement. Likewise, securities the case of regionally integrated CCPs even the harmonization of their risk man- lending schemes may be operated by stock exchanges or central securities deposi- agement methodologies. It would also require a relatively high level of interoper- tories (CSDs) to facilitate delivery of securities on settlement date. ability of the relevant technical platforms (e.g. collateral management systems, risk 8 This typically involves some form of position offsetting prior to settlement. management systems) to allow for the safe and efficient posting of collateral and/ 9 Multilateral netting schemes in regional securities FIs are typically associated or the transfer of the underlying asset, if and when required. with CCP settlement services. 14 An example of such a model is the “margin transit” cooperation between 10 The different architectures and models for regional FI integration are dis- DTCC and Euroclear’s Collateral Highway. For additional information on this cussed in detail in Chapter 3. initiative see paragraph 129 of this report. REGIONAL INTEGRATION GUIDELINES 15 ents. In the case of regional (and national) FIs that are respondent banks) located in the country issuing the member-owned and governed, or other not-for-profit foreign currency. Apart from the delays (and addition- FIs such as those operated by central banks which usu- al costs) that may be expected from the involvement of ally price their services on a cost-recovery basis, most multiple parties, time to complete the transaction may cost savings from regional integration will indeed be also be further affected by differences in time zones passed to participants.15 In this case, the additional and business calendars. pass-through to end-users depends in large part on the nature and the degree of market competition among 59. FI participants and their customers (e.g. many the entities providing financial services to end-users. non-bank payment service providers, corporate trea- In general, where access to the FIs is reasonably open surers, asset managers, pension and mutual fund man- and competition in end-user financial service markets agers, to mention just a few) often demand greater adequate, it is likely that a substantial portion of the transaction speed, increased connectivity and reliabil- transaction costs savings will be passed on to the end- ity, and at the same time enhanced procedural simplic- users, whether in the form of lower fees or rebates. ity for their transactions in foreign jurisdictions (and domestically as well) than presently available to them. 57. Other elements, such as administrative restrictions on end-user pricing of cross-border services, can also 60. More advanced regional FI integration arrange- limit the possibility of passing on the cost savings re- ments can help materialize these demands, mainly sulting from regional FI integration to end-users. through thoughtful and carefully designed schemes as well as through technical solutions that optimize Improved accessibility and reach to cross-border transactional processes in whole or at least for some transactions and other services of the crucial steps. As with the other potential ben- efits discussed so far, these specific benefits seem more 58. Although some FI participants and their custom- likely to be achievable in a highly integrated solution ers may already be able to access foreign financial enabling seamless access to multiple jurisdictions and markets and related services in one way or another, it markets. may well be that such access is highly inefficient. This may mean not only higher cost of transactions but also Resource and skills/capabilities sharing opportunity costs such as lost business opportunities, and maybe even increased financial and non-financial 61. It is not uncommon that some countries within a risks. For example, when intra-regional cross-border particular region have at least some financial markets payments are denominated in a foreign (international and FIs that are less developed than those of other reserve) currency and are operated through unsophis- countries in the region. In some cases, only a few of the ticated banking correspondent arrangements, there countries within a region may have markets and FIs are usually implications in terms of time and complex- that can meet international design, operating and reg- ity. Payments from one country in the region to an- ulatory standards for financial efficiency and stability. other country in the same region will likely need to be These countries often have some difficulty, individu- sent through one or more third parties (typically cor- ally, in mobilizing the capabilities, structures and other resources needed to reach their own national develop- 15 Often, private for-profit FIs need to compete with other not-for-profit FIs ment goals. In this situation, there can be significant that provide similar services, although not necessarily perfect substitutes, and benefit in developing their core banking and capital must price accordingly. Section II. Drivers and Benefits of the Regional Integration of Financial Infrastructures 16 REGIONAL INTEGRATION GUIDELINES markets and associated FIs on a broader regional basis, Systemic risk reduction rather than on individual national basis, even where intra-regional trade and capital flows may not yet be a 64. Some of the earlier and usually less sophisticated significant driver. arrangements designed to enable cross-border trans- actions have, in parallel, increased the exposure of 62. In this context, regionalization of FIs allows public the participants in those arrangements to some fi- and private sector stakeholders in the region to share nancial risks. A typical example is an arrangement expertise and to share in the development and set-up whereby financial market participants (e.g. two costs of new FIs. The typical process for regionally in- banks) use foreign correspondent banks to settle a tegrating FIs involves discussions by a regional group foreign exchange transaction between them. As it is of the national policy authorities who rely on their unlikely that the settlement of this transaction will domestic experts from the private and public sectors be done on a payment-versus-payment (PvP) basis17, to help inform the policy discussion, to gauge the fea- the participants engaging in this transaction will ex- sibility of the business case, and if so, determine the pose themselves to credit risk, as well as to liquidity regional integration model. These experts also usually and possibly other risks18. In certain scenarios, these form their own particular expert groups, such as re- risks can lead to increased systemic risk. gional banking associations, regional central bank fora and regional FI associations to concentrate expertise 65. As mentioned in sub-section 2.1 about the drivers and mobilize working resources around the initiative of regional FI integration, regulators and overseers will – resources that may be limited in each of the mem- likely press financial market participants for a better ber countries alone.16 Leveraging of such expertise solution to a situation like the one described imme- provides deeper and broader perspectives on potential diately above. Regional (and eventually cross-regional practical solutions for the regional integration initia- or global) FI integration arrangements may be able to tive and its ongoing operations and development. reduce systemic risk, starting from the design of the FI itself and then through the development of specific 63. Lower FI development costs and set-up costs – and services/solutions, or the specific risk management possibly even on-going operating costs - for individual techniques and procedures used on a day-to-day basis participating members/existing FIs are also more likely at the operational level. to be achieved through broader cost-sharing in a coor- dinated regional FI integration initiative than in frag- 66. More generally, systemic risk reduction is explic- mented arrangements for cross-border transactions. itly or implicitly conditioned on the requirement that Depending on the regional FI architecture, risk man- the relevant FIs meet the accepted international policy agement and other features, such regional infrastruc- standards for financial market infrastructures – no- ture may be able to support also domestic transactions tably, the CPSS-IOSCO Principles for FMIs. This in- and thereby gain greater capabilities and savings. cludes a sound legal and regulatory framework that is compatible region-wide, together with uniform risk management practices and rules that apply to all par- 17 An exception to this would be the foreign exchange settlement transactions by CLS Bank International. 16 For example, the European Payments Council (EPC) and the Southern Afri- 18 For additional information on these risks see BCBS, “Supervisory guidance can Development Community (SADC) Banking Association were initially estab- for managing risks associated with the settlement of foreign exchange transactions”, lished to bring their combined expertise to their regional FI initiatives. Basel, February 2013. REGIONAL INTEGRATION GUIDELINES 17 ticipants in the arrangement and that can be effectively enforced. For both vertically and horizontally integrat- ed FIs, highly consistent and compatible risk manage- ment programs that effectively address the interdepen- dencies among the various integrated national FIs (and of other relevant components) are also required. So are arrangements to cover risks specific to integration, like those related to the currency or currencies used for settlement, cross-border tax considerations and oth- ers. Some of these issues are explained in further detail in chapters 3 and 4. Section II. Drivers and Benefits of the Regional Integration of Financial Infrastructures SECTION III GENERAL MODELS AND TRENDS OF REGIONAL INTEGRATION OF FINANCIAL INFRASTRUCTURES 3.1 FORMS OF INTEGRATION mestic transaction; for the cross-border elements, in- cluding cross-currency arrangements, supplementary 67. The forms of integration can range from simple rules may need to be developed. agreements among FIs to facilitate direct or indi- rect cross-participation among the participants in 69. A link is a set of contractual and operational ar- each of the FIs, to interoperability arrangements, to rangements between two or more FIs that con- full harmonization of the operating schemes and in- nects them directly or through an intermediary.20 tegration of the technical platforms into a common A link can therefore be seen as a more evolved form system for dealing with cross-border transactions. of integration. While technical interfaces generally Integration can therefore be achieved with varying are developed to allow some degree of automation to levels of depth and sophistication. Nonetheless, all support certain information and data exchanges, links forms of regional FI integration aim at the same ba- generally also require some degree of harmonization sic purpose which is to enable, or further facilitate of operating rules and other scheme features as a pre- or improve, the cross-border transactions of the par- requisite. More elaborated and sophisticated links al- ticipants of the FIs of the countries in a region, as low for the partial or even full interoperability and STP well as those of the customers of such participants.19 at a transactional level of the underlying technical op- erating platforms. 68. In basic integration agreements, the relevant FIs usually sign contracts that allow the participants of 70. A regional FI with a common, unified scheme and each of the FIs to participate in some form – i.e. di- operating system represents the deepest and widest rectly, or indirectly through the FI to which each of form of integration,21 at least for the purposes of this them belongs or through another intermediary - in the report, since it facilitates STP in pre-to-post transac- other FI. The FI(s) whose services are now accessible tion services for cross-border transactions – and in will typically seek to apply its same rulebook and risk some cases also for purely domestic transactions. management approach to those portions of the cross- border transaction that run parallel to a regular do- 20 CPSS-IOSCO (2012), pp. 109. 19 By extension, cross-regional integration projects would aim at enabling and/ 21 This statement is clearly also applicable to cross-regional FIs, and by defini- or facilitating cross-border transactions also across regions. tion also to global FIs. 19 20 REGIONAL INTEGRATION GUIDELINES 71. The main models of regional FI integration are de- form is when two central banks agree on a scheme scribed in further detail in the remainder of this chap- to support or facilitate such transactions. This is ter. Each sub-section initially describes FI integration likely to also require linking their RTGS systems (or at the horizontal level, i.e. integration of FIs that pro- similar immediate-funds transfer systems) to a cer- vide similar services to their participant group. This is tain extent by developing less or more sophisticated then complemented with descriptions and examples of technical interfaces between them. One example of vertical integration, i.e. integration of FIs that provide this kind is the linking of the Hong Kong Monetary different types of services along the value chain, for ex- Authority’s (HKMA) U.S. dollar RTGS system23 ample, a private payments clearinghouse with a central with the RTGS systems of other central banks in bank-operated payment settlement system, or a secu- the region, specifically Bank Negara Malaysia’s rities trading platform with a clearing and settlement RENTAS and Bank Indonesia’s BI-RTGS. These system and a CSD. Some of the most relevant actual links, which are independent from each other, al- regional (or global) FIs and some ongoing and planned low PvP settlement between the national cur- projects are mentioned under the relevant model(s). rencies of those countries and the U.S. dollar.24 Several of these examples are described in detail in Annexes 2-5. 74. Some other models involving only a few partici- pating member countries are basically linked through 72. It should be noted that some initiatives and some the holding of bilateral accounts among central banks. FIs are global by design.22 In this regard, a thorough Participating central banks may hold settlement ac- review of the scope and the design of any regional counts with one another or with a common com- project in order to align it with global initiatives and/ mercial bank. The case of the East African Payments or global FIs is crucial to avoid additional costs for the System (EAPS) illustrates the former, while the participants of the planned FI (e.g. adjustment and/or Sistema de Pagos en Moneda Local (SML) involving reconciliations costs, among others). the national RTGS systems of Argentina and Brazil is an example of the latter. In cases like these, there is generally little or no interoperability between the 3.2 MODELS OF REGIONAL respective national payment settlement systems.25 INTEGRATION OF FIS FOR PAYMENTS 75. More advanced regional integration of payment settlement systems are characterized by the adoption 3.2.1 Payment Settlement Infrastructures of a unified scheme and a common technical-opera- tional facility to process the transactions defined under 73. Bilateral links between national payment settle- the scheme. In turn, the common regional technical- ment infrastructures typically aim at supporting the operational facility will follow one of two generic ar- settlement of certain types of transactions between their respective jurisdictions. Perhaps the simplest 23 The HKMA operates RTGS systems that settle in Hong Kong dollars, U.S. dollars, Euro and Renminbi Yuan (RMB). These systems operate on a common operating platform. 22 Main examples include CLS Bank International (foreign exchange), DTCC’s 24 The payment systems operated by the HKMA also have linkages with several Global Trade Repository (OTC derivatives), the International Swaps and De- other payment systems, including those of the Chinese mainland. The systems are rivatives Association (ISDA) Master Agreement (OTC derivatives), the SWIFT described in further detail in Annex 2. rulebooks (messaging of financial transactions) and the rulebooks of the in- 25 Members of the EAPS have nevertheless harmonized the scheme require- ternational card schemes. These services are delivered by one or a multitude of ments in terms of rules and protocols for clearing and settling eligible cross- operating units. border payments and some key properties of their national RTGS systems. REGIONAL INTEGRATION GUIDELINES 21 FIGURE 1 Source: Own elaboration. chitectures: the decentralized payments system (Figure operating systems together.27 Participants will normal- 1) or the single or fully centralized payments system ly access the regional FI through the national settle- (Figure 2). ment infrastructure of their jurisdiction. 76. Arrangements using a decentralized (though com- 77. Schemes with a decentralized settlement sys- mon) payments system for regional, cross-regional tem involving multiple parties have been developed and/or global payments link existing national settle- in regions where there is a regional currency, as well ment systems with varying degrees of sophistication as for settling cross-border payments denominated and complexity. Most decentralized regional FIs are in a single foreign currency. Perhaps the most well- designed in a “hub-spoke” structure, in which there known example of a unified scheme with a decentral- is a central administrative and technical-operational ized settlement system for a regional currency was the facility that links the participating RTGS (or similar) original TARGET in Europe, which linked the Euro systems.26 The integrating mechanism is usually a stan- RTGS systems of EU national central banks. In turn, dardized messaging and connectivity technology that the Sistema de Interconexión de Pagos (SIP) in Central links account management and the various national 27 For example, messaging formats between participating members and their 26 The operator or “hub entity” can be one of the participating FIs, an entity national FIs are often standardized with those required for cross-border mes- that is independent of the FIs linked through, or it can also be an operating unit saging, or are readily translatable through mapping interfaces to allow straight- within a participating FI. through message processing between connected FIs. Section III. General Models and Trends of Regional Integration of Financial Infrastructures 22 REGIONAL INTEGRATION GUIDELINES FIGURE 2 Source: Own elaboration. America and the Dominican Republic exemplifies relevant examples in this regard are TARGET 229 an arrangement using a decentralized architecture and EURO 1 supporting settlements in Euro in Europe, for settling cross-border payments in U.S. dollars.28 the STAR-UEMOA for the West African CFA Franc throughout the West African Economic and Monetary 78. In the centralized platform model, the national Union, and the RTGS system of the Eastern Caribbean payment settlement systems have been replaced by a Central Bank (ECCB) for the EC dollar in the Eastern single regional FI which participants access directly Caribbean Currency Union. through the relevant telecommunications network (see Figure 2). Centralized platforms are mostly iden- 79. The proposed path for the SADC Regional tified with regional integration projects that have Payment Integration project is similar to that of evolved into a monetary union and the use of a re- the Eurosystem in that it started as a decentralized gional currency which, by minimizing or even elimi- model, and is now moving into a centralized one. nating the distinction between cross-border and do- The SADC project now includes a dedicated com- mestic payments, opens the possibility to process both mon technical-operational facility for cross-bor- types of payments in the same FI seamlessly. Some der payments settling in the South African Rand.30 29 TARGET2 was launched by the Eurosystem in 2008, replacing TARGET. It is a centralized platform that settles payments directly between participants – rather than through the infrastructure of the national central banks. 28 See, European Central Bank, Overview on Target, July 2005, and Dubon, 30 At least four countries in the region – Lesotho, Namibia, Swaziland and South E. G. and G. Heinrich, The development of a regional payment system in Central Africa – are participating in the regional network at start-up. The currencies of the America: A step towards further integration and economic development, Journal of first three countries have fixed exchange rates with the South Africa Rand, which Payments Strategy & Systems, Vol. 5, No. 3, 2011. also circulates as payment currency in these countries. REGIONAL INTEGRATION GUIDELINES 23 The architecture involves a centralized network struc- 3.2.2 Payment Clearing Infrastructures ture that handles intra-SADC cross-border transac- tions while the individual countries maintain their 82. Regional and cross-regional linkages between na- RTGS systems and domestic market infrastructures. tional payment clearing infrastructures such as auto- However, once the planned monetary union is achieved mated clearing houses (ACHs) are a fairly recent de- and implemented, the project intends to develop a single velopment. In general terms, the various integration regional payment settlement infrastructure that would models are similar to those of payment settlement support cross-border as well as domestic payments.31 infrastructures earlier discussed, i.e. they range from The latter system will therefore be conceptually similar horizontal bilateral structures to more advanced ar- to TARGET 2 and STAR-UEMOA. rangements using a common technical-operational platform for cross-border payments, or even central- 80. A unified scheme and system for settlements ized FIs covering a region or sub-region. denominated in multiple currencies is also pos- sible. The prime example in this case is CLS Bank 83. Even if some ACH linkages do not aim at achiev- International, which emerged as a global solution ing a deep integration of the underlying technical plat- – rather than regional or cross-regional - to elimi- forms, they do need to satisfy specific technical, mes- nate principal risk in foreign exchange settlements.32 saging and operating standards to permit a minimum CLS links the national RTGS systems of the participat- level of efficient and secure regional - and eventually ing jurisdictions/currencies, with a strong reliance on also cross-regional - interoperability. In this regard, the legal agreement of the rulebook and the technical for example, the SEPA Rulebooks developed by the standards. European Payment Council (EPC) for credit transfers and direct debits in euros provide a highly detailed 81. One aspect that emanates from the various models compendium of retail instrument design, operating and examples presented above is that the issue of the schemes and even technical standards for clearing currency (or currencies) used for final settlement and and settlement. Likewise, the SEPA Pan-European the underlying rules for currency conversions are a vi- Automated Clearing House (PE-ACH) Clearing and tal element of any cross-border FI integration project.33 Settlement Mechanisms (CSM) Framework sets out Box 4 presents a discussion on some of the most rel- the principles and standards for CSMs’ interoper- evant aspects on this regard.34 ability in credit transfer and direct debit schemes.35 84. It is worth noting that even though the SEPA PE- ACH CSM Framework facilitates and ultimately pro- motes consolidation of clearing and settlement organi- 31 A SADC Central Bank is planned to be established by the end of 2016 and a zations, it does not require full technical integration of single SADC currency would be introduced by the end of 2018. 32 CLS Bank virtually eliminates principal risk by settling all payments on a CSM platforms, nor a single regional ACH infrastruc- payment-versus-payment basis. Additional details on CLS Bank and its continu- ture. For example, the SEPA-compliant Interoperability ous linked settlement solution are provided in Annex 2. Framework for the European Automated Clearing 33 This aspect might be also relatively straightforward in projects where the par- ticipating countries have pegged their currencies to the final settlement currency. House Association (EACHA) provides technical in- 34 The discussion in Box 4 does not intend to be exhaustive. For additional details, readers can refer to the discussion on liquidity in Chapter 2 of this report, and the work of the BCBS, “Supervisory guidance for managing risks associated 35 European Payments Council, PE-ACH/CSM Framework, v1.2, EPC Secre- with the settlement of foreign exchange transactions”, Basel, February 2013, among tariat, June 2008 and Kokkola, T. (ed.), The Payment System: Payments, Securities others. and Derivatives and the Role of the Eurosystem, ECB, 2010. Section III. General Models and Trends of Regional Integration of Financial Infrastructures 24 REGIONAL INTEGRATION GUIDELINES BOX 4: A CURRENCY FOR FINAL SETTLEMENT IN CROSS-BORDER FI ARRANGEMENTS In cross-border FI arrangements, the choice of the settlement currency or currencies is crucial for at least two reasons: liquidity management and foreign exchange (FX) risk management. In general terms, using a single currency for final settlement facilitates the management of these two elements. In a monetary union, potential liquidity savings in the cross-border FI arrangement are the greatest as the same currency is used to settle all domestic and cross-border regional payments - and even more so if the same FI is used to settle both payment types. Clearly, for all intra-regional payments there are no FX risks or FX conversions costs. Where there is no single regional currency, a global reserve currency like the US dollar or the Euro will normally be chosen as the currency for final settlement, mainly because at least one of these two currencies is highly available in most world regions. FX risk and the cost of conversion are typically borne by the originating and beneficiary end-users in the transaction rather than by the direct participants in the FI(s) which act as their agents in the value transfer. In a somewhat similar arrangement, the settlement scheme of the regional FI can involve a single settlement currency, but that of one of the participating countries. Usually, this currency is significantly involved in cross-border trade and financial flows within the region and may also be often used as a parallel currency to the local currency in these countries. FX risk and conversion costs tend to be borne also by end-user originators and beneficiaries of the cross-border payments – except those domiciled in the country that issues the settlement currency. In other cases, settlement is denominated in U.S. dollars and/or other global reserve currencies, but it is actually performed in the local currencies of the member countries of the cross-border FI. The U.S. dollar (or other) is used only to define the local currency value sent from one participating country and the local currency value received in the other member country. FX risks in relation to the cross-border FI are minimized where there is a “hard peg” between the local currencies and the reference currency. Where the exchange rates are variable, sometimes an applicable rate is announced prior to the opening of settlement and prevails through the day. In other cases, real-time or near real-time market-based exchange rates can be assigned to each transaction upon intra-day submission and acceptance for settlement. FX risk and conversion costs are still generally passed through to the originating and beneficiary end-users.1 1 It should be noted that some national payment settlement systems accommodate settlements in one or more foreign currencies under the same platform used for settlements in the domestic currency. However, this feature is not related to regional FI integration unless it is associated with the settlement of cross-border transactions. Indeed, in some countries this feature has been developed solely for settling purely domestic payments. teroperability standards for STP (at the infrastructure 85. The International Payments Framework (IPF), in- level) for cross-border payments among its 25 mem- troduced in late 2009 also provides a framework to en- ber ACHs in 21 participating countries in a distributed able the efficient cross-border clearing and settlement bilateral network (although not all EACHA member of payments in multiple currencies or in a single cur- ACHs are actually linked to each other). rency.36 Like the SEPA Credit Transfer Rulebook, the 36 The IPF is developed and managed by an association, IPFA, of banks and clearing systems from Europe, Africa, North America, and Central and South America. The IPF was introduced in late 2009. REGIONAL INTEGRATION GUIDELINES 25 IPF is designed around accepted international operat- 87. As with payment settlement systems, in addition to ing and technical standards for credit transfers, most a common scheme, more advanced regional integra- notably ISO 20022 messaging standards. In terms of tion projects for payment clearing infrastructures are regional linkages, the IPF supports three basic models also characterized by a common technical-operational for credit transfer payments: facility to enable interoperability between the partici- pating ACHs. The common technical facility can also be • Model 1 provides an IPF rulebook, standards and either a decentralized structure (similar to Figure 1) or technical architecture for ACH-to-ACH links, a centralized operating platform (similar to Figure 2).38 also covering operating and technical standards and file exchange protocols for each national 88. In this regard, for example, the EBA Clearing STEP ACH with its participating banks. National ACHs 2 is a PE-ACH for bulk payments in euro based on a sin- in turn are linked to a single regional settlement gle processing platform. The West African Economic agent, either a commercial or central bank. and Monetary Union’s SICA-UEMOA, on the other hand, is composed of a regional clearing facility and 9 • Model 2, more centralized, substitutes a single re- national clearing systems – one for each of the Union gional ACH for national ACHs in situations where members – for payments in the West African CFA franc. certain countries’ national ACHs may be inad- Both STEP 2 and SICA-UEMOA clear intra-regional equately developed. cross-border payments as well as domestic payments denominated in the respective regional currencies.39 • Model 3 eliminates both regional and nationals ACH in favor of standards and procedures for bi- 89. ACH linkages and other regional or cross-regional lateral file exchange between participating banks, ACH integration arrangements will also need to link so that each of them links directly to the regional vertically to a settlement mechanism for completion of settlement facility. This model creates, in effect, a payment settlement.40 This is sometimes accomplished regional immediate-funds transfer and settlement via a private commercial bank, through one of the par- system. ticipating central banks or through a regional settle- ment infrastructure. 86. A relevant example where IPF standards have been adapted to enable regional and cross-regional credit 90. Vertical integration requires common participation transfers is the FedGlobal ACH Service, which links bi- links between the members of the relevant FIs: for ex- laterally with other participating ACHs through gate- ample, some or all ACH participants having also a set- way operators, offering a means to send cross-border tlement account with the entity operating the regional ACH credit transfers to 35 countries around the world.37 settlement infrastructure. At the same time, vertical In this mechanism, the International ACH Transaction (IAT) standard developed by the National Automated 38 In these figures, the payment settlement system component would need to be Clearing House Association (NACHA) and used replaced by the single ACH or the various ACHs integrated through a common communications network, respectively. The settlement mechanism would need by the FedGlobal ACH Services as well as the SEPA to be added as well. Credit Transfer messaging formats have been mapped 39 EBA Clearing, STEP2, at www.ebaclearing.eu and BCEAO, The New Payment Systems within the West African Economic and Payment Union, at www.bceao.int . into the IPF formats to enable cross-border payments. See also, Musuku, T.B. et al, Lowering the Cost of Payments and Money Transfer in UEMOA, Note #23, Africa Trade Policy Notes, World Bank, July 2011. 40 This need of a vertical linkage to a settlement mechanism is clearly also ap- 37 Plus debit payments to Canada only. plicable to a single national ACH. Section III. General Models and Trends of Regional Integration of Financial Infrastructures 26 REGIONAL INTEGRATION GUIDELINES integration is generally independent of the form(s) in 3.2.3 Retail Payment Transaction Services which horizontal FI integration has been achieved. In other words, vertical integration does not require that 93. In the retail payments sector, cross-border transac- the same integration model for one type of FI service tion schemes organized by or for banks were designed (e.g. payments clearing) be used for other types of ser- initially along the lines of traditional correspondent vices provided by other FIs (e.g. payment settlement), banking arrangements in which certain banking firms even if they are all regionally integrated on a horizontal in each national jurisdiction acted as gateway service service level. This translates into greater flexibility for providers to their respective national clearing and the regional FI arrangement. settlement systems for participating member banks in other countries. However, unlike typical cross- 91. More advanced models of regionally integrated border correspondent banking arrangements, which ACHs will typically discharge their underlying payment are bilateral arrangements between banks in various obligations in a regional settlement infrastructure. For countries, these cross-border transaction schemes example, STEP 2 in the EU is a case of a single regional were multilateral arrangements governed by service ACH that settles its final balances in a single regional agreements and operational protocols featuring a payment settlement system (i.e. TARGET2). In turn, basic level of standardization between participating the EACHA scheme illustrates the case of interoper- banks in different countries. Such schemes provided able national ACHs whereby the payment obligations participating members with somewhat less costly and resulting from the clearing of cross-border payment faster payment delivery than the usual correspondent transactions in Euro are also settled in TARGET2.41 banking arrangements of that time. An actual exam- SICA-UEMOA exemplifies the case of both a region- ple of this kind is TIPANET, which was designed as a al ACH and regionally networked national ACHs cross-border retail payment service for credit transfers settling in a single regional settlement system (i.e. among cooperative European and Canadian banks.42 STAR-UEMOA). 94. The widespread growth of credit and debit card 92. A common feature of the examples described im- payments since the late 1980s provided a second wave mediately above is that the various FIs involved sup- of regional and cross-regional integration efforts for port both domestic as well as cross-border payments. cross-border payment transaction FIs. Participants In the SADC Regional Payment Integration project in the underlying card payment schemes are primar- mentioned earlier, in a first stage only cross-border ily banks, and regional cross-border arrangements payments denominated in South African Rand will include direct linkages among FIs operating national clear and settle using the common scheme and tech- payment card schemes and processing platforms. nical-operational facilities that will integrate the na- Some are horizontal, bilateral arrangements among tional ACHs as well as the national RTGS systems. the national networks, such as the linkage between In this case, therefore, regionally integrated national Interac debit card system in Canada, NYCE Payments ACHs will further integrate vertically with regionally Network and PULSE systems in the United States, and integrated national RTGS systems. Union Pay in China enabling access by the schemes’ cardholders to cross-border debit payments and ATM 42 TIPANET was organized twenty years ago before the emergence of global 41 As mentioned earlier, the EACHA scheme involves an interoperability frame- banks that today operate in multiple national payment infrastructures and focus work between national ACHs rather than full technical integration between them. on correspondent banking services as a core business line. REGIONAL INTEGRATION GUIDELINES 27 withdrawals. As another example, the Euro Alliance rency.46 Members owing funds in that currency send of Payment Schemes is based on bilateral links among payments to the account of the payment card organiza- five national and regional card payment schemes in the tion at its settlement bank, which then distributes the Euro zone.43 In each of these examples, the schemes funds owed to the other member banks.47 Thus, even achieve interoperability through interconnected net- some highly integrated schemes and platforms, such as work switches accessed via point-of-sale transaction those for global card payments, link to national and re- devices or ATMs. Routing via gateway service provid- gional interbank payment settlement infrastructures, ers enables the cross-border payments to clear and set- through local banks, to settle cross-border/cross-cur- tle in the appropriate national payments infrastructure. rency inter-member payments. 95. Global card payment schemes such as VISA and 97. In addition to the bank-based account-to-ac- MasterCard provide for cross-border interoperability count cross-border payment transaction and mon- in transaction systems for payments with credit and ey transfer schemes and systems, several non-bank debit card and ATM cash withdrawals for cardholders. payment transaction and money arrangements of- Interoperability is achieved within each scheme across fered through money transfer operators (MTOs),48 countries, and also, at least in certain countries and and on-line payment service providers focusing regions, between schemes through national network on payments to e-merchants,49 provide cross-border switches or portals of web merchants. payment transaction and settlement services. While these organizations operate proprietary money trans- 96. Moreover, for cross-border transactions the trans- fer systems that focus primarily on person-to-person, action systems are vertically integrated with the propri- person-to-business payments and, now, business-to- etary clearing and settlement system of each of those business payments for both domestic and cross-bor- two schemes.44 45 The latter involve proprietary mes- der payments, they each require service relationships saging and processing systems for inter-member-bank with local banking firms to manage their own cash clearing and settlement, with decentralized authoriza- and foreign exchange positions and to facilitate the tion and processing at the member-bank level for card- in-payments and out-payments between their local holders and merchants. Cross-border/cross-currency customers and their own payment transfer scheme.50 payments normally involve either member-banks in one country operating via one or more correspon- 98. At the same time, banks in many countries are dents, with the correspondent providing a gateway to now forming service relationships with MTOs in the ultimate settlement bank or infrastructure for the which the participating banks send and receive pay- relevant currency. Indeed, for each eligible settlement ments on behalf of their own customers through currency, the global payment card organization opens a settlement account with a member bank that partici- 46 In some cases, this “correspondent” or “gateway” bank is even that country’s pates in the national settlement system for that cur- central bank. 47 The settlement between the card-issuing bank and the merchant is facilitated through the payment card organization’s settlement bank account. 48 Such as Western Union, MoneyGram and many others. 43 See, Euro Alliance of Payment Schemes, at www.card-alliance.eu/about-eaps, 49 For example, PayPal, Payoneer and Google Checkout. accessed June 25, 2012. 50 The settlement of the payment obligation between the payment sending and 44 In some countries, the proprietary clearing and settlement system is also receiving individual or merchant is normally on the books of the operator of the used for purely domestic transactions. scheme. This often involves in-payments and out-payments to and from its ac- 45 For a more detailed description, see, CPSS, Payment and Settlement Systems count at its settlement bank from and to accounts at the senders’ and receivers’ in Selected Countries, April 2003. banks. Section III. General Models and Trends of Regional Integration of Financial Infrastructures 28 REGIONAL INTEGRATION GUIDELINES the MTO’s money transfer system. Likewise, banks fer and account management services for individual may act as paying and collecting agents for custom- securities issues. ers of MTOs. Such relationships extend the reach of the individual physical networks to areas in their 101. The typical integration process for securities and own and other countries in which they have no derivatives FIs has actually been different from pay- other branch or other form of physical presence.51 ments FIs. For payments FIs, advanced regional in- tegration has been achieved in most cases by linking 99. As for on-line payments, banks have also very national infrastructures while ownership of the latter recently begun to develop competing schemes with remains unaltered.52 For securities and derivatives FIs those of non-banks. One example is MyBank in acquisitions have been a prime means to achieve con- Europe. It is operated by EBA Clearing on behalf of formity across two or more jurisdictions. There are its member banks. The rollout of the service started many reasons for this difference, including the owner- in 2013. MyBank provides a regional e-authentication ship structure of the securities or derivatives FIs com- scheme for initiating euro payments from customers pared to that of payments FIs (e.g. private rather than to web merchants, with its operating system vertically public, the latter being notably the case for RTGS sys- integrated into EBA Clearing’s interbank payment pro- tems and for some ACHs). In addition, an important cessing systems. difference is the apparent higher complexity in achiev- ing a regional FI for securities providing end-to-end services (i.e. from pre-trade, trading and all the way 3.3 MODELS OF REGIONAL to clearing and settlement) in an integrated, efficient INTEGRATION OF FIS FOR manner, which is a key demand from major users like SECURITIES AND DERIVATIVES pension fund and other asset managers. 100. While there are superficial parallels in the generic 3.3.1 Trading Infrastructures architectures of the infrastructure linkages for regional and cross-regional payments and securities transac- 102. Historically, cross-membership by securities-deal- tions, there are also several key differences related to ers and cross-listing of securities have been the principal the particularities of securities and derivatives trans- mechanisms for cross-border linkages between stock actions - and their respective industries. Most obvious exchanges and electronic trading facilities. In general, are the need for solutions to link the settlement of the arrangements like these provide only limited access to securities and of the underlying funds, the use of ac- cross-border capital markets to major institutional in- tual or virtual securities listings and trading platforms vestors and to global issuers. More sophisticated forms and/or electronic brokerage systems for initiating se- of regional and cross-regional integration among curities trades, or the use of custodians and depository exchanges emerged in the last two decades or so.53 organizations for providing a variety of custody, trans- 103. In some cases, the trading systems of the ex- changes in the participating jurisdictions are linked 51 Although mobile payment schemes have developed rapidly in some parts of 52 One notable exception is Equens, which is the result of a merger between Africa and Asia in particular as payment and money transfer operations, most the German Transaktionsinstitut and Dutch Interpay and has integrated Italian are not yet interoperable domestically, let alone across borders. Also, many have Seceti. A number of acquisitions and mergers among specialized card processors partnership or service arrangements with local banks similar to MTOs that pro- have also taken place. For further details see “The future of EU card process- vide them with access to inter-bank payment infrastructures. ing revisited: 2004 compared to 2010” (www.psel.co.uk/pdf/articles/processing/ future_eu_card_processing_revisited_v2.pdf). 53 Linkages, mergers and eventually platform integration in trading platforms actually began on a national basis during the 1990s in countries with stock and de- rivatives exchanges that prior to that operated only regionally within the country. REGIONAL INTEGRATION GUIDELINES 29 bilaterally through a telecommunications network. platforms for both domestic and cross-border trans- One example is the Latin American Integrated Market actions – and potentially to expansion in other trade (Mercado Integrado Latinoamericano, MILA), in and post-trade services. It should be noted, however, which the trading infrastructures for equities of Chile, that legal requirements to register and hold on deposit Colombia and Peru are networked together at the in- some securities locally are still an impediment to the frastructure level via FIX gateway message routers and full consolidation of the existing trading FIs into a sin- automated price displays covering the three markets. gle regional FI. However, these infrastructures do not operate as yet on a common or even uniform platform or scheme.54 106. The Central and Eastern Europe Stock Exchange A similar case is that of the CME Group in the United Group (CEESEG) is a holding company owned States and BM&FBovespa, the Brazilian securities and jointly by the Vienna Stock Exchange and Austrian derivatives exchange, in which there is an automated banks that, in turn, owns equity in the Budapest, order routing link between the derivatives trading Ljubljana, Prague and Vienna stock exchanges.56 platforms. CME Group has also developed a similar Currently, each of these exchanges operates separately link with MexDer, the Mexican derivatives exchange. within its own jurisdiction, although migration of all trading to the Deutsche Börse’s Xetra platform will be 104. The ASEAN Trading Link, in contrast, is an elec- completed in December 2013, and data vendor opera- tronic hub-spoke arrangement linking stock exchanges tions will be consolidated in Vienna. The vision for the in Singapore, Malaysia and Thailand, and in the future medium term is to provide cross-membership among also those of Indonesia, the Philippines and Vietnam. all member exchanges, and introduce a common CCP/ There is a central operating facility, the Intra-ASEAN clearing system. Network (IAN). Like MILA, the ASEAN Trading Link uses a FIX gateway protocol and correspondent re- 107. In an example where deeper integration has al- lationships between the originating and sponsoring ready materialized, the four European stock exchang- brokers. Each member exchange links to a local elec- es that are part of NYSE Euronext are separate legal tronic gateway into the IAN to route trade orders and entities within their respective countries, but have relevant pre-and-post trade and market data.55 Unlike adopted a common electronic trading platform.57 MILA, the ASEAN does not yet include integrated ac- NYSE Euronext also allows “cross-membership”, en- counts at the depository level. abling participants in any of the exchanges in the group to access securities listed on the others. In addition, the 105. In Europe, mergers among stock exchanges in derivatives business of NYSE Euronext in Europe has various EU member countries have ultimately led been centralized on the trading platform of Euronext. or may lead to the integration of the various trading Liffe. NYSE Euronext also has links with the New York schemes and of the operating systems into common Stock Exchange and with the NYSE ARCA electronic exchange. 54 See Mercado Integrado Latinoamericano (MILA), Regional Equity Mar- key Integration, Power Point Presentation, 2011, from www.instruct.uwo.ca, and 56 CEESEG also has links to exchanges in Bosnia-Herzegovina, Macedonia Hogue, J., MILA integration report: Detailed Analysis on Exchange Integration of and Romania. Chile, Colombia and Peru, Efficient Alpha, July 2011. 57 Euronext was created initially through the merger of the stock exchanges in 55 See ASEAN Exchanges, Sungard ASEAN Link – Technical Solution, July Amsterdam, Brussels and Paris in 2000. Later on it acquired the stock exchange in 2011, Ravindran, M. and G. Dommen, “ASEAN Exchanges Unite”, in Markets in Portugal and the LIFFE derivatives exchange in London. In 2007 it was acquired Motion, Vol.3, No. 26, Financial Technologies Knowledge Management Co. Ltd., by the New York Stock Exchange to create NYSE Euronext. NYSE Euronext is Mumbai India, September 2012. at the time of writing, being acquired by the ICE (Intercontinental Exchange) Section III. General Models and Trends of Regional Integration of Financial Infrastructures 30 REGIONAL INTEGRATION GUIDELINES 108. Similarly, the European exchanges controlled by tained three main deliverables: i) Price transparency NasdaqOMX – seven trading exchanges for equities, of the FI services; ii) Access and Interoperability fixed income securities, exchange traded funds, and Guidelines; and, iii) Unbundling and Accounting structured products in the Nordic and Baltic coun- Segregation of some FI services. The detailed Access tries in Europe- operate on a common multi-asset and Interoperability Guidelines were published in July trading platform.58 Cross-membership is also allowed. 2007. They deliver a set of public guidelines that con- Moreover, participants in NasdaqOMX exchanges can tain detailed definitions and principles which trading also access trade services for U.S. securities listed on platforms, CCPs and settlement systems have agreed Nasdaq, and other US trading markets. to apply to the way in which they will seek access to, and interoperability with each other. 109. Another relevant example of this kind is the Eurex Group, which is an amalgamation of com- 3.3.2 Central Securities Depositories and panies in the derivatives business, including three Securities Settlement Systems exchanges and two electronic trading systems.59 By working together, these companies aim at pro- 112. Cross-border links between CSDs have to date viding improved trading opportunities (and other largely consisted of direct bilateral arrangements or post-trading services) regionally and cross-regionally distributed bilateral network arrangements involving across numerous products, with processes based on a three or more countries. For example, in Canada and common platform. the United States direct bilateral arrangements have been operating at high volumes for more than 30 years. 110. Horizontally interlinked or integrated trading sys- The Canadian Depository for Securities (CDS) has a tems also need to link or integrate vertically to other series of clearing, settlement and depository accounts infrastructures or agents for clearing and settlement with DTCC’s National Securities Clearing Corporation purposes. An entity or group that integrates vertically (NSCC) and The Depository Trust Company (DTC). and horizontally at the regional or cross-regional level This link provides dealer participants in CDS with is perhaps the most complex model. Other models in access to the NSCC, which is a CCP, as well as with which, by design, the various FIs involved throughout accounts in DTC, the related SSS, to support their the transaction processing chain remain discrete also cross-border investment in DTC’s US and dually- exist, however. eligible Canadian issues. CDS and DTC also have a reciprocal depository link providing advanced func- 111. With regard to vertical integration, in Europe a tionality to facilitate cross-border settlement and Code of Conduct was signed in November 2006 by asset servicing for US and Canadian securities.60 61 the Federation of European Securities Exchanges (FESE), the European Association of CCP Clearing Houses (EACH) and the European Central Securities Depositories Association (ECSDA). The Code con- 58 OMX was a Swedish-Finnish financial company that controlled 7 Nordic and 60 For CDS’s through CDS-sponsored individual accounts in DTC, and DTC Baltic stock exchanges. It was then acquired by Nasdaq to form the NasdaqOMX omnibus accounts in CDS on behalf of its participants. Group. The Armenian Stock Exchange was also acquired recently and integrated 61 DTC also has similar bilateral custody and securities transfer links through to the Group. omnibus account relationships with 16 CSDs in other regions, notably Europe, 59 Plus Eurex Clearing, a clearinghouse for its traded products. Deutsche Börse Asia, Latin America and the Middle East. See www.dtcc.com/customer/dtc_in- is the parent company of Eurex. ternational.php. REGIONAL INTEGRATION GUIDELINES 31 113. Similar types of bilateral account-based linkages 115. As with trading systems, CSD acquisitions exist within regional CSD alliances in Europe and Asia.62 have been a relevant means to interlink and eventu- The bilateral peer-to-peer account-based links involve ally achieve a deeper form of integration of CSDs.66 each CSD opening (omnibus) accounts with other se- For example, the Euroclear Group owns and op- lected CSDs in the region. Each CSD acts as the agent erates national CSDs in several European coun- for its members for cross-border transactions involving tries, as well as Euroclear Bank (see below).67 the other CSD(s). For example, the HKMA’s Central Each of these national CSDs is a separate legal entity in Moneymarkets Unit (CMU) CSD is a participant in a its own country. Three of these (Belgium, France and number of these bilateral CSD linkages in the region. the Netherlands) operate on a common technical plat- Such bilateral links do not, however, involve extensive form, ESES, while the others (Finland, Ireland, Sweden integration of CSDs or of the underlying clearing and and the UK) only partly share the platform, mainly be- settlement schemes or platforms. cause of specific local business demands that need to be dealt with separately. Through these arrangements, 114. In early 2012 the HKMA launched a “pi- Euroclear provides STP for domestic and cross-border lot platform” with the Euroclear Group and the securities transactions in affiliated CSDs for trade con- Bank Negara Malaysia (BNM) to create a hub- firmation, custody, and settlement services, as well as spoke network structure linking Euroclear, the new issue services. HKMA’s CMU, and BNM’s RENTAS CSD.63 The scheme creates a common centralized securi- 116. NasdaqOMX owns (indirectly, through its hold- ties database operated by Euroclear and technical ings in the relevant stock exchanges) a large part of operating links among the three systems through most of the national CSDs in the Nordic and Baltic Euroclear as the connectivity hub. One of the pur- countries in Europe. Similar to Euroclear, the vari- poses of this pilot platform is to provide the Asian ous national CSDs still exist as separate legal entities Bond Market Initiative (ABMI) Steering Group in their respective jurisdictions as all securities listed with insights into the pros and cons of a regional on the Nordic and Baltic exchanges must be registered CSD hub-spoke network model for the region.64 in the respective national CSD. NasdaqOMX has a In parallel, the ABMI Steering Group has also variety of technical clearing and settlement solutions, established a task force to analyze alternative models schemes and systems for its own network of exchanges and architectures.65 as well as for other markets, and also has accounts at Clearstream for depository and settlement services 62 The regional CSD organizations are the ACG (www.acgcsd.org), ACSDA and to the European Multilateral Clearing Facility (www.acsda.org), AECSD (www.aecsd.com), AMEDA (www.ameda.org.eg), EC- SDA (www.ecsda.eu). The World Forum of CSDs site is www.worldcsds.word- (EMCF) for pan-European CCP services. press.com. 63 BNM’s RENTAS encompasses an RTGS system and a debt securities deposi- 117. Clearstream Banking Frankfurt and 10 other tory and settlement system. 64 This project has been undertaken in the context of the Asian Bond Market CSDs launched Link Up Markets to improve efficiency Initiative (ABMI) and under the auspices of the Pan-Asian CSD Alliance formed and reduce costs of post-trade processing of cross- under the ASEAN + 3 Initiative. 65 In this regard, one variant could be a distributed network model with a cen- tralized regional operations hub linking national CSDs of participating countries, which would not involve regionally centralized settlement of cross-border bond 66 Many CSD acquisitions were a direct consequence of mergers/acquisitions transactions. The other model is similar to the HKMA’s pilot platform but would of exchanges/trading systems. involve a regional Asian CSD interlinking the various national CSDs in a common 67 Euroclear Bank has also assumed responsibility for the settlement of Irish platform, to provide common pre-trade, trade, post-trade and settlement services. government bonds following the decision of the Irish government and the Central Yet another variant would be a single regional CSD in which custody banks and Bank of Ireland to delegate this activity to Euroclear Bank. broker-dealers participate directly rather than through their national CSDs. Section III. General Models and Trends of Regional Integration of Financial Infrastructures 32 REGIONAL INTEGRATION GUIDELINES FIGURE 3: INTEGRATION OF CCPS: PEER-TO-PEER MODEL Source: Own elaboration. border securities transactions, and reduce the cost gap tic securities in multiple markets.71 Whereas CSDs for end-customers between settling and safekeeping are primarily created to serve their domestic mar- domestic and foreign securities.68 Link Up Markets ket, ICSDs were created in the 1960s and 1970s to has therefore established a common infrastructure al- settle Eurobonds. Under their banking licenses the lowing for streamlined interoperability between the ICSDs provide credit lines to their participants to fa- participating CSDs and introducing improved cross- cilitate settlement and increase settlement efficiency.72 border processing capabilities. 119. Euroclear Bank and Clearstream Banking 118. In addition to the various arrangements for in- Luxembourg have a bilateral link (called “the tegrating CSDs regionally described so far, there are bridge”) as well as a number of unilateral links with at least two examples of a global solution to provide other CSDs. The bridge allows Euroclear Bank and certain securities services. These are the so-called Clearstream Banking Luxembourg to settle a wide International Central Securities Depositories (ICSDs) range of Eurobonds issued jointly in these two ICSDs. and the two widely recognized ones are Euroclear Links with other CSDs allow the settlement of a num- Bank and Clearstream Banking Luxembourg.69 ber of foreign securities (e.g. foreign bonds, money ICSDs fill two main roles: i) they jointly act as de- market instruments, domestic bonds, government pository (effectively the CSD) for Eurobonds;70 and corporate, including convertibles, equities and and, ii) they act as global custodians for domes- depository receipts, warrants, and investment funds). For example, both Euroclear Bank and Clearstream Banking Luxembourg have bilateral links with DTC 68 Participating CSDs are Clearstream Banking AG Frankfurt (Germany), Cy- in the United States and the HKMA CMU CSD.73 prus Stock Exchange (Cyprus), Hellenic Exchanges S.A. (Greece), IBERCLEAR (Spain), MCDR (Egypt), Oesterreichische Kontrollbank AG (Austria), SIX SIS AG (Switzerland), STRATE (South Africa), VPS Lux (Luxembourg), VP SECURITIES (Denmark) and VPS (Norway). SIX SIS also has some of the characteristics of a 71 Since 2010, Eurobonds intended to be eligible as collateral at the Eurosystem specialist ICSD for the Swiss market. must be issued into one of the ICSDs, which acts as Common Safekeeper for 69 SIX SIS also has some of the characteristics of a specialist ICSD for the Swiss both ICSDs market. 72 ICSDs also provide additional services such as FX, intraday credit, securi- 70 Eurobonds are bonds denominated in a different currency from that of the ties lending and borrowing, tri-party repo (i.e. a service under which one party country in which they are issued. administers a repo arrangement between two other parties) and collateral man- agement (see also paragraph 129). 73 In the case of the latter, for example, inbound links from the ICSDs allow foreign investors to hold and settle transactions in securities lodged in the HKMA CMU, while the outbound link allows Hong Kong investors to do the same for foreign and domestic securities lodged in the ICSDs. REGIONAL INTEGRATION GUIDELINES 33 120. As can be seen in several of the examples outlined ment of transactions in central bank money. T2S will above, SSSs are often operated directly by a CSD, or as operate as an integrated model, thereby holding on part of another legal entity within the same group that the same platform both cash and securities accounts.75 includes the CSD and, in some cases, also stock ex- changes and other trading systems. In these cases, re- 3.3.3 Central Counterparties gional and cross-regional integration of CSDs (directly or indirectly through integration of the stock exchang- 123. Integration of CCPs can also be achieved through es that own these CSDs) also creates links between different means. It can sometimes occur through merg- their clearing and settlement schemes and systems. ers and acquisitions aiming at enabling the clearing of different types of products, or connecting products on 121. The regionally integrated CSDs and SSSs will different trading venues. In Europe, for example, the also need to connect in some form with one or more French CCP Clearnet merged with those of Belgium cash settlement agents (e.g. commercial banks) or na- and the Netherlands in 2001 and of Portugal in 2004 tional or regional payment settlement infrastructures, to form a single legal entity. This merger was driven depending on how many currencies are accepted for by parallel developments at the trading level between settling the cash leg of cross-border securities trades.74 the stock exchanges of these countries into Euronext, An entity or group that integrates trading systems- as described in previous sub-sections. As a conse- CSDs-SSSs at the regional or cross-regional level both quence, the new CCP provides clearing services for horizontally and vertically may also add the money the French, Belgian, Dutch and Portuguese markets.76 settlements layer to its functions. Annex 5 presents in graphical form the horizontal and vertical integra- 124. Eurex Clearing also followed the integration of tions achieved by three such groups based in Europe: derivatives exchanges and trading systems into the CEESEG, Euroclear group and NasdaqOMX. Eurex Group. Eurex Clearing provides CCP services for market participants on its own exchanges and elec- 122. Other models where not all the different FIs or tronic trading platforms as well as for market partici- layers are operated by the same entity or group are pants of exchanges in Frankfurt and Dublin. also possible, as noted in the previous sub-section. For example, a privately-operated regional CSD can be 125. Horizontal integration can also be achieved linked technically (and/or through a cross-participa- by developing CCP links.77 A CCP link is an ar- tion account arrangement of the CSD or its members) rangement between two CCPs that allows the pro- to independently operated regional SSS and payment vision of central counterparty services for trades settlement systems. This general model is presently performed by the participants of those two CCPs, under development in Europe with the introduction of TARGET 2 Securities (T2S) planned for 2015. T2S is a 75 While initiated by the Eurosystem, T2S will be a multicurrency system, and project of the Eurosystem aimed at creating a single se- hence is capable of being linked to CSDs and RTGS systems of other countries in curities settlement platform in Europe and providing the European Economic Area and Switzerland to permit settlement of securities transactions denominated in their respective currencies. European CSDs and custodian banks with a central- 76 Clearnet SA and the London Clearing House (LCH) merged in 2003 to form ized service for delivery-versus-payment (DVP) settle- the LCH.Clearnet Group. The two original companies remained two distinct legal entities within the LCH.Clearnet Group, each with its own operational and risk management arrangements. The LCH.Clearnet Group is now becoming part 74 Performing money settlements in central bank money is usually a preferred of the LSE. option among regulators, although in some cases it may not be practical or avail- 77 This analysis draws on some of the work conducted for the preparation of able for cross-border transactions. the CPSS-IOSCO Principles for FMIs. Section III. General Models and Trends of Regional Integration of Financial Infrastructures 34 REGIONAL INTEGRATION GUIDELINES FIGURE 4: INTEGRATION OF CCPS – PARTICIPANT CCP MODEL Source: Own elaboration. without requiring those participants to become 127. In a participant model, one CCP is a standard members of both CCPs. Looking at the existing clearing participant in another CCP, where the rule- links arrangements, two main models can be distin- book of the “parent” or host CCP applies in full to the guished: peer-to-peer links and participant links.78 CCP that becomes a standard participant (see Figure 4). The parent CCP will be entitled to apply risk miti- 126. In a peer-to-peer link, two or more CCPs will be gation measures to its exposures to the subordinate linked together on an equal basis (i.e. recognize each CCP (e.g. require margin, though usually no partici- other as CCPs) and will generally not connect to each pation in the clearing fund). other using the standard service offerings for clearing participants, but rather develop dedicated operational 128. The optimal choice of a model on which to base links with specific risk management arrangements (see an inter-CCP link depends on the objectives intended Figure 3). Creating such links requires a high level of to be achieved by implementation of the link such as cooperation and harmonization between the linked increased competition between CCPs, allowing for CCPs, the need for inter-CCP change management multilateral netting for business traded on different and dispute resolution mechanisms and, where CCPs venues or addressing access issues, but also on the bar- are based in different jurisdictions, the need for the riers to integration.79 As an example, in Europe a peer- CCPs to have access to and the ability to interact di- to-peer link was established between LCH.Clearnet SA rectly with a foreign regime and/or market. Extensive and the Italian CCP, CC&G, to provide clearing servic- consultations with each CCP’s membership are also es for Italian government bonds transactions executed important to ensure that the new risk scenario cre- on MTS SpA, EuroMTS ltd and later BrokerTec. As ated by the inter-CCP link is well understood, and that another example, interoperability between the CCPs adequate risk management measures are developed in EMCF, EuroCCP, LCH.Clearnet Limited and SIX consequence. X-Clear allows for access to various trading platforms via one CCP. Positions will be netted across trading 78 See for example Joint Regulatory Authorities of LCH.Clearnet Group, “Investigation of risks arising from the emergence of multi-cleared trading plat- forms”, July 2008. 79 See Section 4.1 of this Report. REGIONAL INTEGRATION GUIDELINES 35 platforms and clearing members no longer need to de- Trade Repository (GTR) for OTC derivatives.81 GTR posit collateral at more than one institution.80 was created to support global reporting on all differ- ent asset classes of OTC derivatives. With the imple- 129. Also on the collateral management side, DTCC mentation of new derivatives reforms taking shape, the and Euroclear Bank recently announced an integrated GTR receives and aggregates trade data and supplies “margin transit” approach that will benefit their re- relevant access to data to regulators. In creating a new spective and dual members by jointly addressing the infrastructure, the GTR offers the derivatives industry fulfillment of margin calls across the entire chain of an opportunity to reduce the industry investment in margin calls for centrally cleared and bilateral over- capability and contingency arrangements by establish- the-counter (OTC) derivatives. DTCC and Euroclear ing a global utility.82 will also pool their inventories, to enable their par- ticipants to mitigate the demand for collateral that is expected to result from dealers’ and clients’ move to centralized OTC clearing. 130. Although not yet applied in practice, two addi- tional links models could be the “meta-CCP” and the “subsidiary CCP”. The “meta-CCP” would be a con- struction where a third-party acts as a CCP and net- ting agent to all inter-CCP positions created by the interoperable link. This model could fit in situations where there are already more than two CCPs serving a single market. The “subsidiary CCP” would be an ar- rangement in which a CCP sets up a subsidiary unit to operate as a CCP in a jurisdiction in which the CCP would not otherwise have access. The two CCPs would then be linked on a peer-to-peer basis. The implemen- tation of this model may have the potential to reduce costs for establishing a CCP in a region that is cur- rently not served, and a reduction of the complexity of setting up the link since, by definition, many of the key features between the two CCPs would be harmonized from the start. 3.3.4 Trade Repositories 131. In a FI development relating to OTC deriva- 81 See www.dtcc.com/products/derivserv/suite/global_trade_repository_for_ tives, contracts that have always been global in nature, otc_derivs.php The GTR, which already operates in compliance with specific regulations in DTCC is operating a global infrastructure, its Global 82 Japan, United Kingdom and the United States, will also be regulated shortly on relevant transactions by supervisors in Australia, Canada, Europe, Hong Kong, Singapore, South Africa and others. It also is guided by the OTC Derivatives 80 See further background at www.euroccp.co.uk/interoperability/index.php Regulators Forum, an open, global group comprised by over forty regulators. Section III. General Models and Trends of Regional Integration of Financial Infrastructures SECTION IV LESSONS LEARNED: BARRIERS, RISKS, AND OTHER CHALLENGES FOR EFFECTIVE REGIONAL FI INTEGRATION 132. Chapter 2 presented a discussion on the drivers of 4.1 BARRIERS TO EFFICIENT regional FI integration and the benefits that can gener- AND SAFE REGIONAL FINANCIAL ally be expected from this kind of effort. Actual cases of INTEGRATION regional FI integration were then described in Chapter 3 as part of the discussion on the general models of 134. The principal barriers experienced most com- regional integration for the various types of FIs. The monly in regional FI integration projects are related experiences from those cases clearly show that any re- to differences or incompatibilities across the various gional FI integration project will almost inevitably face countries that want to participate in a common ar- a number of barriers and many other challenges that rangement. These can be grouped into two general may prevent it from achieving the expected objectives classes:83 (i) legal and regulatory; and, (ii) differences and benefits, and/or that may cause severe delays and in financial market organization, practices, and techni- other problems to the rollout of the new arrangement. cal standards. Some of these barriers can be removed In other cases, the projected regional FI may not be- by market participants, but others may need a strong come operational at all. lead or direct intervention by public authorities. 133. This chapter identifies the main barriers, project 135. In general terms, where harmonization is high, a management problems and risks in operating a cross- lot of beneficial integration can occur. Where it is not, border FI arrangement that have been encountered in less integration will be achievable. Some regional FI practice and that may represent significant problems integration initiatives have nevertheless been launched to successful regional FI integration, based on the in- even when the national schemes and systems are inad- dividual and collective experiences of the G25 Panel equately harmonized and standardized. This generally of Experts. ends up being counter-productive, either because the only integration model that is feasible is so basic that the benefits are minimal, or because of project imple- 83 The Giovannini Group, “Barriers to efficient cross-border clearing and settle- ment in the EU”, in Cross-Border Clearing and Settlement Arrangements in the European Union (Section 5), Brussels, 2001; Earle, D.M. and M. L. Koontz, Link- ing the Capital Markets of Transitional Economies, National Securities Clearing Corporation, 1999. 37 38 REGIONAL INTEGRATION GUIDELINES mentation becoming extremely lengthy, having to wait 138. The potential that a regional FI’s rules, procedures until the minimum required level of compatibility is and contractual arrangements may not be fully en- achieved,84 with the risk of losing support and commit- forceable with participants located in various countries ment from stakeholder groups. is another major cause for concern. The organizers of the regional arrangement will need to ensure, most 4.1.1 Legal and Regulatory Barriers often through expert legal opinion, that the regional FI’s protocols, agreements and rules will have legal rec- 136. Some degree of harmonization in the legal and ognition and standing under the legal framework of regulatory environment is typically required of the each of the participating countries. Highly integrated participating countries. This will help ensure not only regions like the EU have used other approaches, such that a sound legal and regulatory framework for cross- as the issuance of directly binding legal acts, or of com- border activity is in place to reduce legal risks (see sec- mon directives and regional agreements that are to be tion 4.3), but that the differences, inconsistencies and incorporated into the legal and regulatory framework incompatibilities in this area do not become an insur- of each of the member countries.85 mountable obstacle to efficient regional integration. 139. Cooperation and coordination failures among 137. Some of the most difficult barriers to overcome overseers and regulators can also become an important relate to the legal and regulatory framework that is impediment to efficient and effective regional integra- directly applicable to payments and to securities and tion. FIs and their participants that are attempting to derivatives trading, clearing and settlement, including integrate regionally may need to deal frequently with issues such as: (i) access of foreign institutions to do- various different national financial regulators, each mestic financial markets (beyond licensing and regis- with their own specific mandates, regulations, proce- tration) and to direct participation in domestic FIs; (ii) dures and practices that in some critical aspects may securities listing requirements; (iii) custody arrange- be duplicative and even inconsistent. ments and beneficial ownership structure of custody accounts, particularly for cross-border traded securi- 140. Another common regulatory coordination fail- ties; (iv) choice of law restrictions; (v) enforceability of ure that may be especially important in integration collateral agreements and transfer of collateral owner- projects is the lack of policy consistency and a clear ship in the event of default, (vi) enforceability of net- scope of authority between financial sector regulators ting and of novation for the purposes of final settle- and competition authorities. Horizontal and vertical ment; (vii) securities lending; and (viii) irrevocability mergers among FIs, or even service alliances among and finality of settlement, and applicable resolution FIs, will typically attract the attention of competi- and bankruptcy laws and wind-up procedures, espe- tion authorities. This is because these authorities are cially for financial institutions. Several global and re- typically concerned with market conduct and perfor- gional harmonization efforts are already in place. The mance implications of alliances, mergers and acquisi- most relevant ones are presented in Annex 6. tions of potentially competing organizations or orga- 85 The “Horizontal Guidelines of 2010” of the European Commission state that standards (legal or technical) cannot be imposed on market participants. For that 84 In some projects a phased approach is adopted, whereby countries that are a public law is required as was done with the “End-date Regulation” 260/2012 ready for integration can proceed while others will do so when required criteria that made ISO 20022 and IBAN mandatory for all euro credit and debit transfers are met. This issue is discussed further as part of guideline 8. within the EU. REGIONAL INTEGRATION GUIDELINES 39 nizations involved in a vertical service supply chain as other, usually somewhat basic, arrangements. For this this may limit upstream or downstream competition. centralization to be efficient and effective, it requires However, competition authorities may not have exten- the harmonization of operating rules and procedures, sive experience in dealing with financial utilities, and and the standardization of critical technical processes their perspectives on the correct balancing of coopera- to facilitate STP and other efficiencies. tion and competition in FIs and their network schemes frequently differ from those of central banks and other 144. Some of the likely market-based differences may financial sector regulators.86 be rooted in the broader legal system (e.g. the organi- zational and institutional structure of financial institu- 141. Competition authorities of the jurisdictions in- tions, FIs and other financial services markets), while volved in a regional integration project may also have others are due to historical practices and the technical diverging mandates among themselves to assess a standards used in the various domestic markets. The multi-jurisdiction cooperation of competitors. In the degree of homogeneity and compatibility will often case of the EU, the national competition authorities limit the choice of integration architecture for the re- cooperate and align their policies in the European gional arrangement. At the same time, market partici- Competition Network.87 pants and policy makers need always to take into ac- count the impact of the choice of the various types of 142. Barriers can also arise from differences in more standards for regional FI integration projects: several general laws or regulations, such as those referring to global standards are already available, and it is gener- taxes and other macro-economic aspects. For example, ally desirable that the same be utilized. Box 5 outlines countries within the same region may have controls on three main categories of standards that are relevant for foreign direct and portfolio investment, including con- this kind of projects. trols and limits on FX holdings of domestic residents and probably even on FX convertibility. Such measures may reduce the business case for regional FI integra- 4.2 PROJECT PLANNING AND tion in those countries. PROJECT MANAGEMENT CHALLENGES 4.1.2 Differences in Financial Market Organization, Practices and Technical 4.2.1 Developing a Strong Business Case Standards 145. Putting together a strong business case is probably 143. To a large extent the benefits of regional FI inte- the most crucial step in early project development as it gration arise from the centralized processing of cross- specifically aims at identifying and substantiating the border transactions that were previously scattered in (net) benefits of a project and the elements and factors that will generate those benefits. 86 In any case, it is highly important that the competition authorities are in- formed right after the scope of the project has been approved by the FIs involved - and by their financial authorities, if applicable - to avoid that during the design 146. A business case is also useful for other related or implementation phase of the project unexpected additional requirements will purposes and activities, however. For example, it gives arise. a baseline that sets out what has to be achieved, by 87 The Horizontal Guidelines 2010 of the European Commission mentioned earlier also provide guidance on how to assess the cooperation to create, choose whom and at what cost. It prevents scope drift, and at or implement (legal and technical) standards of regional integration projects of a general level sets the roles and responsibilities go- competitors in the EU. Section IV: Lessons Learned 40 REGIONAL INTEGRATION GUIDELINES BOX 5: MAIN TYPES OF STANDARDS RELEVANT FOR REGIONAL FI INTEGRATION The policy standards that promote and facilitate the strengthening of the clearing, settlement and recording mechanisms of monetary and other financial transactions. A prime example of global policy standards are the CPSS-IOSCO Principles for FMIs. The legal/regulatory standards or regime between the scheme participants covering the multi-lateral or bilateral relations of the scheme participants. All trading, clearing and settlement platforms use a rulebook, owned by a scheme management organization or by the plat- form involved. Examples of the rulebooks for payments are the SEPA Credit Transfer Rulebook, the SEPA Direct Debit Rulebook, NACHA Rulebook, IPF Rulebook and CLS Rulebook, and for securities the LCHClearnet Rulebooks for their clearing arrangements. In addition to rulebooks, also master agreements are available, like the ISDA Master Agreement for derivatives transactions. In most regional integra- tion projects it is possible to re-use available rulebooks or master agreements. The technical standards between the scheme participants and/or the customers of the scheme participants (in the case of end-to-end standards), or for the reporting to the public authorities.1 The choice of the technical standards is important to ensure the efficiency of processing between the FI and its participants, and with the customers of those participants. Many vendors already have technology solutions available based on global standards.2 The choice of a (global) technical standard that suits the purpose of the new FI avoids that technical barriers are created for an amendment of the scope or number of participating countries in the FI. In some regional integration projects an upgraded (or additional) standard may be required. 1 An overview on the relevant technical standards is presented in Annex 7 of this report. 2 Product and service solutions are often coordinated around core standards such as ISO 20022, ISO15022, International Bank Account Numbers - IBAN (ISO 13636), and International Securities Identification Numbers – ISIN (ISO 6166). Mapping interfaces have been created between their service products, allowing, for example, for STP between FIs that use different messaging solutions. Mapping interfaces between proprietary messaging systems into standardized international formats can provide similar benefits. ing forward. It can also be helpful in situations where to be confirmed once the new regional FI arrangement arriving at a shared vision of a regional FI has been is operational. At this stage, the business case might particularly difficult due to skepticism or very different be proven faulty for a variety of reasons and events expectations. such as an erroneous estimation of the net benefits or the non-materialization of the expected support from 147. Broad support from private sector stakeholders public sector authorities. will usually follow from a strong business case. There are at least three general elements that the business 149. While the benefits (and costs) of regional FI in- case analysis for regional FI integration will need to tegration can be qualitatively listed, their quantitative substantiate. These are described in Box 6. valuation and estimation is extraordinarily difficult and is subject to considerable forecast error.88 For 148. Even if ex ante the business case has been success- example, regional FI integration involves structural ful and the various stakeholders have decided to move forward with the project, its soundness will still need 88 This is especially true for the macro or indirect benefits of regional FI inte- gration. However, these difficulties should not be interpreted in the sense that attempts to quantify a business case are a waste of time. For information on some actual cases see Capgemini Consulting, “SEPA potential benefits at stake: Research- ing the impact of SEPA on the payments market and its stakeholders”, prepared for the European Commission (2007), and Commission of the European Com- munities, Impact Assessment: Annex to the proposal for a directive [...] on payment services in the internal market, Commission Staff Working Document (2005). REGIONAL INTEGRATION GUIDELINES 41 change, even for decentralized network models, that has no region-specific precedent and thus must be BOX 6: KEY ELEMENTS TO BE SUBSTANTIATED evaluated counter-factually to the existing regionally BY THE BUSINESS CASE ANALYSIS fragmented FI architecture. The valuation exercise will also most likely face methodological difficulties and • Sufficient intra-regional transaction volume to ensure data availability problems.89 that the economies of scale that underlie potential cost reductions will be achieved. Transaction volume 150. With regard to public sector support, as noted, the depends on the successful migration of intra-regional elimination of legal, regulatory and other policy barri- transactions from other (fragmented) platforms and on ers can influence the business case for FI integration the future growth of these transactions. quite substantially. It might also influence the viabil- • Broad dispersion of net gains among key stakeholders: ity of a particular type of regional linkage or integra- the FI operators, FI participants, end-users (i.e. consum- tion architecture for FIs. In addition, as a participant ers, investors, businesses, public administrations), and or end-user of the new regional FI the public sector the public sector authorities in the participating coun- can also play a key role in helping achieve the neces- tries. Regional integration of FIs should provide some sary volume for the expected benefits of the new ar- potential net gain to each of them to secure their buy-in rangement to be able to materialize. There is therefore to the initiative.1 a risk to the business case for integration that the pub- lic sector is insufficiently supportive. According to ac- • The existence of appropriate regional infrastructure and tual experiences, in general the relevant public sector institutions that will facilitate the development of the re- authorities will be more supportive when the regional gional markets and services, so as to improve the pos- FI integration project, even if market-led, is situated as sibility that the net benefits from regional FI integration part of a broader program for regional economic and will be realized as expected. financial integration and development. 1 In practice, the net gain of regional FI integration will not be equally disbursed to all stakeholder groups, nor may it be realized as quickly, nor as 4.2.2. Costs and Funding directly, by some stakeholder groups as for others. 151. Most attention is paid to the costs and benefits of regional integration of FIs since it is these factors that will largely determine the long-term viability of 152. There are two general types of costs beyond on- the project. A key problem is that the costs of any re- going operational costs that are borne directly or in- gional FI integration project will tend to be unevenly directly by participants and other stakeholders: (i) spread. This may become a barrier for project devel- development and set-up costs, which in general terms opment and also for the operation of the regional ar- include project planning costs, legal costs, software rangement as a going concern unless the national FIs and hardware costs (including deployment and test- involved (and/or the resulting regional FI) find a way ing), and other vendor costs for business solutions and of serving their market fairly, balancing the interests of technologies; and (ii) migration, marketing and train- all different types of stakeholders. ing costs resulting from the need to switch operations, clients and internal costs from the existing arrange- ment to the new regional FI. 89 For example, the required critical data for valuation is often unavailable. Imperfectly representative proxy data or indicator data will most likely be used instead, adding measurement error to the valuation process. Section IV: Lessons Learned 42 REGIONAL INTEGRATION GUIDELINES 153. The development and set-up costs of regional in- efits of switching are not self-evident or certain to all tegration of FIs raise the issue of funding, considering stakeholder groups.95 Due to this slow migration, the that these costs are borne over the up-front planning expected cost-savings for participants and end-users and implementation stages of the initiative. The costs and/or any additional revenues will also emerge only and also the funding schemes will vary according to slowly. This is a common feature of most innovation the pre-existing core infrastructure, the architecture of and particularly evident for those involving network the regionally integrated FI and the level of services the infrastructures that require minimum participation latter is intended to provide.90 For example, public sec- and volume thresholds. tor authorities such as central banks will need to decide whether the initial cost of establishing core infrastruc- 155. The migration of transactions to the new region- ture (e.g. a regional payment settlement system) is to ally integrated FI system will require active manage- be covered initially out of public funds, and, based on ment, including some marketing effort and incurring some agreed cost-recovery policy, recovered through some extra costs over the transition period to counter- access and transaction fees.91 Private stakeholders will balance the switching costs from the legacy arrange- likely only be willing to absorb the development and ments. The marketing should aim to build demand for set-up costs of market-led payment, securities and the regional FI services from end-users and therefore derivatives initiatives, if there is the expectation that their financial institutions. Extra costs include pre- those costs will be recovered through a combination of sentations at stakeholder meetings, training for all costs savings and user fees.92 relevant business stakeholders on the supply and buy side, literature on the services and benefits to particu- 154. With regard to migration, marketing and training lar stakeholders, and websites with organizational, ser- costs, participation and use of the new regional FI does vice, membership, sponsor and regulatory accredita- not typically evolve quickly since it involves switch- tion information. In some cases where central banks ing costs from the pre-existing arrangements.93 94 This are directly involved in the regional FI, temporary sub- consideration is even more important if the net ben- sidies have been used as a tool to diffuse the switching cost of early participants in the arrangement and to 90 The broader and deeper the degree of integration, the greater are the likely build the threshold volume necessary to achieve lower development and set-up costs since this will require establishing new schemes cost-recovery participation and user costs. and systems to supplement or replace the existing ones at the national level. Thus, a fully centralized regional FI is often perceived to cost more from this specific perspective. 4.2.3 Inadequate or Diminishing Commitment of 91 Some of the cost may be funded through loans provided through the partici- Key Stakeholder Groups pating countries investment in the regional program or, in some cases, through international development agencies such as the World Bank. 92 Some of the set-up costs will actually be “internalized”, however. For example, 156. Commitment to a regional integration project is entities participating in the regional FI will need to adjust their back-office pro- likely if key individual stakeholder groups are persuad- cedures and systems and possibly incorporate new technologies. Public sector authorities will need to invest time and effort in establishing the required legal and ed that the project will generate some net benefit for regulatory framework for regional FI integration and for any necessary reforms in them within a reasonable time frame. They signal their their own national frameworks. 93 These costs are already embedded in the operating and back-office proce- dures and systems of the various FI participants and even many end-users. This is true even for infrastructure arrangements that can bring a new level of efficient 95 Innovations involving new infrastructure arrangements are not the same and secure service to its users, as was the case with CLS Bank, for example. as bringing forward new services to participants in an existing FI. In the latter 94 It should also be considered that at least some potential participants might case, the innovation is frequently demand-driven and developed within existing prefer to continue using the legacy system/mechanisms rather than upgrade their schemes and systems so that there is an immediate volume of use and pay-back technological infrastructures and interfaces to the new regional FI. periods are shorter. REGIONAL INTEGRATION GUIDELINES 43 commitment with an agreement to provide time, ef- 160. Transparency throughout project planning and its fort and also, in some cases, funding to move the proj- initial deployment and ongoing stages of development ect forward. However, not all stakeholder groups may also helps in ensuring continuing buy-in and commit- commit at the same time, nor may their commitment ment. For example, in the FI consolidation process in for each stage of the project be the same.96 Europe the various private and public sector regional integration planning and regulatory groups (e.g. the 157. Stakeholder commitment to any project is difficult EPC, ECB, the European Commission and some na- to observe and to measure externally and objectively tional agencies) ensured that project planning and at a group level. Moreover, it tends to vary at both an implementation principles and progress reports were individual and group level as the project unfolds. As widely available to the interested parties for comment earlier discussed, some risks to stakeholder commit- and in their final form. The transparency effort per se ment have their roots in a business case that is deemed contributed to continued commitment by the vari- weak (ex-ante) or proven faulty (ex-post), and in rising ous stakeholder groups, but also because the feedback development and/or ongoing operating costs due to from a very broad set of interested parties led to im- inadequate project planning and change management. provements in the framework for the various regional Other risks worth noting are: development “fatigue”, FI integration projects that helped ensure a wider dis- “project creep”, and non-transparency. persion of net benefits. 158. Development fatigue is most apparent when broader regional structural and policy reforms have 4.3 RISKS IN REGIONAL FINANCIAL already been proceeding at so rapid a pace that the INTEGRATION outcomes of these changes are still uncertain. Hence, further reforms such as the regional integration of FIs, 161. For the purposes of this report, risks of regional even if a logical extension in the sequence of reforms, FI integration refer to the risks derived from the opera- can be challenged by over-extended and dwindling re- tion of a regionally integrated FI as a going concern. sources, or an uncertain environment. Networks, such as FIs, inter-link the individual partici- pants to provide the services demanded so that their 159. “Project creep” occurs when the scale and the individual well-being depends in large part on the per- complexity of the FI integration program expands formance of other participants in the network arrange- throughout the project planning stage, usually as a ment. This leads to network risks – that is, risks that result of over-estimation of marginal net benefits of arise from the non-performance of other participants add-ons and in general poor planning and vision.97 and from the design of network schemes and operat- The project becomes too big and complex to persuade ing solutions that may be incompatible with market key stakeholders of the potential benefits for them and conventions or with institutional, legal and/or regula- others, given the lengthier (and more uncertain) pay- tory requirements. back periods and expanded costs. 162. A regional FI will naturally be exposed to cross- 96 Commitment will also be required beyond the planning and set-up stages to border and cross-FI extensions of the standard FI net- ensure that the new regional FI arrangement will grow and develop as hoped, for work risks, i.e. legal risks, credit and liquidity risks, example by actively promoting its use and the future development of value-added services, technical upgrades and organizational and procedural enhancements. and operational risks, which can be finely graded into 97 In some cases the fear of waning future stakeholder commitment is a reason numerous specific risks that generally share a legal, fi- behind the growing complexity and scale of the project. Section IV: Lessons Learned 44 REGIONAL INTEGRATION GUIDELINES nancial or operational foundation.98 Moreover, just like be based on a bilaterally approved framework, which national FIs that are interconnected horizontally or is different from that applied to a normal participant. vertically with other national FIs, regional FIs will like- In other cases, the requirements that govern participa- ly be interdependent with other domestic, regional or tion in the (interconnected) local FIs may vary across even global FIs.99 In general, the specific risks that may countries, which may amplify any credit risks that ex- arise because of, or that might be mitigated through, ist in the regional arrangement if entities with weak the new regional FI will depend on its business, proce- risk management practices and/or a poor financial dural and operational schemes and systems, and of the standing are allowed as direct participants in the latter regional political, legal and regulatory environment in arrangement. which they operate. 165. Liquidity risk can also take a new dimension. 163. In any regional arrangement, some of the risks For example, a central bank-operated intraday liquid- mentioned earlier may take on new dimensions be- ity facility for the regional arrangement might not be cause of the cross-border nature of the transactions be- available if none of the central banks of the countries ing processed under the arrangement, which tends to involved is the issuer of the currency used for settle- add complexity. For example, where FIs are regionally ments. Or, if settlement in central bank money is not integrated horizontally or vertically on a functional possible, a comparable facility may not be available basis with legal acquiescence, they will still be exposed from the private settlement agent. Managing liquidity to cross-border and cross-FI events involving legal and risks may also be especially challenging in arrange- regulatory regimes that may be quite different from ments involving settlement in multiple currencies. that of the jurisdiction in which each of them are in- corporated.100 Unknown inconsistencies among legal and regulatory requirements across countries, or even where differences in legal regimes may be known but the implication of this for unforeseen events are not clear before the event, generally involves some greater legal and regulatory risk. 164. Credit risk and liquidity risks can also be more complex in a regional FI arrangement. For example, regionally interlinked CCPs may face credit exposures vis-à-vis each other if as part of the (peer-to-peer) ar- rangement they each net the trades cleared between their participants so as to create novated positions be- tween the CCPs. Risk management in this case would 98 For example, in securities markets, custody risks and securities transfer risks are typical operational risks associated with poor account and risk management schemes and systems. 99 CPSS, The interdependencies of payment and settlement systems, Basel, 2008; and, OECD, Systemic Risks in Securities Markets, Paris, 1991. 100 This is could even be the case for a single regional FI that operates across several sovereign countries. THE GUIDELINES FOR SUCCESSFUL REGIONAL INTEGRATION OF FINANCIAL INFRASTRUCTURES 166. The guidelines for successful regional FI integra- Guideline 2: Locate the vision within the national policies tion that are presented below codify the lessons learned of the participating countries to crystallize and attract an from many experiences of regional, cross-regional and initially acceptable and potentially growing level of politi- global integration of financial infrastructures through- cal support for regional FI integration. out the world. Guideline 3: Co-opt, or if necessary set up, regional fora 167. The guidelines can be regarded as essential meth- for key stakeholders appropriate to the scope and needs odological rules or approaches based on a collection of the FI integration vision to help identify the public and of practical solutions that have been adopted to face private sector roles and responsibilities and facilitate the and overcome the various challenges and other prob- necessary communication, cooperation and coordination lems associated with a regional FI integration project. among and within the stakeholder groups. This report focuses on this type of “process” guidelines to facilitate a best practice approach toward dealing Guideline 4: Establish the necessary leadership from with the myriad of specific business, technical, and within the representatives of the public and private sec- design and/or implementation issues that will need to tors stakeholder groups that will actively commit to the be resolved for efficient, safe and reliable regional FI regional FI integration program and will help secure the integration. financial and human resources needed for the initiative. 168. The purpose of this first set of guidelines is to out- 5.1 ENABLING AND INSTITUTIONAL line the institutional arrangements that are necessary GUIDELINES to enable a regional FI integration proposal to move forward in an effective fashion from its preliminary vi- Guideline 1: Define and promulgate a clear vision and sion to an actual operating regional arrangement. general proposal as to the purpose, scope, form and need for regional FI integration that encompass a ratio- 169. The feasibility of any regional FI integration proj- nale for participation by all key stakeholders. The vision ect is clearly dependent on a macro-economic and po- and proposal are open, flexible and living concepts at the litical environment that lends itself to, or even provides initial stage. specific opportunities, for such integration. For exam- ple, there needs to be a strong economic and financial 45 46 REGIONAL INTEGRATION GUIDELINES interaction among the countries within the region, suf- 173. It is desirable that countries (and/or national FIs) ficient in magnitude and scope to provide a rationale that express an interest in pursuing regional FI integra- for regional FI integration. For the most part, condi- tion formally approve the vision-proposal document. tions like these will need to be met prior to the start of However, firm commitments to participation in the a specific regional FI integration initiative. various stages of the project and resulting FI arrange- ments do not necessarily need to be required at this 170. Regional FI integration typically needs to be a point. component or be done in the context of a broader re- gional integration program for growth and develop- 174. National (and/or regional, if applicable) public ment that has clear political support from major par- sector authorities indicating their support to the re- ticipating countries in the region, even if some or most gional FI project should be legally empowered and of the principal elements of the FI integration initia- have the resources to establish the necessary legal, tive are largely directed by private sector stakeholders. policy and regulatory requirements for regional FI Countries within the region that do not support this integration. kind of programs are not usually strong candidates for inclusion in the regional FI integration initiative. 175. Endorsing and effecting a cooperative approach toward planning, designing, developing and operating 171. Regional FI integration requires a clear vision and the regional FI arrangement is a crucial step. Effecting a robust rationale for the initiative. A general proposal such an approach typically involves the creation of rep- should be prepared in this regard, preferably under the resentative key stakeholder groups with well-defined sponsorship of a regional public-sector policy forum and organized consultative and cooperative mecha- and in collaboration with key regional bodies such as nisms and processes. A key objective of these struc- regional banking and/or securities market associa- tures is to promote and facilitate effective communica- tions. The proposal should: i) outline a clear “vision” tion throughout the various stages of the project. (e.g., purpose, objectives) for regional FI integration, including specifying the scope of the integration ef- 176. One organizational arrangement that has proven fort; ii) provide a high-level overview of the existing effective consists of a senior steering committee for and projected intra-regional economic and financial regional FI integration led by either national (and/ sector environment in support of the FI integration or regional, if applicable) public sector authorities or initiative; and, iii) include a preliminary and high-level private sector participants, depending on the nature of (qualitative) benefit-cost analysis of the initiative for the project. However, both the public and private sec- the region and for the individual countries and specific tors need to be adequately represented at this senior stakeholder groups. level. In some cases, the steering committee may need to report to a high-level political forum intended for 172. This document serves essentially as a “request for sponsoring the approval of any agreements and proto- information” (RFI) for countries and key stakeholders cols that will involve legal and regulatory changes and within the region and is not meant to be in itself an that will draw on public sector resources.101 elaborated project plan or project development docu- ment. Instead, once finalized it should be able to pro- vide a high-level framework for the subsequent plan- ning and development documents. 101 ASEAN, the Central American Monetary Council and the EU Council of Finance Ministers are examples of this high-level political forum. REGIONAL INTEGRATION GUIDELINES 47 177. While all public and private sector stakeholder Guideline 8: Set a clear plan to address all pending gaps groups should have some ownership in the regional FI in a reasonable timeframe to minimize barriers for inte- arrangement, each of these groups needs to establish a gration. Propose mechanisms and realistic schedules leadership team for the various aspects of development for any required changes by participating countries. The and on-going operations of the project. Moreover, rollout strategy might nevertheless need to be flexible to each team needs a specific leader that is committed allow sufficient time for some entities intending to join to to the success of the project and has sufficient influ- meet the participation requirements. ence within the general stakeholder group to establish formal commitments, including securing the required Guideline 9: Develop a strong business case that consid- financial and human resources. ers not only the information from the stock-taking exer- cise and subsequent analyses, but also the benefits and costs of various types of schemes, systems and struc- 5.2 PLANNING GUIDELINES tural models for FI integration as well as potential future developments and opportunities of integration. Deciding Guideline 5: Devise specific governance and planning who will finance the costs of the initiative is a key part of frameworks, including creating and empowering an ef- establishing the business case. fective project team to lead the planning, design and implementation stages. 178. The planning guidelines refer to the structured and systematic work that is necessary for determining Guideline 6: Conduct a comprehensive stock-taking of if regional FI integration is necessary and justifiable the economic and financial profile, institutional environ- for the stakeholders at that particular time. This is the ment, overall financial structure and the FIs of the coun- “make or break” stage at which regional FI integration tries interested in participating in the regional integra- initiatives either move forward or are postponed. tion initiative. A review of previous initiatives elsewhere should be conducted before or as part of this exercise to 179. The governance and planning framework for the understand what has worked and what not and why, and project should underpin the cooperative and consul- form a view of what might be appropriate locally. tative arrangements and processes that were already established for the preliminary and exploratory dis- Guideline 7: Identify the gaps and key divergences in ex- cussions and consultations. It is crucial that all rel- isting national, and if applicable regional, arrangements evant stakeholder groups remain involved as needed and assess the strengths, weaknesses, opportunities and throughout the project life cycle. threats (i.e. a SWOT analysis) with respect to effective, efficient and safe regional FI integration. Pay close at- 180. The steering committee envisioned as part of the tention to the legal, regulatory and other relevant public planning and institutional guidelines is essentially a policy characteristics of the participating countries (and/ senior planning committee focusing on the strategic or the stakeholders involved) to assess their compatibil- issues surrounding the regional FI integration proj- ity and the alignment of national regulatory frameworks ect, and vested with decision-making authority at the with international legal and technical standards and best highest level in connection with the project. As noted, practices. the steering committee should include project deci- sion-makers from the private and public sectors, such as senior representatives from key FI operators, mar- Section V. The Guidelines for Successful Regional Integration of Financial Infrastructures 48 REGIONAL INTEGRATION GUIDELINES FIGURE 5: A GOVERNANCE AND PLANNING FRAMEWORK FOR REGIONAL FI INTEGRATION Source: Own elaboration. Note: the dotted lines represent a reporting line. ket players, and end-users, as well as from the relevant ect must be created at an early stage. This will ensure FI oversight, regulatory and supervisory authorities, better coordination of and professional support to the among others. various stakeholder groups from the very beginning, and also that the management team members are ad- 181. Moreover, the steering committee will need to rely equately informed from project inception. on groups of domestic experts also from the private and public sectors to help inform the policy discussion, 183. Once it has been agreed to move forward with shape the decisions and, design the regional architec- project design and implementation, the project man- ture for FI integration. In addition, a controlling func- agement team will take on an increasing leadership tion that reports directly to the steering committee on role. In this regard, it is of utmost importance that the key factors as the project evolves (e.g. delays, budget management team be effectively empowered to make overruns, overall performance of management) may and implement decisions to move the project forward further contribute to effective progress, especially dur- until it becomes fully operational. ing the implementation and rollout stages. 184. The overall governance and management arrange- 182. A robust project management team for the day- ments discussed so far are summarized graphically in to-day administration of the regional integration proj- Figure 5. This specific framework is commonly used in REGIONAL INTEGRATION GUIDELINES 49 the planning and development of public-sector driven 187. A gap analysis or a SWOT analysis is highly rec- regional FI initiatives. Private-sector initiatives are ommended as a follow-up to the stock-taking exer- generally less formalized, though still follow a similar cise.104 In the gap analysis, the major differences in the structure. key aspects of the national FI organizational struc- tures, schemes and systems and the general financial 185. A stock-taking exercise is a critical first-stage doc- sector organizational, legal and regulatory frameworks ument that provides a comprehensive picture of the are identified and described in detail. Then, the relative relevant environment.102 It is the basic document from strengths, weaknesses, opportunities and threats (i.e. which most of the preliminary analysis on the type of SWOT) for successful regional FI integration need to FI integration model, legal and regulatory harmoniza- be assessed. Comparators or benchmarks for the gap tion requirements, technical standards and participa- and/or SWOT exercises should be developed consid- tion requirements, among other things, is drawn.103 ering not only the regional reality, but also taking into The document is typically prepared by the project team account relevant international standards such as the in cooperation with national working groups involv- CPSS-IOSCO Principles for FMIs, applicable techni- ing central banks and FI operators in the participating cal standards, and best practices derived from other countries. regional FI integration experiences. 186. To increase its usefulness, the stock-taking should 188. This detailed understanding of the critical gaps be wide in terms of scope and at the same time suf- should clearly highlight the necessary changes that na- ficiently detailed. It should cover national FI arrange- tional public sector authorities, national FIs, their di- ments, the key payment and financial instruments rect participants and key end-users and the operators used, the types of financial institutions and other in- of the new scheme will need to undertake in order to stitutions that participate in the national FIs and the ensure successful regional FI integration. The project service providers for those FIs, the relevant financial steering committee and management team should de- sector legislation and regulations, and the relevant velop a plan for all such gaps to be addressed effective- private sector industry associations and public sector ly, and ensure that this plan be supported and adopted regulatory and oversight bodies. At the same time it by the various stakeholder groups.105 should have a strong focus on the organization, opera- tions and technical capabilities of national FIs (espe- 189. Many of the required changes will involve changes cially those directly affected by integration); the orga- in laws and regulations, which should be harmonized nization, market structure and market practices and to the level of the best practice available at least region- conventions in key financial markets that will benefit ally and preferably internationally. Harmonization from regional FI integration; and the fundamental le- does not require that all the relevant laws and regula- gal and regulatory environment in which they operate. tions be identical in all aspects and in all the participat- It should also cover in detail the lessons and best prac- ing countries, but that they meet the minimum stan- tices from regional FI integration initiatives elsewhere. dards to avoid being barriers and to minimize legal risks in the FI integration arrangement. 102 Before starting with the actual stocktaking of local capabilities, however, it might be advisable to start with a review of previous initiatives elsewhere and understand the lessons from those undertakings. 104 “SWOT” is an acronym that stands for strengths, weaknesses, opportunities 103 Publication of the stock-taking reports upon their completion also provides and threats. useful background documents for more broadly-based consultations at the re- 105 A realistic timeframe is often a condition to obtain support from some of gional level. the key stakeholder groups. Section V. The Guidelines for Successful Regional Integration of Financial Infrastructures 50 REGIONAL INTEGRATION GUIDELINES 190. Often the creation of an entirely new law and set 193. As earlier noted, scenario analysis is neither a de- of regulations that countries in the region can adopt in finitive nor accurate measure of the actual volumes, a form that readily integrates into the existing legal and benefits or costs. But, as long as the basic evaluation regulatory framework is the only feasible approach to framework and analytical approach is maintained for effective harmonization. In some specific cases, creat- the various scenario evaluations across all model op- ing and adopting a regional treaty has been a faster and tions under consideration, it provides a useful rela- more effective solution as it avoids the need to make tive ranking of net benefits for the integration models. adaptations to national “legacy” legislation. However, Even the thought-process of developing these scenario procedurally and sometimes politically, new laws and evaluation models is useful in focusing attention of the regulations are difficult to enact quickly and typically key costs and benefits. All of this is critical business require a phase-in period for the participating coun- case information. tries. In some cases, ensuring “national treatment” (i.e. non-discrimination between foreign and domestic in- 194. Through completion of the business case analy- vestors, borrowers, financial institutions and FIs under sis, the project’s planning and governance framework domestic laws) will be a more easily achievable goal. should be able to visualize more definitively the type of FI integration model that might best suit the regional 191. It is acceptable, and in some cases it might even be initiative. the best solution available, that an integration project be undertaken in a phased approach rather than an “all at once” approach. This implies that countries that are 5.3 DESIGN GUIDELINES ready for integration can proceed while others can in- tegrate when required criteria are met. This could have Guideline 10: Devise a broadly acceptable feasible model the benefit of a less complicated initial implementa- for FI integration, based on consultations and discussions tion, including maintaining the design and operating among all stakeholders around the stock-taking and busi- integrity of the regional FI model, and an opportunity ness case analyses. for the anticipated benefits to be demonstrated at an early stage. Guideline 11: Outline the selected integration model as comprehensively as possible with due regard to the re- 192. The planning stage usually concludes with the de- sults of the studies and analyses performed during the velopment of a detailed business case analysis to assess planning stage. This should include the structural archi- the viability of the regional FI integration project at the tecture, operating schemes, regulatory and normative as- most realistic level possible. In essence, the business pects, and technical design and operating systems. case analysis is a construction of scenarios of expected quantified future use, cost-savings and net benefit allo- Guideline 12: Specify the business framework for the cation over one or more future intervals (e.g., 1, 3 and new regional FI arrangement, including its organization, 5 years). The stock-taking exercise and the gap and/or management and governance, business management SWOT analyses will provide many of the key inputs for functions, operational scope and core business func- this purpose, like the model(s) deemed most feasible tions, business practices and controls, rules and proce- for regional FI integration on which the scenarios ear- dures, and technical conditions and standards, among lier described will be based. the main features. REGIONAL INTEGRATION GUIDELINES 51 Guideline 13: Establish effective cooperative public erability with other FIs and the role and functions of governance, regulatory and oversight mechanisms in key service providers; ii) the operating schemes (rules, line with Responsibility E of the CPSS-IOSCO Principles protocols, procedures and technical standards) based for FMIs to allow effective monitoring of the proposed on international standards and best practices; iii) the regional FI arrangement. technical design and operating systems based on in- ternationally accepted operational and technical stan- 195. The regional FI integration model refers primarily dards such as ISO (identifier and message standards), to the schemes and systems and the organizational ar- EMV (for payment cards), FpMl (for derivatives), FIX chitecture of the integration arrangement (i.e., decen- (for securities);106 iv) any additional legal and/or regu- tralized hub-spoke network, centralized regional FI, latory developments that are needed; and, v) how the etc.). Final model selection should be based on a meth- model might facilitate transaction uptake once the odology that is well-defined and transparent. Usually, new arrangement is launched. criteria drawing on elements of the vision-proposal document for regional FI integration, the stock-taking 198. Once there is a final agreement to move forward exercise, gap and SWOT analyses, the business case with the project and the integration model has been analysis and also project development constraints and selected, a well-defined and documented business timelines will need to be combined for model selection framework for the entity or organization that will op- purposes. Moreover, since it is possible that more than erate the regional FI arrangement should be created one of the feasible integration models meet in some based on international best practices and principles form the stated requirements and standards, there and with due approval from FI overseers (see below), also needs to be an agreed-upon priority ranking on and then be published. Depending on the model ad- the selection criteria that are perceived as most closely opted, some of the functions and requirements might aligned with maximizing the net benefits and mitigat- be the responsibility of the national FIs linked into the ing the risks of regional FI integration. integration model rather than of the entity operating the centralized operational facility, if any. The most rel- 196. It should be noted that, in most cases, achieving evant elements of the business framework are depicted unanimity with respect to the best integration model in Box 7. will not be possible. Indeed, selection of an integration model will usually need to be based on acceptance by a 199. A cooperative oversight body or mechanism for plurality of stakeholders. the regional FI arrangement(s) will need to be es- tablished with senior representatives from the na- 197. Achieving the necessary buy-in for an integration tional FI oversight, supervisory and/or regulatory model can also be impaired when the model is too nar- authorities that are relevant to the type of FIs in the rowly described in terms of detailed technical aspects arrangement(s).107 The body should be developed or other specific operating features. Making efforts to along the lines of Responsibility E of the CPSS-IOSCO agree on all such particular features may conceal from decision-makers’ sight the project’s broader and long- lasting benefits. Hence, it is highly beneficial that the integration model is outlined as comprehensively as 106 See Annex 7 for a more complete list of relevant technical standards. possible, including among other broad elements: i) the 107 Other relevant authorities may also include competition authorities and pos- structural architecture, including linkages and interop- sibly also any other authorities that are responsible for the resolution of financial institutions. Section V. The Guidelines for Successful Regional Integration of Financial Infrastructures 52 REGIONAL INTEGRATION GUIDELINES Principles for FMIs,108 and should be given a mandate BOX 7: KEY ELEMENTS OF THE BUSINESS to monitor and evaluate the regional FI arrangement FRAMEWORKFOR THE NEW REGIONAL to ensure it operates safely and efficiently, and if neces- sary to propose or even undertake regulatory action.109 FI ARRANGEMENT • The organizational and the enterprise governance and 200. Nevertheless, local regulatory authorities should management structure of the regional FI arrangement be able to keep exerting regulatory, supervisory and with particular reference to any new centralized op- oversight control over certain aspects of the regional erational facilities, its ownership arrangements and its FI arrangement that affect their jurisdictions, if so de- financial return objectives (e.g. non-profit full or partial sired.110 For example, two public aims typical of secu- cost-recovery vs. for-profit). rities regulators’ actions are the prevention of market abuse and investor protection. Aspects like these may • The business management functions including for ex- not fall under the purview of a cooperative oversight ample service agreements with direct participants and group or mechanism intended to focus on the overall service providers, financing (capital, budgeting, user fee safety and efficiency of the regional FI arrangement. schemes), and auditing and reporting procedures. Hence, as part of the framework document that out- lines its overall mandate, powers and functions, the co- • The core business functions and operations of the new FI arrangement with descriptions of the roles and func- operative oversight group should describe the division tions of the various components such as the role of of responsibilities and the forms of interaction with national FIs (if any), key third-party service providers national oversight and regulatory authorities. and any links with other types of FIs (e.g. for the final settlement of funds). 5.4 IMPLEMENTATION GUIDELINES • Business practices, including eligible participants, transactions and instruments, the risk management Guideline 14: Establish proper project management pro- framework and specific programs, and dispute and cedures and processes under the supervision of a des- resolution mechanisms, among others. ignated project manager, who needs to be supported by sufficient and scalable human and financial resources. • The underlying operational rules and requirements, and Include an effective and strictly enforced project control procedural manuals. function that interacts closely with project governance • Technical standards for core operations and for partici- and oversees on progress and issues of the regional FI pant connectivity, including operational design, hard- integration program. ware/software requirements. 108 Other relevant documents on cooperative oversight include CPSS, “Cen- tral bank oversight of payment and settlement systems”, Basel, 2005, and IOSCO, “Objectives and principles of securities regulation”, 2008. 109 The latter will depend on the division of responsibilities between the appro- priate national oversight/regulatory authorities and the regional oversight group. For example, for cross-border transactions national authorities might delegate some of their oversight functions over national FIs or FI participants to the regional body. 110 In this regard, key consideration 10 of Responsibility E of the CPSS-IOSCO Principles for FMIs states that “Cooperative arrangements between authorities in no way prejudice the statutory or legal or other powers of each participating authority, nor do these arrangements constrain in any way an authority’s powers to fulfil its statutory or legislative mandate or its discretion to act in accordance with those powers”. REGIONAL INTEGRATION GUIDELINES 53 Guideline 15: Set up an effective communication func- a broad scope, though still with a certain level of detail. tion to inform all relevant stakeholders properly and the More detailed technical annexes may be produced and general public throughout the implementation process of attached to the main reports. the project. The regional FI integration plan and its pro- posed business practices, organization, and operations 204. Progress reports should also be made available should be comprehensively documented and made pub- to broader audiences, though probably in a simplified lic to create awareness on the new arrangement and its format. This will serve a crucial purpose, which is cre- benefits, and build support for using it. ating awareness of the new regional FI arrangement and the benefits of using it. Indeed, building demand 201. Effective leadership is crucial to ensure all the po- and participation from the early stages is a key part of tential risks that the project will face in the implemen- the project development and implementation process. tation stage will be adequately managed and mitigated. Adequate financial and human resources should be al- Risks include managing changes to the FI integration located for this type of marketing efforts. model originally accepted, delays, some budget over- runs and faltering commitment of some individual participants. Other potential risks are “development 5.5 SUSTAINABILITY GUIDELINES fatigue” and “project creep”.111 Guideline 16: Regularize the consultative arrangements 202. The Project Management Team is directly respon- among key public and private sector stakeholders to en- sible for the development, construction, implemen- sure that the evolution of the regional FI arrangement in tation and final rollout of the new arrangement. It is terms of new business functions, services, and operating also responsible for enforcing project time-schedules procedures is broadly responsive to, beneficial for, and and budgets approved by the steering committee, for accepted by stakeholders. consultation activities with key stakeholders and for the documentation of the integration model. In order Guideline 17: Regularize regulatory and oversight ar- for this team to be able to perform all these duties ef- rangements of public sector authorities to ensure ongo- fectively, it will need: i) sufficient expertise and overall ing compliance of the regional FI arrangement with the project management experience; ii) adequate empow- legal and regulatory requirements and any other relevant erment; iii) adequate financial and human resources; policy standards that apply to it. and, iv) open and effective communication with proj- ect governance and with oversight, regulatory and su- Guideline 18: Maintain sound and committed organiza- pervisory authorities. tional governance and senior managerial leadership for the regional FI arrangement and ensure that staff dedi- 203. Transparency throughout project deployment (e.g. cated to the regional FI organization are well-informed progress reports) also helps in ensuring continuing and well-trained in the goals, functions and operations of buy-in and commitment from all relevant stakehold- the regional FI arrangements. ers, and might also lead to improvements throughout implementation if a proper feedback mechanism is de- Guideline 19: Institute a regular program of self-evalua- veloped for this purpose. Progress reports should have tion and reporting on the regional FI arrangement’s orga- nizational structure, business functions and performance. 111 Refer to section 4.2.3 for details on these potential risks. Section V. The Guidelines for Successful Regional Integration of Financial Infrastructures 54 REGIONAL INTEGRATION GUIDELINES 205. The sustainability guidelines aim at establishing a 209. Business management of the new regional FI ar- strategic direction and a sound business culture for the rangement should aim at ensuring that the latter will regional FI arrangement that, together with the ongo- remain efficient, safe and relevant for its participants ing oversight form public sector authorities, will help and the relevant cross-border markets as a whole. For ensure that the new regional FI will continue to evolve this purpose, the governance and senior management and develop to meet future stakeholder needs, satisfy structure of the entity (or other arrangement) respon- any new legal and regulatory requirements affecting its sible for the operation of the regional FI needs to be operations and remain sustainable and relevant over robust and be strengthened continuously. The Steering the years. Committee will likely need to evolve into a board or similar arrangement reflecting the nature of the new FI 206. The consultative arrangements that were created as a going concern. Under its direction, management for the project planning, design and implementation should continuously ensure that the regional FI’s ac- stages should not be intended to disappear once the tivities are consistent with its objectives, strategy and regional FI arrangement has been rolled out. On the risk tolerance. contrary, maintaining such arrangements – though probably with some changes in mandate and form 210. In this last regard, the board (or similar) should to account for the new situation of the initiative as a ensure that the organization provides the right incen- going concern – is crucial for achieving continuous tives to attract qualified senior and mid-level profes- buy-in and commitment that will accelerate the initial sionals that will act diligently and on the best interests migration of transactions and promote future volume of the regional FI arrangement. growth. 211. The board and management should also ensure 207. Likewise, public sector authorities´ cooperative that all staff are adequately trained and understand the regulatory and oversight arrangements that were de- goals, functions and operations of the regional FI ar- vised and established in the design phase are clearly rangement and can apply that knowledge in practice in meant to operate on an ongoing basis once the regional a variety of circumstances. FI becomes operational. To ensure the effectiveness and transparency of the oversight arrangement, the 212. Moreover, the board should institute a regular regulatory standards and the detailed oversight poli- program of periodical self-evaluation and reporting cies and procedures that will be applied to the new re- on the regional FI’s organizational structure, its strat- gional FI should be developed and published. egy business functions and performance according to the stated objectives and vis-à-vis the needs of the FI’s 208. A reasonably detailed information communica- members/participants and other relevant stakeholders. tion program for broader audiences should also be Together with actions from overseers, this will help en- maintained after implementation. The program should sure that the FI is managed effectively and efficiently inform those audiences not only on achievements and and that necessary changes are addressed in a timely milestones, but also on future plans and developments manner. Such self-evaluation reports should be avail- intended to better meet the needs of participants and able and accessible to all interested parties. other market players and end-users. REGIONAL INTEGRATION GUIDELINES 55 ANNEX 1: MEMBERS OF THE G25 PANEL OF EXPERTS MEMBER INSTITUTION TITLE Gertrude Tumpel-Gugerell (Chair) European Central Bank (former) Former Member of the Executive Board Ali Alhomidan Saudi Arabia Monetary Agency Director, Payment System Oversight Department Chief Payment Systems and Banking Operations Joaquin Bernal Banco de la República, Colombia Officer Depository Trust & Clearing Corp and Americas’ Former Managing Director, DTCC, and former Mary Ann Callahan Central Securities Depositories Association (former) President, ACSDA Massimo Cirasino The World Bank Head of Payment Systems Development Group Rob Close CLS Bank International (former) CEO (retired) Director, Department of Banking Operations and Daso Coimbra Banco Central do Brasil Payments System Arthur Cousins SADC Banking Association Payments Project Coordinator Mario Guadamillas The World Bank Manager, Financial Systems Service Line CLS Bank International ISO 20022 Chairman Gerard Hartsink RegistrationManagement Group Convenor Daniel Heller Swiss National Bank Director, International Monetary Cooperation Fabiola Herrera Central Bank of the Dominican Republic Director, Payment Systems Department Marc Hollanders Bank for International Settlements Special Adviser on Financial Infrastructure Bwaki Kwassi BCEAO Payment System Director Esmond Lee Hong Kong Monetary Authority Executive Director Committee on Payment and Settlement Systems, Klaus Löber Head of CPSS Secretariat Bank for International Settlements Former Head of National Payment Systems Dave Mitchell Reserve Bank of South Africa (former) Department Harry Newman SWIFT Head of Market Initiatives, EMEA Sean O’Connor Bank of Canada (former) Research Adviser and CPSS member (retired) Franco Passacantando Bank of Italy Managing Director Director General, Payment Systems and Market Daniela Russo European Central Bank Infrastructure John Bosco Sebabi National Bank of Rwanda (former) Director General Operations Lawrence Sweet Federal Reserve Bank of New York Senior Vice President John Trundle Euroclear UK & Ireland CEO Froukelien Wendt International Monetary Fund Senior Financial Sector Expert SECRETARIAT Jose Antonio Garcia The World Bank Leader of Secretariat Marco Nicoli The World Bank Member of Secretariat Ceu Pereira The World Bank Member of Secretariat Annex 1 56 REGIONAL INTEGRATION GUIDELINES ANNEX 2: CROSS-BORDER INTEGRATION EXPERIENCES OF FINANCIAL INFRASTRUCTURES FOR PAYMENTS This annex presents a more detailed description of some of the FI integration experiences mentioned or referenced in the main report, as well as several other projects and initiatives. This annex, however, is not an exhaustive list of such cross-border FI integration projects and initiatives.112 A. PAYMENT SETTLEMENT INFRASTRUCTURES AND MECHANISMS ALADI Reciprocal Payments and Credits Agreement The Reciprocal Payments and Credits Agreement of ALADI was created in August 1982, although its origin can be traced back to 1965 in the Multilateral Netting System of Reciprocal Payments and Credits. The objective of the Agreement is to facilitate cross-border payments and trade between member countries, minimizing the use of global reserve currencies. In essence, the Agreement consists of a multilateral net payment mechanism supported by a system of reciprocal credits between the central Banks of the 12 participant countries.113 The clearinghouse is operated by the central bank of Peru. The multilateral net mechanism is executed every four months: debits recorded in the mechanism – which correspond to exports made from country A and paid to the exporter by the central bank of country A - are settled at the end of April, August and December. The Agreement is also supported by a system of guarantees: Convertibility (of the various domestic currencies into US Dollars, the latter being the sole legal tender to settle transactions in the Agreement); the Transferability of underlying US dollars through the mechanism; and, Reimbursement between the participating central banks of all transactions channeled through the Agreement. During the 1980s, nearly 90% of all intraregional trade was channeled through the ALADI Agreement. This share started falling since the early 1990s and currently it is a one-digit figure. However, the ALADI Agreement is still con- sidered relevant as it able to support the continuity of intra-regional trade in cases where one or more of the partici- pating countries face uncertain economic or political conditions, or other unanticipated upheavals. Arab Payment System The Arab Payment System will be specifically designated to clear and settle intra-regional cross-border payments among the willing participating Arab Monetary Fund member countries. The system will complement, and to a large extent utilize, the facilities already available in the national payment systems of its participating countries. This system will not, however, clear and settle purely domestic payments in any of these national systems, nor will it clear and settle cross-border payments destined to beneficiaries outside the participating countries. 112 Annex 4 also presents a comparative table highlighting the main features of some of these projects. 113 Argentina, Bolivia, Brazil, Chile, Colombia, Dominican Republic, Ecuador, Mexico, Paraguay, Peru, Uruguay and Venezuela. REGIONAL INTEGRATION GUIDELINES 57 CHATS (www.hkma.gov.hk) The Hong Kong Monetary Authority’s RTGS systems for Hong Kong dollar, U.S. dollar, Euro and Renminbi Yuan (RMB) settlement operate on a common CHATS platform that has technical links with the RTGS systems of other central banks to enable safe and efficient settlement in any of these currencies. For example, the CHATS has been linked with the Bank Negara Malaysia’s RENTAS and Bank Indonesia’s BI-RTGS to allow PvP settlement between these national currencies and the USD through the HKMA’s RTGS USD service. With respect to the link between CHATS RMB and the CNAPS RTGS system operated by the Peoples’ Bank of China, a real-time technical interface between the two systems is supplemented by a cross-participation account arrange- ment in which the commercial bank Bank of China (Hong Kong) has settlement accounts in both the CHATS RMB and CNAPS and acts as settlement agent between the two settlement schemes. CHATS USD and CHATS EUR use global commercial banks as the settlement banks for payments in these currencies. CLS Bank International (www.cls-group.com) The impetus behind the creation of CLS came from regulatory concerns regarding the potential for FX settlement risk to be a major source of systemic risk. CLS was established in 2002 as a private sector initiative to deliver and operate a service to mitigate this risk. This is achieved through CLS’ PvP service, which links to the RTGS systems of each currency CLS settles. CLS now settles payment instructions in 17 currencies:114 Australian dollar, Canadian dollar, Danish krone, euro, Hong Kong dollar, Israeli shekel, Japanese yen, Korean won, Mexican peso, New Zealand dollar, Norwegian krone, Singapore dollar, South African rand, Swedish krona, Swiss franc, British pound sterling and United States dollar. The CLS community includes the central banks of each participating currency, Settlement Members (direct partici- pants in CLS) and their third party customers (indirect participants in CLS), nostro agents and Liquidity Providers (banks that commit to providing liquidity to CLS in a CLS Eligible Currency in certain circumstances). CLS has over 60 Settlement Members from 24 jurisdictions, which in turn have customers in over 80 jurisdictions. CLS settles payment instructions relating to a variety of FX transactions, including FX spot, FX forwards, FX option exercises, and FX swaps. Settlement Members submit payment instructions relating to their own FX transactions, or they may submit payment instructions on behalf of third parties. Once received, payment instructions are authenti- cated and matched by CLS and stored until the settlement date.115 CLS holds an account at each of the central banks of the 17 currencies it settles. Settlement across the books of CLS and funding in each of the 17 currencies is final and irrevocable. CLS funding obligations (Pay-ins) are multilaterally 114 Currencies have to fulfill the eligibility criteria established by CLS 115 Although Settlement Members can submit instructions at any time prior to the settlement date, they generally submit payment instructions to CLS within 30 minutes of execution of the underlying FX transaction. Annex 2 58 REGIONAL INTEGRATION GUIDELINES netted to significantly reduce the value of required Pay-ins: each day prior to settlement in each currency, CLS cal- culates the funding required of each Settlement Member on a multilateral netted basis for each currency, after taking into consideration all payment instructions of the Settlement Member that are due to settle that day in that currency. The amount of cash required by CLS to settle all payment instructions is reduced by an average of 96%. CLS settlement service is supported by a robust and resilient infrastructure within a comprehensive and well-estab- lished legal framework. At the operational level the settlement service maximizes the benefits of STP processing and minimizes operational errors and their associated costs. Real-time information on the status of payment instructions is provided to, and therefore easily monitored by, Settlement Members. Unmatched payment instructions can be fol- lowed up promptly and corrections made as necessary before settlement. Gulf Cooperation Council Payment Systems Connections The Gulf Cooperation Council (GCC) Payment Systems Connections Strategy is a new project between all six GCC countries,116 expected to be completed by late 2015 or early 2016. At the current stage, the project will study distinct system options which will be defined on the basis of different levels of integration between national systems and on the amount of new applications/intelligence required to be built at, and/or required for implementation into, existing national systems. For example, this approach may lead to the following system models: i) one fully integrated GCC RTGS system; ii) a semi-centralized GCC RTGS system, and, iii) a fully distributed system with national systems linked multilaterally. In this work, the GCC representatives intend to continue studying and adopting proven international experiences in this area. B. PAYMENT CLEARING INFRASTRUCTURES STEP2 (www.ebaclearing.eu) STEP2 is a centralized Pan European ACH (PE-ACH) for bulk payments in EUR. Established in 2003 to clear cross- border EUR credit transfer payments for its participating member-banks, it has expanded its services to include clear- ing of domestic EUR payments for participating banks –primarily in Luxembourg and Italy at present, while Estonia is in the pipeline – and to include direct debit payments. STEP2 also developed clearing services for SEPA credit transfer (SCT) and direct debit (SDD) schemes in 2008-09 and replaced its original XCT technical platform, which was based on MT103+, with an upgraded SEPA-compliant platform in 2011. STEP2 is a tiered connectivity system involving both direct and indirect participant on its processing platform so it provides direct routing to beneficiary banks with straight-through processing and automated settlement connectivity, for settlement, to TARGET2 for its SEPA services and also to Euro1 for certain of its original bulk payment services. 116 Bahrain, Kuwait, Oman, Qatar, Saudi Arabia and the United Arab Emirates. REGIONAL INTEGRATION GUIDELINES 59 SICA-UEMOA (www.bceao.int) SICA-UEMOA, which was inaugurated in 2008 by the Central Bank of the West African States (BCEAO), is a regional retail payment clearing infrastructure for the West African Economic and Monetary Union. It represents a single regional scheme with a centralized technical platform in “hub-spoke” form that services a central regional clearing facility and 8 national clearing facilities in member countries, with many “clearance access” points available across the region. SICA-UEMOA clears domestic and intra-regional cross-border payments denominated in West African CFA francs, including batch files of digitized paper items such as cheques, for all participating banks within the region. Payment obligations are netted multilaterally, with settlement on BCEAO’s regional RTGS system, STAR-UEMOA. C. RETAIL PAYMENT TRANSACTION SERVICES GCC Net (www.gcc-net.net) The GCC NET is a single ATM network linking all the GCC National Switches. It offers numerous features based on standards similar to those of other international networks. A notable aspect is the availability of this ATM switching facility at a reasonable fee. It has also helped lower the ex- change rate margins between GCC currencies. Further, account settlement between member countries is conducted directly in those countries’ own currencies, without the need for opening a non-GCC currency account - or even referring, for settlement purposes, to a non-GCC currency. D. OTHER INITIATIVES FOR CROSS-BORDER RETAIL PAYMENTS SEPA (www.sepa.eu) By the time national currencies in the euro zone were about to be replaced by euro banknotes and coins, it was recog- nized that despite the launch of European Monetary Union (EMU) and single currency in 1999, the cost of transfer- ring money across borders remained too high. This absence of progress led the European Commission to call for a “concerted approach” involving the ESCB, EU institutions and the private sector “to deliver a technically secure and operational solution as a matter of utmost urgency.” 117 Despite the “concerted effort approach” proposed initially, the European Commission decided to go for a price-fixing Regulation which was supported by Member States.118 The Regulation established the principle of equality of charges for payments initially up to €12,500 within Member States (national) and between Member States (cross-border). 117 See the European Commission’s Financial Services Action Plan of 1999. 118 Regulation 2560/2001 on cross-border payments in euro, later repealed by Regulation 929/2009. Annex 2 60 REGIONAL INTEGRATION GUIDELINES The obligation to apply the same charges to national and cross-border payments created the need for the banking industry to deploy EU-wide plans and infrastructures in order to cut the costs and improve the service levels. In order to respond to this challenge, the banking industry created the European Payments Council (EPC). The preamble of the EPC charter states the industry’s vision of the Single Euro Payments Area (SEPA) in 2002.119 During the five years which followed the coming into force of the price-fixing Regulation and the creation of the EPC, European instances and the EPC worked in parallel to pave the way for SEPA. From 2002 to 2007, the EPC estab- lished the rules and practices for the new payment schemes and selected the standards to be applied. It also created and tested the new SEPA products. The European Commission supported the work of the EPC by adopting a legal framework underpinning an integrated retail payments market.120 Member States also started their preparations for SEPA, by setting-up national implementation and migration bodies, tasked to prepare the roll-out of the new SEPA instruments, standards, and infrastructures. The EPC launched the SEPA Credit Transfer Scheme in January 2008 and the SEPA Direct Debit Scheme in November 2009121, allowing banks to gradually offer these SEPA products to their customers. It also adopted the SEPA card framework to enhance interoperability, improve transparency and remove other barriers to the development of a SEPA for Cards. The adoption of SEPA products had been nevertheless very slow: By August 2010 only 9.26% of all credit transfers processed in the euro area were SEPA credit transfers, while SEPA direct debits remained at a share well below 0.1% of all direct debit transactions processed in the euro area. Taking this into account and the need for the banks to of- fer both SEPA products, the industry called upon policy-makers to adopt an “end date” for national schemes and standards. The “end date Regulation”, Regulation 260/2012 was adopted in March 2012, requiring that banks and payment in- stitutions and their customers and CSMs should have implemented the standards (IBAN as account identifier and ISO20022 for the messaging) of the SCT and SDD Rulebooks for euro payments at the latest before 1 February 2014. All schemes which do not offer their customers the possibility to do “SEPA compliant” transactions will have to disappear.122 The pace of adoption of SCTs has now accelerated considerably, representing 64.1% of all credit transfers processed in the euro area as at end-November 2013. Adoption of SDDs remains somewhat slow though, at 26.0% of all direct debit transactions processed in the euro area as at the same date. 119 The preamble says that members “share the common vision that Euroland payments are domestic payments; join forces to implement this vision for the benefit of cus- tomers, industry and banks and accordingly launch our Single Payments Area.” 120 The Commission issued a legislative proposal in 2005 (Proposal for a Directive on Payment Services, December 2005), which was adopted by Member States in November 2007 and came into force in December 2007. 121 The EPC is responsible for the development and maintenance of SEPA payment schemes as defined in the SEPA Credit Transfer (SCT) and SEPA Direct Debit (SDD) Rulebooks. The rulebooks can be regarded as instruction manuals which provide a common understanding on how to move funds within SEPA. The schemes are based on technical standards defined by bodies such as the International Organization for Standardization. 122 On January 9, 2014, the European Commission proposed an additional transition period of 6 months for those payment services users who are yet to migrate. In practice this means the deadline for migration remains February 1, 2014 but payments that differ from a SEPA format could continue to be accepted until August 1, 2014. For additional information see: http://europa.eu/rapid/press-release_IP-14-6_en.htm REGIONAL INTEGRATION GUIDELINES 61 Today, SEPA already enables customers to make cashless euro payments to anyone located anywhere in Europe, us- ing a single payment account and a single set of payment instruments as easily, efficiently and safely as they make payments in the domestic context.123 About 4500 banks joined the SEPA CT Scheme. For the SEPA Core DD Scheme more than 3800 banks have signed up, and about 3400 banks for the SEPA Business to Business Direct Debit Scheme. 123 Customers can make electronic euro payments within and across 33 countries under the same basic rights and obligations. SEPA consists of the 28 EU Member States, Iceland, Liechtenstein, Norway, Switzerland and Monaco. Annex 2 62 REGIONAL INTEGRATION GUIDELINES ANNEX 3: CROSS-BORDER INTEGRATION EXPERIENCES OF FINANCIAL INFRASTRUCTURES FOR SECURITIES AND DERIVATIVES This annex presents a more detailed description of suiuome of the FI integration experiences mentioned or referenced in the main report, as well as several other projects and initiatives. This annex, however, is not an exhaustive list of such cross-border FI integration projects and initiatives.124 A. SECURITIES TRADING INFRASTRUCTURES ASEAN Trading Link (www.asiaetrading.com) The first stage of the ASEAN Trading Link began operations in 2012 by linking the stock exchanges in Malaysia and Singapore, with the exchange in Thailand soon to link-up. Exchanges in the Philippines, Indonesia and Viet Nam are also scheduled to participate in the Trading Link. The ASEAN Trading Link is an electronic hub-spoke arrangement with SunGard providing the central operating facility – the Intra-ASEAN Network (IAN) – for the Trading Link. There are sponsoring brokers in each member ex- change that facilitate clearing and settlement of cross-exchange orders that are submitted directly from the originating broker to the executing exchange through the Trading Link. The IAN also provides an entry point for non-ASEAN investors and for FIX-based infrastructures and the SunGard Global Network. There are two ways to connect. For cross-exchange orders placed with a local member dealer, that dealer uses its ex- change’s interface, called ASEAN Common Exchange, to IAN to route orders to the order matching system of another ASEAN exchange, which then acknowledges and fills the order, confirms the trade and provides relevant market data back through the ACE and IAN interfaces. Interfaces use the FIX protocol and standards. Another interface, available to international clients seeking to connect directly, called Neutral Access Point, is intended as another gateway. The connection is via Singapore, but still requires designation of correspondent dealers and custodial accounts in each securities jurisdiction CEESEG (www.ceeseg.com) The Central and Eastern Europe Exchange Group (CEESEG) is a holding company owned jointly by the Vienna Stock Exchange and Austrian banks that, in turn, owns stock exchange in Vienna (Austria), Ljubljana (Slovenia), Prague (Czech Republic) and Budapest (Hungary). While each exchange operates separately within its own jurisdiction, CEESEG Holding is responsible for strategic and financial management and joint administration. Organized in 2009, the operational plan is to harmonize trading and service schemes, establish a common trading platform (i.e., XETRA), provide cross-membership among all member exchanges, and introduce a common clearing system and CCP service. Listed securities on each member exchange will be registered in the respective national CSDs as required by law with links to the common clearing CCP. CEESEG also has links to exchanges in Bosnia-Herzegovina, Macedonia and Romania. 124 Annex 4 also presents a comparative table highlighting the main features of some of these projects. REGIONAL INTEGRATION GUIDELINES 63 MILA (www.mercadoointegrado.com) The Latin American Integrated Market (MILA), which began operations in mid-2011, links together the stock ex- changes in Colombia, Chile and Peru. The project involved a two-stage process that began in late 2010 with an auto- mated router model – the FIX message routing network - providing participants on one member exchange with access to securities listed on another of the member exchanges. Phase two, finalized at the end of 2011, allows individual investors direct access to the market information in all 3 countries through their local brokers. Although networked together at the broker and infrastructure levels, the trading infrastructures are not merged into a single regional entity, nor do they operate on a common or even uniform trading platform or scheme. However, there are common trade transparency protocols and standards via the FIX solutions, for cross-border pre-trade, trade and post-trade information. Also, the member countries do not have uniform regulatory, tax or foreign capital regimes. There are agreements on the need to achieve some harmonization in these policy areas, but with no firm deadlines as of yet for their implementation. With no regional currency, trades settle in the local currency of the securities’ custody accounts, which is also gener- ally the same location of the exchange on which the securities are transacted. Costa Rica, Mexico and Panama have also indicated an interest in joining MILA. B. CENTRAL SECURITIES DEPOSITORIES AND SECURITIES SETTLEMENT SYSTEMS Euroclear (www.euroclear.com) The Euroclear group comprises the national CSDs of Belgium, Finland, France, Ireland, the Netherlands, Sweden, and the UK, together with Euroclear Bank which specializes in cross-border settlement and related activities; Euroclear Bank is known as an international CSD. The parent company is owned and governed by users of the FI and the group seeks to meet the needs of the users for efficient and low-risk post-trade services. The merger of Euroclear Bank with various European CSDs offered both the opportunity to take advantage of econo- mies of scale by sharing activities and costs, and the prospect of moving towards a more consolidated settlement structure in Europe. The first objective has been achieved, but the second has been only partly achieved. Three suc- cessful forms of integration within the group can be distinguished:125 the sharing of common services; the integration of CSDs through the use of a single settlement platform while retaining separate governance arrangements; and, a fully integrated approach for CSDs in two countries. Euroclear also provides some of the benefits of integration by offering links and services with other parties, such as the Hong Kong/Malaysian service 125 described in this same annex. Annex 3 64 REGIONAL INTEGRATION GUIDELINES The Euroclear group shares as much of its services as possible across the group’s individual CSDs. In particular, IT development and IT operations are common to most entities.126 This allows the development of highly robust systems. For example, the group operates two fully synchronized live data centers and a third live, but distant, data center to provide protection against a regional disaster. This level of protection would be likely to be uneconomic for a single CSD in the group. In addition, common services like finance, human resources, audit and risk are fully or partly shared. A higher level of integration has been achieved in the “ESES” CSDs.127 The three CSDs of Belgium, France and the Netherlands jointly developed a single settlement platform, which provides a common technical approach in those three separate jurisdictions supported by common operations teams. The platform covers settlement, custody, asset servicing and issuer services. To achieve this, it was necessary to increase the degree of harmonization of market practices and rules across the three markets. The fact that local equities were traded on the same exchange (Euronext) provided added incentive to find common solutions. Settlement is fully harmonized from a process point of view, and other services are becoming more harmonized through changes in law and in market practice. Although the three CSDs share a common management team and have board members in common, they retain separate governance and regulatory arrangements. They have, however, been able to capture many of the synergies and client benefits of a full merger. The UK and Ireland, by contrast, share a single CSD operating a single settlement system offering settlement, corpo- rate actions and related services. This is possible because of the near equivalence of market practice and legal struc- tures between the two countries.128 Although transfers of title to Irish securities are governed by Irish law and those of British securities by English law in the system operated by Euroclear UK & Ireland (EUI), they can each be effected by the same technical system. Ireland’s users are able to have a highly robust CSD with low unit costs by sharing the UK’s infrastructure. The UK’s users gain access to euro settlement in central bank money. Both countries and their users gain from the arrangement. While EUI has a single board, management and operating system it maintains separate Market Advisory Committees in Ireland and the UK, consisting of representatives from each local market, which help determine the strategy and prioritization of service developments for each country. Euroclear has sought to develop common solutions whenever possible but found that this is constrained by the degree of harmonization achievable. It developed a single platform program which offered the vision of a common techni- cal platform across all group entities, which might also have been made available to all European CSDs. The internal positioning engine, the Single Settlement Engine (SSE), was delivered first. The SSE does the core booking activity of identifying the securities which can settle on a DvP basis, but is not directly visible to clients. The single settlement platform for ESES, which includes the “front end” interface with market participants, was delivered next in the three markets mentioned earlier. However, the ambition to deliver a single platform to cover all custody and corporate ac- tions aspects of securities management however, was stopped because there was insufficient harmonization of law and 126 The Nordic CSDs of Euroclear Sweden and Euroclear Finland share IT and other resources and use fewer of the group’s shared services, although the degree of sharing is increasing over time. 127 Euroclear Settlement of Euronext–zone securities. 128 EUI, in fact, also acts as the CSD for securities issued in, and under the laws of, Jersey, Guernsey and the Isle of Man. The same argument applies that the market practices and laws in the relevant jurisdictions are sufficiently similar to be able to use the same technical solution for securities transac- tion settlement. REGIONAL INTEGRATION GUIDELINES 65 FIGURE 6: HKMA’S PILOT PLATFORM FOR THE SETTLEMENT OF CROSS-BORDER SECURITIES TRADES Source: HKMA. practice which created too much complexity in design to be cost effective. Similarly, the idea that the single settle- ment platform might be extended to all CSDs in the group and beyond was dropped because there was no reasonable prospect of sufficient harmonization in a commercially viable timeframe. The current approach therefore is to pursue regional integration where the market environment gives sufficient chance of success and to seek to provide local services in as harmonized a way as possible where full integration is not feasible. HKMA’s Pilot Platform for the Settlement of Cross-Border Securities Trades Early in 2012, under the auspices of the Pan Asian CSD Alliance, which was formed under the ASEAN +3 initiative to further the development of Asian bond markets (Asia Bond Market Initiative, ABMI), the HKMA launched a ‘pi- lot platform’ with Euroclear and the Bank Negara Malaysia (BNM) to create a hub-spoke network structure linking Euroclear, the HKMA CMU, and BNM’s RENTAS.129 The scheme calls for a common centralized securities database operated by Euroclear and technical operating links among the three systems through Euroclear as the connectivity hub. The scheme also incorporates the technical links between the HKMA CMU and HKMA CHATS USD, Euro and RMB and a link between BNM’s RENTAS and CHATS USD.130 The structure is illustrated in Figure 6. The Pilot Platform will provide the Steering Group for the ABMI with some insights into the pros and cons of a re- gional CSD hub-spoke network model for the region. However, the ABMI Steering Group has also established a task 129 BNM’s RENTAS encompasses an RTGS system and a debt securities depository and settlement system and is operated by the Malaysian Electronic Clearing Corporation, which is a BNM subsidiary. 130 Some of these links were described in Annex 2. Annex 3 66 REGIONAL INTEGRATION GUIDELINES force to examine the feasibility and benefits, costs and risks relating to different regional integration and settlement architectures as an alternative to a region-wide distributed bilateral CSD (spaghetti) network model. One variant could be a distributed network model with a centralized regional operations hub linking national CSDs of participating countries, which would not involve regionally centralized settlement of cross-border bond transac- tions. The other model is similar to the HKMA’s pilot platform but would involve a regional Asian CSD interlinking the various national CSDs in a common platform, to provide common pre-trade, trade, post-trade and settlement services. These CSDs would still be separate legal entities in their respective countries. Yet another variant would be a single regional CSD in which custody banks and broker-dealers participate directly rather than through their national CSDs. Another variant of this model under consideration is a truly regional ICSD in which custody banks and broker-dealers may participate directly rather than through a local CSD. The implications of various barriers that would affect any or all of these models are also examined in the feasibility study. SADC Cross-Border DVP Settlement for Public Debt Securities (www.sadc.int) The cash leg of financial markets instruments issued in SADC countries and traded across borders within the region is being analyzed in the context of overall strategic framework of the SADC Payments Project, as per the instruction of the SADC Committee of Central Bank Governors (CCBG). The business model and process flows for DVP-based settlement of intra-SADC cross-border trading of public debt securities will be based on the following principles, developed together with the Committee of SADC Stock Exchanges and the CCBG Financial Markets sub-Committee: • Settlement in central bank money (SIRESS) • Cash and debt instrument exchanged at the same instance • Settlement accounts at SIRESS must be pre-funded • All buyers and sellers appoint settlement agents (banks) • Central banks provide custodial services, but this can be provided by the private sector • Current domestic processes are maintained • International policy and regulatory standards (CPSS/IOSCO) are adopted • International messaging standards are applied • The complete model is depicted in Figure 7: REGIONAL INTEGRATION GUIDELINES 67 FIGURE 7: SADC CROSS-BORDER DVP SETTLEMENT FOR PUBLIC DEBT SECURITIES T2S (www.ecb.europa.eu) Target 2 Securities (T2S) is a project of the Eurosystem aiming at creating by 2015 a single securities settlement plat- form in Europe and providing European CSDs with a centralized service for delivery-versus-payment (DVP) settle- ment of transactions in central bank money. T2S will operate as an integrated model, thereby holding on the same platform both cash and securities accounts. Therefore, CSDs which join T2S will be “outsourcing” their settlement processes to T2S, but will retain all their other functions and relations with their clients, including keeping securities records and undertaking corporate actions according to the relevant local rules and regulations. Market participants will need to have a legal relationship with a CSD in order to use T2S and only CSDs enter into a legal relationship with T2S. The national central banks (NCB) will hold central bank money accounts for CSD cus- tomers on the T2S platform, so that the DVP settlement of securities transactions will exclusively take place in central bank money. T2S will therefore connect any securities account at any participating CSD with any cash account at any participating central bank. All changes in the balances of cash and securities accounts, regardless of which CSD or NCB they belong to, are made in real time. The NCB accounts held on the T2S platform will be dedicated to settlement purposes only and will be linked to the cash accounts in the respective RTGS systems. For the settlement in euro, the T2S platform will be linked to the TARGET2 system, also operated by the Eurosystem. Annex 3 68 REGIONAL INTEGRATION GUIDELINES While initiated by the Eurosystem, T2S will be a multicurrency system. Therefore, it will not be limited to the euro but also be open to process DVP settlement in non-euro currencies if non-euro central banks are interested to connect to the platform. Danmarks Nationalbank signed the Currency Participation Agreement on 20 June 2012 and will make the Danish krone available in T2S as of 2018. 131 T2S will not only foster the integration of the settlement market in the Eurosystem but also beyond by introducing a single set of rules, standards and tariffs for all the transactions processed by contrast to the current fragmented European environment composed of over 30 different SSSs. Thus, T2S will prompt the adoption of a common set of rules for intraday settlement finality and a harmonized daily timetable and calendar. Regarding standards, T2S will be based on the use of a common interface and common message standards. T2S will consequently contribute to reduce the Giovannini Barriers 1 (national differences in information technology and systems), 2 (national clearing and settlement restrictions that require the use of multiple systems), 3 (differences in national rules relating to corporate actions, beneficial ownership and custody), 4 (absence of intraday settlement finality), 5 (practical impediments to remote access to national clearing and settlement systems) and 7 (national dif- ferences in operating hours and settlement deadlines). Liquidity Alliance (http://www.clearstream.com/ci/dispatch/en/kir/ci_nav/3_gsf/045_liquidity_alliance) The Liquidity Alliance is an example of an industry-led FI cross-border integration initiative which aims to deliver common solutions to industry-wide collateral management issues. The network was established in January 2013 by Australian financial market infrastructure group ASX, Brazilian CSD CETIP, Clearstream, the Spanish CSD Iberclear and the South African CSD Strate. These five market infrastructures have decided to use the same collateral technol- ogy system and to share their expertise, experience and efforts in creating a sustainable global response to growing demands for sophisticated collateral management without introducing new systemic risks to the industry. The fundamental goal of the solution is to strengthen local markets by enabling financial infrastructure providers to offer their market participants sophisticated, state-of-the-art collateral management services. Synergies, cost efficien- cies and a short time-to-market (12-18 months until the launch of a collateral management system for any given domestic market) can be achieved through the use of the common collateral technology system. The collateral remains on local domestic accounts of the market participants (i.e. in the books of the Liquidity Alliance members) and is governed by local rules and regulations. This avoids the introduction of new systemic risks and en- sures the liquidity remains in the local market (i.e. it is not transferred to other intermediary providers). Due to the common collateral system, the Liquidity Alliance members have the option – not the obligation – to easily pursue joint opportunities where business, legal and regulatory circumstances are favorable. For example, this is the case for cross-border collateral (inbound and outbound) because the common collateral technology can identify collateral availability as well as collateral needs on a real-time basis across all connected markets. 131 The Currency Participation Agreement is the contractual basis for non-euro central banks’ participation in T2S. The central banks having signed the Currency Participa- tion Agreement will be involved in the T2S governance to ensure that they retain control over their currency. REGIONAL INTEGRATION GUIDELINES 69 The use of collateral can thereby be optimized and fully tracked across markets, time zones and exposure types. Market participants benefit from these fully automated allocation processes as they help overcome issues resulting from fragmentation.132 The open architecture of the system means that the Liquidity Alliance is set to grow. The Canadian CSD CDS and the Singapore Exchange SGX have publicly announced their intention to leverage the same collateral management platform and, accordingly, to follow the path of the Liquidity Alliance. Further market infrastructures are expected to follow this example. 132 The fragmentation of holdings across several locations itself cannot be changed much as it is a result of business, legal and regulatory requirements. Annex 3 70 REGIONAL INTEGRATION GUIDELINES ANNEX 4: COMPARATIVE TABLE OF CROSS-BORDER FINANCIAL INFRASTRUCTURE INTEGRATION PROJECTS This Annex aims at providing a comparative snapshot of regional, cross-regional and global FI integration projects, structuring them in a table with a limited number of basic features. This table is not an exhaustive list of cross-border FI integration projects and initiatives. Not all the projects mentioned throughout the report are included in the table. In the case of some highly complex integration projects related to securities and derivatives, some of their key ele- ments are also shown and compared graphically in Annex 5. Start of Centralized or Applicable Main Industry project (start Geographic Project Name focus Ownership2 Decentralized legislation/ Lead overseer Standards operations)1 Model provisions Adopted Payment Settlement Infrastructures/Mechanisms ALADI 3 12 Latin Public Decentralized Convenio de 12 Latin MT 200 (together 1982 Reciprocal American Pagos y Créditos American central with proprietary Payments countries Recíprocos banks standards) and Credit Agreement Arab Regional 2010 Arab Monetary Public Decentralized Articles of Cooperative SWIFT as Payment Fund (AMF) Association and Oversight of communication System (ARPS) member Statute of the participating network countries ARSB, ARPS central banks (probably) Membership and the AMF agreement CHATS 1994 South East Asia PPP Decentralized Clearing and HKMA SWIFTNet (as (1996) Settlement communication (2000) USD Systems network) (2003) EUR Ordinance (CSSO) (2007) RMB of 2004 CLS Bank 1996 Global Private Centralized CLS Bank Inter- Federal Reserve SWIFTNet Inter- (2002) national Rules System Act; SWIFT FIN (as communica- tion network) MT300, MT304, MT305, MT398, Gross Direct Input (GDI) (mes- sage formats) Business Identi- fier Code and Business En- tity Identifier ISO 9362 (as data elements) 1 If the project is not yet operational, the planned start of operations. 2 The integration project can either be characterized by public ownership, private ownership or a combination of both (a private-public partnership or “PPP”). 3 The current ALADI mechanism had its origin in the Sistema de Compensación Multilateral de Pagos y Créditos Recíprocos (Multilateral Netting System of Reciprocal Payments and Credits), in operation since 1965. REGIONAL INTEGRATION GUIDELINES 71 Start of Centralized or Applicable Main Industry project (start Geographic Project Name focus Ownership2 Decentralized legislation/ Lead overseer Standards operations)1 Model provisions Adopted East African 2009 East African Public Decentralized To be defined. Central banks of SWIFT (as Payment (2013) Kenya, Community (EAC) the participating communication System (EAPS) Tanzania, Uganda countries countries network) (2014 - planned) SWIFT MT103/ Rwanda, Burundi MT202 (message formats) ECCB Large (2009) STP RTGS Eastern Public Centralized Rules for the Eastern SWIFT Alliance Value Funds Caribbean Large Value Caribbean Lite (as Transfer System Currency Union Funds Transfer Central Bank communication (LVFTS) System network) GCC Payment 2007 GCC countries Public To be defined. To be defined. To be defined. To be defined. Systems (2015-2016 Connections planned) SIP 2004 Central America Public Decentralized Payment Systems Central American SWIFT (as (2011) and Dominican Treaty of Central Monetary Council communication Republic America and (CMCA) network) the Dominican SWIFT MT103/ Republic MT202 (message formats) IBAN ISO13616 (data elements) SADC Integrated 2009 SADC countries Public Centralized (CP) SADC Finance South African SWIFTNet FIN- Regional (2013) South in planning and Investment Reserve Bank Copy Electronic Africa, Namibia, Protocol SWIFT MT 103/ Settlement Lesotho and MT202 (message System Swaziland formats) (SIRESS) Sistema de 2005 Argentina and Public Decentralized Convênio do Banco Central SWIFT (as Pagamentos em (2008) Brazil Sistema de de la República communication Moeda Local Pagamentos em Argentina and network) (SML) Moeda Local Banco Central do SWIFT (message entre a República Brasil format) Argentina e a República Federativa do Brasil STAR-UEMOA (2004) L’Union Public Centralized Décision BCEAO SWIFT (as Monétaire n°397/12/2010 communication Ouest Africaine portant règles, network) (UEMOA) instruments et procédures de mise en œuvre de la politique de la monnaie et du crédit de la BCEAO Annex 4 72 REGIONAL INTEGRATION GUIDELINES Start of Centralized or Applicable Main Industry project (start Geographic Project Name focus Ownership2 Decentralized legislation/ Lead overseer Standards operations)1 Model provisions Adopted TARGET 1995 European Public Decentralized TARGET Guideline European Central SWIFT (as (1999)4 Economic Area Bank (ECB) communication (EEA) network) SWIFT MT103, MT103+, MT202 (message formats) Business Identifier Code ISO 9362 (as data element) TARGET2 2002 European Public Centralized TARGET2 European Central SWIFT (as (2007) Economic Area Guideline Bank (ECB) communication (EEA) network) SWIFT MT103, MT103+, MT 202, MT202COV (message formats) Business Identifier Code ISO 9362 (as data element) Payment Clearing Infrastructures/Mechanisms European 2006 European Private (although Centralized EACHA Not applicable SWIFT (as Automated (2008) Economic Area, some central (framework framework 6.0 communication Clearing House Macedonia banks member ownership) network) Association too) Decentralized ISO20022 (EACHA) (operational (message implementation) formats) Business Identifier Code ISO 9362, IBAN ISO13616 (as data elements) EURO1 1998 EU, OECD Private Centralized EURO1 ECB SWIFT (as member Regulations communication countries outside network) the EU SWIFT MT103, MT 202, MT204, MT400 (message formats) Business Identifier Code ISO 9362 (as data elements) SICA-UEMOA 2008 UEMOA countries Public Centralized - Decision Number BCEAO SWIFT (as (interregional decentralized 5 397/12/2010 of communication transactions) BCEAO network) 4 TARGET 1 ceased operations in 2008. 5 See description of SICA-UEMOA in main text. REGIONAL INTEGRATION GUIDELINES 73 Start of Centralized or Applicable Main Industry project (start Geographic Project Name focus Ownership2 Decentralized legislation/ Lead overseer Standards operations)1 Model provisions Adopted STEP2 (2002) European Private Centralized STEP2-T General ECB SWIFT (as 2003 Economic Terms and communication Area, Monaco, Conditions network) Switzerland ISO20022 (message formats) Business Identifier Code ISO 9362, IBAN ISO13616 (as data elements) SADC Inter- 2014 (planned) SADC Private Centralized SADC Finance South African SWIFT (as bank Transfer and Investment Reserve Bank communication System (SITS) Protocol network) ISO 20022/ SWIFT MT102/ MT103/MT 298 (message formats) Retail Payment Transaction Services/Schemes Acxsys (2009) Canada, China, Private Decentralized6 Not available No lead overseer Not available International USA ATM Service Euro Alliance 2007 European Union Private Decentralized7 EAPS Scheme No lead overseer EMV, Berlin Group of Payment (2008) Rules Standard Schemes (EAPS) GCCNET 1994 GCC countries GCC Central Decentralized8 GCCNet GCC Central EMV Banks + GCCSG Regulation & Banks PCI Operating Rules. IPVPN as connectivity infrastructure. ISO 8593 3 DES Interac Cross (2005) Canada, USA Private Decentralized9 Not available No lead overseer Not available Border Debit between Interac and NYCE Single Euro 2002 EEA countries, Private (scheme Centralized SEPA credit ECB for the SEPA ISO20022 Payments Area (2008) SEPA Switzerland, owner European (scheme transfer rulebook credit transfer (message (SEPA) credit transfer Monaco Payments ownership) SEPA direct debit and SEPA direct formats) (2009) SEPA Council) rulebook debit schemes Business direct debit Regulation Identifier Code 260/2012, ISO 9362, IBAN Regulation ISO13616 (as 924/2009, data elements) Directive 2007/64/EC (PSD) 6 Bilateral links between the member networks. 7 Bilateral links between the member networks. 8 A cross-border ATM network linking all the GCC National Switches. 9 Bilateral links between the member networks. Annex 4 74 REGIONAL INTEGRATION GUIDELINES Cross-border Financial Infrastructures for Securities and Derivatives10 Start of Centralized or Type of Owner- Applicable legislation/ Project Name project (start Geographic focus Decentralized Lead overseer Infrastructure and ship provisions operations) Model Instruments CDS & DTC/NSCC (1998)11 Canada, USA Private Decentralized 12 Local laws and Bank of Canada CSDs and SSS for regulations and Federal securities Reserve Bank of New York Clearstream- (2004) Global Private Decentralized13 Local laws, Euroclear No lead overseer CSDs and SSS for Euroclear and Clearstream securities Bridge Rulebooks DTCC & 2013 Global Private Decentralized Local laws, regulations No lead overseer CSDs and SSS for Euroclear (2015) planned and rules securities Bank DTCC Global 2006 Global Private Centralized European Market Federal Reserve Trade repository Trade Repository Infrastructure Regulation Bank of New for securities and (EMIR),Dodd-Frank Act York derivatives (DFA) EMCF, EuroCCP, 2010 Netherlands Switzerland, Private Decentralized EMIR, Interoperability No lead CCPs for securities LCH.Clearnet Ltd UK agreement, rulebooks of supervisor or and SIX x-clear 4 CCPs overseer Interoperability arrangement Euroclear ESES 2009 Belgium, France, Private Centralized Local laws, Euroclear National Bank of CSDs and SSS for Netherlands Rulebook Belgium securities Euroclear 2001 (other CSDS Belgium, Finland, France, Private Decentralized Local laws, Euroclear National Bank of CSDs and SSS for National CSDs joined in 2002, Ireland, Netherlands Rulebook Belgium securities 2007 and 2008) Sweden, UK HKMA Pilot 2012 ASEAN member PPP Centralized Not available Not available SSS for government Platform countries securities LCH.Clearnet 2003 Belgium, France, Private Decentralized European Market No lead CCPs for securities Group Ltd Netherlands Portugal, UK Infrastructure Regulation supervisor or and derivatives (EMIR), rulebooks of overseer LCH.Clearnet Ltd and SA LCH.Clearnet SA 2001 Belgium, France, Private Centralized EMIR, rulebook of LCH. ACPR, Banque CCP for securities Netherlands Portugal, UK Clearnet SA de France and derivatives LCH.Clearnet SA 2004 France, Italy Private Decentralized EMIR, link agreements, No lead CCPs for government and CC&G link rulebooks of two CCPs supervisor or securities overseer Link Up Markets Global14 Private Centralized Local laws, regulations No lead overseer CSDs and SSS and rules for government securities Liquidity Alliance (2013) Australia, Brazil, Spain, Private Centralized Not available No lead overseer CSDs for collateral South Africa, Planned for optimization Canada, Singapore MILA 2010 Latin America15 Private Decentralized Local laws, regulations No lead overseer CSDs and SSS for (2011) and rules securities SADC SSS (2014) SADC Public/ Centralized SADC Finance and South African CSDs and SSS for (-) Private Investment Protocol Reserve Bank securities T2S 2006 EEA, Switzerland Public Centralized T2S General Principles ECB SSS for securities (2015) 10 For these infrastructures, the last column to the right shows the type of infrastructure and instruments cleared/settled and not the industry standards used. 11 Since 1979, CDS has been a participant in DTC. DTC then became a direct CDS participant in 1998, making cross-border clearing and settlement a reality. 12 Clearing interface from CDS to NSCC, plus CSD links. 13 Bilateral link. 14 Currently Austria, Cyprus, Denmark, Egypt, Germany, Greece, Luxembourg, Norway, Spain, South Africa and Switzerland. 15 MILA is currently operational for Chile, Colombia and Peru, and planned for Costa Rica, Mexico and Panama. REGIONAL INTEGRATION GUIDELINES 75 ANNEX 5: GRAPHICAL REPRESENTATIONS OF HORIZONTAL AND VERTICAL INTEGRATION OF SECURITIES TRADING, CLEARING AND SETTLEMENT SYSTEMS FIGURE 8: HORIZONTAL AND VERTICAL INTEGRATION IN THE CENTRAL AND EASTERN EUROPEAN STOCK EXCHANGE GROUP (CEESEG) FIGURE 9: HORIZONTAL AND VERTICAL INTEGRATION IN NYSE EURONEXT (BE, FR, NL)1, LCH.CLEARNET SA, EUROCLEAR ESES2 Belgium, France and the Netherlands. This is only a part of the NYSE Euronext Group. 1 This figure only shows part of the NYSE Euronext structure and for simplicity reasons excludes for example 2 NYSE Euronext Lisbon and NYSE Euronext LIFFE. Annex 5 76 REGIONAL INTEGRATION GUIDELINES FIGURE 10: HORIZONTAL AND VERTICAL INTEGRATION IN NASDAQOMX REGIONAL INTEGRATION GUIDELINES 77 ANNEX 6: LEGAL AND REGULATORY FRAMEWORK HARMONIZATION EFFORTS A. PAYMENTS AND PAYMENT SERVICES LAWS • UNCITRAL Model Law on International Credit Transfers, 1992 (www.uncitral.org/ uncitral/en/index.html) • Central America and the Dominican Republic: Payment Systems and Securities Settlement Treaty (www.secmca.org/) • EU Payment Services Directive, 2007 (http://ec.europa.eu/internal_market/payments/) • EU Settlement Finality Directive, 2009 (http://ec.europa.eu/internal_market/financial-markets/) B. (INTERMEDIATED) SECURITIES HOLDING AND TRANSFER • UNIDROIT Convention on Substantive Rules for Intermediated Securities, 2009 (http://www.unidroit.org) • EU Draft CSD Regulation, Draft Securities Law Legislation, EMIR, 2012 (http://ec.europa.eu/internal_market/) C. COLLATERAL AND NETTING LAWS • UNIDROIT Convention on Substantive Rules for Intermediated Securities, 2009 (http://www.unidroit.org) • UNIDROIT Principles on the operation of close-out netting provisions, 2013 (http://www.unidroit.org) • EU Financial Collateral Directive, Possible Close-out Netting Legislation, 2002 (http://eur-lex.europa.eu/homepage.html) D. LAW OF CONTRACTS • UNIDROIT Principles of International Commercial Contracts , 2010 (http://www.unidroit.org) • United Nations Convention on the Assignment of Receivables in International Trade, 2001 (http://www.uncitral.org/uncitral/en/) • UNCITRAL Model Law on Electronic Signatures with Guide to Enactment, 2001 (http://www.uncitral.org/uncitral/en/) • United Nations Convention on the Use of Electronic Communications in International Contracts, 2005 (http://www.uncitral.org/uncitral/en/) E. COMPANY LAW • EU Shareholders’ Rights Directive, 2007 (http://ec.europa.eu/internal_market/) F. INSOLVENCY LAW • UNCITRAL Model Law on Cross-Border Insolvency, 1997 (http://www.uncitral.org/uncitral/en/) • UNCITRAL Legislative Guide on Insolvency Law, 2004 (http://www.uncitral.org/uncitral/en/) • UNCITRAL Practice Guide on Cross-Border Insolvency Cooperation, 2009 (http://www.uncitral.org/uncitral/en/) Annex 6 78 REGIONAL INTEGRATION GUIDELINES • UNCITRAL Legislative Guide on Insolvency Law, Part three: Treatment of enterprise groups in insolvency, 2010 (http://www.uncitral.org/uncitral/en/) • CPSS-IOSCO Recovery of Financial Market Infrastructures – consultative report , 2013 (http://www.bis.org/publ/cpss109.pdf) • EU Regulation on Insolvency Proceedings (2000), (http://eur-lex.europa.eu/homepage.html) • Directive on Reorganisation and Winding Up of Credit Institutions (2001), (http://eur-lex.europa.eu/homepage.html) • Directive on Reorganisation and Winding Up of Insurance Undertakings (2001), (http://eur-lex.europa.eu/homepage.html) • Proposal for a Directive establishing a framework for the recovery and resolution of credit institutions and investment firms (2012) (http://eur-lex.europa.eu/homepage.html) • Financial Stability Board Key Attributes of Effective Resolution Regimes for Financial Institutions, 2011 (https://www.financialstabilityboard.org/publications/r_111104cc.pdf) G. CONFLICTS OF LAW REGIMES • Hague Convention on the Law Applicable to Certain Rights in Respect of Securities held with an Intermediary of 5 July 2006 (http://www.hcch.net/upload/ conventions/txt36en.pdf) REGIONAL INTEGRATION GUIDELINES 79 ANNEX 7: OVERVIEW OF TECHNICAL STANDARDS RELEVANT FOR REGIONAL FI INTEGRATION A. ISO TECHNICAL COMMITTEE – FINANCIAL SERVICES STANDARDS The complete list of the 68 standards is available at www.isoTC68.org. Some of the most relevant standards for regional FI integration are: • ISO 4217: 2008 Codes for the representation of currencies and funds • ISO 6166: 2001 ISIN International Securities Identification Numbering Syste • ISO 8583: 2003 Financial transaction card originated messages • ISO 9362: BIC (Business Identifier Code) • ISO 11649: Structured creditor reference to remittance information • ISO 13616: IBAN (International Bank Account Number) • ISO 17442: LEI (Legal Entity Identifier) B. ISO 20022 ISO 20022 is a portfolio of messaging standards for financial services. There are currently 325 message standards (available on www.ISO20022.org) for: Payments (retail and large-value) • Payment initiation • Payment clearing and settlement • Cash management • Authorities financial investigations Securities • trade • clearing • settlement • collateral management • regulatory reporting investor • regulatory reporting issuer Cards • acceptor to acquirer card transactions • card clearing and settlement • card administration Foreign Exchange • pre-trade • trade • clearing • settlement Annex 7 80 REGIONAL INTEGRATION GUIDELINES • regulatory reporting C. FIX STANDARD The Financial Information Exchange is an electronic communication standard for real time exchange of information on securities transactions and markets (www.fixprotocol.org) for: • equities • futures and options • fixed income • foreign exchange • exchanges and markets D. FPML STANDARD The Financial products Markup Language is an XML message standard for OTC derivatives (for details see www.fpml.org). E. EMV STANDARD The EMV is a global standard for credit and debit payment cards based on chip card technology. (for details see www.emvco.com). REGIONAL INTEGRATION GUIDELINES 81 ANNEX 8: GLOSSARY OF SELECTED TERMS This glossary includes only those terms deemed especially relevant in the context of integration of financial infra- structures across borders. Definitions were taken from CPSS, A Glossary of Terms used in Payment and Settlement Systems, March 2003, and the European Central Bank’s glossary of payments and markets available at www.ecb.int. Terms marked with “*” were defined by the Secretariat. For general definitions of terms not found in this glossary please refer to the CPSS and ECB documents/websites. Central counterparty link: An arrangement between two central counterparties (CCPs) that allows the provision of central counterparty services for trades performed by the participants of those two CCPs, without requiring those participants to become members of both CCPs. Central securities depository link: A set of technical and legal arrangements between two central securities deposi- tories (CSDs) for the cross-system transfer of securities. Collateral management: Collateral management includes the process used to control the correspondence between the market value of the relevant collateral and the required value of that collateral. It generally also includes the gen- eration and processing of collateral transfers. Correspondent banking: An arrangement whereby one bank (the settlement or service-providing bank) makes or receives payments (potentially performing other banking services in addition) on behalf of another bank (the cus- tomer or user bank). Cross-border payment: A payment where the financial institutions of the payer and the payee are located in different countries. Cross-border settlement: Settlement that takes place in a country (or currency area) in which one or both parties to the transaction are not located. Cross-margining agreement: An agreement among CCPs to consider positions and supporting collateral at their respective organizations as a common portfolio for participants that are members of two or more of the organizations. Currency peg*: A mechanism in which a country’s financial and/or monetary authorities try to maintain the coun- try’s currency value constant in terms of another asset, like another currency, a basket of currencies or a fixed weight of gold, for example. In a hard peg, a currency’s price is held permanently at a fixed level. In a soft peg, a currency’s price is returned to the predefined parity at regular intervals (e.g. monthly, weekly). In a crawling peg, a currency’s price is fixed based on prescheduled changes. Direct link: An account opened by a CSD, referred to as the “investor CSD”, in the books of another CSD, referred to as the “issuer CSD”, in order to facilitate the transfer of securities from participants in the issuer CSD to participants in the investor CSD. Annex 8 82 REGIONAL INTEGRATION GUIDELINES EMV: An acronym describing the set of specifications developed by the consortium EMVCo, which is promoting the global standardization of electronic financial transactions – in particular the global interoperability of chip cards. “EMV” stands for “Europay, MasterCard and Visa”. Financial infrastructure*: A legal or functional entity organized to provide multilateral transaction and post-trans- action services for payments, securities, derivatives and other financial transactions. The definition of an FI is con- ceptually similar to a financial market infrastructure, but is functionally broader in scope, referring also to trading systems for securities, derivatives and foreign exchange as well as shared transaction systems for payments, such as traditional ATM and POS card payment networks and more modern on-line payment and mobile-payment networks. Financial infrastructure scheme*: A common framework for transacting, clearing and settling transactions, includ- ing operating rules, business practices and standards, participation requirements and funding schemes, among others. Financial market infrastructure: A multilateral system among participating institutions including the operator of the system, used for the purposes of clearing, settling, or recording payments, securities, derivatives, or other financial transactions. Gap analysis*: A technique that businesses use to determine what steps need to be taken in order to move from the current state to the desired, future state. Also called “need-gap analysis”, “needs analysis”, and “needs assessment”. Global custodian: A custodian that provides its customers with custody services in respect of securities traded and settled in several countries around the world. Horizontal integration*: A set of contractual and operational agreements connecting two or more FIs in parallel roles. For example, a CSD with a CSD, or a payment settlement infrastructure with another payment settlement infrastructure. Hub-spoke arrangement*: An arrangement in which all transaction traffic moves along spokes connected to the hub at the center. The hub is a single centralized operation center. The nodes are the points of delivery and the spokes are the communication routes between the nodes and the hub. There are variations, but in its most simple form, there are no point to point routes directly between nodes and all transaction traffic must go through the hub and then out again. International Bank Account Number (IBAN): An International Organization for Standardization (ISO) technical code that is an expanded version of the basic bank account number (BBAN). Intended for use internationally, the IBAN uniquely identifies an individual account at a specific financial institution in a particular country. The IBAN also includes the bank identifier of the financial institution servicing that account. International central securities depository (ICSD): A CSD which was originally set up to settle Eurobond trades and is now active also in the settlement of internationally traded securities from various domestic markets, typically across currency areas. At present, there are two ICSDs located in EU countries: Clearstream Banking in Luxembourg and Euroclear Bank in Belgium. REGIONAL INTEGRATION GUIDELINES 83 Interoperability: The set of arrangements/procedures that allows participants in different systems to conduct and settle payments or securities transactions across systems while continuing to operate only in their own respective systems. Link*: A set of contractual and operational arrangements between two or more financial infrastructures that connects them directly or through an intermediary. Oversight: The oversight of payment systems is a typical central bank function whereby the objectives of safety and efficiency are promoted by monitoring existing and planned systems, assessing them against the applicable standards and principles whenever possible and, where necessary, fostering change. Oversight activities increasingly relate also to securities clearing and settlement systems. Pan-European automated clearing house (PE-ACH): A business platform for the processing of euro payment in- struments which is made up of governance rules and payment practices and supported by the necessary technical platform(s). Payment versus payment (PvP): A mechanism which ensures that the final transfer of a payment in one currency occurs if – and only if – the final transfer of a payment in another currency or currencies takes place. Regional integration*: A process in which states enter in a region enter into an agreement in order to enhance regional cooperation through regional institutions and rules. The objectives of the agreement can range from eco- nomic to political, environmental and several others Typically, commercial interests have been the focus for achieving broader objectives. Remote access: Direct access by an institution established in one country to a system (e.g. a payment system, a securi- ties settlement system or a CCP) established in another country. Settlement agent (settlement institution): The institution across whose books transfers between participants take place in order to achieve settlement within a settlement system. Single Euro Payments Area (SEPA): A process initiated by European banks and supported, inter alia, by the Eurosystem and the European Commission with a view to integrating retail payment systems and transforming the euro area into a true domestic market for the payment industry. WOT analysis: Is a structured planning method used to evaluate the Strengths, Weaknesses, Opportunities, and Threats involved in a project or in a business venture. It involves specifying the objective of the business venture or project and identifying the internal and external factors that are favorable and unfavorable to achieving that objective. Trade repository: An entity that maintains a centralized electronic record (database) of transaction data. Vertical integration*: A set of contractual and operational agreements connecting two or more FIs in sequential roles. For example, an ACH with a payment settlement infrastructure, or a trading system with a CSD-SSS. Annex 8