## _cr15172 ## Source details **Canonical URL:** [_cr15172](https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2015/_cr15172.pdf) ## Other formats - [Markdown version](/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2015/_cr15172.pdf.md) - [Structured JSON version](/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2015/_cr15172.pdf.json) --- ### Systemic Risk Oversight and Management Overview - FSOC established in 2010 by the DFA to bring together key U.S. financial regulators to support financial stability; central to regulatory response to problems from 2007–2009. - FSOC primary purposes (DFA): identify risks to U.S. financial stability; promote market discipline by eliminating expectations of government shielding; respond to emerging threats to U.S. financial stability. - Governance and resourcing: - Secretariat: just over 20 staff currently located in the U.S. Treasury. - Deputies Committee meets on average every two weeks and directs six Committees. - Voting membership: heads of nine national authorities plus an independent member with insurance expertise; advisors include OFR and FIO Directors and state regulators. - Key institutional recommendations: - Provide each member agency and member an explicit mandate to promote financial stability (subject to their mission and objectives). - Clarify whether FSOC members act individually or represent their agencies; consider model where members act on behalf of agencies. - Appoint Chairs to FSOC staff Committees and increase proportion of Secretariat staff on detail from member agencies. - Maintain and underscore FSOC political independence; note Treasury Secretary chairs and has special voting requirements in some designation votes. - Accountability and transparency improvements: - Clarify and publish more specific follow-up actions for identified risks, outlining responsibility, expected timelines, and reporting of results. - Publish additional guidance in each Annual Report on the materiality attached to each identified threat (likelihood and impact). - Publish a chapter in the 2016 FSOC Annual Report describing procedures and principal monitoring tools. ### FSOC Authorities, Designation, and Follow-up - Statutory powers and tasks include: - Facilitate regulatory coordination and information sharing; - Collect additional information via OFR where available data insufficient; - Designate nonbank financial companies for consolidated supervision by the Federal Reserve (four designated to date: AIG, GE Capital, Prudential Financial, MetLife); - Designate systemically important FMUs (eight designated to date: Clearing House Payments Company LLC; CLS; CME; ICE Clear Credit LLC; DTC; FICC; NSCC; OCC); - Recommend stricter standards to primary regulators (section 120 used once re: MMMFs). - Designation process notes: - Three-stage process: step 1 identify candidates; step 2 initial assessment; step 3 detailed in-depth review. - Final determination requires two-thirds majority of voting members then serving, including affirmative vote by the Chair. - Companies may request a hearing to contest determinations. - FSOC announced changes in February 2015 to increase transparency and engagement. ### Data, OFR Role, and Data Gaps - OFR mandate: collect and standardize data for FSOC; developed Financial Stability Monitor (traffic-light summary across macro, market, credit, funding/liquidity, contagion). - OFR staffing: grew from some 30 staff in Fiscal Year 2011 to nearly 225 in December 2014; steady state expected around 300. - Critical data gaps and priorities: - Short-term wholesale funding markets (tri-party repo, bi-lateral repo), securities lending, asset management industry, and interconnectedness between banks and non-bank system. - Recommendation: set clear short-term deadline to resolve obstacles to data sharing and agree flexible data sharing protocol. - Recommendation: all member agencies to announce LEI will provide basis for future mandatory data collection requiring entity identification. - Data standardization issues: - Inconsistent definitions across agencies increase production costs and hinder aggregation (example: NAIC, FRB, SEC pilot projects with potentially different definitions). ### Macroprudential Toolkit: Progress and Gaps - Policy objectives: increase resilience; address structural vulnerabilities; contain systemic vulnerabilities from procyclical links. - Tool categories: - Structural measures (address points of weakness); - Counter-cyclical measures (limit cyclical buildup). - Progress: - DFA implementation raised structural resilience of banking system via additional capital, leverage and liquidity standards, stress testing, and resolution planning. - Summary tool entries include: - Additional capital surcharge for G-SIBs: Yes; Phased in over Jan 2016 to Dec 2018; Implementing agency: FRB; Applies to 8 US G-SIBs. - Enhanced supplementary leverage ratio: Yes; Jan 2018; Implementing agencies: FRB, FDIC and OCC; Applies to 8 US G-SIBs. - Enhanced liquidity standards for systemic banks: Yes; Phased in over Jan 2015 to Dec 2016; Implementing agencies: FRB, FDIC and OCC; 8 US G-SIBs + banks >$250 billion apply full U.S. LCR. - Countercyclical buffers: Yes; 2016 onwards (phased in Jan 2016 – Jan 2019); Implementing agencies: FRB, OCC, FDIC; Firms >$250 billion in assets or >$10 billion in foreign assets. Application triggers under research. - Gaps and recommendations: - United States has a relatively limited set of time-varying tools; remedy deficiency by developing flexible counter-cyclical instruments to address sectoral and cyclical buildups. - Publish a summary of the U.S. toolkit identifying available tools, responsible agencies, triggers, and implementation framework. ### Systemic Liquidity and Liquidity Backstops - General findings: - Freezing of liquidity was a key trigger for the crisis; counterparty uncertainty caused sharp drops in fed funds volumes and widening OIS-LIBOR spreads. - QE may mask some vulnerabilities: fed funds volumes remain low due to increased reserve balances; uncertainty about interbank market functioning post-exit. - Tri-party repo (TPR): - TPR volumes fell from a peak of $2.8 trillion pre-crisis to $1.5 trillion; Fed weekly data (as of February 25, 2015) report repos $1.7 trillion and reverse repos $2.1 trillion (includes tri-party and bi-lateral). - Major achievement: intra-day credit provided by clearing banks reduced from 100 percent to less than five percent; by end-March 2015 clearing banks met objective of limiting intra-day credit to max 10 percent of a dealer’s notional tri-party book. - GCF net cash settled on March 10, 2015: $130 billion; tri-party repo market: $1.6 trillion. - Recommendations: - Reduce reliance on the two clearing banks; consider settlement in central bank funds or CCP with access to central bank accounts. - Review legal safe harbors governing repo transactions (2005 expansion) and consider limiting safe-harbor collateral or mitigating structures. - Money Market Mutual Funds (MMMFs): - Assets under management stabilized at around $2.7 trillion. - MMMF share of depository institutions’ deposits declined from 43 percent in 2008 to 22 percent at end-2014. - 2010 liquidity rules: funds must hold 10 percent in overnight cash and U.S. Treasuries, 30 percent maturing within five days, max 5 percent in illiquid securities, maximum weighted average maturity 60 days. - SEC 2016 reforms: - Classify funds as government funds (>=99.5 percent in cash and treasury securities), retail funds (beneficial ownership limited to natural persons), institutional funds (all others). - Government and retail funds can continue constant NAV; institutional funds required to move to variable NAV. - For all funds except Government funds, redemption fees up to 2 percent allowed if weekly liquid assets <30 percent; mandatory fee of at least 1 percent where weekly liquid assets <10 percent. - Gates: redemptions can be suspended where weekly liquid assets <30 percent; gate must be lifted within 10 days and cannot be used more than 10 days in a 90-day period. - Concerns and recommendations: - Stable NAVs may persist after 2016 for up to three quarters of funds managed by MMMFs; variable NAVs should be applied to all MMMFs. - Limit repo collateral to securities MMMFs are able to hold outright to reduce forced-sale risk. - FSOC could promote commonly-agreed definitions of ‘cash’ and ‘cash equivalent’. - Broker-dealers (BDs): - Post-crisis many large BDs reorganized as BHCs; strengthened liquidity regulation improved risk management. - Remaining concern: regulatory framework at BD level not fully addressed; SEC review under consideration includes proposals: 1) minimum capital requirement $5 billion, 2) liquidity rules at BD level, 3) maximum leverage ratio for BDs. - Recommendation: complete review and finalize BD-level rule changes. - Liquidity backstops and DFA constraints: - DFA restricts Fed’s ability to provide liquidity backstops to individual institutions (unusual and exigent circumstances; broad-based eligibility; pre-approval by Treasury; ex-post reporting to Congress). - Recommendation: review broad-based eligibility criteria; consider allowing Fed discretion to extend liquidity support to solvent individually-designated institutions (with solvency ascertainment and heightened prudential standards). - Discount window and FHLBs: - FHLB advances peaked at over $1 trillion in September 2008 (c.f. $536 billion at June 2014). - FHLB short-term loans receive favorable treatment in LCR (75 percent rollover assumption). - Recommendation: review calibration of LCR treatment for FHLB funding and adequacy of FHFA liquidity and capital requirements for FHLBs. - Discount window stigma: consider separate intraday/end-of-day facility (e.g., repo with Treasury and agency collateral) available from 3pm to reduce stigma. ### Investment Funds, Securities Lending, and Asset Management Risks - Growth and concentration: - Expansion of open-ended mutual funds (MFs) and ETFs in HY corporate bonds, EM debt, and bank loans has increased market liquidity risks. - As of December 2013: - MFs and ETFs held $555 billion in HY corporate bonds (over a third of $1.5 trillion outstanding), with $477 billion held by dedicated HY bond funds. - MFs held $380 billion in EM debt. - U.S. MFs held over $150 billion in bank loans (25 percent of total held by non-banks). - HY funds’ average cash ratio around 3 percent (close to four year low as of June 2014); HY funds’ AuM has grown over 14 percent on an annual basis since 2008. - Structural vulnerabilities: - Money-like investment shares, lack of balance-sheet capacity to meet redemptions, incentives for investor herding. - Regulation requires MFs to pay exiting investors the NAV prevailing on redemption day (not sale-date), transferring first-mover advantage to exiting investors. - MFs may borrow up to 33 percent of market value of net assets to meet redemptions. - ETFs: - Traditional physical-replication ETFs can be liquidity-enhancing, but ETFs tracking HY bonds, EM assets, municipal bonds, and bank loans may have misplaced perceptions of liquidity. - Arbitrage and redemption-in-kind can be costly for market makers and authorized participants, risking steep discounts under stress. - Securities lending and cash collateral reinvestment: - Cash collateral reinvestment generally limited to “short-term highly-liquid instruments as determined by the fund’s adviser subject to the oversight of the funds’ board of directors.” - Risks include maturity and liquidity transformation, counterparty risk, and operational risk; historical AIG example demonstrates potential severity. - Data gaps and disclosure shortfalls hamper assessment: amount of securities lent, composition of reinvestment portfolios, maturity mismatches, counterparties, and income sharing not systematically disclosed. - Agent lenders’ compensation can be substantial (25 percent or higher of securities lending income). - Recommendations: - Pilot surveys by OFR, FRB, and SEC on securities lending welcomed; insights to be used to extend disclosure requirements across industry. - Review practices that direct fund cash collateral to MMMFs given gates and liquidity risk. ### Financial Market Infrastructures (FMIs) Oversight, Risks, and Recommendations - FMI scale and interconnections: - Selected 2013 values: - FICC value of transactions: 1,155,200 (billion dollars). - Fedwire Funds value: 713,310 (billion dollars). - CME outstanding interest rate swaps: $27 trillion. - ICE Clear Credit outstanding CDS: $928 billion. - FMIs depend on Fedwire Funds for settlement; many FMIs are interlinked (FICC and NSCC depend on DTC; CCPs linked via cross-margining). - Designation and regulation: - Eight FMIs designated as FMUs under DFA Title VIII; designated FMUs subject to enhanced standards and annual examination. - CFTC and FRB issued final enhanced risk management rules in 2013 and 2014; SEC final enhanced standards yet to be promulgated. - Recommendation: promptly finalize SEC rules implementing PFMI standards and ensure implementation by FMIs. - System-wide risks and concentration: - Key system-wide concerns: - FMIs’ dependency on services provided by a few G-SIBs; at least two G-SIBs are crucial to operations of nearly all U.S. FMIs. - Membership of banks in multiple FMIs can propagate defaults. - Pro-cyclicality of margin calls and cross-margining exposures. - Recommendations: - Develop systematic approach to identify and respond to system-wide risks from FMIs’ interdependencies. - Offer designated FMUs access to Fed accounts and settlement in central bank money where appropriate to reduce dependency on commercial banks (consistent with avoiding undue credit/settlement risk to the Fed). - Increase number of service providers to FMIs and mitigate concentration. - Resources, supervision, and crisis arrangements: - CFTC, SEC, and FRB have increased staffing; agencies should ensure appropriate quantity and quality of resources. - Recommend formalize and test crisis management arrangements and MOUs with foreign authorities; recovery and resolution planning for FMIs should be advanced in line with international guidance. - Recovery and resolution planning for FMIs are at an early stage; work should be finalized as soon as possible. ### Housing Finance: Reforms, Risks, and Recommendations - Systemic importance: - Home mortgages ~ $10 trillion, largest component of nonfinancial private sector debt. - Federal government backs more than 60 percent of stock of loans and almost 80 percent of new single-family loan originations through FHA, VA, Fannie Mae, Freddie Mac, and Ginnie Mae. - GSEs and reforms: - Fannie Mae and Freddie Mac remain in conservatorship; legislative reform stalled. - GSE retained portfolio reductions between March 31, 2009 and December 31, 2014: - Freddie Mac: $867 billion to $408 billion. - Fannie Mae: $784 billion to $413 billion. - Treasury agreements require each portfolio to be below $250 billion by December 31, 2018. - Risks and recommendations: - Continued uncertainty creates fiscal and financial risks: moral hazard, distorted competition, and large implicit subsidies. - Recommended goals in reform proposals include: winding down GSE retained portfolios within defined time period; private first-loss capital with limited public backstop funded by risk-based guarantee fees; clear separation of access to credit and market stability roles; charging appropriately for prepayment of fixed-rate mortgages. - Strengthen role of FSOC in macroprudential analysis related to housing, consider use of QM/QRM and tools such as LTV ratios. - Other measures and progress: - CFPB Qualified Mortgage (QM) rules effective January 2014; QRM definition aligned with QM; QRM review scheduled four years after effectiveness (December 2015) and every five years thereafter. - FHFA actions: reduced retained portfolios, promoted credit-risk sharing, improved reps and warrants clarity, promoted mortgage data standardization and servicer standards. - Remaining vulnerabilities: legacy loans, litigation and put-back risks, nonbank servicer supervision, and limited private mortgage insurance capacity (only 3 percent of private industry involved). ### Key Statistics and Selected Tables (as reported) - MMMF and repo markets: - MMMF AuM stabilized at around $2.7 trillion. - Tri-party repo: pre-crisis peak $2.8 trillion; fell to $1.5 trillion. - GCF repo net cash settled on March 10, 2015: $130 billion; tri-party repo market: $1.6 trillion. - Fed weekly data (as of February 25, 2015): repos $1.7 trillion; reverse repos $2.1 trillion. - FMIs and transaction values (2013): - FICC: 1,155,200 (value of transactions, billion dollars). - Fedwire Funds: 713,310 (value of transactions, billion dollars). - DTC: 319 (number of transactions, million); 123,100 (value of transactions, billion dollars). - CME IRS outstanding: $27 trillion. - ICE Clear Credit CDS outstanding: $928 billion. - CCP financial resources (December 2013/2014 snapshots): - FICC: Size of margin/clearing fund: 19.7 (billion dollars); of total deposits 11.1 in cash and 8.5 in securities (data as of June 30, 2014). - NSCC: Size of margin/clearing fund: 4.4 (billion dollars); of total deposits 4.2 in cash and 0.2 in securities (data as of June 30, 2014). - OCC: Size of margin/clearing fund: 102; 4 (billion dollars) (data as of December 31, 2013). - ICE Clear Credit: 16; 1.9 (billion dollars) (data as of September 30, 2014). *Source: EXECUTIVE SUMMARY and selected excerpts from the Technical Note prepared in the context of the 2015 U.S. Financial Sector Assessment Program (IMF staff report content unit _cr15172).* ### EXECUTIVE SUMMARY __________________________________________________________________________ 6 ### EXECUTIVE SUMMARY ### Systemic Risk Oversight and Management Overview - The Financial Stability Oversight Council (FSOC) was established in 2010 to fill a major gap in the U.S. financial stability framework and is central to the regulatory response to problems from 2007–2009. - FSOC’s effectiveness rests on enhanced communication, consultation, and coordination across specialist agencies and on building a collective, common purpose across U.S. financial regulatory agencies. - Recommended institutional improvements and actions: - Provide to each member agency and member an explicit mandate to promote financial stability and thus to support the work of FSOC (subject to the mission and objectives of the member agencies and members). - Address data gaps and impediments to data sharing. - Support coordination and consultation on prudential standards and regulations. - Enhance risk monitoring frameworks and provide additional clarity on the nature and scale of identified emerging systemic threats. - Strengthen transparency and collective ownership of actions needed to address identified risks by clarifying and publishing more specific follow-up actions, outlining responsibility for delivery, including expected timelines for implementation and reporting of results. - Macroprudential toolkit: - Development remains a work in progress. - FSOC member agencies and members should continue to focus on measures to address the buildup of cyclical and sectoral risks, to strengthen resilience of financial markets to run risks, and to clarify the framework for implementation of macroprudential policies. - Progress and gaps across sectors: - Banking sector resilience: progress most advanced through FSOC designation, heightened prudential standards, enhanced supervision, ‘living wills’, and resolution legislation and procedures. - DFA restricts authorities’ (in particular the Fed’s) ability to provide a liquidity backstop to individual institutions, increasing reliance on strengthened prudential standards and recovery/resolution planning. During transition, Treasury, the Fed and other agencies need adequate plans and clear legal authorities to respond timely to problems in SIFIs and systemically-important markets. - Financial Market Infrastructures (FMIs), especially central counterparties (CCPs), have seen increased staffing and regulatory frameworks for designated Financial Market Utilities (FMUs) that provide transparency, governance, and strong risk management. - It is important to promptly finalize implementation of the international PFMI through completion of rules and their implementation by FMIs. - Further address concentration risks from G-SIBs’ provision of services to FMIs. - Providing designated FMUs with an account at a Federal Reserve Bank will be important. - System-wide risks related to interdependencies and interconnections in the U.S. FMI landscape could be further identified and managed. - Recovery and resolution plans for FMIs are at an early stage; authorities are encouraged to continue development in line with international guidance. - Non-bank sector and designation challenges: - In principle any entity or activity whose failure or excesses could cause a major disruption should be subject to higher prudential standards or enhanced resolution regimes. - In practice applying this to non-banks (e.g., investment funds, asset management activities) is challenging because management is often by agents and regulation has focused on conduct. - Under Section 112 of the DFA, FSOC can make recommendations to primary regulators even in absence of designation and should use this authority. ### Systemic Liquidity and Liquidity Backstops (Key concerns highlighted) - Triparty repo infrastructure: - Reforms have reduced but not eliminated a number of risks. - Consideration should be given to using a CCP with access to central bank accounts to further reduce risks. - Money Market Mutual Funds (MMMFs): - Made more resilient, but the use of stable Net Asset Values (NAVs) persists. - Even after 2016, stable NAVs may apply to three quarters of the funds managed by MMMFs, allowing investors to treat these as cash-equivalent despite greater liquidity risks than cash. - Broker-dealers (BDs): - Need strengthened regulation and supervision, especially since large BDs may not remain under Bank Holding Companies (BHCs) indefinitely. - Securities lending and cash collateral reinvestment: - Risk management practices require review; improving data is necessary. - Legal safe harbors governing repo transactions: - Impact should be reviewed. - Data gaps: - Shortfalls exist in collection and in availability/ease of manipulation of data across FSOC members and financial regulatory agencies. - Data gathering for bilateral repo, securities lending, and asset management is still at very early stages. - Liquidity backstops and Fed exit considerations: - DFA constraints on liquidity backstops increase importance of other tools and preparedness. - Specific concern on MMMFs and cash collateral: - MFs’ investment of cash collateral received in securities lending is increasingly directed by mandates to MMMFs; redemptions from such MMMFs could be gated at times of stress, implying liquidity risk despite avoidance of maturity mismatch. ### Investment Funds and Systemic Risk - Growth and concentration risks: - Expansion of open-ended mutual funds (MF) and exchange traded funds (ETF) in certain products has increased market liquidity risks. - Holdings of high yield (HY) corporate bonds, emerging market (EM) debt and bank loans by these funds have increased substantially since 2008 while common metrics of trading liquidity have declined significantly in these products. - Structural vulnerabilities: - Money-like investment shares, lack of balance-sheet capacity to meet investor redemption demand, and incentives for investors to herd are causes for concern. - Securities lending and embedded leverage: - A comprehensive assessment of financial stability risks from MFs’ securities lending and embedded leverage is needed. ### Systemic Risk Oversight of Financial Market Infrastructures (FMIs) - U.S. FMI landscape: - Agencies have substantially increased staff. - Regulatory frameworks governing designated FMUs provide for transparency, governance, and strong risk management. - Implementation priorities: - Promptly finalize implementation of PFMI by completing rules and implementation by FMIs. - Address concentration of service provision by G-SIBs to FMIs. - Facilitate Federal Reserve accounts for designated FMUs. - Enhance identification and management of system-wide risks from interdependencies and interconnections. - Advance recovery and resolution planning for FMIs in line with international guidance. ### Housing Finance - Post-GFC reforms: - Not enough has been done to tackle structural weaknesses in mortgage markets uncovered during the Global Financial Crisis. - Legislative reforms of Fannie Mae and Freddie Mac have stalled. - It is essential to reinvigorate legislative momentum for comprehensive housing finance reform in line with recent proposals. *Source: EXECUTIVE SUMMARY (Technical Note prepared in the context of the 2015 U.S. Financial Sector Assessment Program).* ### 1. Significant structural changes to the framework were introduced in the wake of the ### _cr15172 - 1. Significant structural changes to the framework were introduced in the wake of the ### Background and purpose of the note - Significant structural changes to the framework were introduced in the wake of the global financial crisis. Most substantially, the FSOC was established in 2010 by the DFA to bring together key U.S. financial regulators to support financial stability. - The establishment of the Council was a major landmark and fulfilled a key recommendation of the 2010 FSAP. - The note describes the role and operations of the Council and its member agencies to promote U.S. financial stability, examining approaches and capacity of FSOC and member agencies to identify and respond to evolving systemic risks; work underway to strengthen risk identification and enhance the macroprudential policy toolkit; and several major financial stability risks (systemic liquidity risks; market based financing issues; risks related to FMIs; and mortgage market risks and options for reform). ### Remit and primary purposes of FSOC - FSOC has three primary purposes, as set out in the DFA: - to identify risks to U.S. financial stability; - to promote market discipline by eliminating expectations that the government will shield shareholders and counterparties from losses; and - to respond to emerging threats to U.S. financial stability. - FSOC is supported by a Secretariat and by the Office of Financial Research created by the DFA. ### Authorities, tasks, and formal requirements - FSOC was established to remedy institutional shortcomings and policy failures, including insufficient attention to system-wide risk buildup and weak institutional structures for collaboration. - FSOC has authorities and powers under the DFA to undertake six main tasks, including: - facilitate regulatory coordination among the member agencies; - facilitate information sharing and data collection; - designate nonbank financial companies for consolidated supervision and enhanced prudential standards; - designate systemically important FMUs and payment, clearing or settlement activities for heightened oversight and supervision and to meet enhanced risk management standards; - recommend stricter standards for the largest, most interconnected firms and make formal recommendations to primary regulators to apply new or heightened standards; - play a significant role in any determination of whether actions should be taken to break up firms that pose a grave threat to financial stability. - Accountability and reporting: - FSOC must publish an Annual Report describing activities, including an assessment of potential emerging threats to U.S. financial stability and recommendations to enhance integrity, efficiency, competitiveness and stability of U.S. financial markets, and to promote market discipline and maintain investor confidence. - Voting members of the Council must individually sign off that they agree all reasonable steps are being taken to ensure financial stability, or specify further actions they believe should be taken. - To date, the 5 FSOC Annual Reports have each been signed off unanimously by the voting members. ### Organization, governance, and resources - The Council is supported by a Deputies Committee of senior staff of Council members and member agencies, which meets on average every two weeks to direct and oversee the work of six Committees focused on different aspects of the Council’s responsibilities. - FSOC is also supported by a dedicated Secretariat of just over 20 staff currently located in the U.S. Treasury. - Bylaws or rules of organization of the Council and of the Deputies Committee have been published by FSOC. Work underway to publish governance arrangements and Charters for the individual Committees is noted as helpful. - Comparative observation: - FSOC has fewer direct powers and tools than some financial stability oversight bodies in the U.K. and Europe. FSOC does not have ownership and control of macroprudential tools and its formal recommendation powers under section 120 of DFA have tighter restrictions in practice. - The vast majority of FSOC recommendations are ‘advisory’, although FSOC has authority to issue formal recommendations. ### Membership and representation - The broad membership of FSOC reflects the complex U.S. regulatory structure: - Voting members: heads of nine authorities with national responsibilities, together with an independent member with insurance expertise appointed by the President. - Advisors: Directors of the OFR and the Federal Insurance Office (FIO), and nominated representatives of state insurance commissioners, banking supervisors, and securities commissioners. - Specific representation issues: - The insurance industry is represented by an independent member with insurance expertise (voting) plus FIO and a state insurance commissioner as non-voting observers, reflecting absence of a parallel federal/national insurance regulatory body. - This structure could mean that insurance issues lack a voice congruent to the systemic importance of the sector; resolving this would likely require creation of a federal/national insurance regulatory organization. ### Box 1 — Summary of Major Authorities and Tasks of FSOC (selected points) - Facilitate Regulatory Coordination: responsibility to facilitate information sharing and coordination among member agencies regarding domestic financial services policy development, rulemaking, examinations, reporting requirements, and enforcement actions. - Facilitate Information Sharing and Collection: statutory responsibility to facilitate sharing of data and information; authority to direct the OFR to collect additional information where available data prove insufficient. - Designate Nonbank Financial Companies for Consolidated Supervision and enhanced prudential standards: authority to designate nonbank financial companies for consolidated supervision by the Federal Reserve; to date, four nonbank financial companies have been designated by FSOC. - Designate Systemic Financial Market Utilities (FMUs) and Systemic Payment, Clearing, or Settlement Activities: responsibility to designate FMIs as systemically important; designated FMUs must comply with risk management standards prescribed by FRB, SEC, or CFTC as appropriate; eight FMIs have so far been designated. The power to designate systemically important payment, clearing or settlement activities has not been used to date. - Recommend Stricter Standards: authority to recommend stricter standards for largest, most interconnected firms; may make formal recommendations to primary regulators for new or heightened regulatory standards; the Council used this facility once—in relation to MMMFs. - Break up Firms that Pose a Grave Threat to Financial Stability: FSOC has a role in any determination whether action should be taken to break up firms posing a “grave threat”; no actions have been taken under this provision. - Examples cited in Box 1: - Nonbank financial companies designated: AIG, GE Capital, Prudential Financial, and MetLife. - Designated FMUs: the Clearing House Payments Company LLC; Continuous Linked Settlement Bank International (CLS); Chicago Mercantile Exchange (CME); Intercontinental Exchange Clear Credit LLC (ICE); Depository Trust Company (DTC); Fixed Income Clearing Corporation (FICC); National Securities Clearing Corporation (NSCC); and the Options Clearing Corporation. - The Council undertook steps under section 120 of DFA in late 2012 on MMMF reform; SEC subsequently announced final proposals in July 2014. ### Ambiguities, internal roles, and recommended clarifications - Ambiguities exist in the role and responsibilities of individual Council members and of FSOC member agencies: - Section 102 of DFA defines member agencies as agencies represented by a voting member of the Council. - Section 111 of DFA lists voting members as individuals fulfilling particular roles and assigns responsibilities for decision making and for signing off on the FSOC Annual Report; it also lists non-voting members. - Alternative views exist on whether FSOC members should participate in an individual capacity or on behalf of their agencies; resolving this ambiguity would strengthen coordination. - Possible approaches and implications: - A model where Council members act on behalf of the agencies they lead could offer stronger support for FSOC objectives, but would require members to secure support of agency decision-making bodies (complex where agencies are governed by commissions). - Provision of an explicit financial stability objective to member agencies would bolster coordination and clarify roles. Existing statutory mandates of many agencies do not typically include financial stability; the Federal Reserve mission statement is an exception. As an immediate step, agencies could voluntarily state support for FSOC’s work, subject to their individual missions and objectives. ### Governance balance and political independence - It is crucial that FSOC’s political independence not only be maintained, but be seen to be maintained. Concerns arise due to the strong role of the Treasury in FSOC: - The Treasury Secretary chairs the Council and, in some cases, has a ‘primus inter pares’ role with veto power in certain designation decisions. - International practice commonly places the central bank as chair of financial stability or macroprudential policy councils to help insulate councils from short-term political pressure. - Countervailing features in the U.S. structure: - One person, one vote framework for many decisions provides some counterweight. - Duties and responsibilities of individual members under the DFA and depth and breadth of representation across the regulatory structure also provide counterweights. - The Treasury is not a supervisory agency; the Treasury Secretary’s role as Chair may facilitate cooperation among regulatory agencies in the Council. *Source: _cr15172 - 1. Significant structural changes to the framework were introduced in the wake of the* ### 15. The governance structure of the Deputies Committee and other FSOC staff ### 15. The governance structure of the Deputies Committee and other FSOC staff ### Governance arrangements and current practice - The U.S. Treasury both chairs the Council and serves as the Chair of the Deputies Committee. - FSOC Secretariat staff are drawn almost entirely from the U.S. Treasury and facilitate the operation of other FSOC staff Committees in the absence of appointed Chairs. - Charters for each Committee were published in May 2015, but they do not provide for a Chairperson.23 ### Recommendations to strengthen governance and buy-in - Consideration should be given to appointing Chairs to the FSOC staff Committees, drawing on the expertise of member agencies as appropriate. - Increasing the proportion of FSOC Secretariat staff on detail from member agencies would be helpful and could increase the buy-in by member agencies. - To underscore the independence of FSOC, it would be helpful to clarify the organization and governance arrangements for each of the Committees in the Charters that are under development, ensuring that the expertise of each of the member agencies is drawn on appropriately. - It would be helpful to appoint Chairs for each of the supporting staff Committees, drawing upon the expertise of the member agencies.23 ### Collaborative working and explicit financial stability mandate - The mandates and mission statements of each of the FSOC member agencies should be supplemented by addition of an explicit financial stability mandate. - As an immediate step towards this goal, member agencies are encouraged to publish voluntary statements that the agency fully supports the work of the Council, subject to meeting the mandate and mission of the individual agency. ### Strengthening systemic risk identification — overview - Prior to FSOC, no authority had the capacity or responsibility to undertake monitoring or assessment of risks to the system as a whole; regulators focused on individual mandates and data collection was piecemeal. - The OFR (structured as an Agency of the U.S. Treasury) was created by DFA to support the work of the Council by improving financial data; the OFR works with FSOC member agencies through the FSOC Data Committee and bilateral contacts to close identified data gaps. - Notwithstanding improvements, gaps remain substantial. The OFR: “Data available to regulators are not currently sufficient to evaluate many of the key risks and policy issues.”24 - Urgent priorities for data improvements include repo and securities lending markets, the asset management industry, other aspects of nonbank finance, and data on connectedness between banks and the non-bank system, as well as broader interconnections within the financial system.25 - The project to enhance the Financial Accounts of the United States recently announced by the FRB with the support of the OFR is noted as very welcome.26 ### Data sharing impediments and legal constraints - Data are collected by regulatory agencies under different legal and administrative arrangements; legal frameworks governing individual data collections sometimes place strong restrictions that inhibit sharing, even with other regulatory agencies.27 - FSOC agencies have developed procedures to enable sharing under the general approach that every agency maintains authority and control over their own data; these procedures are cumbersome and relatively inflexible, requiring tailored application in each case. - Example: The ‘flash rally’ in the government securities market on October 15, 2014—several agencies had information on different aspects and actors; one agency gave an initial report to FSOC in early November, but in-depth analysis required additional feedback and completing legal access arrangements among the agencies took additional time. There was also uncertainty whether some data could be shared with the U.S. Treasury debt management unit (an interested party, but not a regulatory agency). - FRB Governor Brainard: “no U.S. agency yet has access to complete data regarding bank and nonbank financial activities.”28 She emphasized the importance of the OFR in: “facilitating the sharing of previously siloed data sets among the independent regulators.”29 ### Data standardization priorities - Data collections are typically targeted and tailored to specific policy questions, leading to inconsistencies in data definitions that lower the ability to aggregate different data sources. - Piecemeal data collection adds to production costs—for example, NAIC collection of securities lending data from insurance companies while FRB, SEC, and OFR separately start a pilot project on securities lending data with potentially different definitions.30 - The OFR is actively promoting greater standardization of data at a granular level to support flexible aggregation and enhance financial stability analysis. - The OFR advocates widespread use of the Legal Entity Identifier (LEI)—a unique global identification system for parties to financial transactions developed by the FSB and endorsed by the G-20.31 - Adoption status: CFTC first adopter for reporting derivatives transactions to swap data repositories; NAIC and the SEC adopted LEI for mandatory swaps reporting rules; take-up by other U.S. regulatory agencies has been relatively sluggish. - Recommendation: A clear announcement from all member agencies that the LEI will provide the basis for future mandatory data collection requiring entity identification would boost data standardization initiatives. ### FSOC risk assessment structure and processes - The FSOC Systemic Risk Committee (SRC) brings together staff from all member agencies to support identification of threats to financial stability by the Council, enabling member agencies to recommend issues for review as potential system-wide threats. - It is important that member agencies take a comprehensive and rigorous approach to risk assessment.33 - System-wide risk assessment must look beyond the regulatory perimeter to consider risks emerging outside the combined regulatory perimeter, including from regulatory arbitrage. - The OFR provides regular reports to FSOC committees on financial market developments and potential risks that may warrant further investigation. - Recommendation: Spell out more clearly the collective framework and processes FSOC has in place to monitor and assess risks beyond the regulatory frontier, including assignment of responsibilities to member agencies and the OFR for risks that lie outside regulatory boundaries. - Additional reassurance would be provided by inclusion of a specific, focused section within the FSOC Annual Report assessing risks beyond the regulatory frontier; the current section reporting on areas the Council is monitoring is a helpful start.35,36 ### International developments and spillovers - Given strong interconnections between the U.S. financial system and global financial markets, FSOC should closely monitor international financial developments and market risks. - The FSOC Annual Report identifies risks from international markets as a threat to U.S. financial stability and describes principal concerns and threats. - Recommendation: Set out responsibilities for monitoring such risks across the member agencies and the OFR on a continuing basis to avoid gaps. - Recommendation: FSOC should provide a regular assessment of the potential impact of major U.S. policy developments on global financial market risks in the FSOC Annual Report. ### Development of analytical and monitoring tools - The OFR has developed a Financial Stability Monitor, a traffic-light summary of five categories of system-wide risk: macro, market, credit, funding/liquidity, and contagion, combining information from a wider range of indicators to signal financial stress.37 - OFR staff are developing additional monitoring tools; FRB economists are deepening monitoring frameworks to support the FRB Financial Stability Committee; FDIC and OCC staff have introduced new monitoring tools and frameworks. - Recommendation: Continue development of systemic monitoring tools to support rigorous and systematic assessment of systemic risks by FSOC. - Recommendation: Transparency of the risk assessment process would be enhanced by publication of a chapter in the 2016 FSOC Annual Report describing the procedures and principal monitoring tools and techniques adopted to support the process. ### Current threats to U.S. financial stability (as highlighted in the FSOC Annual Report) - Nine areas identified in the 2014 report for continued attention and possible action:38,39,40 1) Short-term wholesale funding markets: Regulatory agencies and market participants should continue to take action to reduce vulnerabilities in wholesale funding markets, including tri-party repo and MMMFs that can lead to destabilizing fire sales. 2) Housing market reform: Regulators should continue to work with policymakers to implement the significant structural reforms needed to reduce taxpayers’ exposure to risk in the housing market. 3) Operational risks: Cybersecurity threats, infrastructure vulnerabilities, and other operational risks remain a top priority for the Council; regulators should continue to take steps to improve financial institutions’ ability to prevent operational failures and improve resiliency. 4) Developments in financial products, services, and business practices: Regulators should remain attentive to financial innovation and the migration of certain activities outside of traditional financial intermediaries that could create financial stability risks. 5) Reforms in reference rates: U.S. regulators should continue to cooperate with foreign counterparts to address concerns about benchmark reference rates such as LIBOR. 6) Financial system vulnerability to interest rate volatility: Regulators and institutions should remain vigilant in monitoring and assessing risks related to interest rate volatility, particularly as investors seek higher yields in a low interest rate environment. 7) Data gaps and data quality: Financial regulatory agencies should continue to work with the OFR to fill financial data gaps and address related issues of data quality and comprehensiveness. 8) Risk-taking incentives of large, complex, financial institutions: Regulators should continue implementation of DFA reforms to reduce risk-taking incentives of large, complex, interconnected financial institutions. 9) Foreign markets risks: There is a need for continued monitoring of adverse financial developments abroad and their potential impact on the U.S. financial system. - The 2015 FSOC Annual Report (published in May 2015 after the conclusion of the mission) added two new topics that have received increased regulatory attention: changes in financial market structure, and central counterparties (CCPs).40 *Source: _cr15172 - 15. The governance structure of the Deputies Committee and other FSOC staff* ### 26. Identified threats span a very broad spectrum of potential risks to the U.S. financial ### Identified threats span a very broad spectrum of potential risks to the U.S. financial system ### Assessment of identified threats and FSOC transparency - Findings: - Identified threats cover a broad spectrum; their specificity and scale vary (e.g., benchmark reference rates such as LIBOR are tightly defined, while "financial innovation and migration of financial activity beyond the regulatory frontier" is broad and generic). - Publishing a fuller assessment of the relative importance attached to each identified threat (such as their likelihood and impact) would sharpen system risk oversight, focus, ownership, and accountability by FSOC member agencies. - FSOC must retain flexibility to respond to new developments (example cited: the October 15 Flash Rally). - The credibility of FSOC would be strengthened by publishing the Council’s understanding of the cause(s) of incidents, its analysis, and proposals to address any systemic weaknesses identified—particularly interactions between liquidity, high-frequency trading and rapid price movements that may affect other market sectors. - Recommendation: - FSOC should publish additional guidance in each Annual Report on the materiality the Council attaches to each of the identified threats to U.S. financial stability, including a judgment on their likelihood and impact. ### Data sharing, monitoring framework, and OFR priorities - Recommendations (from para 27): - FSOC should set a clear short-term deadline to address outstanding obstacles to data sharing, and to agree a flexible, data sharing protocol across member agencies to support collective systemic risk oversight. - FSOC should continue to direct the OFR to prioritize work to address data gaps in short-term wholesale funding markets, in nonbank financial intermediation (such as asset management) and in interconnectedness indicators across the financial system. - FSOC should publish additional information on the monitoring framework underpinning systemic risk identification and on the work of the SRC, to aid transparency and accountability. The monitoring framework should set out the responsibilities for monitoring risks beyond the regulatory perimeter and risks from global financial developments. - Note: - The OFR is developing analytical tools such as the Financial Stability Monitor which could provide useful input into FSOC assessment. ### FSOC role, powers, coordination, and follow-up - Findings: - FSOC’s primary role is collective systemic risk identification and coordination; it is not a regulatory agency. - Specific statutory powers include designation of nonbank companies for consolidated supervision by the FRB and recommendation powers to primary regulatory agencies (Sections 115 and 120 of DFA referenced). - The key role of FSOC is to strengthen collective ownership of actions needed to address identified risks and to promote, encourage and consider actions taken by member agencies. - FSOC generally has no formal powers for decisions on regulatory rules and for deployment of macroprudential tools; ultimate responsibility rests with primary regulatory agencies. This differs from some countries where the equivalent authority has direct responsibilities for certain macroprudential tools. - Recommendations: - Adopt a policy whereby members agree to formalize consultation of FSOC as standard practice during consultation on major new regulatory rules that could impact financial stability and on potential new application of macroprudential tools (or tools with a macroprudential impact). - Clarify and publish the agreed assignment of objectives, responsibilities and timelines for follow up of identified threats to strengthen effectiveness of risk reduction policies. - Sharpen specificity and focus of FSOC policy recommendations by clearly stating which agency (or agencies) is responsible, the expected timeline for implementation, and require publication of these recommendations in the FSOC Annual Report and follow up in meeting minutes and subsequent Annual Reports. - Observations: - GAO has noted that current public recommendations often lack specificity and sharpness regarding expected actions, responsible agencies, and expected timelines; internal monitoring exists but there is no clear public tracking process. ### Progress on macroprudential policy framework and toolkit - Findings: - Macroprudential policy objectives: increase resilience to aggregate shocks (build buffers); address structural vulnerabilities or points of weakness (interlinkages, critical institutions/infrastructure); contain systemic vulnerabilities from procyclical links between credit and asset prices, leverage and funding weaknesses. - Policy tools categorized as: - Structural measures: address points of weakness and build resilience. - Counter-cyclical measures: limit cyclical buildup of systemic risks. - A summary of main tools in place, under preparation, and under review in the United States is provided in Appendix 3 (in source). - Progress: - The United States is making good progress to raise structural resilience of the banking system to weather shocks via DFA implementation. - Largest banks will face additional capital requirements, enhanced leverage and liquidity standards, and additional restrictions on single counterparty exposure limits. - Rules build on international standards but have often been reinforced; some rules are at proposal stage and will be phased in over the next 2-3 years. ### Structural resilience of banks, stress testing, and resolution - Findings and specifics: - The U.S. framework categorizes banks according to size (such as assets >$10bn; >$50bn; >250bn or >$10bn in foreign assets). - A category of global systemically important banks (G-SIBs) is proposed; under the proposed methodology, 8 large U.S. bank holding companies would currently be identified as G-SIBs. - Under a notice of proposed rulemaking provided for comment in December 2014, implementation of additional capital surcharges for the 8 largest U.S. globally systemic banks (G-SIBs) will be altered to include a specific element for short-term wholesale funding risks. - The proposed framework for capital surcharges would be phased in from January 2016 to the end of 2018, being fully effective from January 2019. - Supplementary leverage ratio and liquidity standards for G-SIBs have been enhanced above the Basel III standard under rules set out in 2014. - Large banking organizations must participate in regular, intense stress testing exercises, both in relation to capital and liquidity (Dodd-Frank stress tests, CCAR and CLAR). - Large BHCs must prepare resolution plans for scrutiny by the FRB and FDIC. ### Systemic risk identification and designated FMUs - Findings: - Ability to assess systemic risk related to designated FMUs and ensure consistent application of international risk management standards across designated FMUs has improved substantially under DFA. - DFA provides FSOC responsibility to designate systemically important FMUs that must comply with enhanced risk management standards prescribed by FRB, SEC or CFTC as applicable; DFA also improves cooperation among domestic supervisory agencies and expands the FRB’s role in coordination with CFTC and SEC. ### Nonbank financial institutions (NBFIs) and systemic designation - Findings: - FSOC has responsibility and powers to designate NBFIs for consolidated supervision by the FRB and the application of higher prudential standards. - FSOC has published detailed information on processes, procedures and criteria for systemic designation of nonbank financial companies and FMUs; three rounds of public consultation preceded the final rule on systemic designation for NBFIs. - Four NBFIs have been designated so far: AIG, GE Capital and Prudential Financial in 2013 and MetLife in 2014. - Designated nonbanks will be subject to enhanced prudential requirements and intense stress tests. - The Federal Reserve is currently developing proposals for review and consultation—FSOC will review these proposals to judge whether it wishes to make a recommendation to the FRB. - Process notes: - FSOC’s three-stage process: step 1 identifies candidates; step 2 provides an initial assessment; step 3 is a detailed in-depth review to support a determination. - For a final determination, the Council must vote based on a two-thirds majority of voting members, including an affirmative vote by the Chair; companies may request a hearing to contest determinations. - FSOC announced changes in the designation process in February 2015 to increase transparency and engagement with companies under consideration. - MetLife has recently applied to the U.S. courts contesting the designation decision. - Annual reviews occur; AIG, GE Capital, and Prudential Financial designations were not rescinded based on the 2014 review. ### Limitations in time-varying macroprudential tools and gaps in counter-cyclical toolkit - Findings: - The United States has a relatively limited set of "time varying" tools to address a build-up of cyclical and sectoral pressures on financial stability. - FRB, OCC, and FDIC have introduced rules to implement a countercyclical capital buffer for the largest banks in the U.S. system. - The buffer applies only to firms with assets >$250 bn or >$10bn in foreign assets. - The framework will be phased in over the 2016 to 2019 period. - One year notification of application is required in normal circumstances (there is provision for agencies to require faster implementation if required). - Triggers and standards for implementation of the countercyclical tool are under design but not yet in place. - The United States lacks flexible tools used in other jurisdictions to address housing/property market buildups (e.g., loan to value ratios or debt to income ratios). - CFPB QM standard includes a requirement that debt service to income ratios must be 43 percent or less; however, there is no current plan or intention to use QM or QRM instruments as time-varying counter-cyclical macroprudential tools. - Tools such as increases in sectoral risk weights on mortgage market exposures could be applied but would be slow to implement (requiring perhaps upward of a year to adjust) and may not be particularly effective; they would apply only to banks rather than overall credit intermediation. - CFPB rules apply to the market as a whole but CFPB does not currently have a financial stability mandate that would allow macroprudential usage. - FHA guarantees could, in principle, be structured for macroprudential purposes. - Recommendation: - FSOC member agencies should remedy the deficiency in time-varying macroprudential tools and consider implementing flexible counter-cyclical instruments to address sectoral and cyclical build-ups. *International Monetary Fund — Selected excerpts from the United States Financial Sector Assessment (source content unit)._cr15172 - 26. Identified threats span a very broad spectrum of potential risks to the U.S. financial* ### 38. Developing additional tools to strengthen market resilience should be a continuing ### _cr15172 - 38. Developing additional tools to strengthen market resilience should be a continuing ### Overview and context - The U.S. financial system is heavily dependent on capital markets and on nonbank intermediation. - Authorities recognize the importance of additional policy actions to improve monitoring and containment of risks in the ‘‘shadow banking’’ (or market-based) financing system, and to address weaknesses in market financing structures that give rise to systemic liquidity risks. - OFR 2014 Annual Report quote: “although supervisors have firm-specific tools...they have few system-wide tools to address market and credit excesses.” - Recent policy actions referenced: - Reductions in vulnerabilities in triparty repo markets. - Agreement and finalization of new regulations for MMMFs following the proposed recommendation from FSOC. - Further work underway to reconsider minimum margin requirements on secured credit, potentially extending beyond international proposals to introduce minimum margin requirements for non-centrally cleared securities financing transactions. ### Key recommendations to strengthen the macroprudential toolkit (from paragraph 39) - For each identified material threat to financial stability highlighted in the Annual Report, FSOC should publish specific follow up actions to address each identified priority threat, stating clearly where responsibility for delivery of the actions lies, and specifying an agreed timeline for implementation and reporting of the results. - To strengthen coordination and collective ownership of the risk mitigation actions, members should consult FSOC as standard practice on the development and implementation of major new regulatory rules that could impact financial stability. - At a point in the conjuncture where financial stability risks appear to be building, FSOC and its member agencies should prioritize the development of the U.S. macroprudential toolkit, focusing particularly on developing new time-varying measures to address the buildup of cyclical and sectoral risks and to strengthen the resilience of financial markets to run risks and fire sales. - FSOC and its member agencies should ensure that the instruments are ready to use, and that the appropriate legal authorities are in place. Members should consult FSOC as standard practice on the potential new application of macroprudential tools. - To provide clarity on the toolkit and on the readiness to deploy the instruments (as well as identifying remaining gaps), FSOC is encouraged to publish a summary of the U.S. toolkit identifying which tools are available to address particular types of risk and which agency/agencies have responsibility to deploy them, including the definition of triggers and the framework/approach to implementation. Updates should be published periodically as the toolkit is enhanced. ### Systemic liquidity and liquidity backstops — findings - Freezing of liquidity was a key trigger for the crisis; counterparty uncertainty led to a sharp drop in fed funds volumes traded and a significant widening in the OIS-LIBOR spread. - Non-bank activity suffered; broker-dealers (BDs) at times had difficulty transacting even in repos backed by U.S. Treasuries. - Progress made, but some vulnerabilities may be masked by Quantitative Easing (QE): - Fed funds volumes remain low because of substantially-increased reserve balances held by banks as a consequence of QE. - Bank balance sheet repair, including more capital and liquidity, has helped address vulnerabilities, but uncertainty remains about interbank market functioning post-exit from QE or in another crisis. - Repo markets have recovered though activity remains lower than pre-crisis. - Federal Home Loan Banks (FHLBs) provided critical liquidity during the crisis: member banks increased borrowing from the FHLBs by some $500 billion during the early part of the crisis at rates lower than those available from the Fed’s discount window and without stigma, reflecting FHLBs’ perceived implicit support from the U.S. Government. ### Tri-party repo infrastructure — findings and suggested steps - Major achievement: reduction in intra-day credit provided by the clearing banks from 100 percent of the repo activity down to less than five percent. - This reduction was achieved by reengineering the settlement cycle and improving collateral allocation processes. - By end-March 2015 the clearing banks met the objective of limiting intra-day credit to a maximum of 10 percent of a dealer’s notional tri-party book, through pre-committed lines (which incur a capital charge). - Integration of the General Collateral Financing (GCF) segment (for inter-dealer activity) was not yet completed; total amount of GCF repo net cash settled on March 10, 2015 was $130 billion compared to the tri-party repo market of $1.6 trillion. - Firesale risk: - Pre-default risks reduced through regulatory impacts on MMMFs and BDs. - Post-default firesale risks remain but may be manageable for systemically important BDs through DFA Title II (FDIC’s Orderly Liquidation Authority); other BDs may be subject to SIPA which allows a stay of four to five days for repos, but interactions between DFA and SIPA are complex with uncertain implications. - Clearing bank concentration: - The tri-party repo market relies on two clearing banks; failure of either clearer would have a major impact. - Some private sector initiatives involving CCPs are under development, which could offer benefits (netting, transparent risk waterfall, centralized liquidation), but benefits would be limited if transactions ultimately settle through the same clearing banks. - Recommendation: - An important next step to reducing the risks around tri-party repo is to reduce reliance on the two clearing banks, for example by developing options that might allow settlement in central bank funds. ### Repo safe harbors — findings and recommendation - Expansion in 2005 of ‘‘safe harbor’’ collateral to include mortgage loans, mortgage-related securities, interests in mortgage-related securities and mortgage loans and qualified foreign securities pre-dated the crisis by around three years. - Potential trade-off: intermediation and liquidity benefits vs. increased risks to financial stability from use of relatively illiquid collateral and higher levels of balance sheet encumbrance. - Recommendation: - Authorities are encouraged to consider reviewing the financial stability impact of allowing mortgage-backed securities and other illiquid loans and securities safe harbor from bankruptcy proceedings and, if a wider pool is to maintain safe harbor status, ensure structures are in place to mitigate increased risks of operating with weaker collateral. ### Broker-dealers — findings and recommendation - Many BDs now operate within BHC structures subject to enhanced prudential regulation, reducing vulnerabilities in the tri-party repo market: - Post-crisis reorganization: essentially all the largest independent securities firms reorganized as BHCs or were acquired by BHCs. - Strengthened liquidity regulation (liquidity coverage ratio) and supervisory standards have improved liquidity risk management. - Degree of maturity transformation has reduced; tri-party repo books termed out. - Remaining concern: regulatory framework at the BD level has not been adequately addressed, creating some risk of regulatory arbitrage if entities outside BHCs increase risky activities. - SEC review under consideration includes three specific provisions: 1) a minimum capital requirement of $5 billion, 2) a requirement that liquidity rules be met at the broker-dealer level, and 3) a maximum leverage ratio for broker-dealers. - Recommendation: - Completion of the review of regulation at the BD level is a priority. The SEC should move to finalize and implement rule changes to contain risk taking thereby reducing the prospect of regulatory arbitrage in the future. ### Money Market Mutual Funds (MMMFs) — findings, reforms, and recommendations - MMMFs undertake liquidity and maturity transformation (a ‘‘bank-like’’ activity) while not being subjected to reserve requirements and deposit insurance levies. - During the crisis the sector suffered a run; the Treasury responded by providing a credit guarantee and the Fed instituted several liquidity facilities. The Treasury guaranteed the whole $3.3 trillion market at that time. - Assets under management (AuM) have stabilized at around $2.7 trillion. - Measured as a percentage of depository institutions’ deposits, MMMF share declined from 43 percent in 2008 to 22 percent at the end of 2014. - 2010 liquidity rule changes: - Rules calibrated such that the SEC estimates they would have been sufficient to meet approximately 90 percent of redemptions in retail and institutional funds during the week of greatest redemption pressure in the crisis. - Funds now required to hold 10 percent of the portfolio in overnight cash and U.S. Treasuries, with 30 percent maturing within five days. - A maximum of five percent can be held in illiquid securities and the maximum weighted average maturity of the portfolio is 60 days. - Credit quality standards tightened; funds must ascertain the creditworthiness of the repo counterparty. - Funds must perform regular stress tests to ascertain their ability to maintain a stable $1 NAV under scenarios of changes in interest rates and credit spreads, defaults, and redemptions. - Risks from repo collateral practices: - MMMFs are able to collateralize repos with securities that they cannot own outright by ‘‘looking through’’ repo collateral and evaluating counterparty creditworthiness. - Such practices could breach SEC maturity rules if funds take possession of collateral after a counterparty failure, possibly leading to forced sales and broader market disruption. - Recommendation: - Authorities should consider reducing the risks of forced sales by restricting repo collateral to securities that the MMMFs are able to hold outright. - SEC 2016 reforms: - Funds will be classified as: 1) government funds—if at least 99.5 percent of the assets are in ‘‘cash’’ and treasury securities, 2) retail funds—where beneficial ownership is limited to natural persons, or 3) institutional funds—all other funds. - Government and retail funds can continue to use constant NAVs; institutional funds will be required to move to a variable NAV. - The SEC can determine the definition of ‘‘cash equivalent’’ under GAAP and has continued to include all MMMFs, including those that will move to a variable NAV, within the ‘‘cash equivalent’’ definition. - Reforms will also require private liquidity funds that operate like MMMFs to report monthly, allowing for close monitoring of activities moving outside the regulatory perimeter. *UNITED STATES — INTERNATIONAL MONETARY FUND.* ### 56. Other changes to come into effect in 2016 give all MMMFs the ability to impose fees ### Other changes to come into effect in 2016 give all MMMFs the ability to impose fees and gates ### Redemption fees and gates: rules and risks - For all funds except Government funds, redemption fees of up to 2 percent will be allowed if the weekly liquid assets fall below 30 percent. - Where weekly liquid assets fall below 10 percent, a fee of at least one percent is mandatory. - Redemptions can be suspended (i.e., gated) where the weekly liquid assets fall below 30 percent. - The gate must be lifted within 10 days and cannot be used for more than 10 days in a 90-day period. - Exception: an exception to the mandatory fee is possible if the directors believe that such a fee is not in the best interest of the fund. - Risks identified: - Existence of redemption gates may lead to damaging pre-emptive runs as investors try to run before gates are imposed. - A fund imposing gates may not internalize externalities, and contagion to other MMMFs is possible given similarity of portfolios across the industry. - Government funds are not covered by these provisions but may include the use of redemption fees and gates provided such use is properly disclosed in the prospectus. ### Fund manager responses, market shifts, and potential spillovers - It is unclear what proportion of current funds under management will fall into each newly established MMMF category, but fund managers will modify product suites in response to the new regulations. - The Investment Company Institute estimated that less than a quarter of funds would be required to move to a variable NAV. - Industry responses and potential shifts: - Some managers provide sweep arrangements into MMMFs where the potential use of gates is inconsistent with investors’ primary objective of liquidity. - A leading fund manager has announced repositioning of funds in favor of Government MMMFs to continue offering a product free from redemption restrictions. - Industry sources suggested a sizeable shift towards Government funds in the lead up to implementation of the new rules. - Such a near-term shift is unlikely to be disruptive given recent publicity and abundant liquidity, but longer-term structural shift away from credit products implies: - Private sector borrowers will likely have to pay relatively more for funds as compared to the Government. - This occurs amid other regulatory initiatives (e.g., LCR) that increase demand for high quality liquid assets. - The impact could be felt beyond the United States because MMMFs have historically bought commercial paper issued by foreign banks (notably from Europe and Australasia). ### Assessment of fundamental flaws and policy recommendations - The report asserts the fundamental flaws in MMMFs have not been addressed; a key element should be the imposition of variable NAVs. - Observation on reform approaches: - Recent U.S. reform proposals considered regulating MMMFs more like banks (with a capital buffer) or more like traditional mutual funds (with a variable NAV). - Government and retail funds have neither a capital buffer nor a variable NAV. - Retail funds can impose fees and gates during stress, but Government funds—which may account for a significant portion of total MMMF assets—have neither a variable NAV nor any mechanism to manage redemption pressures during stress. - Historical example: October 2013 debt ceiling negotiations created the prospect that some Treasury securities might not be redeemed on their due dates, illustrating how even Government MMMFs could face redemption pressures given a commitment to a constant NAV and no redemption-management mechanism. - Explicit recommendations: - Variable NAVs should be applied to all MMMFs thereby aligning the treatment with other open-ended mutual funds. - FSOC could consider promoting commonly-agreed definitions of ‘cash’ and ‘cash equivalent,’ and metrics for judging the liquidity of assets. ### Fed exit, new instruments, and financial stability risks - The Fed has ended QE and signaled a tightening in monetary conditions in 2015. - To control monetary conditions during tightening, the Fed introduced new instruments and expanded eligible counterparts to include banks, MMMFs and certain GSEs. - Risks from this approach: - MMMFs are a major cash-provider in short-term funding markets; a sudden shift into the Fed’s Overnight Reverse Repo (ONRRP) instrument could exacerbate liquidity pressures for traditional borrowers. - Minor stresses could escalate if investors run into MMMFs perceived as offering safe assets, potentially resulting in an abrupt drop in the supply of short-term funding and a run of non-insured deposits from the banking sector. - Fed mitigation measures: - The Fed will cap access to instruments targeted at the nonbank sector both at the counterparty and aggregate levels to keep the banking sector more liquid for longer. - The Fed has conducted considerable testing of new instruments but acknowledges uncertainty about demand once interest rates move away from the zero lower bound. - Box 2 highlights: - ONRRP, term-reverse repos, and term-deposits are part of the modified operating framework. - Counterparties expanded from 21 dealers to 164 (106 MMMFs, 22 broker-dealers, 24 depository institutions, and 12 GSEs). - The Fed will phase out the ONRRP when no longer needed to control the fed funds rate. ### Data gaps in repo and securities lending markets - Relevant U.S. market segments: tri-party repo, bi-lateral repo and securities lending. - Known and uncertain volumes: - Tri-party repo volumes fell from a peak of $2.8 trillion pre-crisis to $1.5 trillion. - Fed weekly data (as of February 25, 2015) report repos of $1.7 trillion and reverse repos $2.1 trillion, but these numbers include both tri-party and bi-lateral activity and require adjustments for dealer-to-dealer activity to avoid double counting. - Collateral composition and haircuts: - U.S. Treasuries and government agency securities make up around 80 percent of the collateral provided in tri-party repo transactions. - Haircuts are generally higher than those recommended by the FSB, particularly with regard to Treasuries given the FSB recommendations exclude sovereign debt. - Authorities’ response: - The OFR together with the Fed and the SEC are working on pilot surveys for bi-lateral and securities lending activity initially covering a selection of BDs and agent lenders. - Suggested data enhancement: - Publishing more granular data on tri-party repos—including on cash providers, repo maturities and collateral type and maturity. ### Liquidity backstops: discount window and FHLBs - Discount window overview: - The discount window was reorganized in 2003 into monetary instrument-type and lender of last resort (LOLR) components. - A wide range of securities and loan collateral is eligible to secure discount window borrowings with haircuts ranging from 1 percent to 72 percent. - Operations are conducted by regional Federal Reserve Banks. - Two main components: - The Primary Credit Program (PCP): overnight funds to adequately-capitalized banks meeting a minimum supervisory rating (Camels ratings 1–3 or equivalent) at 50 basis points above the FOMC’s Fed funds target (was 100bps pre-crisis), with ‘generally no restrictions’. - The Secondary Credit Program (SCP): for banks with Camels ratings 4 and 5, priced at 50 basis points above the PCP, may be used as a bridge to return to market funding or to facilitate resolution; cannot be used for arbitrage or balance sheet expansion. - Observations on stigma and operational design: - The discount window spans operations with two materially different objectives and there is a history of reluctance to access the window due to perceived stigma. - Recommendation: consider creating a separate facility specifically to ensure adequate liquidity (e.g., towards the end of the day), changing the financial instrument (e.g., to repo) and using only high quality assets to reduce stigma. - Suggested facility features: - Open to well-capitalized depository institutions that are direct members of Fedwire. - Available from 3pm onwards to address unexpected shortfalls in receipts. - Collateral limited to Treasury and agency securities. - The Federal Home Loan Banks (FHLBs): - Provide approximately 8,000 members with short and long-term funding through secured lending programs. - There are 12 privately owned co-operative FHLBs, jointly and severally liable for Consolidated Obligations issued on behalf of any FHLB. - The cooperative arrangement and an implicit Government guarantee enable FHLBs to access markets on terms members individually cannot. - No FHLB has suffered a credit loss on its secured loans (“advances”) to members. - FHLB advances peaked at over $1 trillion in September 2008 (c.f. $536 billion at June 2014). - FHLBs were an important source of funding during the crisis and complement the Fed’s programs; members initially used FHLBs rather than the Fed’s Discount Window because FHLBs were cheaper and without associated stigma. *International Monetary Fund — UNITED STATES* ### 69. Official sector incentives are increasingly shaping banks’ interactions with the FHLBs, ### _cr15172 - 69. Official sector incentives are increasingly shaping banks’ interactions with the FHLBs ### FHLBs and systemic liquidity risks - FHLB loans of less than 30-days are treated more favorably in the LCR than other wholesale funding, allowing an assumption of 75 percent rollover, rather than as a full outflow. - 30-day funding drawn from the FHLBs and fully reinvested in level one high quality liquid assets provides a substantial boost to a bank’s LCR. - Four of the largest banks increased their funding from the FHLBs by 150 percent between March 2012 and December 2013. - Concerns: - Increased interconnectedness between banks and the FHLBs could heighten systemic liquidity risks should the FHLBs lose preferential access to bond markets. - It is not clear whether FHFA prudential standards for FHLBs are calibrated appropriately to meet the increased liquidity risks of such interconnectedness. - Policy recommendations: - Review the calibration of the LCR which allows for preferential treatment of FHLB funding. - Review the adequacy of FHFA liquidity and capital requirements imposed on the individual FHLBs, in light of the apparent increase in interconnectedness with banks. *The FHLB membership comprises banks, thrifts, credit unions and insurance companies. OFR Annual Report 2014 noted that much of this funding was used to acquire high quality liquid assets that can include GSE (including FHLBs) debt.* ### Liquidity backstops: the Dodd-Frank Act (DFA) and FSOC designation - DFA constraints: - Adoption of the DFA introduced new constraints for the Fed to provide liquidity backstops to non-bank firms. - In addition to the ‘unusual and exigent circumstances’ requirement, programs must involve broad-based eligibility, be pre-approved by the Treasury and with ex-post reporting to Congress. - While the DFA limits the Fed’s crisis response, most programs offered during the crisis would likely meet the broad-based eligibility criteria. - FSOC designation and Fed liquidity support: - Designation of a NBFI by FSOC means the company’s material financial distress, or activities, could pose a threat to U.S. financial stability and may be required to have increased buffers. - The Fed cannot provide liquidity support to a troubled systemically important NBFI under current constraints tied to unusual and exigent circumstances. - Recommendation (guided by minimizing moral hazard to taxpayers): - Review the broad-based eligibility criteria, with consideration given to allowing the Fed, at its discretion, to extend liquidity support to any solvent individual institution that is designated by the FSOC (DFA Title I) as being systematically important. - The Fed would need to ascertain solvency before extending any such lending, and is encouraged to complete the proposals and subsequently establish heightened prudential standards for designated non-banks as required by DFA. ### Liquidity backstops: financial market infrastructures (FMIs) - Principle: - In extreme circumstances, if no other funding is available, central banks should stand ready to provide liquidity backstops to solvent, systemically important FMIs. - Rationale: - Private sector liquidity must be the first line of defense for CCPs against liquidity shortfalls; CCPs should maintain adequate liquidity self-insurance. - There could be extreme circumstances in which a CCP’s liquid resources are insufficient or unavailable, yet its continued operation is vital to financial stability. - Providing solvent CCPs with access to emergency central bank liquidity, against collateral, ensures continuation of payments to counterparties and market stability. - A CCP should not assume the availability of emergency central bank credit as part of its liquidity plan. - DFA provisions and operational considerations: - Under the DFA the Fed may provide liquidity backstopping to all designated FMUs in unusual or exigent circumstances, subject to statutory conditions and FRB majority vote after consultation with the Treasury (section 806b). - Designated FMUs need not be banks or bank holding companies. - Emergency credit requires the designated FMU to show it is unable to secure adequate credit accommodations from other banking institutions. - Recommendation: Prepare contingency plans for the provision of emergency liquidity to designated FMUs, without pre-committing to such support. ### Investment funds and systemic risk — A. Asset managers and market liquidity risks - Mutual funds (MFs) normal liquidity management: - MFs can maintain thin cash buffers during normal business, relying on market liquidity of assets. - Passive (index) funds may be constrained from holding significant cash buffers because of tracking error constraints. - Stabilizing features: - Large investors consider price impact of sales, especially in stress, which can disincentivize runs. - Individuals’ and households’ defined contribution retirement plans and individual retirement accounts constituted close to 50 percent of assets of equity, bond and hybrid MFs as of December 2013, providing investor stability due to less frequent strategic rebalancing. - MFs are allowed by regulation to borrow up to 33 percent of the market value of their (net) assets under management to meet unanticipated redemption demand. - Vulnerabilities and market developments: - MFs could be susceptible to runs during severe market stress; regulatory obligation to meet redemption demand in cash within 7 days may be difficult to meet in stress. - Alternate liquidity sources (repos, bank credit lines) may carry wrong-way risk or become unavailable during severe stress. - Rapid expansion of MF holdings into less liquid markets increases concerns: - Bank loans: U.S. MFs held over $150 billion (25 percent of total held by non-banks) as of December 2013; bank loans have longer settlement periods than securities, potentially causing liquidity mismatches for daily-liquidity funds. - High-yield (HY) corporate bonds: MFs and ETFs held $555 billion (over a third of the $1.5 trillion outstanding as of December 2013), with $477 billion held by dedicated HY bond funds. - The average cash ratio of dedicated HY funds, at around 3 percent, was close to a four year low as of June 2014. - HY funds’ AuM has grown by over 14 percent on an annual basis since 2008. - Emerging market (EM) debt: MF holdings total $380 billion; holdings concentrated in internationally-issued EM debt rather than more liquid local-currency debt; repo agreements typically not available in these markets. - Dealers’ reduced inventory and willingness to act as market makers can make markets hard to absorb tail-event redemptions. - ETFs and liquidity: - Traditional U.S. ETFs with physical replication are liquidity-enhancing due to tiering: secondary market arbitrage incentives and redemption-in-kind. - ETFs tracking HY bonds, EM assets, municipal bonds, and bank loans may have misplaced perceptions of liquidity. - During the taper tantrum, municipal bond ETF share prices widened their discount to NAV and a prominent market maker could not continue providing liquidity in secondary market for EM ETF shares. - Arbitrage and redemption-in-kind can be costly for market makers and authorized participants due to higher prudential capital and liquidity charges and difficulty liquidating underlying assets in short timeframes, risking steep discounts or inability to liquidate under stress. - Structural features increasing run incentives: - Regulation compels MFs to pay exiting investors the NAV prevailing on the day they demand redemption, rather than the NAV on the day corresponding asset sales take place; MF absorbs the difference. - Use of borrowing to meet redemptions transfers leverage obligation to remaining investors and can accelerate NAV erosion during sustained outflows. - Single pricing to inflows and outflows (versus bid-offer) transfers value to exiting investors, exacerbating exit incentives when NAV is falling rapidly. - Options to reduce run incentives (proposals suggested): - Settlement to exiting investors should accurately reflect sales prices of assets liquidated where asset sales are made to redeem the claims; options include: - Change settlement to sales-date NAV instead of redemption-date NAV. - Use actual sales price (the bid price) rather than mid-price. - When leverage is used to settle redemption claims, increase redemption fees to reflect expected cost to the MF. ### Investment funds and systemic risk — B. Securities lending by mutual funds - Role and incentives: - Subject to board oversight, a MF may lend securities. - For index MFs using physical replication, securities lending income and cash collateral reinvestment can cover tracking error shortfalls. - For asset managers whose revenues rely on AuM volume, securities lending income allocated to investors can provide incentives to attract more AuM. - For managers contracting affiliates to manage securities lending and collateral reinvestments, the business may be an important income source. - Risks: - In the event of a redemption run, recall of cash and securities lent out could exacerbate pressures and shortfalls in critical capital markets. - Strong risk management practices are paramount to avoid securities lending becoming an excessive source of risk to the fund and investors, and to avoid panics and runs if securities borrowers exit transactions in large volumes. - Regulatory treatment: - MFs and ETFs that lend securities are subject to lending limits of no more than 33 percent of total assets. - Loans must be collateralized at least 100 percent and marked-to-market daily. *Source: _cr15172 - 69. Official sector incentives are increasingly shaping banks’ interactions with the FHLBs,* ### 83. Cash collateral reinvestment. Cash collateral reinvestment generally is limited to “short- ### _cr15172 - 83. Cash collateral reinvestment. Cash collateral reinvestment generally is limited to “short- ### Cash collateral reinvestment - Cash collateral reinvestment generally is limited to “short-term highly-liquid instruments as determined by the fund’s adviser subject to the oversight of the funds’ board of directors.” - Certain fund cash collateral investments in joint accounts with affiliated entities or in affiliated pooled investment vehicles are subject to specific regulatory constraints on eligible classes of instruments and on the liquidity and maturity of instruments. ### Risk management of securities lending and collateral reinvestment - Securities lending and reinvestment of collateral can add portfolio management and operational risks for funds and their investors, including increases in credit, liquidity, and maturity risks. - Transactions involve transforming one portfolio of assets into another and contracting with potentially risky counterparties. - Historical example: AIG’s securities lending and reinvestment activities during the financial crisis illustrate that, absent adequate risk controls and supervision, significant liquidity and credit risks can accumulate by investing in assets that become illiquid and difficult to price during stress despite passing prudential criteria in normal times. - Illustrative contemporary example: a mutual fund lending on-the-run 10 year U.S. treasury bonds, renegotiated on a daily basis, and using the cash raised to reverse-in off-the-run 10 year U.S. treasury notes with a term of 31 days (liquidity transformation and maturity transformation). ### Agency arrangements and incentives - Where agents’ services are required, funds and their boards need to manage agency incentives to limit moral hazard. - Agent lenders (custodians or affiliated with the funds’ asset manager) typically manage securities lending and sometimes collateral reinvestment legs, and indemnify the fund against losses on the first leg but normally not for the second. - Agent lenders are compensated by a fee and share in income from securities lending programs, including income from reinvestment of cash collateral. - Agent lenders’ contracts need to be structured to align their interests with those of the lender. ### Data gaps, observed behaviors, and risks - Data gaps are substantial, making comprehensive assessment of financial stability risks from funds’ securities lending activities difficult, though available information does not suggest cause for alarm. - Agent lenders’ pay contracts are structured as two-part tariffs and their share in funds’ income from securities lending can be substantial, at 25 percent or higher. - Reported market adjustments post-crisis include investors securing safer mandates from asset managers and broker-dealers’ desire to term out repos reportedly redirecting funds’ cash collateral towards investments in MMMFs. - While this redirection contains credit and maturity risks, MMMFs’ ability to impose redemption gates may create liquidity risks to mutual funds during times of stress. - Disclosure practices: information on amount of securities lent, investment portfolio of cash collateral received, maturity mismatches across the two transaction legs, counterparties, and income sharing between funds and agent lenders is not systematically disclosed, limiting understanding of financial risks to funds and markets. - Experience of AIG and NAIC’s enhanced disclosure rules on insurers’ securities lending activities suggests similar disclosure requirements across the industry would benefit financial stability oversight. ### Recommendations on data and disclosure - The pilot survey of the OFR, FRB, and SEC to collect and examine data on securities lending activities and the FSOC Request for Comments on Asset Management Products and Activities are welcomed. - It is recommended to use insights from these exercises to extend data disclosure requirements on securities lending activities across the industry. ### Systemic risk oversight of financial market infrastructures (FMIs) — Overview - U.S. FMIs are among the largest globally; clearing and settlement volumes position U.S. FMIs at the top of international rankings. - Value of transactions for designated FMUs, Fedwire Funds and Fedwire Securities was in the trillions of U.S. dollars during 2013. - Fixed Income Clearing Corporation (FICC): $1,155 trillion (value of transactions). - Fedwire Funds system: $713 trillion (value of transactions). - Chicago Mercantile Exchange (CME): outstanding amount of $27 trillion in interest rate swaps (IRS). - ICE Clear Credit (ICC): outstanding amount of $928 billion in credit default swaps (CDS). - Daily exposures of CCPs are in billions of dollars. - Some U.S. FMIs are systemically important at a global level; the importance of CCPs among them is expected to grow. - FMIs provide central infrastructure to clear and settle payments, securities, and derivatives, and are core to interbank, money, and capital market functioning. - Multiple memberships of U.S. banks in CCPs around the world interlink U.S. and global financial systems. - U.S. FMIs are crucial to U.S. dollar clearing (e.g., Fedwire Funds and CHIPS). - Disruption at a critical U.S. FMI may spread to participants, other FMIs, markets, and throughout U.S. and global financial systems. - FMI interconnections: - All FMIs directly or indirectly depend on the Fedwire Funds system to settle large value interbank payments. - FICC and NSCC depend on DTC to facilitate settlement of government and corporate securities transactions. - Almost all systemically important CCPs are linked to other CCPs through cross-margining arrangements. - ICE Clear U.S. has a cross-margining arrangement with the Options Clearing Corporation. ### Regulation and supervision of FMIs - In July 2012, FSOC designated eight FMIs as systemically important FMUs under DFA Title VIII, enabling their supervisory agencies to impose enhanced risk management standards and supervision. - Designated FMUs include The Clearing House (operator of CHIPS), CLS, DTC, FICC, NSCC, CME, ICE, and the Options Clearing Corporation. - Designated FMUs are primarily regulated, supervised and overseen by the FRB, SEC, or CFTC depending on activities; where a CCP is subject to more than one agency, agencies agree on the supervisory agency or FSOC decides. - Title VIII provides the FRB with enhanced authority over designated FMUs in several areas, including participation in examinations, reporting concerns to FSOC, and certain back-up supervisory authorities in emergencies. - There is scope to increase transparency on applicable regulatory regimes for U.S. FMIs, including explanation of designation of systemically important FMUs. - Some FMIs not designated have opted to comply with the PFMI to be classified as qualifying CCPs; other CCPs are not designated and not subject to enhanced risk management standards. - No FMI organized outside the United States has been designated by FSOC. - Recommendation: more robust disclosure of the applicable regulatory and supervisory framework for different FMIs, including explanations for determinations, would bring additional transparency. ### DFA enhancements and PFMI implementation - DFA Title VIII centralizes and strengthens supervision and oversight for systemically important FMUs, assisting consistent treatment across supervisory authorities. - DFA tools for designated FMUs include annual examinations and prior review of material changes to rules, procedures or operations. - Supervisory agencies must examine each designated FMU at least annually to determine: (1) nature of operations and risks; (2) financial and operational risks to financial institutions, critical markets, or broader financial system; (3) resources and capabilities to monitor and control such risks; (4) safety and soundness; and (5) compliance with DFA Title VIII. - U.S. authorities have considered the PFMI in DFA rulemaking and are making progress toward complete and consistent implementation, expected to further decrease systemic risk. - CFTC and FRB issued final rules implementing enhanced risk management standards for designated FMUs in 2013 and 2014 respectively. - SEC final enhanced standards are yet to be promulgated, with no publicly defined deadline. - The February 2015 CPMI/IOSCO Level 2 assessment concluded U.S. jurisdiction made good progress toward implementing the majority of the Principles for systemically important CCPs, identifying a few areas for improvement. - It is important that SEC rules for covered clearing agencies are finalized soon. - Expected SEC rule areas include: general organization; financial risk management; settlement; default management; business and operational risk management; access; and transparency. - Recommendation: promptly finalize implementing the PFMI standards through completion of SEC rules and implementation by relevant FMIs. *Italic: IMF staff report content unit _cr15172 - 83. Cash collateral reinvestment and FMI oversight (excerpt).* ### 98. The three agencies have been increasing the level of their human resources in light of ### _cr15172 - 98. The three agencies have been increasing the level of their human resources in light of ### Human resources, mandates, and domestic supervisory cooperation (paras 98–100) - The three agencies have been increasing the level of their human resources in light of their expanded mandates and should ensure that they get the appropriate levels, both in quantity and quality. - As a result of the DFA, the work load of the agencies has substantially increased in rule making, supervision, data gathering and cooperation activities. - Internal teams are being reinforced by additional staff, either through external hiring or internal reallocation, budget permitting. - Training efforts are under way to align staff competencies to their new responsibilities. - Supervisory efforts have developed substantially and should continue to evolve as supervisors gain experience assessing firms against new regulations. - Recommendation (explicit): Ensuring sufficient number of qualified staff will allow adequate enforcement of the enhanced rules. - Post DFA, supervisory arrangements remain quite complex, involving three agencies; in some cases a particular FMI is supervised by more than one agency. - CFTC, SEC, and FRB have responsibilities regarding CCPs depending in part on the activities of the CCP (i.e., products cleared), and in part on whether the CCP has been designated as systemically important. - The DFA has substantially improved cooperation between and among domestic supervisory agencies, providing a new cooperative supervisory framework for designated FMUs. - Coordination and cooperation mechanisms: agency heads are voting members of the FSOC (which meets monthly); staff of the three agencies routinely interact through participation in various FSOC committees, in particular the FMU and the Systemic Risk Committees. - Recommendation (explicit): U.S. authorities should continue their discussions with relevant foreign authorities to address conflicts of law and help level playing-field concerns. ### System-wide risks identification and management (paras 101–108) - Identification of system wide risks is important to address potential threats to the financial stability. - Risks are identified and managed by FMIs and their primary supervisory agencies; given the interdependent U.S. financial landscape and divided responsibilities, an additional system-wide perspective is important. - Cybercrime is one of the system-wide risks identified by the FSOC that is relevant for FMIs. - Under the umbrella of the FSOC, the Treasury, regulators, other government agencies, and private sector financial entities work together to improve insights on cyber security. - FSOC 2014 Annual Report recommends further actions to improve crisis coordination mechanisms and testing of crisis communication protocols, including with international regulators. - FSOC recognizes importance of removing legal barriers to information sharing between public and private sector entities. - Current identification of system-wide risks would benefit from a more systematic approach. - Issues meriting further analysis: - FMIs’ dependency on banking services of only a few G-SIBs: U.S. FMIs are highly dependent on services of a few commercial banks and the failure of such a service provider would pose severe distress on all or a large majority of the FMIs in the United States. - Membership of banks in multiple FMIs: Various financial entities participate in several or all FMIs. The default of such a participant may cause severe distress at one or more FMIs and exacerbate stressed market conditions. - Pro-cyclicality of margin calls: Collateral requirements imposed on clearing members can increase abruptly in times of sudden market volatility and exacerbate market pressures. - Cross-margining arrangements: U.S. CCPs manage risks related to cross-margining arrangements as part of their regular credit and liquidity risk management framework; although exposures are currently modest, risks may build up and be a channel for distributing credit and liquidity shocks. - Findings can feed into macroprudential tools and recovery and resolution plans. - The OFR has started analyzing the use of network analysis to improve FSOC understanding of exposures among financial firms and potential channels of contagion. - Inclusion of FMIs in the network analysis efforts could be useful. - Recommendation (explicit): It is recommended to develop a systematic approach for identifying and responding to system-wide risks related to interdependencies and interconnections among FMIs, within individual supervisory authorities and the FSOC structure. - Concentration of service provision by G-SIBs to FMIs poses a potential threat to financial stability: - In CHIPS, CLS and DTC, settlement activity is highly concentrated amongst their largest members. - CHIPS and CLS have liquidity and funding arrangements with the same large members; in CLS these large members also provide third party services to financial institutions that are not direct members of CLS. - For CCPs, a few commercial banks and their affiliates fulfill roles of settlement bank, custodian, depository banks, liquidity provider and general clearing member (clearing for clients). - FMIs are operationally dependent on these commercial banks to access Fed services such as Fedwire Funds and Fedwire Securities Services. - Commercial banks act as depositories for cash collateral and custodians for securities collateral; as liquidity providers they grant credit lines to FMIs; as general clearing members they and/or affiliates provide access to CCPs and CSD for clients that cannot be direct members. - These banks may be of critical importance during a default of a clearing member to help CCP liquidate and hedge positions and take over positions of the defaulter’s clients. - At least two G-SIBs are crucial to stable operations of nearly all U.S. FMIs. - Concentration risks should be actively mitigated: - Designated FMUs and their authorities are increasing the number of service providers. - Given system-wide concentration by only a few G-SIBs, the default of one such bank can have system-wide repercussions (e.g., CCPs managing default of the G-SIB as clearing member, temporary or permanent loss of access to collateral kept by the G-SIB, loss of credit lines, operational problems due to loss of a settlement bank). - Recovery and resolution planning of banks may help reduce risk of failure but does not ensure no disruption in services provided to FMIs. - Recommendation (explicit): It is recommended that central bank services be offered to designated FMUs, i.e., access to Fed accounts and settlement in central bank money, consistent with avoiding undue credit, settlement or other risk to the Fed. - Rationale: Provision of Fed accounts and services to systemically important FMUs has the potential to reduce their dependency on commercial banks’ services; access to Fed accounts and services would enable CCPs to keep cash and securities collateral at the central bank, reducing dependence on commercial banks; the account may also be used for settlement purposes. - Extension of settlement in central bank money to systemically important CCPs, in particular the FICC, OCC, CME and ICE Clear Credit, will further reduce credit and liquidity risks related to use of settlement banks. - Given increased systemic importance of CCPs, further risk mitigation is crucial: - Progress has been made, notably adoption and implementation of the PFMI. - Further analysis warranted on stress testing pursuant to the PFMIs, harmonized margin requirements pursuant to the PFMIs, recovery planning that addresses system-wide risks, adequacy of CCPs’ loss absorbing capacity pursuant to the PFMIs, and continued coordination between supervisors of CCPs and their main clearing members. - Recommendation (explicit): U.S. authorities are encouraged to continue efforts toward and monitoring of CCP robustness, through enhanced risk management standards and robust supervision. ### Crisis management arrangements and recovery/resolution (paras 109–110) - U.S. authorities should ensure appropriate crisis management arrangements for FMIs, domestically and internationally. - Crisis arrangements are formalized only for a few FMIs; it is important to formalize and test such arrangements for each of the FMUs. - Crisis arrangements should include a description of rules and procedures defining the role and responsibilities of each agency in a crisis, and a comprehensive overview of possible crisis management measures for operational and financial disruptions. - Regular contingency planning exercises are recommended in close consultation with various U.S. supervisory agencies, focusing on cross-institution and cross-sector issues (notably because a large participant's default would impact most U.S. FMIs simultaneously). - MOUs with foreign authorities should include crisis management arrangements when appropriate, as well as macroprudential information sharing. - Recommendation (explicit): U.S. authorities are encouraged to formalize and test crisis management arrangements for designated FMUs, where appropriate both domestically and internationally. - Recovery and resolution work for FMIs is at an early stage: - Recovery plans need to be finalized as soon as possible, aiming at enabling the FMI to sustain critical operations and services. - Despite enhanced risk management and recovery planning, the risk that a CCP defaults cannot be entirely eliminated. - A resolution framework aiming at maintaining financial stability while avoiding bail-out in the event of a default of a CCP is important. - U.S. agencies are discussing how FMIs would be resolved in the event of a failure. - Recommendation (explicit): Recovery and resolution planning for FMIs should be further developed in line with international guidance. ### Housing finance (paras 111–115) - Mortgage markets are integral to U.S. financial stability and were central to the 2008–09 crisis. - GSE reform remains the largest piece of unfinished business; there is no clarity on when Fannie Mae and Freddie Mac will exit conservatorship or consensus on the shape of a reformed housing finance system. - Continued uncertainty creates fiscal and financial risks: moral hazard from government coverage of credit losses, a distorted competitive landscape due to large footprint of GSEs, and large subsidies for debt-financed homeownership that generate incentives for excessive risk taking by investors and lenders and high household indebtedness. - Systemic importance of U.S. housing market: - Home mortgages are at some $10 trillion, the largest component of nonfinancial private sector debt. - Most mortgages are securitized, generating strong interconnections with the U.S. financial system and the rest of the world. - Implicit (and explicit) government guarantees are an important part of the U.S. mortgage securitization market. - Government-backed securitization transfers risk of 30-year fixed-rate mortgages to private investors worldwide. - Securitization provides small depository institutions access to liquidity, helps avoid overexposure to regional housing markets, and transfers interest rate risk. - The system facilitates continued provision of 30-year fixed-rate mortgage with no prepayment penalty—unusual internationally and imposing costs and risks given most borrowers refinance in less than 10 years. - The federal government dominates the market: - It stands behind more than 60 percent of the stock of loans and backs almost 80 percent of new single-family loan originations through FHA insurance, VA guarantees, and the activities of Fannie Mae, Freddie Mac, and Ginnie Mae. - Private label securitization (PLS) has largely disappeared; deficiencies exposed during the crisis alienated the investor community. - Steps have been taken to improve disclosure and align interests of parties involved; adjustment to new regulations and rebuilding confidence will take time. - Other factors—particularly private sector mortgage insurance—warrant a more proactive stance. - Government insurance and guarantees are at times priced based on social policy objectives rather than long-term cost recovery, and high-loan limits for qualifying mortgages mean government cover is available to most new loans, making it difficult for private sector to enter the market. - Current system generates costs and systemic risks: - Distorting competition: special status of Fannie Mae and Freddie Mac (ability to borrow cheaply owing to implicit government support, lower capital requirements suspended during conservatorship, exemption from state and local taxes); FHA insurance may be priced based on social goals rather than loan risk, discouraging private mortgage insurance. - Moral hazard: prior to conservatorship, underwriting and monitoring weaknesses and ‘reps and warrants’ issues discouraged proper underwriting; FHFA under conservatorship has pushed for stronger processes. - Risks to public balance sheet: on a fair-value basis, the estimated cost of federal subsidies over the coming 10 years on new loan guarantees is $19 billion (CBO, 2014). - Costly cross-subsidization of social policy: housing affordability and homeownership rates broadly in line with other OECD countries but achieved at significantly higher cost in terms of implicit fiscal subsidies—including mortgage interest deductions in the personal income tax and quasi-fiscal costs borne by Fannie Mae and Freddie Mac. - Supervisory and regulatory complexity: FHFA’s dual role as conservator and regulator exposes it to appearance of conflict of interest; oversight of nonbank mortgage servicers appears largely exercised indirectly by FHFA guidance to Fannie Mae and Freddie Mac and by CFPB consumer-protection standards. *Italicized source attribution line.* ### 116. In the past few years, there has been progress in a number of areas. Spearheaded by ### 116. In the past few years, there has been progress in a number of areas. Spearheaded by ### Reforms implemented and concrete measures - Ability to repay and QM: - The CFPB requires lenders to make a reasonable and good-faith determination that the borrower can meet their obligations. - A loan meeting certain criteria is deemed a Qualified Mortgage (QM) and enjoys a safe harbor from legal challenges. - These rules went into effect in January 2014. - Consumer protection: - CFPB issued rules including loan originator compensation requirements, high-cost mortgage provisions (effective January 2014), and integration of mortgage disclosure requirements (effective August 2015). - National mortgage servicing standards: - CFPB servicing rules govern payment processing, notice of interest rate changes, error resolution, monthly statements, and treatment of loan modification applications. - Servicing rules went into effect in January 2014. - Risk retention and QRM: - Risk retention rule implementing Title IX of the DFA includes definition of a Qualified Residential Mortgage (QRM). - Mortgage loans eligible for sale to the secondary market must include either a 5 percent risk retention requirement or meet standards exempting loans from risk retention. - The definition of QRM is aligned with that of QM. - The QRM definition will be reviewed four years after it becomes effective (December 2015), and every five years thereafter. - Credit rating agency (CRA) reform: - The SEC issued new rules in August 2014 to boost ratings quality and increase CRA accountability. - CRAs must separate sales staff from ratings staff, conduct look-back reviews, review internal controls annually, and disclose credit rating performance statistics. - Many rules became effective in late 2014 and January 2015, with the remainder in June 2015. - FHFA actions under conservatorship: - Reduced retained portfolios of Fannie Mae and Freddie Mac. - Strengthened regulatory oversight of the GSEs; promoted credit-risk sharing transactions. - Provided clarity on ‘reps and warrants’ governing put-back decisions. - Worked on mortgage data standardization, a common securitization platform, and standards for nonbank servicers and private mortgage insurers. - FHFA and QM patch: - Under FHFA underwriting guidelines, some but not all QM requirements adopted. - A ‘patch’ exempts loans purchased by Fannie Mae and Freddie Mac from the QM rule until January 10, 2021 or the end of conservatorship, whichever happens first. ### Remaining vulnerabilities and recommended further actions - Legacy loan and litigation risks: - Some banks remain saddled with large legacy loans despite declines in foreclosures and delinquencies. - Recommendations include expediting remaining PLS cases and settlements and continuing progress with loan workouts to reduce litigation risks. - Put-back risk and dispute resolution: - Further steps could include alternative dispute resolution processes and cure mechanisms for non-material mistakes and lower-severity defects that do not directly affect mortgage default probability (FHFA is working to provide clarity). - Completing GSE reform: - Legislative proposals share broad goals recommended in the 2010 FSAP, including: - Winding down Fannie Mae and Freddie Mac investment portfolios within a well-defined time period. - Leveraging the government’s role to support standardization and computerization of mortgage data. - A sizeable first-loss risk borne by private capital and a public backstop strictly limited to catastrophic losses and funded by risk-based guarantee fees. - Clear separation of roles for promoting access to credit and ensuring stability and safety of the mortgage market. - Reducing cross-subsidization and market distortion by charging separately and appropriately for prepayment of fixed-rate mortgages. - GSE portfolio reductions (reported): From March 31, 2009 through December 31, 2014, Freddie Mac’s retained portfolio decreased from $867 billion to $408 billion, while Fannie Mae’s decreased from $784 billion to $413 billion. - Agreements with the Treasury require each portfolio to be below $250 billion by December 31, 2018. ### Emerging risks and supervisory priorities - Nonbank mortgage servicers: - Increased share of mortgage servicing by nonbanks driven by regulatory burden and legal liabilities from CFPB servicing rules and Basel III capital treatment of mortgage servicing assets. - Banks increasingly sell mortgages “servicing released” or divest servicing portfolios. - FHFA has started work on revision and alignment of servicer eligibility requirements. - Private mortgage insurance capacity: - Only 3 percent of the private insurance industry is involved in mortgage insurance. - Industry contraction since 2000: of eight insurers writing private mortgage insurance in 2000, five remain active; some operate under waivers due to credit rating downgrades. - Recent positive developments: formation of two new mortgage insurers and capital raised by legacy insurers. - State insurance regulators and the FHFA are developing new capital standards and market regulations to enhance long-term viability. - Macroprudential coordination and tools: - Scope for a stronger role for the FSOC in analysis of macroprudential policies relating to housing, including possible use of QM and QRM standards and consideration of tools such as LTV ratios. - Interest rate risk: - With prospect of normalization of monetary conditions, supervisors should continue assessing and ameliorating interest rate risk. ### FSOC remit, membership, and governance (summary) - Remit (three primary purposes): - Identify risks to U.S. financial stability from material distress or failure of large, interconnected bank holding companies or nonbank financial companies, or risks arising outside the financial marketplace. - Promote market discipline by eliminating expectations that the U.S. government will shield shareholders, creditors, and counterparties from losses in event of failure. - Respond to emerging threats to financial stability. - Membership: - 10 voting members: Secretary of the Treasury (Chair); Chair, Board of Governors of the Federal Reserve System; Chairperson, FDIC; Chair, SEC; Chair, CFTC; Director, CFPB; Director, FHFA; Comptroller of the Currency (OCC); Chair, NCUA; Independent Member with Insurance Expertise. - 5 non-voting advisory members: Director, OFR; Director, FIO; a state insurance commissioner; a state banking supervisor; a state securities commissioner. - Committees and support: - Deputies Committee directs six Committees: Systemic Risk; Designation of Nonbank Financial Companies; Designation of FMUs and Payment, Clearing and Settlement Activities; Heightened Prudential Standards; Orderly Liquidation Authority and Resolution Plans; and Data. - Secretariat: just over 20 staff at the U.S. Treasury. - Meetings and transparency: - Council must meet at least quarterly; has met approximately monthly on average. - Public notice provided at least 7 days in advance; summary readouts provided immediately after meetings; minutes approved and published immediately after the subsequent meeting. - Decision making: - Base case for votes: general majority of voting members. - Votes on designation of nonbank companies and FMIs require no fewer than 2/3 of voting members then serving, including affirmative vote of the Chair. - Section 121 (actions to mitigate ‘grave threat’) and section 119 (resolution of disputes) require affirmative vote of no fewer than 2/3 of voting members then serving. - Accountability: - FSOC accountable to Congress via Annual Report and testimony on activities and emerging threats. *Appendix: OFR role, outputs, and staffing (summary)* - Mandate and tasks: - Collect data on behalf of the Council and provide such data to the Council and member agencies. - Standardize types and format of data reported and collected. - Perform applied research and essential long-term research. - Develop tools for risk measurement and monitoring. - Data and standards focus: - Compiled and maintains an inventory of data purchased or collected by Council member agencies. - Focusing on secured funding markets (including securities lending and repo markets), captive reinsurance, mortgages and other markets, and asset management activities. - Supports global LEI system advancement and a strategy to develop a unique mortgage loan-level identifier. - Leading development of protocols for securely sharing data across FSOC member agencies. - Monitoring and analytical tools: - Developed a Financial Stability Monitor addressing macroeconomic, market, credit, funding and liquidity, and contagion risks—a “heat map” snapshot. - Building a suite of monitoring tools; outputs presented regularly to FSOC and its Systemic Risk Committee. - Financial Markets Monitor summarizing major developments in global capital markets is in regular use; Monitor to be published monthly—the first public release was in February 2015. - Independence and reporting: - OFR prepares an independent annual report to Congress on the state of the U.S. financial system, timed midway between FSOC Annual reports. - Statutory responsibilities to evaluate and report on stress tests and impact of policies related to systemic risk. - Staffing: - OFR grew from some 30 staff in Fiscal Year 2011 to nearly 225 in December 2014. - Steady state staffing level expected to be around 300. ### Macroprudential policy tools (selected entries) - Structural resilience: - Additional capital surcharge for G-SIBs: Yes; Phased in over Jan 2016 to Dec 2018; Implementing agency: FRB; Applies to 8 US G-SIBs. - Enhanced supplementary leverage ratio: Yes; Jan 2018; Implementing agencies: FRB, FDIC and OCC; Applies to 8 US G-SIBs. - Enhanced liquidity standards for systemic banks: Yes; Phased in over Jan 2015 to Dec 2016; Implementing agencies: FRB, FDIC and OCC; 8 US G-SIBs + banks >$250 billion apply full U.S. LCR. - Designation and heightened prudential standards (nonbank SIFIs): Yes; Higher prudential standards to be decided; Implementing: FSOC, FRB. - Designation and heightened prudential standards (FMIs): Yes; 8 designations so far; Implementing: FSOC, FRB, SEC, CFTC. - Systemic liquidity and run risks: - NAV amendments and fees and gate amendments for MMMFs: Yes; 2016 Q3; Implementing agency: SEC. - Haircuts and margins (repos and SFT): Yes; Initial and variation margin for repos and SFT available; Implementing: FRB. - Tools for cyclical buildup of risks: - Countercyclical buffers: Yes; 2016 onwards (phased in Jan 2016 – Jan 2019); Implementing agencies: FRB, OCC, FDIC; Firms >$250 billion in assets or >$10 billion in foreign assets. Application triggers under research. *Source: IMF staff summary of U.S. assessments and institutional descriptions contained in the referenced chapter.* ### Appendix 3. Macroprudential Policy Tools in the United States (concluded) ### Appendix 3. Macroprudential Policy Tools in the United States (concluded) ### Status of selected macroprudential tools - Altering capital risk weights on sectors / products - Within planned U.S. framework: In principle - Implementation Date (if applicable): Available in principle May require upwards of a year to implement - Implementing Agencies: (not specified) - Other tools - Within planned U.S. framework: Not at present - Others – supervisory guidance - Within planned U.S. framework: Yes - Implementation: Implemented - Implementing Agencies: Banking regulators - Comment: Applied recently in relation to leveraged loans *Note: footnotes reference Governor Brainard and OFR Annual Report 2014 in source text.* *UNITED STATES — INTERNATIONAL MONETARY FUND* ### Tri‑party repo (TPR) — vulnerabilities, responses, and further actions (Appendix 4) - Vulnerabilities identified - Tri‑party infrastructure: Intra‑day credit exposures. Reliance on two clearing banks. - Broker Dealer Regulation: Excessive leverage and maturity transformation. - MMMF Regulation: Inadequate regulations resulting in a run on the industry. - Responses undertaken - Tri‑party infrastructure: Reengineering of the operations with intra‑day credit virtually eliminated. - Broker Dealers: Supervisory pressure to term out repo books. Broker‑dealers now largely captured within Basel III perimeter. - Money Market Mutual Funds (MMMF): Investment tightened. New liquidity rules. Stress testing requirements. Variable NAVs and gates and fees for some funds. - Further actions proposed - Reduce reliance on the two clearing banks. - Complete review of broker‑dealer rules. - Tighten rules on repo collateral. - Move all funds to variable NAV. - Diagram notes (from source) - Tri‑party Infrastructure: 2 clearing banks - Participants listed: Money Market Mutual Funds; Investors (Retail and Institutional); Agent Lenders [custodians, broker‑dealers]; Broker‑Dealers; Securities Lenders; MFs/Insurance Companies; Prime Brokerage Activity; Other Investments - Flow annotations: Flow of funding; Flow of collateral; [Note: collateral does not actually leave the system] *UNITED STATES — INTERNATIONAL MONETARY FUND* ### Statistics on Financial Market Infrastructures (Appendix 5 — Appendix Table 1, 2013) - Payment systems (number of transactions in million; value of transactions in billion dollars; number of participants; rank worldwide) - CHIPS: 103; 379,984; 50; 3 - CLS: 205; 1,291; 65; 1 (in FX transactions) - Fedwire Funds: 134; 713,310; 6,930; 2 - Federal Reserve check clearings: 6,171; 8,137; na; na - Central securities depositories - DTC: 319; 123,100; 353, of which 89 banks and 264 other; 8 - Fedwire Securities Service: 19; 295,186; 2,084, all banks; 4 - Central counterparties - FICC: 40; 1,155,200; 161, of which 37 banks and 124 other; 1 (in government securities) - NSCC: 17,723; 207,220; 173, of which 11 banks and 162 other; 1 (in corporate securities) - Derivatives trading systems (number of contracts traded in billion; value of transactions in billion dollars; number of participants; rank) - OCC: 4.17; na; +/- 120; na - CME: na; 15,092 (IRS) 227 (CDS); 69; 2 (in OTC IRS) - ICE Clear Credit: na; 7,645 (CDS); 30; 1 (in OTC CDS) - Sources: BIS, Futures Industry Association, disclosure frameworks OCC, CME and ICC. *UNITED STATES — INTERNATIONAL MONETARY FUND* ### CCPs offering OTC derivatives clearing (Appendix Table 2 — Notional amount outstanding, April 2014) - U.S. - ICE Clear Credit: $928 billion (CDS) - CME: $27 trillion (IRS); $11 billion (IRS Futures); $54 billion (CDS) - Eris: $10 billion (IRS Futures) - LCH.Clearnet LLC (U.S. (SwapClear service)): $26 billion (IRS) - Europe - ICE Clear Europe: $349 billion (CDS) - CME: Not public - Eurex: $29.5 billion (IRS Futures) - LCH.Clearnet Ltd.: $401 trillion (IRS) $40 billion (IRS Futures) $117 billion (CDS) - Asia - Singapore Exchange: $32.1 billion (IRS) $214 million (CDS) - Hong Kong Exchange: $700 million (IRS) - Japan SCC: $14 trillion (IRS) $8 billion (IRS Futures) - CCIL India: Small - Shanghai Clearing House: $1 billion (IRS) - Source: OTC Space. *UNITED STATES — INTERNATIONAL MONETARY FUND* ### CCP size of financial resources (Appendix Table 3 — December 2013, in billion dollars) - FICC: Size of margin/Size of clearing fund: 19.7 - Footnote: Data as of June 30, 2014. Of the total deposits 11.1 is in cash and 8.5 in securities. - Comment: FICC collects margin and other deposits and refers to them collectively as the clearing fund. - NSCC: Size of margin/Size of clearing fund: 4.4 - Footnote: Data as of June 30, 2014. Of the total deposits 4.2 is in cash and 0.2 in securities. - Comment: NSCC collects margin and other deposits and refers to them collectively as the clearing fund. - OCC: Size of margin/Size of clearing fund: 102; 4 - Footnote: Data as of December 31, 2013 - CME: na - Comment: CME has 3 guarantee funds: Base 3.2; CDS 0.7 / IRS 1.2. Data as of December 31, 2013. The data concern the calculated guarantee fund. Actual deposits are higher. - ICE Clear Credit: 16; 1.9 - Footnote: Data as of September 30, 2014. The clearing fund consists of 1.86 contributions from clearing members and 50 million of ICC. The data includes excess collateral. - Source: Disclosure frameworks of individual CCPs available on their website. *UNITED STATES — INTERNATIONAL MONETARY FUND* ### FMI landscape and interconnections (Appendix 6) - Key designated FMUs operated in the U.S.: - Payments / RTGS: Fedwire Funds (RTGS); CHIPS; ACHs; NSS; Card networks; Check clearing systems - Securities / CSD / SSS: DTC (SSS/CSD); FSS (SSS/CSD) - Central counterparties / CCPs: FICC; NSCC; OCC; CME (CCP); ICE CC (CCP) - Derivatives venues: Exchanges (NYSE, NASDAQ and other U.S. markets); OTC, SEFs; ECNs - Notable flows and instruments: - OTC and exchange‑traded derivatives; Government securities and MBS; Corporate and municipal bond securities - Fed accounts and interbank (USD) settlement interactions with commercial banks *UNITED STATES — INTERNATIONAL MONETARY FUND* ### Cross‑margining arrangements and CSD links (Appendix 7) - FMIs and descriptions (selected entries) - FICC, CME: Cross‑margining arrangement - CME, OCC: Cross‑margining arrangement - CME, Singapore Exchange: Mutual Offset System Agreement, which enables traders to open a futures position on one exchange and liquidate it on the other. - OCC, ICE U.S.: Cross‑margining arrangement - OCC, DTC: Disbursement Program, which facilitates the payment of stock settlement obligations of common OCC clearing members and NSCC participants resulting from exercised and assigned equity options. - OCC, NSCC: Disbursement Program, which facilitates the payment of stock settlement obligations of common OCC clearing members and NSCC participants resulting from exercised and assigned equity options. - NSCC, CDS: CDS Clearing and Depository Services Inc. (“CDS”), the Canadian CSD and CCP, is a full service Member of NSCC - DTC, CDS: CDS is a participant of DTC. - DTC, Sega Intersettle: DTC is a participant of Sega Intersettle, the Swiss CSD - DTC, Clearstream Bank Frankfurt AG: DTC and Clearstream Banking Frankfurt are participant in each other’s CSD - DTC, other: Other CSDs are a participant of DTC (examples listed in source: CAVALI, Peru; Merval, Argentina; Depósito Central de Valores, Chile; CREST International Nominees Ltd., UK and Ireland; Caja de Valores, S.A., Argentina; Tel Aviv Stock Exchange Clearing House (TASECH), Israel; Monte Titoli, S.p.A., Italy; Japan Securities Depository Center, Inc.; Central Depository (Pte.) Ltd., Singapore; Hong Kong Securities Clearing Company Limited.) *UNITED STATES — INTERNATIONAL MONETARY FUND* ### Dependencies of designated FMUs on commercial bank services (Appendix 8) - Payment systems - CHIPS: Settlement bank: Not applicable; Collateral services: Not applicable; Liquidity/Funding services: Small group of funding agents acting on behalf of non‑funding participants. A relatively large percentage of the value of the payment messages is concentrated within a small number of participants. - CLS: Settlement bank: Not applicable; Collateral services: Not applicable; Liquidity/Funding services: CLS has committed credit lines in US dollar, provided by a few CLS members. In 2011, the three largest US‑based third party service providers account for more than 48 percent of total third‑party activity. - Central securities depository - DTC: For cash settlement DTC relies on settlement banks to make the payments from and to DTC's account at the FRBNY, with a high concentration at the top five settlement banks. Cash collateral is held at the FRBNY. Securities collateral is held at accounts in DTC. DTC’s line of credit, established with a syndicate of 31 banks, totaled 2 billion USD at December 31, 2011. Canadian settlement is supported by a credit line of CAN$150 million of a DTC participant. - Central counterparties (selected) - CME: Settlement is concentrated in three large settlement banks. The largest settlement banks are also the largest custodians. Overnight collateral kept as repos. Credit facility is relatively evenly dispersed over 22 banks, including the settlement banks. Total value of credit lines was several billion U.S. dollars in 2011. Some banks also act as general clearing member and/or help the CCP to liquidate and hedge the positions of a defaulting clearing member. - FICC: Two settlement banks settle cash and securities transactions. The two settlement banks also keep the collateral. Credit lines provided by a consortium of 30 banks, the majority of which are also clearing members. Some banks also act as general clearing member and/or help the CCP to liquidate and hedge the positions of a defaulting clearing member. - ICE: Two settlement banks settle cash transactions. The two settlement banks keep the collateral. Overnight collateral kept as repos. ICE receives credit line from ICE Inc that receives credit from a syndicate of banks (10‑12). Some banks also act as general clearing member and/or help the CCP to liquidate and hedge the positions of a defaulting clearing member. - NSCC: Settlement is concentrated in a few settlement banks. Cash collateral is held at the FRBNY through the DTC account. Securities collateral is held at accounts in DTC. Credit line provided by a consortium of 15 banks. Some banks also act as general clearing member and/or help the CCP to liquidate and hedge the positions of a defaulting clearing member. - OCC: Nine settlement banks, with volumes concentrated in three settlement banks. The three settlement banks keep the collateral. Credit lines of $2 billion from a bank syndicate (some are also member) and $1 billion repos from a pension fund. Some banks also act as general clearing member and/or help the CCP to liquidate and hedge the positions of a defaulting clearing member. - Source: Based on FSOC Annual Report 2012—Appendix A and discussions with FMIs. *UNITED STATES — INTERNATIONAL MONETARY FUND* --- _Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2015/_cr15172.pdf_