In a tactical move that could encourage the European Securities and Markets Authority (ESMA) to restore recognition to at least one of the Indian central counterparties (CCPs), the Reserve Bank of India (RBI) and the Bank of England (BoE) on Friday signed a Memorandum of Understanding (MoU) for cooperation and exchange of information in relation to the Clearing Corporation of India Ltd. (CCIL).

The MoU establishes a framework for the BoE to place reliance on the RBI’s regulatory and supervisory activities while safeguarding UK financial stability, per a central bank statement.

Cross-border cooperation

The RBI said the MoU also demonstrates the importance of cross-border cooperation to facilitate international clearing activities and the BoE’s commitment to deference to other regulators’ regimes.

“This MoU confirms the interests of both authorities in enhancing cooperation in line with their respective laws and regulations.

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“It will also enable the BoE to assess the application of CCIL for recognition as a third-country central counterparty (CCP), which is a pre-requisite for UK-based banks to clear transactions through CCIL,” the RBI said.

This MoU comes against the backdrop of ESMA withdrawing recognition for six CCPs from India — CCIL, Indian Clearing Corporation Ltd., NSE Clearing Ltd., Multi Commodity Exchange Clearing Ltd., India International Clearing Corporation, and NSE IFSC Clearing Corporation Ltd. — with effect from April 30, 2023, as certain conditions under the European Market Infrastructure Regulation (EMIR) were not met. According to industry experts, ESMA may review its stance with the RBI signing the agreement with the BoE.

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These third-country CCPs (TC-CCPs) will no longer be able to provide services to clearing members and trading venues established in the European Union, ESMA said in a statement on October 31, 2022.

CCIL had obtained recognition as a “TC-CCP” under the “EMIR”, consequent upon recognition of India as an equivalent regime by European Commission’s decision dated December 15, 2016.  The recognition to CCIL as a “TC-CCP” was with effect from March 29, 2017.

Referring to the legislations governing financial market infrastructures, like CCPs, enacted in some advanced jurisdictions, which have incorporated provisions giving them an extra-territorial reach, RBI cautioned that if such legislations are implemented by all jurisdictions, it can create a parallel maze of laws with overlapping requirements or restrictions and show a lack of trust in the capabilities and quality of oversight exercised by the host regulators.

The central bank underscored that such unilateral actions can lead to disruption in local markets and undermine domestic financial stability.

Moreover, such actions will hamper the ability of banks and custodians to participate in forex, government securities, equities, debt and derivative markets where local mandates of compulsory central clearing will be militated, leading to disruption in markets and adverse impact on business interests of these entities, per RBI’s financial stability report.

Potential inefficiencies get introduced in the system with a possible domino effect when liquidity gets ‘trapped’ on the back of gross settlement of large positions, the report added.

“With the withdrawal of CCP recognition, once a large bank moves from a direct participant to an indirect one, it also introduces an element of systemic risk as the concerned large bank operates without access to central bank funding windows.

“Disruptions can lead to instability in market conduct, as also impact the clearing members by way of higher capital requirements, increased margin requirements, enhanced credit risk and lack of multilateral netting benefit,” the report said.