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Improving efficiency and limiting risks in interbank markets: the role of central banks Franco Passacantando World Bank Global Payment Systems Conference.

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Presentation on theme: "Improving efficiency and limiting risks in interbank markets: the role of central banks Franco Passacantando World Bank Global Payment Systems Conference."— Presentation transcript:

1 Improving efficiency and limiting risks in interbank markets: the role of central banks Franco Passacantando World Bank Global Payment Systems Conference 2009 Cape Town, April 8 2009

2 Titelmasterformat durch Klicken bearbeiten 2 NEW TRENDS IN LIQUIDITY CREATION AND CIRCULATION LIQUIDITY CREATION Globalization and financial crisis effects on central banks: enhanced international cooperation ( foreign currency operations and swap operations) extended scope of existing operations ( massive liquidity injections; new instruments adopted; wider collateral) unconventional operations ( engagement in the set-up of new market; widening of counterparts) LIQUIDITY CIRCULATION -from unsecured to secure market venues -from multilateral to bilateral trading

3 Titelmasterformat durch Klicken bearbeiten 3 MONEY MARKET TRADING MODELS uncollateralized: -bilateral (OTC) -multilateral (electronic platform e-MID) collateralized: -bilateral (repo) -multilateral (3 main platforms in Europe: Eurex Euro GC Pooling, MTS repo, ICAP BrokerTec) Collateral management services Custody Triparty repo (third agents btw trading parties)

4 Titelmasterformat durch Klicken bearbeiten 4 INTERBANK MARKET STRUCTURES: e-Mid Created in 1990 on impulse of Banca dItalia. It is the only screen- based unsecured money market platform in the world More currencies gradually introduced. Now deposits in 4 currencies (, $ USA, GBP and PLN zloty) are traded Managed by a private company (e-MID SIM S.p.A) owned by 29 banks and by the Italian Banking Association (ABI) 224 participants from 26 countries, including 28 central banks and 2 Ministries of Economy and Finance as observers Supervised by Banca dItalia

5 Titelmasterformat durch Klicken bearbeiten 5 INTERBANK MARKET STRUCTURES: collateralized trading venues EUREX – Euro GC Pooling - Collateralized money market for ECB eligible securities trading. It offers CCP services (Eurex Clearing) and collateral management services (Clearsteam) CCP : anonymity, minimizing risk, netting Collateral Management: automated allocation and real-time substitution of securities (virtual collateral pool); re-use of collateral for other money market transactions and/or ECB operations via Clearstream Banking Trading data: on Feb 2009 Euro GC pooling outstanding volumes at 65 bln (nearly 40 bln in Feb 2008) MTS – Repo Trading Facility - General collateral trading of securities listed on the MTS markets in transparent and anonymous way via CCP (CCG SpA, LCH.Clearnet SA). Types of contract: Buy-Sell Back for Italian securities and Classic Repo for other countries instruments. CCP (not mandatory): anonymity, minimizing risk, netting Trading data: at Feb 2009 GC daily turnover at 40 bln (30 bln in Feb 2008) ICAP – BrokerTec - Repo trading of a large pool of international securities both in bilateral (transparent) and multilateral (anonymous) CCP assisted segments CCP: anonymity, minimizing risk, netting Trading data: at Feb 2009 daily turnover of European repos at 150 bln (around 170 bln in Feb 2008)

6 Titelmasterformat durch Klicken bearbeiten 6 The Eurosystem case: banks recourse to the standing facilities greatly increased. A parallel significant increase of the deposit facility CENTRAL BANKS INTERMEDIATION ROLE Lehman default Marginal lending facility Deposit facility Daily outstanding balances – blns of euro)

7 Titelmasterformat durch Klicken bearbeiten 7 CENTRAL BANKS BALANCE SHEET Lehman default As a result, the Eurosystem balance sheet has reached unprecedented levels

8 Titelmasterformat durch Klicken bearbeiten 8 UNSECURED MONEY MARKET ACTIVITY HAS SHIFTED … Activity in the e- MID platform sharply declined, but….

9 Titelmasterformat durch Klicken bearbeiten 9 … IN FAVOUR OF OTC TRADING... … Italian banks continued to exchange liquidity on an OTC basis (widely within the group circuits)…

10 Titelmasterformat durch Klicken bearbeiten 10 … AND COLLATERALIZED SEGMENTS.. as well as in the repo segment

11 Titelmasterformat durch Klicken bearbeiten 11 THE INTERBANK COLLATERALIZED MARKET (MIC) Temporary market segment (operational since 2 February up to 31.12.2009) aimed at overcoming: higher credit and liquidity risk perception through collateralization stigma effect associated with funding on the interbank market through anonymity In the first two months, 47 banks posted collateral to trade in the MIC; they account for more than 80% of banks consolidated assets The scheme makes use of the current screen-based trading infrastructures (e-MID) and cash settlement infrastructures (TARGET2)

12 Titelmasterformat durch Klicken bearbeiten 12 FEATURES OF THE MIC Traded deposits - 1W, 2W, 3W, 1M, 2M, 3M, 4M, 5M, 6M (possible to insert broken dates in the future) Participants Italian and EU banks (understanding with Banca dItalia is requested) Anonymity Participants names disclosed neither on trading pages nor on settlement instructions Guarantee : each participant posts its collateral with the Bank of Italy to cover its own debt position Mutual loss sharing : for each participant, up to 10% of posted collateral (in case collateral of defaulting bank is not sufficient) Eligible collateral : assets eligible for the Eurosystem + assets/liabilities guaranteed by Italian & other EU Governments + eligible securities for securities lending at the Banca dItalia + other financial instruments & credits accepted by Banca dItalia on a discretionary basis

13 Titelmasterformat durch Klicken bearbeiten 13 FEATURES OF THE MIC A single real time e-MID and MIC screen for the trader

14 Titelmasterformat durch Klicken bearbeiten 14 - Facilitator of trading (ensuring anonymity): Opening of accounts for participants Communication of the amount of the guarantee Possibility to refuse/ask for the substitution of all or part of the collateral Custody and administration of financial instruments deposited as collateral Evaluation of collateral reference to market prices (if existent) with a haircut for each category of instrument/asset Management of defaults - Supervision Authority THE ROLE OF BANCA DITALIA

15 Titelmasterformat durch Klicken bearbeiten 15 MIC GROWTH SINCE THE START UP Activity is largely concentrated (3/4 of the market) on three maturites: 1 week, 2 weeks, 1 month. But all maturities are quoted during the day

16 Titelmasterformat durch Klicken bearbeiten 16 MIC ACTIVITY IS VARIABLE BUT OVERALL GROWING... Activity in MIC is approximately equivalent to that on the e- MID on the same maturities effective demand of collateralized trades

17 Titelmasterformat durch Klicken bearbeiten 17 ISSUES FOR DISCUSSION: what is the proper role for a central bank? Dual responsibility of liquidity creation and market development MIC is designed to limit risks for central bank and preserve market incentives Partial mutual sharing of losses Losses are very unlikely and would be limited (several events should simultaneously occurr: default of both the trader and the collateral issuer; insufficient haircuts; insufficient mutual sharing) No market maker role for Banca dItalia. No public subsidy HENCE: in emergency situations, risks for central banks may be lower than those of open market operations

18 Titelmasterformat durch Klicken bearbeiten 18 ISSUES FOR DISCUSSION: who should play the role of market catalyst? Central banks have often played the role of market catalyst. BI has been involved in developing: -the custodian and SSS operator (Monte Titoli) -the CCP (Cassa di Compensazione e Garanzia) -the Interbank electronic market (e-MID) -the wholesale Government Securities electronic market (MTS) -the cash clearing and settlement systems (at both national and euro-area level) some of which were later passed on to the market Alternative approaches: Private market infrastructures, Banking Associations there is no optimal approach (local and historical conditions matter) depends on the structure of a system (whether few big players dominate the market, or a fragmented system prevails) central banks initiatives open to wider access (also greater flexibility in collateral management policy)

19 Titelmasterformat durch Klicken bearbeiten 19 ISSUES FOR DISCUSSION: what model of risk management? Is there a risk of excessively limiting propensity to take risks? (collateralized vs uncollateralized; bilateral vs multilateral) Bilateral monitoring important for market discipline Uncollateralized contracts are cheaper in normal circumstances should a move to the generalized adoption of the central counterparty model be encouraged? CCPs enhance transparency and standardization Centralized risk assessment imply economies of scale in risk management Most beneficial when operations can be netted what should be the role of central banks with respect to CCPS Need of suspervisory powers Access to lending of last resort facilities?

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