According to banking circles, the decision to disqualify Indian market counterparty institutions stems from the stand-off between Indian and foreign regulators.
“We understand the Reserve Bank of India (RBI) and Sebi are not comfortable letting key Indian institutions come under the scrutiny and inspection of overseas market regulators. They think it’s a jurisdiction issue, and boils down to a regulatory overreach,” a senior banker told ET.
According to a communique by The European Securities and Markets Authority (ESMA) dated October 31, 2022, no “cooperation arrangements” (compliant with European Market Infrastructure Regulation) have been concluded between ESMA and each of the relevant Indian authorities, i.e. RBI, Sebi and IFSCA.”
Trades Could be Impacted
Under the circumstances, if the Indian and European regulators fail to strike a deal, all European banks in the country will either need a prohibitively high level of capital – about 50 times higher – to carry on trades involving the Indian central counterparties, or will have to unwind their positions (with these central counterparties) over the next six to nine months.
Since almost all foreign banks in India operate as branches of the parent organisations which are headquartered abroad, they are bound by the directives of their respective home country regulators. So, while banks like Deutsche, BNP, Credit Agricole, and Societe Generale have to follow the instructions of ESMA, lenders such as HSBC, Standard Chartered, and Barclays have to meet the norms laid down by BoE.
ESMA has derecognised six Indian central counterparties – CCIL, ICCL, NSCCL, Multi Commodity Exchange Clearing (MCXCCL), and India International Clearing Corporation Limited (IICC). BoE has disqualified CCIL and ICCL. CCIL is supervised by the RBI; NICCL is under the GIFT City regulator International Financial Services Centres Authority; and the rest are regulated by the Securities and Exchange Board of India (Sebi).
“Senior officials of these banks have been in touch with RBI and Sebi since yesterday. The Indian regulators must talk to their European counterparts to find a middle ground. It probably has to do with issues like disclosures or certain extra-territorial regulatory powers which have to be sorted out. We expect some discussions, advocacy in the coming months. Else, some of the European banks could find themselves at a disadvantage,” said a treasurer of a foreign bank.
The trades that would be affected are foreign currency forwards – where a bank hedges the currency risk of a client buying or selling dollars or any other foreign currency; interest rate swaps in which two entities exchange fixed interest payment vis-a-vis floating rate payment to cover interest rate risks; and custody businesses of some of these multinational banks handling secondary stock and bond market trades of foreign portfolio investors and local institutions like mutual funds.
Global Meltdown of 2008
After the 2008 meltdown – which was worsened by hidden risks and the lack of transparency in large bilateral trades in complex financial instruments – European authorities, lawmakers and regulators had put in place rules on greater information sharing between regulators and institutions. Thus, the development will also bring to the fore the extent to which regulators can overcome the jurisdictional issues that crop up with greater disclosures.
For instance, paragraph 7 of Article 25 of European Market Infrastructure Regulation – the bone of contention in the current matter – states among other things: “… ESMA shall establish cooperation arrangements with the relevant competent authorities of third countries… Such arrangements shall specify at least:
a) the mechanism for the exchange of information between ESMA and the competent authorities of the third countries concerned, including access to all information requested by ESMA regarding CCPs authorised in third countries;
b) the mechanism for prompt notification to ESMA where a third-country competent authority deems a CCP it is supervising to be in breach of the conditions of its authorisation or of other law to which it is subject;
c) the mechanism for prompt notification to ESMA by a third-country competent authority where a CCP it is supervising has been granted the right to provide clearing services to clearing members or clients established in the Union;
d) the procedures concerning the coordination of supervisory activities including, where appropriate, on-site inspections.
“We are in a bit of a flux.. the market now faces conflicting directions. For instance, on one hand, authorised dealer banks were told (by RBI) to clear (through a central counterparty) all forex forward trades having a tenure of less than 13 months. On the other hand, beginning April we can’t use CCIL even though such forex trades can only be cleared through CCIL,” said a dealer.
RBI and Sebi spokespersons did not comment on the subject till the time of going to press.