European Market Infrastructure Regulation (EMIR)

  • December 30, 2022
  • Posted by: OptimizeIAS Team
  • Category: DPN Topics
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European Market Infrastructure Regulation (EMIR)

Subject: Economy

Context:

Engaging with ESMA but alternative arrangements also under deliberation: RBI report

Details:

ESMA has de-recognised six Indian clearing houses, including CCIL, effective May 2023, after Indian regulators showed reluctance to sign a revised agreement which gave the overseas regulatory body the right to audit, scrutinise and inspect the activities or operations of Indian clearing houses.

Market impact

With the withdrawal of CCP (central counterparty) recognition, large banks have to opt for indirect clearing settlements-introduces an element of systemic risk

Concept:

Counterparty:

A counterparty (sometimes contraparty) is a legal entity, unincorporated entity, or collection of entities to which an exposure of financial risk may exist.

Within the financial services sector, the term market counterparty is used to refer to governments, national banks, national monetary authorities and international monetary organisations such as the World Bank Group that act as the ultimate guarantor for loans and indemnities.

Also within financial services, counterparty can refer to brokers, investment banks, and other securities dealers that serve as the contracting party when completing “over the counter” securities transactions.

Example:

  • The Clearing Corporation of India (CCIL), supervised by RBI,
  • Indian Clearing Corporation (ICCL), Multi Commodity Exchange Clearing (MCXCCL), and NSE Clearing (NSCCL), supervised by Sebi;
  • India International Clearing Corporation and the NSE IFSC Clearing Corporation (NICCL), supervised by the International Financial Services Centre Authority (IFSCA).

Clearing Corporation of India Limited (CCIL)

  • CCIL was set up in April 2001 by banks, financial institutions and primary dealers, to function as an industry service organisation for clearing and settlement of trades in money market, government securities and foreign exchange markets.
  • The Clearing Corporation plays the crucial role of a Central Counterparty (CCP) in:
    • The government securities,
    • USD –INR forex exchange (both spot and forward segments) and
    • Collaterised Borrowing and Lending Obligation (CBLO) markets.
    • CCIL plays the role of a central counterparty whereby the contract between buyer and seller gets replaced by two new contracts – between CCIL and each of the two parties. This process is known as ‘Novation’.
      • Through novation, the counterparty credit risk between the buyer and seller is eliminated with CCIL subsuming all counterparty and credit risks.
    • In addition to the guaranteed settlement, CCIL also provides non-guaranteed settlement services for National Financial Switch (Inter bank ATM transactions) and for rupee derivatives such as Interest Rate Swaps.
    • CCIL is also providing a reporting platform and acts as a repository for Over the Counter (OTC) products.

Indian Clearing Corporation Limited

It was incorporated in 2007 as a wholly owned subsidiary of BSE Ltd. (“BSE”). ICCL carries out the functions of clearing, settlement, collateral management and risk management for various segments of BSE. ICCL undertakes to act as the central counterparty to all the trades it provides clearing and settlement services for.

Multi Commodity Exchange Clearing Corporation Limited (MCXCCL) has entered into an agreement with Multi Commodity Exchange of India Ltd (MCX), for providing Clearing and Settlement services to MCX.

NSE Clearing Limited (National Clearing) formerly known as National Securities Clearing Corporation Limited (NSCCL), a wholly owned subsidiary of NSE, was incorporated in August 1995. It was the first clearing corporation to be established in the country and also the first clearing corporation in the country to introduce settlement guarantee.

European Market Infrastructure Regulation (EMIR)

  • It was adopted by the EU in August 2012 as implementation of the G20 commitment to reduce systemic, counterparty and operational risk, and increase transparency in the OTC derivatives market.
  • It was also designed as a preventative measure to avoid fallout during possible future financial crises similar to the collapse that followed the Lehman Brothers bankruptcy in 2008.
  • Its focus is regulation of over-the-counter (OTC) derivatives, central counterparties and trade repositories. 
    • It provides guidance on reporting of derivative contracts, implementation of risk management standards and common rules for central counterparties and trade repositories.
    • It establishes common rules for central counterparties, which interpose themselves between involved parties in a contract to serve as the focal point of each trade, and trade repositories, which collect and maintain all records of trades.
  • It also outlines three sets of obligations, including the clearing, reporting and risk mitigation of applicable products
    • It requires mandatory clearing obligations for specific OTC derivative contracts -The obligations require that over-the-counter derivatives trades are cleared through central counterparties.
    • EMIR requires that all entities entering into derivative contracts must submit reports to their corresponding trade repositories, outlining each over-the-counter trade.
      • EMIR covers entities that qualify for derivative contracts in regards to interest rate, equity, foreign exchange, or credit and commodity derivatives.
    • The risk mitigation standards outlined in EMIR’s Article 11 impose risk management regulation on bilateral derivatives, as these derivatives are not appropriate for standard central counterparty clearing
  • Article 25 of EMIR requires CCPs in other global jurisdictions providing services to European banks to be approved by ESMA.
    • India signed the pact in 2017, which lapsed in March 2022.
economy European Market Infrastructure Regulation (EMIR)