Regulators urged to adopt common standards on FX rules

Regulators must adopt a calibrated approach to mandated collateral so that short-dated foreign exchange (FX) swaps and forwards are not caught up in the rules unnecessarily, argue market participants

Two regulatory working groups – one at a European level and the other at an international level – are set to issue standards that could determine the crucial question of whether foreign exchange derivatives not cleared through central counterparties (CCPs) should instead be subject to mandatory collateral requirements under new regulation.

The standards are expected to be controversial – Steven Maijoor, chair of the European Securities and Markets Authority (Esma), warned in a speech earlier this month that the danger of inconsistency between US and European regulation is “much more serious” when it comes to margin for uncleared FX trades than for FX clearing itself. The issue has risen up the agenda of both regulators and market participants alike in recent weeks.

“There has been a shift of attention away from the clearing exemption towards margin requirements for uncleared trades. While such requirements might not apply to FX swaps and forwards in the US, they will be handled in Europe by regulatory technical standards, which are still being developed,” says Heather Pilley, a technical specialist for over-the-counter derivatives and post-trade policy at the UK Financial Services Authority (FSA) in London.

Under the US Treasury’s proposed FX exemption, published in April 2011, FX swaps and forwards would be exempt from the definition of a ‘swap’ in the Dodd-Frank Act, meaning they would not only be exempt from clearing but also from the margin requirements being developed for uncleared trades.

But Esma is unlikely to issue the same kind of blanket exemption, according to Maijoor. “In the US, the margin requirements for non-centrally cleared transactions would not apply. However, they will apply in the European Union,” he said at a conference in London on February 8.

Esma is expected to publish within weeks a discussion paper covering risk mitigation for uncleared derivatives – a paper it is developing in conjunction with its sister agencies for the banking and insurance industries. Meanwhile, a coalition of international regulators and central bankers plans to issue a consultative report on the same subject by June. The latter group includes representatives from the Basel Committee on Banking Supervision, the Committee on the Global Financial System, the Committee on Payment and Settlement Systems, and the International Organization of Securities Commissions.

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