Brexit seen dragging US into trillion dollar battle for clearing business in swaps
Clearinghouses a lynchpin in trillions of dollars in commercial transactions
The European Union’s battle over London’s financial services sector risks dragging an unexpected player into the fray: Uncle Sam.
That’s what could happen if French or German leaders attempt to pry away the some US$533 trillion of swaps cleared by the London Stock Exchange Group Plc’s LCH unit annually.
In a sign of how badly the EU wants London’s financial turf post-Brexit, talks are already underway within the EU to limit euro clearing outside their jurisdiction, a move that would affect the US, too, LSE chief Xavier Rolet said Wednesday.
Rolet has said New York, where LCH also holds a clearing license, is the only financial centre that could practically clear interest-rate swaps. A move to the US financial hub would potentially pit leaders like French President Francois Hollande against peers in Washington -- meaning the EU would be in a battle against the world’s largest economy as it seeks to negotiate a new relationship with the UK.
“The fact that clearing was raised immediately by some as an area that they saw as vital to repatriate or migrate out of the UK shows the importance of that business,” LSE Chief Executive Officer Rolet told a House of Lords committee on Wednesday.
Clearinghouses stand between traders and collect collateral to prevent a default from spiraling out of control. Rolet has repeatedly argued it makes no sense to strip euro clearing away from the other major currencies -- keeping them together is more efficient and saves bank and asset-manager clients a bundle on collateral, about $77 billion by one estimate.
Regulations since the 2008 crisis have heightened the importance of clearinghouses, making them a focal point in the financial system. LSE is the majority owner of LCH, which dominates clearing of interest-rate swaps, a market where some $2.7 trillion of derivatives changes hands every day. LCH handles more than 90 per cent of cleared interest-rate swaps trades in major currencies.
Any attempt to keep euro clearing within Europe could impact other players. Chicago-based CME Group Inc. has cleared an average of 7.2 billion euros ($8 billion) of derivatives denominated in the common currency each day this year, so far without public complaint from European authorities.
U.S. clearinghouses can serve European customers because EU authorities deemed their regulations as equivalent. Limiting their ability to clear euro swaps would mean revoking or curtailing that agreement. It took about four years of difficult negotiations for the US and the EU to come to an agreement on equivalence between their clearinghouse regulations.
In policy papers, the European Central Bank has outlined concerns that a regulator outside its jurisdiction, such as the UK central bank, could make decisions during a crisis that would benefit its own economy rather than the EU.
That’s why the ECB previously tried to bring euro swaps clearing under its regulatory control by shifting it to a euro-area country. Then UK Chancellor of the Exchequer George Osborne sued, and won -- a victory that reinforced London’s status as Europe’s financial hub.