Anthony Harper – The Financial Markets Infrastructures Bill, introduced to Parliament in December 2019 and reported back from the Select Committee late last week with few changes, will introduce a new regime to oversee New Zealand’s financial markets infrastructures – the plumbing that underlies and connects components of our financial system.
This article provides an overview of the proposed new regime.
Financial markets infrastructures – FMIs – are multilateral systems that provide clearing, settlement, and recording services relating to payments, securities, derivatives, and other financial transactions. Examples include NZClear (the settlement system and securities depository for various New Zealand shares and fixed interest securities) and NZCDC (which clears and settles transactions conducted on the NZX).
Well-functioning FMIs are crucial to the efficient operation of the financial system. If an FMI fails, it could affect the financial system as a whole. However, FMIs are currently subject to relatively light handed regulation under the Reserve Bank of New Zealand Act 1989. The Bill will replace that regime with a new, stand-alone Act containing a greatly enhanced regulatory regime that better reflects international best practice.
Regulatory oversight of all FMIs
The Bill adopts a wider definition of FMI than current law, in part recognising the greater range of FMIs that now exist. It will extend to cover all types of FMIs, rather than the smaller group of FMIs that handle significant payments or securities (only this group is covered by the current regime).
The regime will be overseen jointly by the Reserve Bank and Financial Markets Authority (except in the area of payment systems, which will be the sole responsibility of the Reserve Bank). The Bill contemplates an MOU between the two regulators to address how they will jointly function (they could also agree that, in a particular case, one of them would act as sole regulator). The regulators will have the power to gather information and investigate all FMIs, giving them more ability to monitor the whole sector. This could, in turn, result in an FMI being designated.
Greater regulation of designated FMIs
The Bill’s focus is on “designated FMIs”. These are FMIs that have either applied voluntarily to be designated, or have been identified as systemically important. The Bill defines a systemically important FMI as a one who’s activities are sufficiently important that if disrupted (or if a problem arose with a participant) it would threaten the stability or confidence in all or a significant part of financial markets.
Operators of designated FMIs will be subject to enhanced regulation. It is proposed that this will include:
- the need to comply with legally binding standards – these are likely to include matters relating to governance, access to services, capital or liquidity, risk management, and reporting, amongst others, and standards could apply to all FMIs, a class of FMIs, or an individual FMI
- enhanced regulatory oversight of FMIs’ operating rules (including a requirement that rules and rule changes be approved)
- statutory protections for settlement and netting provisions in FMIs’ operating rules
- an obligation to have comprehensive contingency plans for financial or operational failure under various scenarios, including arrangements for obtaining the financial resources needed to implement contingency plans
- crisis management powers (similar to registered banks) and a tailored statutory management regime as a last resort.
Overseas-based FMIs will be subject to a lesser degree of regulation. This avoids dual regulation, and recognises the impracticalities of trying to impose different rules on these FMIs in New Zealand. For example, rule changes for overseas FMIs will not need to be approved in New Zealand, and standards that apply to overseas FMIs will need to be developed having regard to requirements of the “home” jurisdiction.
These more extensive regulatory requirements will be matched by a graduated range of investigative and enforcement tools, including offences and penalties.
Who will the regime apply to?
It is inevitable that the four FMIs covered by the current regime will be designated under the new regime. These are the Exchange Settlement Account System operated by the Reserve Bank, NZClear, NZCDC, and CLS Bank (which settles high value FX transactions). Payments NZ’s Settlement Before Interchange arrangement for retail payments has also been identified as likely to be systematically important. Some other FMIs have been identified as potentially systematically important and may also be designated.
Going forward, the regulators’ investigation powers, and the broader definition of FMI, means that other FMIs could easily be designated as circumstances change and new technologies emerge.
The reforms are unlikely to have any significant day-to-day impact on the financial markets sector, but they are an important safeguard against the possible effects of a failure.
The Bill has been a long time coming – it has its origins in 2013 consultation on the issue. The long lead time, and extensive consultation, means substantial change is unlikely before the Bill becomes law. However, the timeframe for enactment is uncertain. Laws like this – important but unexciting – can struggle to make their way to the top of the Parliamentary order paper. We are keeping a watching brief.
Once passed, the Reserve Bank has indicated it anticipates a 12 month transitional period. During that time, standards would be designed and consultation would occur with FMIs to be designated. The regime would commence at the end of that period, at which point the previous regime would drop away. To the extent it was not feasible for operators to comply with standards straight away (for example, where system or rule changes are needed), the Reserve Bank has said they may come into force at a later date.