Derivatives clearing obligation – modifications to reflect interest rate benchmark reform: Amendments to BTS 2015/2205

Consultation Paper
Published on 20 May 2021

1 Overview

This Consultation Paper (CP) sets out the Bank of England’s (the Bank’s) proposal to modify the scope of contracts which are subject to the derivatives clearing obligation to reflect the ongoing reforms to interest rate benchmarks.

The proposals in this CP would result in changes to Commission Delegated Regulation (EU) 2015/2205 of 6 August 2015 supplementing Regulation (EU) No 648/2012 of the European Parliament and of the Council on OTC derivatives, central counterparties and trade repositories with regard to regulatory technical standards on the clearing obligation (hereafter Binding Technical Standards (BTS) 2015/2205), being technical standards made under Article 5(2) of the European Market Infrastructure Regulation (EMIR).footnote [1]

In short, as a consequence of the anticipated changes in market activity resulting from interest rate benchmark reform, the Bank intends to remove contracts that reference benchmarks that are being discontinued and replace them with Overnight Index Swaps (OIS), with the same range of maturities, which reference the replacement near risk-free reference rate (RFR) benchmarks selected for each currency.

This CP is relevant to financial and non-financial counterparties that are subject to the clearing obligation under EMIR, and to central counterparties (CCPs).

1.1 Background

Objectives of the clearing obligation for OTC derivatives

The financial crisis of 2008 highlighted several structural weaknesses in Over-the-Counter (OTC) derivatives markets, which posed a threat to financial stability. These weaknesses contributed to the severity of the crisis and became a focus of regulatory reform. In response, the Group of Twenty (G20) initiated a programme in 2009 to improve transparency and reduce the systemic risk posed by OTC derivatives transactions, markets and practices. One of the key elements of the reforms was the introduction of mandatory clearing of standardised OTC derivatives contracts via CCPs.

The requirement to clear standardised OTC derivatives contracts through CCPs is aimed at reducing systemic risk via a reduction in the counterparty credit risk associated with the most actively traded contracts. This is achieved through multi-lateral netting and the collateralisation of cleared exposures, as well as by increasing transparency and simplifying the network of derivatives exposures. By reducing systemic risk, this in turn helps to achieve the Bank’s financial stability objective of protecting and enhancing the stability of the financial system of the United Kingdom. Authorities internationally have implemented clearing mandates for certain classes of standardised OTC derivatives contracts and have provided incentives to clear derivatives transactions through other reforms, which introduced raised capital requirements and mandatory margining for non-centrally cleared derivatives.

Since the financial crisis, the proportion of derivatives activity that is centrally cleared has increased, reflecting the effect of both clearing mandates and voluntary clearing of transactions in response to the incentives provided by the new capital and margining requirements. Mandatory clearing requirements were introduced in the EU under EU EMIR in 2013 (though taking effect in later years under BTS made under EU EMIR) and were directly applicable in the UK. Following the UK’s withdrawal from the EU, EMIR and related Technical Standards were onshored to form part of UK domestic law and regulations.footnote [2] EMIR provides for the obligation to clear certain classes of OTC derivatives in CCPs that have been authorised (for UK CCPs) or recognised (for third-country CCPs) under the EMIR framework. Ensuring that the clearing obligation reduces systemic risk requires a process of identification of classes of derivatives that should be subject to mandatory clearing.

The classes of OTC derivatives contracts that are mandated to be cleared in the UK comprise certain standardised interest rate derivative and credit default swap (CDS) contracts.footnote [3] The interest rate derivative contracts currently mandated for clearing include references to benchmarks being discontinued as part of interest rate benchmark reform.

Interest rate benchmark reform

In 2014, in response to the declining volume of transactions in key interbank unsecured funding markets, the Financial Stability Board (FSB) published a report on interest rate benchmark reform.footnote [4] Key recommendations of the FSB report included that interest rate benchmarks should be anchored in transactions to the greatest extent possible; and to develop alternative RFRs that could be used instead of the so called ‘IBORs’ (interbank offered rates), particularly in derivative markets. The FSB’s Official Sector Steering Group (OSSG) has coordinated the efforts of international regulators and central banks to improve the resilience and transparency of benchmarks, particularly those that have been identified as systemically important.

In April 2017 the Working Group on Sterling Risk-Free Reference Rates (RFRWG) announced SONIA – the Sterling Overnight Index Average – as its preferred RFR for use in sterling derivatives and relevant financial contracts. Since then the RFRWG has been working with the Bank and Financial Conduct Authority (FCA) to encourage a transition from GBP Libor to SONIA as the predominant interest rate benchmark in sterling markets.

Similar actions are being taken in other jurisdictions. For example, in the US, relevant authorities and working groups are working to ensure a successful transition from USD Libor to their chosen RFR, SOFR – the Secured Overnight Financing Rate.

In many international markets the transition away from Libor has primarily been to a single alternative RFR interest rate benchmark. A different approach has been adopted in Japanese interest rate markets: as of the date of this CP, it is not yet known which benchmark(s) will become the market standard replacing JPY Libor.

In March 2021, the FCAfootnote [5] and ICE Benchmark Administrationfootnote [6] (the administrator of Libor) announced that publication would cease for:

  • the following Libor settings, to take effect after the publication of Libor on Friday, 31 December 2021:
    • EUR Libor - all tenors (Overnight, 1 Week, 1, 2, 3, 6 and 12 Months);
    • CHF Libor - all tenors (Spot Next, 1 Week, 1, 2, 3, 6 and 12 Months);
    • JPY Libor - all tenors (Spot Next, 1 Week, 1, 2, 3, 6 and 12 Months);
    • GBP Libor - all tenors (Overnight, 1 Week, 1, 2, 3, 6 and 12 Months);
    • USD Libor - 1 Week and 2 Months; and
  • the following Libor settings, to take effect after the publication of Libor on Friday, 30 June, 2023:
    • USD Libor - Overnight and 1, 3, 6 and 12 Months

In May 2019 the European Money Markets Institute, the administrator of EONIA – the Euro Overnight Index Average – announced that due to declining activity in its underlying market, EONIA would be discontinued on 3 January 2022.footnote [7] This followed on from earlier announcements by the Working Group on euro risk-free rates that €STR – the Euro Short-Term Rate – was the recommended RFR for euro markets (September 2018), and that market participants should replace EONIA with €STR for all product and contracts (March 2019).

Reflecting the potential risks to financial stability of a disorderly transition, communications to industry by international authorities and working groups have set targets and expectations in order to remove reliance on Libor and EONIA ahead of the announced cessation dates. This includes by moving new business to use the alternative reference rates.

In accordance with the broader transition efforts, CCPs are undertaking actions in order to manage their ongoing risks. As part of this, a number of CCPs have announced that they intend to remove the contract types that reference the benchmarks being discontinued from the list of contracts that they clear. They have also announced that any outstanding cleared contracts that reference the benchmarks being discontinued will be contractually converted to be the relevant market-standard RFR contracts, where applicable.

As a result of these developments, trading and clearing activity of certain contracts currently subject to the clearing obligation will soon cease. With the discontinuation of these contracts, the volume of trading and liquidity is expected to migrate to contracts referencing the replacement RFRs, some of which are not currently covered by the clearing obligation.

1.2 Summary of proposal

The Bank proposes to modify the contract types which are subject to the clearing obligation in the onshored BTS 2015/2205 as a consequence of the anticipated changes in market activity resulting from interest rate benchmark reform. The basic premise is to remove contracts that reference benchmarks that are being discontinued and replace them with OIS, with the same range of maturities, which reference the replacement RFR benchmarks selected for each currency.

The changes being proposed at this time are limited to those relating to benchmarks currently within the scope of the clearing obligation that are being discontinued by January 2022.footnote [8] Specifically:

  • to remove contracts referencing EONIA and replace them with contracts referencing €STR
  • to remove contracts referencing GBP Libor and replace them with contracts referencing SONIA; and
  • to remove contracts referencing JPY Libor.

As the publication of the most widely used USD settings will cease in June 2023, the Bank’s proposed changes do not relate to the transition from USD Libor at this time.

The dates on which each of the modifications to the clearing obligation in this consultation come into force will coincide with key dates associated with the broader RFR transition. Specifically, the dates will coincide with the contractual conversion of contracts referencing the soon to be discontinued benchmarks by a number of CCPs. This activity is due to take place on different dates depending on the reference benchmark. As such, it is proposed that the modifications to the scope of the clearing obligation will also come into force on different dates that correspond to CCPs’ transition activities.

The details of the proposed contracts to be added to and removed from the clearing obligation alongside the expected dates upon which these changes will come into force are set out in Section 2.

This CP should be read alongside UK technical standards modifying BTS 2015/2205.footnote [9]

1.3 Implementation

The Bank is proposing to amend BTS 2015/2205 using the Bank’s powers under Article 5(2)(a) of EMIR and under Section 138P of the Financial Services and Markets Act 2000 (FSMA).

These changes will be implemented using a single standards instrument (proposed technical standards). The proposed technical standards will be split into three parts to reflect the different dates for the relevant modifications. The draft technical standards can be found in the Appendix.

1.4 Responses and next steps

This consultation closes on Wednesday 14 July 2021. The Bank invites responses to the questions set out below, which are based on the proposal in this consultation. Firms and other respondents should send their responses or enquiries to: FMIFeedbackMailbox@bankofengland.co.uk

Following consideration of any responses, the Bank will submit the proposed technical standards to HM Treasury for approval, in accordance with Section 138R of FSMA. Subject to approval by HM Treasury, the Bank intends to make and publish the amendments to BTS 2015/2205 in the autumn.

The Bank will continue to keep the scope of the clearing obligation under review, including by monitoring developments in ongoing transitions in the JPY and USD interest rate derivatives markets.

The proposal set out in this CP has been designed in the context of the UK having now left the European Union and the transition period having come to an end. Unless otherwise stated, any references to EU or EU-derived legislation refer to the version of the legislation which forms part of retained EU law.

1.5 Questions

  1. Do you agree with the proposed modifications to the scope of the clearing obligation? If not, please provide your rationale.
  2. Do you agree with the proposed dates for when these modifications will come into force? If not, please provide your rationale.
  3. Do you have any other comments on the proposal set out in this consultation?  

1.6 Use of data

By responding to this consultation, you provide personal data to the Bank of England. This may include your name, contact details (including, if provided, details of the organisation you work for), and opinions or details offered in the response itself.

The response will be assessed to inform our work as a regulator and central bank, both in the public interest and in the exercise of our official authority. We may use your details to contact you to clarify any aspects of your response.

The consultation paper will explain if responses will be shared with other organisations. If this is the case, the other organisation will also review the responses and may also contact you to clarify aspects of your response. We will retain all responses for the period that is relevant to supporting ongoing regulatory policy developments and reviews. However, all personal data will be redacted from the responses within five years of receipt. To find out more about how we deal with your personal data, your rights or to get in touch please visit our Privacy page.

Information provided in response to this consultation, including personal information, may be subject to publication or disclosure to other parties in accordance with access to information regimes including under the Freedom of Information Act 2000 or data protection legislation, or as otherwise required by law or in discharge of the Bank’s functions. Please indicate if you regard all, or some of, the information you provide as confidential. If the Bank of England receives a request for disclosure of this information, we will take your indication(s) into account, but cannot give an assurance that confidentiality can be maintained in all circumstances. An automatic confidentiality disclaimer generated by your IT system on emails will not, of itself, be regarded as binding on the Bank of England.

2 Proposal

2.1 Purpose

The purpose of the proposed changes in this consultation is to ensure that the broader policy objective of the clearing obligation continues to be met. In practice, this means mitigating the systemic risk that might otherwise arise from no action being taken to amend the scope of the clearing obligation in response to interest rate benchmark reform. In pursuing this objective, the Bank intends to protect and enhance the stability of the financial system of the UK.

One of the aims of international efforts to implement interest rate benchmark reform is for all activity in benchmarks being discontinued to migrate in an orderly fashion to RFR-referencing contracts ahead of their discontinuation. In doing so, this reduces the risk to financial stability of a disorderly transition. However, not all of the RFR-referencing contracts are included in the current scope of the clearing obligation. If this were to remain the case even after the various benchmarks have been discontinued, this could contribute to an increase in systemic risk with the possibility that a large proportion of OTC derivatives activity would no longer be centrally cleared. This would undermine the policy objective of the clearing obligation and could negatively impact financial stability in the UK.

The current classes of interest rate derivatives set out in the Annex to BTS 2015/2205, which represents part of the scope of contracts covered by the clearing obligation, include references to benchmarks that are being discontinued.footnote [10] If no action were taken to remove them, firms would be mandated to clear contracts for which the volume of trade and liquidity is expected to have decreased significantly as a result of the wider interest rate benchmark reform. In turn, this would mean that certain criteria in Article 5(4) EMIR (see Section 3) that underpin the clearing obligation’s policy objective would no longer be met.

The proposal set out in this consultation is therefore necessitated by the interaction between the broader interest rate benchmark reform and the policy objective of the clearing obligation.

In considering what changes are required to the clearing obligation and how to implement them in order to fulfil the purpose set out above, the Bank has followed two aims:

  • to keep the level of OTC derivatives activity covered by the clearing obligation broadly unchanged; and
  • to avoid undermining the transition away from EONIA/Libor to RFRs.

The Bank’s proposed changes to the clearing obligation are set out below against these aims.

2.2 Changes to the scope of the clearing obligation and modification timeline

Maintaining consistency in the level of activity covered by the clearing obligation

The basis of the Bank’s proposal is where a benchmark is being discontinued, all contracts referencing that benchmark will be removed from the clearing obligation and replaced with contracts referencing the relevant RFR being adopted by the market. The RFR contracts being added to the clearing obligation will have the same range of maturities as the contracts they are replacing. Given the aims of interest rate benchmark reform, the changes proposed in this consultation should ensure that the OTC derivatives activity covered by the clearing obligation remains broadly the same once the benchmark transition has been completed.

The exception to this approach relates to Japanese interest rate markets. In the absence of a single replacement benchmark for JPY Libor, there is greater uncertainty regarding which contract(s) referencing a replacement benchmark will meet the criteria for being subject to the clearing obligation. Hence, we do not propose to introduce any replacement contract(s) for those referencing JPY Libor into the clearing obligation at this time.

Avoiding undermining the transition away from EONIA/Libor to RFRs

In making changes to the scope of the clearing obligation, the Bank is seeking to align its timelines with the broader RFR transition. This is in keeping with the UK Financial Policy Committee’s emphasis on the importance of planning for the end of Libor in order to minimise disorderly outcomes and risks to financial stability, by removing reliance on Libor in new and existing business.footnote [11]

A key step in the broader RFR transition is the point at which CCPs contractually convert outstanding contracts referencing the benchmarks to be discontinued, and remove these benchmarks from the list of contracts eligible for clearing. The dates on which this activity is due to take place signify the point at which the availability of clearing for contracts referencing the benchmarks being discontinued will be significantly reduced, and the point at which liquidity is expected to substantially – if not completely – switch to the relevant OIS markets. As such, the Bank considers it appropriate to align the proposed dates for the modifications to the clearing obligation in this consultation with CCPs’ conversion and removal of the relevant contracts. For example, all CCPs authorised or recognised in the UK to clear GBP Libor contracts subject to the clearing obligationfootnote [12] are due to convert contracts and remove GBP Libor from their eligible lists on the same date. Therefore, the Bank’s proposed date for the modification of GBP Libor and SONIA contracts in the clearing obligation will align to those CCPs’ conversion and removal dates.

Some CCPs are in the process of finalising their approach to converting Libor and EONIA contracts, and the dates on which these activities will take place. If there are changes made to the CCPs’ provisional dates for conversion, the Bank will take these into account as appropriate when making its final technical standards instrument.

The Bank proposes that the changes to the clearing obligation will come into force for all market participants at the same time. The Bank expects the volume of OTC derivatives activity covered by the clearing obligation to remain largely the same following implementation of the proposed changes and does not expect there to be a significant change to the population of firms that are currently clearing contracts referencing the benchmarks being discontinued. Furthermore, the Bank considers the transition activity being undertaken by CCPs will help to facilitate counterparties’ transition to the clearing of contracts referencing the replacement RFR benchmarks.

Subject to the above, the Bank proposes to implement modifications to the contract types subject to the clearing obligation by:

  • removing, on Monday 18 October 2021, the contract type referencing EONIA from the OIS class and replacing it with the contract type in the OIS class referencing €STR with an original maturity of 7 days to 3 years.
  • removing, on Monday 6 December 2021, the contract type referencing JPY Libor from the Basis Swaps and Fixed-to-float interest rate swaps classes.
  • removing, on Monday 20 December 2021, the contract type referencing GBP Libor from the Basis Swaps, Fixed-to-float interest rate swaps and Forward Rate agreements classes and replacing it with the contract type in the OIS class referencing SONIA but with an amended original maturity range of 7 days to 50 years.

These changes will not have retrospective effect. OTC derivatives contracts referencing RFR benchmarks that are concluded between counterparties before the relevant modification dates will not be subject to the clearing obligation. The purpose of this is to provide enhanced legal certainty.

Coordination with international authorities

Reflecting the international nature of OTC derivatives trading and clearing, the Bank has discussed its proposed approach with several national and international authorities responsible for the equivalent clearing obligations in their jurisdictions.

Frontloading requirement in BTS 2015/2205

Note the draft technical standards in the Appendix do not make specific reference to provisions of BTS 2015/2205 that have already been deleted or amended by other rules or regulations. This includes Article 4 (Minimum remaining maturity) which relates to the ‘frontloading requirement’ in EMIR that was previously deleted by Regulation (EU) 2019/834 of the European Parliament and of the Council of 20 May 2019 prior to the UK’s withdrawal from the EU.

3 The Bank’s statutory obligations

The Bank proposes to exercise its power under section 138P FSMA, to make technical standards in accordance with Article 5(2)(a) EMIR.

Pursuant to Article 5(2)(a) EMIR the Bank may make technical standards specifying the class or classes of OTC derivatives that should be subject to the clearing obligation referred to in Article 4 EMIR. Pursuant to Section 138P(2)(b) FSMA the Bank’s power to make technical standards includes the power to modify, amend or revoke any EU tertiary legislation made by an EU entity under the original EU power which forms part of retained EU law. BTS 2015/2205 constitutes EU tertiary legislation for this purpose. Article 5(4) EMIR sets out criteria that must be taken into consideration when the Bank makes technical standards for the purposes of Article 5(2)(a) EMIR, and Article 7 of Commission Delegated Regulation (EU) No 149/2013footnote [13] (hereafter BTS 149/2013) expands on these criteria.

The Bank may make a standards instrument if it has been approved by HM Treasury. Before submitting a standards instrument to HM Treasury for approval, the Bank is required to publish a draft of the proposed technical standards accompanied by:footnote [14]

  • a cost benefit analysis; and
  • an explanation of the Bank’s reasons for believing that making the proposed technical standards is compatible with the Bank’s financial stability objective;footnote [15]

The Bank is also required by the Equality Act 2010 to have due regard to the need to eliminate discrimination and to promote equality of opportunity in carrying out its policies, services and functions.footnote [16]

The Bank must also consult with both the FCA and the PRA pursuant to Section 138P(4) of FSMA ahead of making the standards instrument.

3.1 Assessment against criteria in Article 5(4) EMIR and Article 7 BTS 149/2013

This sections sets out the Bank’s analysis against the criteria in Article 5(4) EMIR. In assessing the contract types to be added to and removed from the scope clearing obligation against the criteria in Article 5(4), the Bank has also taken into consideration the relevant requirements in Article 7 BTS 149/2013.

The proposal in this consultation does not involve specifying any new classes of OTC derivatives that should be subject to the clearing obligation. Instead, it involves adding to and/or amending some of the contract types under the existing classes of OTC interest rate swaps. Given this and the ‘consequential’ nature of the changes proposed in light of the broader interest rate benchmark reform, the Bank has taken a proportionate approach to its assessment against the criteria in Article 5(4) EMIR when read together with Article 7 BTS 149/2013. Consistent with this, the Bank has not provided significant amounts of quantitative data as part of its analysis.

Under Article 5(4) EMIR, with the overarching aim of reducing systemic risk, the development by the Bank of technical standards for the purposes of Article 5(2)(a) EMIR shall take into consideration the following criteria:

  1. the degree of standardisation of the contractual terms and operational processes of the relevant class of OTC derivatives;
  2. the volume and liquidity of the relevant class of OTC derivatives;
  3. the availability of fair, reliable and generally accepted pricing information in the relevant class of OTC derivatives.

In preparing those technical standards, the Bank may take into consideration the interconnectedness between counterparties using the relevant classes of OTC derivatives, the anticipated impact on the levels of counterparty credit risk between counterparties as well as the impact on competition across the United Kingdom.

Article 7 BTS 149/2013 sets out additional considerations in relation to each of these criteria, which the Bank has also taken into account for the purposes of its assessment below.

Criterion a): degree of standardisation

The Bank proposes adding new contract types (or extending the range of maturities for existing contract types) within the existing class of ‘Overnight Index Swaps’.

The degree of standardisation of contractual terms and operational processes are the same for all OIS contracts irrespective of the term of the transaction or the benchmark being referenced. There is no distinction between those contract types currently within the OIS class of OTC derivatives within the scope of the clearing obligation and those proposed to be added. The standardised nature of the contract terms and processes is supported by the Bank’s market intelligence. Further, the Bank’s analysis of EMIR trade repository data shows that in March 2021, 88% of SONIA OIS transactions with an original maturity of greater than 3 years were voluntarily cleared.

The Bank therefore assesses its proposal to meet criterion a) under Article 5(4) EMIR. In reaching this conclusion, the Bank has also taken into account the relevant considerations in Article 7(1) BTS 149/2013 including the requirement for contractual terms to incorporate common legal documentation and master netting agreements, and the requirement for operational processes to be subject to automated post-trading life cycles.

Criterion b): volume and liquidity

Given the unique circumstances driving the changes proposed in this consultation – notably the discontinuation of certain benchmarks on specific dates in the future – we consider it appropriate to make a forward-looking assessment of what we anticipate will be the volume and liquidity in contracts referencing the benchmarks to be discontinued as well as in the replacement RFR benchmarks, at the point the proposed changes take effect.

At a high level, where the benchmark transition is primarily from one benchmark to another single benchmark, the Bank judges that if criterion b) was assessed to be met for contracts referencing the benchmark being discontinued, it is reasonable to expect a similar outcome for the corresponding RFR contracts, once the transition has completed. For example, given that EONIA contracts have had sufficient volume and liquidity, once activity has transferred to €STR contracts as part of the broader transition, the Bank expects that €STR contracts will similarly have sufficient liquidity and volumes for the purposes of the clearing obligation.

As the transition in yen markets is not expected to take place from one benchmark to another single benchmark at this stage, we cannot yet judge which contract(s) the liquidity and trade volumes will switch to from JPY Libor.

Building on the above, one of the main aims of benchmark reform is to ensure a smooth transition of markets from the benchmarks being discontinued to the replacement RFR benchmarks. This means ensuring that: products referencing RFR benchmarks are sufficiently well-developed; there is standardised legal documentation for contracts; there are CCPs clearing and managing the risks associated with such contracts; and there are deep and liquid markets.footnote [17] Again, the Bank’s market intelligence suggests that this is a trend that is taking place, albeit at different paces for different benchmark transitions.

Given the aims and objectives of benchmark reform and the expected shifts in the volume and liquidity of activity as a result, the Bank expects the proposed changes to the clearing obligation to meet criterion b) under Article 5(4) EMIR by or at the point the changes come into force. In reaching this conclusion, the Bank has also taken into account relevant considerations in Article 7(2) BTS 149/2013 including the proportionality of margins to the risks the clearing obligation seeks to mitigate and the stability and depth of the market.

Criterion c): availability of fair, reliable and generally accepted pricing information

As with the qualitative assessment of criterion b), the Bank’s assessment against criterion c) is also forward-looking and based on the same premises as above. Hence, based on the aims and objectives of the wider benchmark reform, the Bank expects that there will be fair, reliable and generally accepted pricing information for the RFR contracts that are to be added to the clearing obligation by or at the point the changes come into force. In reaching this conclusion, the Bank has also taken into account relevant considerations in Article 7(3) BTS 149/2013. This includes whether information needed to accurately price the relevant RFR contracts will be easily accessible on a reasonable commercial basis, and whether this will continue to be the case once these contracts have been added to the scope of the clearing obligation.

The interconnectedness between counterparties and the anticipated impacts on counterparty credit risk and competition

The Bank does not consider the proposed changes in this consultation to have any material impact on or as a result of the interconnectedness between counterparties using or likely to use the RFR contracts; the levels of counterparty credit risk between counterparties; or on competition across the United Kingdom.

3.2 Cost benefit analysis

This section sets out an analysis of the costs and benefits of introducing the changes proposed in this CP. The Bank has not included quantitative estimates for the proposals in this analysis, as it does not anticipate that the costs to firms would be material. The Bank considers that data collection to support quantitative analysis would not be proportionate, as the proposal in this CP is in response to anticipated changes in market activity resulting from the broader interest rate benchmark reform.

Affected firms and markets

The proposal in this CP is relevant to financial and non-financial counterparties that are subject to the clearing obligation under EMIR, and to CCPs.

Benefits

In the absence of the Bank’s proposal, firms would be mandated to clear contracts for which there would be significantly reduced volumes of trade, reduced liquidity in these contracts and thus significant price volatility in these markets. Furthermore, there will be operational barriers shortly before the relevant benchmarks have been discontinued, as a number of CCPs will no longer clear contracts referencing these benchmarks. In this instance, the obligation to centrally clear these contracts would have an immaterial impact on reducing systemic risk whilst disproportionately imposing higher costs on firms.

Concurrently, if the contracts referencing the relevant RFR benchmarks are not added to the clearing obligation despite a significant increase in trading volumes and liquidity as a result of benchmark reform, this will serve to undermine the overarching policy objective of the clearing obligation. This is because it would leave open the possibility that substantial volumes of trades in contracts referencing the RFR benchmarks might not be centrally cleared, therefore potentially increasing systemic risk.

Hence, the primary benefit of the Bank’s proposal is the mitigation of the risks of no action being taken in response to interest rate benchmark reform.

Costs

It is not anticipated that the Bank’s proposal will have materials costs for firms. As the amendments to the scope of the clearing obligation are a consequence of interest rate benchmark reform, the level of OTC derivatives activity covered by the clearing obligation should remain broadly the same once the transition has been completed. The Bank does not expect there to be a significant change to the population of firms that are currently clearing contracts referencing the benchmarks being discontinued; the firms required to centrally clear the replacement RFR contracts will be the same counterparties that are clearing contracts referencing the benchmarks being discontinued under the current scope of the clearing obligation.

Furthermore, given the well-communicated nature of the broader interest rate benchmark reform, firms will have had sufficient time to make preparations for RFR transition activities by the time the changes proposed in this CP take effect. These preparations will in part be prompted by the removal of the benchmarks being discontinued by CCPs from their list of contracts eligible for clearing.

3.3 Compatibility with the Bank’s objectives

The Bank considers that the proposal in this CP advances its objective to protect and enhance the stability of the financial system of the United Kingdom. The policy objective of the clearing obligation is to reduce systemic risk which, when met, contributes to the protection and enhancement of financial stability.

3.4 Equality and diversity

The Bank considers that the proposals do not give rise to equality and diversity implications.

Appendix

  1. Unless otherwise stated, any references to EU or EU-derived legislation refer to the version of the legislation which forms part of retained EU law.

  2. Under the European Union (Withdrawal) Act 2018, s 3.

  3. Public Register for the Clearing Obligation

  4. Reforming Major Interest Rate Benchmarks

  5. FCA announcement on future cessation and loss of representativeness of the LIBOR benchmarks

  6. ICE LIBOR® Feedback Statement on Consultation on Potential Cessation

  7. EMMI publishes stakeholder consultation feedback summary on recommendations for EONIA by the Euro Risk-free Rates Working Group

  8. Contracts referencing EUR Libor and CHF Libor are not within the scope of the current clearing obligation.

  9. EU EXIT INSTRUMENT: THE TECHNICAL STANDARDS (EUROPEAN MARKET INFRASTRUCTURE) (AMENDMENT ETC.) (EU EXIT) (No. 2) INSTRUMENT 2019 and EU EXIT INSTRUMENT: THE TECHNICAL STANDARDS (EUROPEAN MARKET INFRASTRUCTURE) (AMENDMENT ETC.) (EU EXIT) (No. 4) INSTRUMENT 2020

  10. The other OTC derivatives which are subject to the clearing obligation are i) interest rate derivatives referencing additional currencies and ii) untranched index CDS – see Commission Delegated Regulation (EU) 2016/592 and Commission Delegated Regulation (EU) 2016/1178.

  11. Financial Policy Summary and Record of the Financial Policy Committee Meeting on 30 September 2020

  12. See Table 6 of the Public Register for the Clearing Obligation

  13. Of 19 December 2012 supplementing Regulation (EU) No 648/2012 of the European Parliament and of the Council, with regard to regulatory technical standards on indirect clearing arrangements, the clearing obligation, the public register, access to a trading venue, non-financial counterparties, and risk mitigation techniques for OTC derivatives contracts not cleared by a CCP

  14. Section 138S of FSMA

  15. Section 138J(2)(d) of FSMA, read together with Section 138S and Schedule 17A paragraph 10 of FSMA

  16. Section 149 of Equality Act 2010

  17. Working Group on Sterling Risk-Free Reference Rates Terms of Reference and Priorities and roadmap for transition by end-2021

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