Securities settlement in 2020
The European Central Bank has just hosted a wide-ranging conference looking into the future of securities settlement. It was particularly valuable for bringing together an impressive spread of panellists from around the world, as well as the “usual suspects” from within Europe. And while Europe is focused on integrating markets, preparing for T2S and dealing with more urgent problems, it is valuable to be reminded that the rest of the world is moving forward and not always along the same track that Europe is following.
The recurring theme in discussions was the dilemma between consolidation and competition. Is it better to consolidate market infrastructures into a single entity and achieve economies of scale, even at the cost of creating a monopolistic leviathan? Or is it better to retain a (small) number of competing entities, forgoing some efficiency gains but making up for them through the stimulus of competition?
While most of the rest of the world seems to be aiming for consolidation, the consensus for Europe (at least, from the users of infrastructures) prefers competition. As the focus of the discussion was on settlement, this implies that the current settlement infrastructure ought to consolidate down to a small number, say, 3-4 CSDs that will compete with each other by holding down prices and stimulating innovation. However, if this competition is to be effective, it needs to be competition across the whole continent. Consolidation onto one CSD for north-west Europe, one for central Europe and one for southern Europe, for example, would not result in true competition. They would just divide the market rather than fight over it.
The difficulty in arriving at this result is that in order to compete head-to-head, CSDs need access to the same raw material – in their case, issues of securities. And at present access to issuers is controlled by national CSDs. If a foreign CSD wants to hold Spanish, German or French securities, for example, it needs to hold them in the Spanish, German or French CSD and pay a fee to that CSD for doing so. The “home” CSD will thus always have an advantage in offering the securities issued into it.
The key to creating an environment in which there is true competition between CSDs across the continent, therefore, lies in opening up access to issuers. Fortunately, there is a provision in the consultation paper on CSD legislation that would give issuers freedom of choice over the CSD into which their shares are issued. The practical implementation of the proposal, is of course, horribly complicated, because of differences between countries which are rooted in company law, such as whether or not shares or registered, whether they are immobilised or dematerialised and so on. In a separate discussion paper, the Commission has suggested that the freedom to choose CSD could be limited to issues traded on a regulated market and they would still need to comply with the requirements of the governing law of the issue.
In spite of the practical difficulties, however, this seems an admirable objective worth striving for, both to open the door to competition among CSDs and, not least, to bring benefits to issuers, who generally gain least from developments in financial markets, even though without them the markets could not exist.