[Federal Register Volume 59, Number 136 (Monday, July 18, 1994)]
[Unknown Section]
[Page 0]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 94-17330]
[[Page Unknown]]
[Federal Register: July 18, 1994]
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FEDERAL RESERVE SYSTEM
[Docket No. R-0842]
Proposed Policy Statement on Privately Operated Large-Dollar
Multilateral Netting Systems
AGENCY: Board of Governors of the Federal Reserve System.
ACTION: Request for comment.
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SUMMARY: The Board of Governors is requesting comment on a proposal to
update its policies on ``Privately Operated Large-Dollar Funds Transfer
Networks'' and ``Offshore Dollar-Clearing and Netting Systems'' and
integrate those policies into a single policy statement on ``Privately
Operated Large-Dollar Multilateral Netting Systems.'' In general, the
policy statement would apply to such arrangements as domestic,
privately operated, large-dollar multilateral payment netting systems;
offshore large-dollar multilateral payment netting systems;
multilateral foreign exchange clearinghouses involving settlements in
U.S. dollars; and multicurrency payment netting systems involving
settlements in U.S. dollars. The Board is proposing to incorporate into
the new policy statement minimum standards for the design and operation
of privately operated large-dollar multilateral netting systems. These
minimum standards are based on those set out in the Report of the
Committee on Interbank Netting Schemes of the Central Banks of the
Group of Ten Countries (``Lamfalussy Report''), which was published in
November 1990 by the Bank for International Settlements. The Board is
also requesting comment on the need for, and possible specifications
of, a higher standard with respect to assuring settlement that might be
applied to large-dollar multilateral netting systems that present a
high degree of systemic risk.
DATES: Comments must be received on or before October 17, 1994.
ADDRESSES: Comments should refer to Docket No. R-0842, and may be
mailed to Mr. William W. Wiles, Secretary, Board of Governors of the
Federal Reserve System, 20th Street and Constitution Avenue, NW.,
Washington, DC 20551. Comments may be delivered to Room B-2222 of the
Eccles Building between 8:45 a.m. and 5:15 p.m. weekdays or to the
security control room anytime. Both Room B-2222 and the security
control room are accessible from the courtyard entrance on 20th Street
between Constitution Avenue and C Street, NW. Comments may be inspected
in Room MP-500 of the Martin Building between 9:00 a.m. and 5:00 p.m.
weekdays, except as provided in 12 CFR 261.8 of the Board's rules
regarding availability of information.
FOR FURTHER INFORMATION CONTACT: Jeffrey C. Marquardt, Assistant
Director (202/452-2360), Paul Bettge, Manager (202/452-3174), Kelly
Shaw, Project Leader (202/452-3054), Division of Reserve Bank
Operations and Payment Systems; or Oliver Ireland, Associate General
Counsel (202/452-3625), Stephanie Martin, Senior Attorney (202/452-
3198), Legal Division, Board of Governors of the Federal Reserve
System; for the hearing impaired only, Telecommunications Device for
the Deaf, Dorothea Thompson (202/452-3544).
SUPPLEMENTARY INFORMATION: The Board's current Policy Statement on
Payments System Risk incorporates two policies directed specifically at
large-dollar funds transfer systems: ``Private Large-Dollar Funds
Transfer Networks'' and ``Offshore Dollar-Clearing and Netting
Systems.'' Neither of these policies addresses multicurrency clearing
and settlement arrangements involving settlements in U.S. dollars, such
as the multilateral foreign exchange clearinghouses that are under
development in North America and Europe. Further, the Board intended
its existing policy statement on ``Offshore Dollar-Clearing and Netting
Systems'' to be an interim measure until an international consensus was
reached among central banks on the minimum standards for the
development and operation of multilateral cross-border netting systems.
That consensus was reached with the 1990 publication of the Report
of the Committee on Interbank Netting Schemes of the Central Banks of
the Group of Ten Countries (``Lamfalussy Report''). The Lamfalussy
Report recognized that multilateral netting arrangements for interbank
payment orders and forward-value contractual commitments, such as
foreign exchange contracts, have the potential to improve the
efficiency and the stability of interbank settlements through the
reduction of settlement costs, along with credit and liquidity risks,
provided that certain conditions are met. In this regard, the report
developed and discussed, in some detail, ``Minimum Standards for
Netting Schemes'' (``Lamfalussy Minimum Standards'') and ``Principles
for Co-operative Central Bank Oversight'' of such arrangements.
Central banks have now had a period of time to analyze the
practical implications of the Lamfalussy Minimum Standards, and the
Board believes that it would be appropriate to revise its ``Policy
Statement on Payments System Risk'' to incorporate the Lamfalussy
Minimum Standards and to address explicitly privately operated, large-
dollar multicurrency netting arrangements involving settlements in U.S.
dollars.1 The Board is proposing to integrate its policies on
``Private Large-Dollar Funds Transfer Networks'' and ``Offshore Dollar-
Clearing and Netting Systems'' into a single comprehensive policy on
``Privately Operated Large-Dollar Multilateral Netting Systems'' that
would include the Lamfalussy Minimum Standards. Large-dollar
multilateral, multicurrency netting systems would be covered by the
same policy.
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\1\The Lamfalussy Minimum Standards have been endorsed by the
European Union central banks as minimum standards for domestic
large-value netting systems within the European Union.
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Scope and Application of the Policy
Specifically, the Board's proposed policy statement would apply to
such arrangements as domestic, privately operated, large-dollar
multilateral payment netting systems; offshore large-dollar
multilateral payment netting systems; multilateral foreign exchange
clearinghouses involving settlements in U.S. dollars; and multicurrency
payment netting systems involving settlements in U.S. dollars. The
inclusion of multilateral foreign exchange clearinghouses and
multicurrency payment netting systems involving a settlement in U.S.
dollars represents an expansion of existing policy, as neither of these
arrangements are covered explicitly by the Board's current policy
statement on payment system risk. The Board is proposing to apply the
policy statement to such systems if they meet certain size criteria, in
order to cover more completely the range of multilateral netting
systems involving settlements in U.S. dollars that have the potential
to increase systemic risk in the financial markets. These arrangements
have the potential to generate the same types of risks as single
currency systems. Moreover, the Lamfalussy Minimum Standards were
developed explicitly to address, among other things, risks in
multilateral foreign exchange netting arrangements.
The Board's proposed policy statement contains criteria that
delimit the scope and application of the policy. Specifically, the
policy will apply to systems that: (1) have three or more participants
that net payments or foreign exchange contracts involving the U.S.
dollar, whether or not netted amounts are legally binding; and either
(2) have, or are likely to have, on any day, settlements with a system-
wide aggregate value of net settlement credits (or debits) larger than
$500 million (in U.S. dollars and any foreign currencies combined); or
(3) routinely process individual payments or foreign exchange
contracts, with a stated dollar value larger than $500,000. A
multilateral netting system that meets the above criteria will be
subject to the policy if (1) it is a state-chartered member of the
Federal Reserve System, (2) any of its agent(s) or participants are
state-chartered members of the Federal Reserve System, (3) its
participants' net positions are settled through a Federal Reserve
settlement account, (4) its participants settle their net positions in
the multilateral netting system through their individual Federal
Reserve accounts or the Federal Reserve account of the settlement
agent(s), or (5) one or more bank holding companies have an investment
in the multilateral netting system. The Board believes that these
relatively simple criteria will enable the operators of multilateral
netting systems to determine when they are subject to the policy and
will provide that only systems which present systemic risk will be
covered.
The Board believes that the Lamfalussy Minimum Standards may apply,
for example, to all large-dollar multilateral payment netting systems
irrespective of the type of financial instrument or contractual
obligation netted by the system. However, the Board recognizes that in
the case of privately operated large-dollar multilateral netting
systems for the batch processing of paper-based as well as electronic
payments, including privately operated Automated Clearing House
(``ACH'') systems, certain electronic controls that would be required
to implement the Lamfalussy Minimum Standards may not be feasible.
Further, the rights and responsibilities of parties within such systems
as well as the characteristics of the instruments to be cleared or
netted require further analysis. Consequently, the Board intends to
study further the implications of the Lamfalussy Minimum Standards, and
the arrangements to implement the Lamfalussy Minimum Standards, for
privately operated large-dollar multilateral netting systems for the
batch processing of paper-based as well as electronic payments. The
Board expects that it may issue, in due course, a proposal for minimum
standards for the design and operation of such systems.
Implementation of the Lamfalussy Minimum Standards
The Board believes that large-dollar multilateral netting systems,
whether on-shore or off-shore, should meet in full the Lamfalussy
Minimum Standards, as set forth in the proposed policy statement. The
Board has developed five risk management measures that a large-dollar
multilateral netting system would be expected to implement in order to
satisfy Lamfalussy Minimum Standards III and IV, which deal with risk
management and settlement completion. Risk management devices that lead
to a substantially equivalent degree of risk management and control
could also be adopted, as approved by the Board on a case-by-case
basis. The proposed measures are: (1) a requirement that each
participant establish bilateral net credit limits vis-a-vis each other
participant in the system; (2) establish and monitor in real time
system-specific net debit limits; (3) establish a system to reject or
hold any payment or foreign exchange contract that would exceed the
relevant bilateral and net debit limits; (4) establish liquidity
resources, such as cash, committed lines of credit secured by
collateral, or a combination thereof, at least equal to the largest
single net debit position;2 and (5) establish rules and procedures
for the sharing of credit losses among the participants in a netting
system.
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\2\The term ``largest single net debit position'' means the
largest intraday net debit position of any individual participant at
any time during the daily operating hours of the netting system.
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The first two measures are contained in the Board's existing policy
statement on Private Large-Dollar Funds Transfer Networks. The third
measure is also contained in the existing policy statement but it
applies only to bilateral net credit limits. In the proposed policy
statement, the Board has expanded the third measure to apply also to
system-specific net debit limits. Requirements (4) and (5) are new and
would help ensure that the funds needed for settlement are available to
multilateral clearing organizations at the proper moment and clarify
how any losses will affect participants.
Timeframe for Implementation of the Lamfalussy Minimum Standards
The Board recognizes that not all existing large-dollar
multilateral netting systems may meet the Lamfalussy Minimum Standards,
and the associated requirements for implementation of those standards,
contained in the proposed policy statement. The Board also recognizes
that existing large-dollar multilateral netting systems will need a
period of time in which to make any needed changes to their
organization or operations. Consequently, the Board believes that an
eighteen-month transition period would be appropriate for large-dollar
multilateral netting systems that are operating on the date of any
final action by the Board on the proposed policy. Such systems will be
expected to comply fully with the policy statement within the eighteen-
month transition period. Large-dollar multilateral netting systems
established subsequent to the date of final adoption of the policy by
the Board will be expected to comply fully with the policy statement,
without benefit of a transition period.
Specific Issues on Which the Board Seeks Comment
The Board seeks comment on all aspects of the proposed policy
statement. In addition, the Board is seeking comment on the following
specific issues:
1. The proposed criteria for identifying large-dollar multilateral
netting systems subject to the policy statement.
Are the thresholds for system-wide aggregate daily net
settlement debits or credits, as well as for the size of individual
transactions, set at appropriate levels such that the policy will apply
to those systems that pose systemic risk?
Are there other criteria the Board should consider in the
determination of whether to apply the policy to a particular system?
2. The five risk management measures for implementation of the
Lamfalussy Minimum Standards.
Do the requirements provide operators of large-dollar
multilateral netting systems with appropriate and adequate mechanisms
to control the credit, liquidity, and settlement risks inherent in such
systems?
What additional risk management measures would be useful?
What alternative mechanisms would provide substantially
equivalent degrees of risk management and control?
3. The timeframe for implementation of the Lamfalussy Minimum
Standards.
Does the proposed eighteen-month transition period provide
existing large-dollar multilateral netting systems with sufficient time
to make any organizational or operational changes needed to meet the
Lamfalussy Minimum Standards?
The Board also seeks comment on whether large-dollar multilateral
netting systems that present a high degree of systemic risk should be
expected to meet a standard for ensuring settlement that is higher than
Lamfalussy Minimum Standard IV. Standard IV requires that a netting
system be capable of ensuring the completion of daily settlement in the
event that the participant with the largest net debit position is
unable to settle its obligation to the system. For example, the Board
could require that certain large-dollar multilateral netting systems
would be expected to ensure timely completion of daily settlement in
the event of an inability to settle by the participant with the largest
net debit position, as well as the participants with the second or
third largest net debit positions.
In multilateral netting systems that extend credit among
participants, the failure of a participant could trigger a chain of
defaults and liquidity problems at other participants or in the
financial markets more generally. This concern is the basis for
Lamfalussy Minimum Standard IV, which ensures that a default by a
single net debtor, including the largest, will not, by itself, initiate
a chain of defaults within the netting arrangement. A requirement that
a netting system be able to ensure daily settlement in the event of
settlement defaults by participants in addition to the largest net-
debtor would be based on the risk of a simultaneous default by two or
more participants. Such an event could be precipitated by financial
market difficulties in the country of origin of the defaulting
participants, or some other market disturbance that could cause
financial institutions with similar or interlinked assets and
liabilities simultaneously to experience liquidity or credit problems.
Such simultaneous defaults, however, may be much less likely than a
single default, and the incremental expected costs and benefits of
requiring multilateral netting systems to meet a higher standard than
Lamfalussy Minimum Standard IV must be carefully weighed.3
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\3\For example, costs would presumably include the opportunity
cost of pledging collateral to ensure settlement and of taking any
other steps to ensure that funds will be available for settlement,
while benefits would include avoidance of potential credit losses,
liquidity effects, or both, through the greater protection afforded
by a higher standard. The expected benefits, in particular, may be
difficult to quantify. In addition, there may well be other measures
of costs and benefits that would be appropriate to apply in the
analysis of a higher standard.
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An additional consideration is which multilateral netting systems
should be expected to meet a higher standard. The Board anticipates
that any higher standard would be applied only to multilateral netting
systems that present a high degree of systemic risk. In determining
this degree of systemic risk, the Board could, as an example, utilize a
threshold approach in which systems that exceed a particular measure
would be expected to meet the higher standard. Such measures might
include: (1) a specific dollar amount of the aggregate system-wide net
debit positions; (2) the ratio of the net debit positions of selected
members of a particular multilateral netting system relative to their
capital; or (3) the ratio of an aggregate measure of net debit
positions to the capital of a central counterparty (if one is used).
The Board is seeking specific comments on:
4. Application of a higher standard for individual large-dollar
multilateral netting systems that may present a high degree of systemic
risk.
What factors should be considered in analyzing the
incremental expected costs and benefits of requiring multilateral
netting systems to meet a higher standard than Lamfalussy Minimum
Standard IV?
Should a quantitative threshold level be established? What
indicator or indicators should be employed in setting a threshold?
Competitive Impact Analysis
The Board has established procedures for assessing the competitive
impact of rule or policy changes that have a substantial impact on
payments system participants.4 Under these procedures, the Board
will assess whether a change would have a direct and material adverse
effect on the ability of other service providers to compete effectively
with the Federal Reserve in providing similar services due to differing
legal powers or constraints, or due to a dominant market position of
the Federal Reserve deriving from such differences. If no reasonable
modifications would mitigate the adverse competitive effects, the Board
will determine whether the anticipated benefits are significant enough
to proceed with the change despite the adverse effects.
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\4\These procedures are described in the Board's policy
statement ``The Federal Reserve in the Payments System,'' as revised
in March 1990. (55 FR 11648, March 29, 1990).
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The Board does not believe that the Lamfalussy Minimum Standards
will have a direct and material impact on the ability of other service
providers to compete effectively with the Reserve Banks' payments
services. The Board notes that in several cases the payment services
potentially covered by the policy statement are not offered by the
Federal Reserve Banks. For example, the Federal Reserve Banks do not
offer services relating to the electronic clearing and settlement of
payments or contracts in foreign currencies.
In the case of domestic large-dollar multilateral netting systems,
a number of the risk control measures proposed to meet the Lamfalussy
Minimum Standards as well as certain of the standards themselves have
grown out of the experience of the private sector in developing robust
netting arrangements and are currently employed in multilateral netting
systems. To the extent an incremental burden might be imposed on large-
dollar systems, the need to reduce and control the large potential
systemic risks of such systems would justify the adoption of prudent
standards and measures to control risk. The Board does not expect at
this time, however, that the adoption of the Lamfalussy Minimum
Standards would have a direct and material impact on the ability of
other service providers to compete with the Federal Reserve Banks.
Federal Reserve System Policy Statement on Payments System Risk
The Board proposes to amend its ``Federal Reserve System Policy
Statement on Payments System Risk'' under the heading ``II. Policies
for Private-Sector Networks'' by replacing in the heading the word
``Networks'' with the word ``Systems;'' deleting ``A. Private Large-
Dollar Funds Transfer Networks'' in its entirety and replacing that
part with ``A. Privately Operated Large-Dollar Multilateral Netting
Systems;'' and deleting ``C. Offshore Dollar Clearing and Settlement
Systems'' and redesignating ``D. Private Small-Dollar Clearing and
Settlement Systems'' as ``C. Private Small-Dollar Clearing and
Settlement Systems.''
II. Policies For Private-Sector Systems
A. Privately Operated Large-Dollar Multilateral Netting Systems
Large-dollar multilateral netting systems can create a significant
degree of credit and liquidity risk for their participants and also
expose the U.S. payments system and financial markets to systemic risk.
In the context of large-dollar multilateral netting systems, systemic
risk is the risk that the inability of one institution within such a
system, including a central counterparty if one exists, to meet its
obligations when due will lead to the illiquidity or failure of other
institutions, either within the particular system or in the financial
markets as a whole.
Large-dollar multilateral netting systems may produce efficiencies
in the clearance and settlement of payments and financial contracts. At
the same time, multilateral netting may obscure, concentrate, and
redistribute the credit and liquidity risks associated with clearance
and settlement. As the size of netted positions increases, for example,
so do the potential liquidity effects on such systems and their
participants, as well as third parties, in the event of a settlement
failure. In addition, if the high volumes of interrelated large-value
financial contracts and payments, which reflect money and capital
market activity, are not settled in a timely manner, there is a
significant potential for widespread financial market disruption.
Certain types of netting system rules may also create sizable
systemic liquidity risks, if employed by systems that process large-
value payments that are central to the operation of financial markets.
For example, privately operated payment systems that permit a system
operator to unwind, recast, or otherwise reverse same-day funds
transfers made by system participants, whether for reasons of general
financial market stress or because of the inability of a system
participant to settle its obligations on time, can obscure and greatly
increase the level of systemic liquidity risk associated with the
system. As a general matter, the Board does not view a same-day recast,
unwind, or reversal of payments as a satisfactory mechanism for
managing liquidity and settlement risks in large-dollar multilateral
netting arrangements.
The Board also recognizes that the development of offshore
multilateral netting systems for large-dollar payments and foreign
exchange contracts may raise concerns about systemic risk that extend
beyond the potential for disturbances to payment and settlement
systems, or financial markets, in the United States. For example, the
offshore clearing of U.S. dollar payments, for subsequent net
settlement in the United States, may create transactional and other
efficiencies for participants in such offshore systems. At the same
time, these arrangements have the potential to concentrate settlement
risks at clearing organizations and their associated settlement agents
either in the United States or abroad. If the allocation of credit and
liquidity risks associated with the netting is not clearly defined,
understood, and managed, offshore dollar-clearing arrangements may also
obscure, or even increase, the level of systemic risk in U.S. and
offshore large-dollar payments systems, as well as in the international
dollar settlement process. Poorly designed and managed systems may,
therefore, increase risks to the international banking and financial
system. In addition, offshore arrangements have the potential to
operate without sufficient official oversight.
As the Federal Reserve implements fees for daylight overdrafts,
along with other risk management measures, it also is important that
risks not simply be shifted from the Federal Reserve's payment services
to private, inadequately structured multilateral netting arrangements,
either domestically or in other countries. For example, the Board has
been concerned that the steps being taken to reduce systemic risk in
U.S. large-dollar payments systems may themselves induce the further
development of ``offshore'' large-dollar multilateral netting systems.
These offshore systems can settle directly through payments on Fedwire
or indirectly through a private large-dollar clearing system, which in
turn settles on a net basis using Fedwire.
In response to potential systemic risks and the possibility that
efforts to avoid risk controls will lead to inadequately structured and
managed systems, the Board is adopting minimum standards within which
privately operated large-dollar multilateral netting systems should
operate. The minimum standards apply whether or not these systems
operate domestically or in other countries. These minimum standards are
identical to those set out in the Report of the Committee on Interbank
Netting Schemes of the Central Banks of the Group of Ten Countries
(Lamfalussy Report).5 The Board recognizes that from time to time,
in specific cases, questions of interpretation of these standards, as
they apply to large-dollar multilateral netting systems, may have to be
resolved by the Board.
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\5\In November 1990, the Committee on Interbank Netting Schemes
of the Central Banks of the Group of Ten Countries produced a report
on multilateral netting schemes. The Committee was chaired by Mr.
Alexandre Lamfalussy, General Manager of the Bank for International
Settlements. That report recognized that netting arrangements for
interbank payment orders and forward-value contractual commitments,
such as foreign exchange contracts, have the potential to improve
the efficiency and the stability of interbank settlements through
the reduction of costs along with credit and liquidity risks,
provided certain conditions are met. In this regard, the Lamfalussy
Report developed and discussed, in some detail, both ``Minimum
Standards for Netting Schemes'' and ``Principles for Co-operative
Central Bank Oversight'' of such arrangements.
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It is important to note that the Board's adoption of the Lamfalussy
Minimum Standards in no way diminishes the primary responsibilities of
participants in, and operators of, large-dollar netting systems for
ensuring that these systems have adequate credit, liquidity, and
operational safeguards. It is the Board's intent to heighten awareness
of the risks associated with multilateral netting arrangements and of
the need for their prudent management. The Board also seeks to provide
the financial system with a set of minimum criteria, which have been
discussed by the G-10 central banks, against which structural and risk
management features of large-dollar multilateral netting systems can be
evaluated.
Scope and Application of the Policy
This policy statement is directed toward any privately operated,
multilateral netting system that settles, or seeks to settle, U.S.
dollar obligations through payments affecting one or more accounts at
Federal Reserve Banks, either directly or indirectly (``multilateral
netting systems''). Multilateral netting systems include clearing house
organizations, with or without a central counterparty, for netting
payments or foreign exchange contracts among financial institutions.
The scope of the policy statement is limited to multilateral
netting systems that involve large-dollar settlements or payments. In
particular, such systems that: (1) have three or more participants that
net payments or foreign exchange contracts involving the U.S. dollar,
whether or not netted amounts are legally binding; and either (2) have,
or are likely to have, on any day, settlements with a system-wide
aggregate value of net settlement credits (or debits) larger than $500
million (in U.S. dollars and any foreign currencies combined); or (3)
routinely process individual payments or foreign exchange contracts,
with a stated dollar value larger than $500,000.
A multilateral netting system that meets the above criteria is
subject to the policy if (1) it is a state-chartered member of the
Federal Reserve System, (2) any of its agent(s) or participants are
state-chartered members of the Federal Reserve System, (3) its
participants' net positions are settled through a Federal Reserve
settlement account, (4) its participants settle their net positions in
the multilateral netting system through their individual Federal
Reserve accounts or the Federal Reserve account of the settlement
agent(s), or (5) one or more bank holding companies have an investment
in the multilateral netting system. The Board also reserves the right
to apply the elements of this policy to any non-dollar system based, or
operated, in the United States that engages in the multilateral
clearing or netting of non-dollar payments among financial institutions
and that would otherwise be subject to this policy. This policy does
not apply to systems dealing with exchange-traded futures and options.
Systems in the United States that undertake only the clearance and
settlement of debt and equity securities are subject to the Board's
policy statement on ``Private Delivery-Against-Payment Securities
Systems.''
In applying the policy, the Board seeks to distinguish between
routine banking relationships and arrangements that create a
multilateral ``system'' for clearing and settling U.S. dollar payment
and other obligations. This policy statement is not intended to apply
to routine bilateral relationships between financial institutions, such
as those involved in correspondent banking. In certain borderline
cases, for example involving netting systems operated by a single
financial institution and that combine elements of bilateral and
multilateral netting, a case-by-case determination that an arrangement
is a large-dollar multilateral netting system may be necessary for the
purpose of applying this policy statement.
In general, the participation in, and operation of, a multilateral
netting system is governed by rules and procedures designed to
facilitate multilateral clearance and settlement. Settlement risks are
typically shared by the participants in some fashion, either implicitly
or through employment of explicit loss-sharing and liquidity
arrangements. In contrast, correspondent banking relationships
generally focus on bilateral relationships and risks; the risk of a
settlement failure typically falls, at least initially and sometimes
primarily, on the service provider's or settlement agent's liquidity
and capital.
The Board believes that the Lamfalussy Minimum Standards may apply,
for example, to all large-dollar multilateral payment netting systems
irrespective of the type of financial instrument or contractual
obligation netted by the system. However, the Board recognizes that in
the case of privately operated large-dollar multilateral netting
systems for the batch processing of paper-based as well as electronic
payments, including privately operated Automated Clearing House (ACH)
systems, certain electronic controls that would be required to
implement the Lamfalussy Minimum Standards may not be feasible.
Further, the rights and responsibilities of parties within such systems
may require further analysis. Consequently, the Board intends to study
further the implications of the Lamfalussy Minimum Standards, and the
arrangements to implement the Lamfalussy Minimum Standards, for
privately operated large-dollar multilateral netting systems for the
batch processing of paper-based as well as electronic payments. As
such, the Board does not intend to apply the Lamfalussy Minimum
Standards to these systems at this time.
Lamfalussy Minimum Standards for the Design and Operation of Privately
Operated Large-Dollar Multilateral Netting Systems.
The Federal Reserve's policy on privately operated large-dollar
multilateral netting systems is designed to strike an appropriate
balance between the requirements of market efficiency and payments
system stability. A direct means of achieving this balance is to ensure
that large-dollar multilateral netting systems are designed and
operated so that the participants and service providers have both the
incentives and the ability to manage the associated credit and
liquidity risks. The Board's approach to privately operated large-
dollar multilateral netting systems will be guided by the following
minimum standards for such systems:6
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\6\These standards are identical to the minimum standards for
netting systems in the Lamfalussy Report, with the exception that
the words ``netting system'' have been substituted for ``netting
scheme'' in minimum standards one, two, and six, and the words
``particular system'' have been substituted for ``particular
scheme'' in standard two.
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1. Netting systems should have a well-founded legal basis under all
relevant jurisdictions.
2. Netting system participants should have a clear understanding of
the impact of the particular system on each of the financial risks
affected by the netting process.
3. Multilateral netting systems should have clearly-defined
procedures for the management of credit risks and liquidity risks which
specify the respective responsibilities of the netting provider and the
participants. These procedures should also ensure that all parties have
both the incentives and the capabilities to manage and contain each of
the risks they bear and that limits are placed on the maximum level of
credit exposure that can be produced by each participant.
4. Multilateral netting systems should, at a minimum, be capable of
ensuring the timely completion of daily settlements in the event of an
inability to settle by the participant with the largest single net
debit position.
5. Multilateral netting systems should have objective and publicly-
disclosed criteria for admission which permit fair and open access.
6. All netting systems should ensure the operational reliability of
technical systems and the availability of backup facilities capable of
completing daily processing requirements.
The Federal Reserve reserves the right to prohibit the use of
Federal Reserve payment services to support funds transfers that are
used to settle, directly or indirectly, obligations on large-dollar
multilateral netting systems that do not meet the Lamfalussy Minimum
Standards. The Federal Reserve will also take appropriate supervisory
steps, or refer matters to the appropriate supervisory or regulatory
authority, in cases of systems not in compliance with the
aforementioned Lamfalussy Minimum Standards, or their equivalent.
Moreover, in order for Federal Reserve Banks to monitor properly the
use of intraday credit, no future or existing privately operated large-
dollar multilateral netting system will be permitted to settle on the
books of a Federal Reserve Bank unless its participants authorize the
system to provide position data to the Reserve Bank on request.
Implementation of the Lamfalussy Minimum Standards
The Board believes that large-dollar multilateral netting systems,
whether onshore or offshore, should meet in full the Lamfalussy Minimum
Standards, as set forth in this policy statement. In order to satisfy
the Lamfalussy Minimum Standards, the Board expects that individual
large-dollar multilateral netting systems will meet the following risk
management standards, or their equivalent: (1) a requirement that each
participant establish bilateral net credit limits vis-a-vis each other
participant in the system; (2) establish and monitor in real-time
system-specific net debit limits for each participant; (3) establish
real-time controls to reject or hold any payment or foreign exchange
contract that would exceed the relevant bilateral and net debit limits;
(4) establish liquidity resources, such as cash, committed lines of
credit secured by collateral, or a combination thereof, at least equal
to the largest single net debit position;7 and (5) establish rules
and procedures for the sharing of credit losses among the participants
in the netting system. The Board will consider, on a case-by-case
basis, alternative risk management measures that provide for risk
management systems and controls that are equivalent to the five
measures listed above. The Board notes that the Lamfalussy Minimum
Standards and the arrangements to implement the Lamfalussy Minimum
Standards, as discussed above, in no way diminish the responsibilities
of the participants in, and the operator of, a large-dollar
multilateral netting system to determine if additional safeguards would
be appropriate.
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\7\The term ``largest single net debit position'' means the
largest intraday net debit position of any individual participant at
any time during the daily operating hours of the netting system.
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Timeframe for Implementation of the Lamfalussy Minimum Standards
The Board recognizes that not all existing large-dollar
multilateral netting systems may meet the Lamfalussy Minimum Standards,
and the associated requirements for implementation of those standards,
set forth in this policy statement. The Board also recognizes that
existing large-dollar multilateral netting systems will need a period
of time in which to make any needed changes to their organization and
operations. Consequently, the Board believes that an eighteen-month
transition period would be appropriate for large-dollar multilateral
netting systems that are operating on [insert date of final adoption by
the Board]. Such systems will be expected to comply fully with the
policy statement by [insert date eighteen months after the date of
final adoption by the Board]. Large-dollar multilateral netting systems
established subsequent to [insert date of final adoption by the Board]
will be expected to comply fully with the policy statement, without
benefit of a transition period.
The Board intends to review periodically the scale and nature of
the credit, liquidity, and settlement risks in privately operated
large-dollar multilateral netting systems. Operators of such systems
should ensure that as the scale of risks in their systems increase,
risk management systems are designed and operated to control the
increased scale of risk. The Board expects that over time, whenever
systems are changed or redesigned, significant attention will be given
to the issue of risk management in order to ensure that high standards
of risk control are achieved.
In addition, offshore, large-dollar multilateral netting systems
and multicurrency netting systems should at a minimum be subject to
oversight or supervision, as a system, by the Federal Reserve, or by
another relevant central bank or supervisory authority. The Board
recognizes that central banks have common policy objectives with
respect to large-value netting arrangements. Accordingly, the Board
expects that it will cooperate, as necessary, with other central banks
and foreign banking supervisors in the application of the
aforementioned Lamfalussy Minimum Standards to offshore and
multicurrency systems. In this regard, the Principles for Co-operative
Central Bank Oversight outlined in the Lamfalussy Report provide an
important international framework for cooperation.
By order of the Board of Governors of the Federal Reserve
System, July 12, 1994.
William W. Wiles,
Secretary of the Board.
[FR Doc. 94-17330 Filed 7-15-94; 8:45 am]
BILLING CODE 6210-01-P
