Journal of Financial Market Infrastructures

In earlier issues of The Journal of Financial Market Infrastructures I discussed some of the Principles for Financial Market Infrastructures. These principles are usually referred to as the CPSS-IOSCO Principles (in shorthand, PFMIs). However, as most readers will know, on September 1, 2014 the Committee on Payment and Settlement Systems changed its name - but not its mandate - to the Committee on Payments and Market Infrastructures (CPMI). I will therefore refer to these principles as the CPMI-IOSCO Principles from now on.

In this editor's letter I would like to focus on Principle 2: Governance, and take the chance to elaborate and become a bit more normative than is usual in the PFMIs. In my view the governance and business model of a privately owned financial market infrastructure (FMI)¹ should exhibit the following characteristics.

• It should fully observe all applicable CPMI-IOSCO Principles.

• Its mission should include contributing to financial stability.

• The entry of a competitor FMI should be legally possible; if there is only oneFMI, its monopoly should be reasonably contestable.

• There should be a big overlap between the largest users of the FMI and its owners.

• The business model should be cost-recovery at a minimum and, at a maximum,cost-plus. The profit margin (the "plus") should be small, ie, it should not be maximizing shareholder profit.

• The fee structure for a participant should consist of a fixed fee per time periodmand a fixed fee per transaction.

• The FMI should be overseen by a lead overseer with adequate legal powers to enforce, if need be, possible noncompliance with the PFMIs.

By complying with all CPMI-IOSCO Principles an FMI meets the necessary minimum requirements. With its main users as shareholders, the modest profit goal and the nondiscriminatory fee structure should provide the right incentives to the FMI's management (and if not, there is a powerful lead overseer). And last but not least, it should in principle be open to competition (ie, the threat of entry by a (foreign) competitor should be present). Taken together the above characteristics create the right balance for privately owned FMIs - in my view - between competition and the goal of financial stability. The discussion on good governance of FMIs - or, more broadly, of any payment or securities infrastructure - will continue, at least in this volume of The Journal of Financial Market Infrastructures.

The first paper in this issue is on governance. In "Governance of payment systems: a theoretical framework and cross-country comparison", Bruce J. Summers and Kirstin E. Wells focus on payment systems that are not systemically important, called general-purpose payment systems. These are systems that are used by individuals,businesses and merchants, as well as state, local and federal government entities, to make and receive payments. The authors develop a governance model for this class of payment systems that is derived from Principle 2: Governance in combination with governance literature taken from the economics of networks, large technical systems and organizational network behavior. The framework is applied to six selected CPMI constituencies. The results show that the effectiveness of the governance of general-purpose payments systems differs according to the framework.They find that payment system governance is effective in Australia, the euro area and the United Kingdom because it aligns with the theoretical model, while that is not the case for Japan, Canada or the United States.

Our second paper, "The fountainhead: analyzing the impact of intraday liquidity on payment behavior" by Rafael J. Jiménez Durán,Aldo Marini and Javier Pérez-Estrada, focuses on the Mexican real-time gross settlement system called SPEI (Sistema de Pagos Electrónicos Interbancarios). In Mexico only a subset of participants has direct access to the central bank's intraday liquidity facilities. The authors therefore explore the effect of this on the timing of payments and the dependency on incoming payments and account balances. The dataset spans five years (2009-14) of granular data(transaction level) from the SPEI transaction log. The model developed in the paper is used to study the dependency of the distribution of payments on a participant's access to (or lack thereof) the central bank's liquidity, their importance as a funding source and incoming payments from other participants in the real-time gross settlement system network (visibility). The main findings of this paper are consistent with earlier articles in the literature: access to central bank intraday liquidity translates into more prompt payments and a lower dependency on incoming payments and account balance.

The issue's third paper, "MF Global: a case study of liquidity risks" by Richard Heckinger, takes the reader back to October 2011 when broker-dealer MF Global defaulted on its counterparties and customers. This is therefore a case relevant for FMIs: in particular, the default of a participant of a central counterparty. In this Forum Journal of Financial Market Infrastructures 3(2) contribution, the author reveals that the "root cause" of the default was the liquidity risks inherent to MF Global's trading strategy, which, while it locked in profits, still required funding and, therefore, sufficient liquidity. The paper examines the liquidity demands on MF Global and the diminished sources of supply of liquidity as MF Global itself and the assets underlying its investments suffered credit downgrades. It provides a good insight into the last week ofMFGlobal: the run on its liquidity and the ensuing fire-sale attempts. The paper concludes with lessons learned with reference to various relevant PFMIs on margin, liquidity risk and segregation and portability.

I invite you to read on and explore this volume of The Journal of Financial Market Infrastructures.

Ron Berndsen
De Nederlandsche Bank and Tilburg University

¹ More specifically, a private legal entity responsible and accountable for running a systemically important payment system, central counterparty or central securities depository, ie, excluding trade repositories and securities settlement systems.