Journal of Financial Market Infrastructures

It is with extraordinary pleasure that I introduce this first issue of volume six of The Journal of Financial Market Infrastructures to our readers and contributors to earlier issues of the journal. Extraordinary because it allows me to take stock of the first lustrum of our journal: five volumes, spanning September 2012 to June 2017, have been completed. In total, we have published seventy-eight papers from well over a hundred unique contributors.

It is clear that the category “central counterparties” (CCPs) is by far the most popular. This is largely due to our two special issues on CCPs: Volume 4, Issue 3, edited by Jeff Stehm; and Volume 5, Issue 4, edited by Robert Cox. Given their important role as global financial circuit-breakers as well as their prominent place in the policy agendas of the Financial Stability Board (FSB) and the Committee on Payments and Market Infrastructures–Board of the International Organization of Securities Commissions, the many papers on CCPs are all too welcome, and their gold medal is well deserved. The silver medal goes to “large-value payment systems” (LVPSs) and the bronze to “retail payments”. The papers in the former category add to the growing body of literature on the topology and behavior of central banks’ real-time gross settlement (RTGS) systems and their participants. The retail payments category is rather diverse, covering everything from studies on the social cost of retail payments and payment card fraud to two-sided market competition. That “collateral” is the fourth-largest category can mainly be attributed to Volume 5, Issue 1: a special issue of The Journal of Financial Market Infrastructures edited by Manmohan Singh. Topics that are within the scope of our journal but have elicited very few submissions so far are (in joint fifth place) central securities depositories (CSDs), securities settlement systems (SSSs), and correspondent banking (in last place, included under “other topics”).

All in all, we can look back on a good half-decade of work, which was only made possible by efforts from both camps of the two-sided Journal of Financial Market Infrastructures market: our subscribers and readers on the one hand, and our contributors, co-editors and advisory board members on the other.

So, let us move on to the second lustrum of The Journal of Financial Market Infrastructures. There are three research papers and one forum paper in this issue, all in the top two categories (three on CCPs and one on LVPSs).

The first paper, “Estimating ‘hedge and auction’ liquidation costs in central counterparties: a closeout risk approach” by Luis A. B. G. Vicente, Fernando V. Cerezetti and Alan De Genaro, considers a crucial phase in the default management process of a CCP: that is, right after a clearing member has been declared to be in default. The authors present a framework that presumes the portfolio of the defaulter is first hedged and then auctioned, showing how the joint costs of hedging and auctioning can be minimized. This framework can be used to both develop risk metrics using different underlying assumptions and perform sensitivity analyses of risk parameters used by the CCP.

“Nondefault loss allocation at central counterparties” by Rebecca Lewis and John McPartland is the second paper in this issue. The bulk of CCP research is concerned with “front door” CCP risk scenarios (clearing member default losses), but this paper investigates whether the back door (nondefault losses) of the CCP is well protected. The paper discusses who should bear financial responsibility for a nondefault loss, how to distribute those losses among the different parties involved, and the implications of catastrophic nondefault loss scenarios.

In “Nonmonotonic trade-offs of tiering in a large-value payment system”, the third paper in this issue, Carlos A. Arango-Arango and Freddy H. Cepeda-López discuss the issue of tiering, ie, does the structure of direct and indirect participants of an FMI comply with the nineteenth Principle for Financial Market Infrastructures (“An FMI should identify, monitor, and manage the material risks to the FMI arising from tiered participation arrangements”)? In this paper, the relevant FMI is an LVPS. In previous papers, a trade-off has been identified between the potentially higher liquidity needs of a larger pool of direct participants and the lower counterparty credit risks that result from a lower number of second-tier participants entering into uncovered bilateral credit positions with correspondent banks. The authors find, in contrast to earlier works, that liquidity savings increase in the Colombian RTGS case they consider but not monotonically over the whole range. At some point, the liquidity savings decrease with higher tiering, exhibiting a humped shape.

Our forum paper, “Central counterparty recovery and resolution: the European perspective” by H. Huhtaniemi and M. Peters, is the fourth and final paper in this issue. In it, the authors analyze the important topic of CCP recovery and resolution from the European Commission’s perspective, where a legislative proposal for implementing the G20 commitments to reform over-the-counter derivatives markets is currently on the table. With the European Market Infrastructure Regulation in place (which covers the supervision of CCPs), this new legislative proposal completes the legal framework for CCPs by incorporating the international guidance of the FSB on CCP resolution and resolution planning. The authors identify the key challenges for authorities in addressing the possible confluence of (failing) resolution of global systemically important banks (G-SIBs) and the (successful) resolution of CCPs in the cross-border context.

I hope you enjoy reading this issue.

Ron Berndsen
De Nederlandsche Bank and Tilburg University