Understanding banking and finance: Why do financial market infrastructures matter?

1. Payment systems facilitate the transfer of funds between financial institutions, enabling payments for goods and services, and the settlement of financial transactions. Examples include the Real-Time Gross Settlement (RTGS) systems, like Fedwire in the United States.
2. Central securities depositories (CSDs) hold securities in electronic form, allowing for the efficient transfer of ownership through book-entry systems. They are a vital part of the issuance, safekeeping, and settlement of securities transactions. Euroclear and the Depository Trust & Clearing Corporation (DTCC) are notable examples.
3. Securities settlement systems (SSSs) ensure the transfer of securities and the corresponding payment (delivery versus payment) between buyers and sellers. They are essential for the finalisation of securities transactions.
4. Central counterparties (CCPs) interpose themselves between buyers and sellers in financial transactions, becoming the counterparty to both sides. This process helps to manage counterparty risk and enhances the stability of the financial system.
5. Trade repositories collect and maintain a centralised record of over-the-counter (OTC) derivatives transactions. They enhance transparency and regulatory oversight of the derivatives markets.

Systemic importance

For obvious reasons related to their systemic importance, FMIs are subject to stringent regulatory oversight. Effective regulation and supervision help to mitigate risks associated with their operations, ensuring the integrity, safety, and efficiency of financial markets.

Organisations like the Bank for International Settlements (BIS), the International Monetary Fund (IMF), and the European Central Bank (ECB) are all focused, in various ways, on ensuring that FMIs meet the high levels of operational resilience and global cooperation required of them.

Risk mitigation

FMIs help mitigate counterparty and settlement risks by providing centralised clearing and settlement services. Through processes like multilateral netting and collateral management, they reduce systemic risks and enhance the overall safety and efficiency of financial transactions. By acting as intermediaries, FMIs ensure the completion and finality of transactions, reducing the risk of default and enhancing market stability.

Enhanced market integrity

FMIs contribute to market integrity by ensuring the timely and accurate settlement of transactions. By providing transparent and efficient mechanisms for trade execution and settlement, FMIs help prevent market manipulation, fraud, and other abuses. Their presence fosters trust and confidence among market participants, enhancing the overall integrity of financial markets.

Access to funding and liquidity

FMIs are key to providing access to funding and liquidity for financial institutions. Through services like central bank payment systems and collateralised borrowing facilities, FMIs enable banks and other market participants to manage their liquidity needs efficiently. They support the smooth functioning of money markets and ensure the availability of funds for lending and investment activities.

Interconnectedness

FMIs are highly interconnected with other participants in the financial system, including banks, broker-dealers, asset managers, and central banks. Any disruption or failure in FMIs could have widespread repercussions, leading to liquidity shortages, credit defaults, and systemic crises. As a result, ensuring the resilience and reliability of FMIs is essential for maintaining financial stability and minimising systemic risks.

Regulatory oversight and compliance

FMIs are subject to stringent regulatory oversight and supervision to ensure their operational resilience, risk management practices, and compliance with regulatory requirements.

Regulatory authorities monitor FMIs to safeguard financial stability and protect the interests of market participants and the wider economy. By promoting adherence to regulatory standards and best practices, FMIs contribute to the overall stability and soundness of the financial system.