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Designated settlement systems – questions and answers
1. What is a settlement system?
- A settlement is the making of payment or the transfer of the title to, or an
in interest in, personal property.
- A settlement system is a system or arrangement for effecting settlements or
processing settlement instructions, and includes a payment system. A payment
system is used for transferring funds.
- While settlement arrangements can exist for a wide range of personal
property transfers, the focus of the Reserve Bank and the Securities Commission
will be on securities settlement systems (including settlement systems for
futures and other derivatives) and, in the case of the Reserve Bank, payment
systems as well.
2. Why are settlement systems important?
- Payment and securities settlement systems are a key component of the
financial infrastructure. Disruptions in a payment or securities settlement
system can have repercussions not only for the market directly served by the
system, but for the wider financial system. A payment or securities settlement
system may trigger, transmit or amplify shocks across domestic and international
financial systems and markets because of:
- The size or nature of the payments or settlements that are processed through
the system.
- The aggregate value of the settlements and their importance to the
circulation of liquidity within the financial system.
- The number of individuals and institutions who directly or indirectly
participate in payment and securities settlement systems or who are otherwise
affected by or have an interest in the soundness and efficiency of payment and
securities settlement systems.
- It is therefore important for investor confidence, the soundness and
efficiency of securities markets, and the soundness and efficiency of the
financial system as a whole that payment and securities settlement systems
operate smoothly and efficiently.
3. What does designation achieve?
- Designation gives legislative backing to the finality of settlements
effected, netting done, and personal property transferred, in accordance with
the rules of the designated settlement system. In other words, it provides
certainty that trades settled will not ‘unravel’ despite any
enactment or law to the contrary. This certainty is particularly important in
the event of the insolvency of a settlement system
participant.
- The Reserve Bank and the Securities Commission will have an on-going role of
overseeing designated settlement
systems.
4. Why were legislative amendments necessary now?
- By way of background, a key motivation for the previous payment system
designation regime was to meet international expectations of legal certainty of
settlement in order for the NZ dollar to be included among currencies settled by
the Continuous Linked Settlement (CLS) system. CLS is used around the world to
settle foreign exchange trades. The use of CLS to settle foreign exchange
transactions effectively eliminates foreign exchange settlement risk (the risk
associated with the time lags in the paying and receiving of foreign exchange
transactions). CLS was designated under the previous payment system designation
regime.
- The only other payment system designated under the previous regime was the
Reserve Bank’s Exchange Settlement Account System (ESAS). ESAS allows
individual transactions between financial institutions to be settled
electronically in ‘real
time’.
- An initial impetus for the amending legislation related to NZX’s plans
for an exchange for the trading of emissions units and futures products, and its
related plans for a new clearing and settlement system. Designation would
provide for settlements in that proposed new system to operate with the legal
certainties expected by international and domestic participants. The amending
legislation allows both settlement and payments systems to seek designation. It
does not affect the designation status of CLS and
ESAS.
5. Why has Austraclear not been designated to date?
- Austraclear is a securities settlement system that can also be used for high
value cash transfers. There have been plans to seek designation for Austraclear
but these were put ‘on hold’ when it became clear that the
designation regime already in place for payment systems was to be extended to
security settlement systems; a more complete regime that better fitted the role
Austraclear performs.
6. How can a settlement system be designated?
- Applications for designation are to be made to the joint regulators (the
Reserve Bank and the Securities Commission). Joint regulators make
recommendations to the Minister of Finance and the Minister of Commerce. The
legislation sets out the matters that the joint regulators may have regard to
when assessing applications. Further details on the planned application process
and the proposed policies of joint regulators will be included in a draft policy
document which will be released for public consultation shortly. We expect this
document to be available by the end of November
2009.
7. How are the Reserve Bank and the Securities Commission going to work
together?
- The joint regulators have been working closely together for some time in
developing the legislation, developing draft policy and in preliminary
engagement with potential designation applicants. Particular details of how the
regulators intend to work together will be set out in the draft policy
document.
8. If Austraclear NZ is designated, will the new regime involve the Reserve Bank
regulating its own system (Austraclear)?
- Yes, but this is not new - under the earlier regime the Reserve Bank
designated ESAS and its payment oversight work also included oversight of
Austraclear. The purpose of the Reserve Bank providing these systems is
consistent with its regulatory purpose; i.e. the promotion of a sound and
efficient financial system.
- Also, under the new regime, if Austraclear NZ is designated it will be
regulated by both the Reserve Bank and the Securities Commission as joint
regulators.