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New EU derivatives rules to reduce costs and regulatory burdens

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New EU derivatives rules to reduce costs and regulatory burdens

Photo © Lee Torrens - Fotolia

(BRUSSELS) - The EU Parliament and states reached political agreement Tuesday on rules applying to non-financial counterparties, small financial counterparties and pension funds using financial derivative products.

The targeted reform of the European Market Infrastructure Regulation (EMIR) introduces simpler rules for derivatives, which is expected to reduce costs and regulatory burdens for market participants.

That regulation was adopted following the financial crisis to better manage and monitor the risks arising from derivatives markets for financial stability. The reform now agreed will provide simpler and more proportionate rules for over-the-counter derivatives.

"In the aftermath of the financial crisis, the EU put in place a solid and effective framework for bringing more transparency and reducing systemic risk in the derivative markets," said Romania's finance minister Eugen Teodorovici, for the EU presidency: "Today, we agreed targeted adjustments that will preserve all the core elements of the reform, whilst simplifying the rules and making them more proportionate."

A derivative is a financial contract linked to the future value or status of the underlying to which it refers (e.g. the development of interest rates or of a currency value). Derivatives redistribute risk and can be used both to protect against legitimate risk and for speculative purposes. Most derivative contracts are not traded on an exchange but are instead privately negotiated between two counterparties (OTC). The global outstanding notional value of OTC amounted to USD 595 trillion at the end of June 2018 (Source: Bank for international settlements).

The European Market Infrastructure Regulation (EMIR), adopted in 2012, forms part of the European regulatory response to the financial crisis, and specifically addresses the problems encountered in the functioning of the OTC derivatives market during the 2007-2008 financial crisis.

In May 2017, the Commission proposed a regulation amending and simplifying EMIR to address disproportionate compliance costs, transparency issues and insufficient access to clearing for certain counterparties.

In order to increase the efficiency of the regulatory framework, the text agreed by the co-legislators introduces a new category of "small financial counterparties" which will be exempted from the obligation to clear their transactions through a central counterparty (CCP), while remaining subject to risk mitigation obligations. In the same way, smaller non-financial counterparties will have reduced clearing obligations. The text also extends by another two years (further extendable twice by an additional year) the temporary exemption from the clearing obligation of pension scheme arrangements.

As regards reporting obligations, the regulation will streamline existing rules in order to improve the quality of the data reported and make the supervision more effective: it will remove the obligation to report historic data ("backloading") as well as intragroup transactions involving non-financial counterparties.

Finally, the regulation aims to create incentives and increase access to clearing by removing existing unnecessary obstacles. In particular, the text introduces an obligation on clearing brokers to provide services on fair, reasonable, non-discriminatory and transparent commercial terms ("FRAND") by ensuring in particular transparency on fees as well as unbiased and rational contractual arrangements.

The text will now be submitted to EU ambassadors for endorsement. It will then undergo a legal linguistic revision. Parliament and Council will be called on to adopt the proposed regulation at first reading.

Planned actions relating to Regulation (EU) No 648/2012 on OTC derivatives, central counterparties and trade repositories

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