After four years of consultations, Cabinet has agreed to a new legislative framework to improve regulation of payment systems and other Financial Market Infrastructures (FMIs).
The new framework fills gaps in existing payments and settlement system regulation and will be jointly administered by the Reserve Bank and Financial Markets Authority.
FMIs provide trading, clearing, settlement and reporting services for financial transactions involving payments, securities, derivatives and other financial products. All participants in the financial system rely on them to some extent.
However, the global financial crisis highlighted the extent to which modern financial markets are closely interconnected, a Cabinet paper on FMI regulation (pdf) said.
"There are serious consequences if an FMI fails – be it from a prolonged breakdown, or failure to settle by one of its participants.
"Failure to complete
payments for financial market transactions, or even failure to complete such payments
on time, can subject the entire financial system to serious credit and liquidity risks,
because of the interconnections between an FMI’s participants, and FMIs themselves."
The failure of individual FMIs, therefore, could have significant adverse consequences for the financial system as a whole.
FMIs are also characterised by a number of "market failures", the paper said.
These include: an FMI operator not fully considering the wider social costs of their conduct; participants focusing only on their private costs and benefits; and high concentration of market power and the potential for quasi-monopoly behaviour, which increases systemic risk and could have an adverse impact on innovation.
The focus for the new regime will be on "systemically important" FMIs, deputy governor Grant Spencer said. It aims to ensure that regulation of FMIs is proportionate to the risks they pose and also establishes crisis management powers.
"The increasing interconnectedness and complexity of FMIs could result in shocks being rapidly transmitted through the financial system and adversely affecting economic activity," he said.
The framework is divided into two parts:
First, a set of regulatory powers apply to designated FMIs – those that are systemically important, or who opt-in to designation in order to access certain legal protections under the Reserve Bank Act.
The regulatory powers include the ability to set regulatory standards for designated FMIs, powers to oversee their rules, investigative and enforcement powers, and crisis management powers.
Second are information gathering powers that apply to all FMIs, including those which are not designated. This will allow the functioning of the broader sector to be monitored so that any FMIs that become systemically important in the future can be identified and the build-up of systemic risks monitored.
An exposure draft of proposed legislation will be open for public consultation before it is introduced into Parliament.
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