Bank of England mulls tougher capital rules for clearing houses

By Huw Jones

LONDON (Reuters) - Financial institutions that settle trillions of dollars of derivative contracts a day may need to hold more capital to stop them requiring a government bailout if they fail, a senior Bank of England official said on Monday.

David Bailey, a BoE official responsible for financial market infrastructure, said clearing houses - also known as central counterparties (CCPs) - might need to build up bigger capital buffers, as banks are already being required to do.

BoE Governor Mark Carney heads the Financial Stability Board (FSB), a body which advises leaders from the G20 group of major economies on financial regulation and wants to stop clearers from becoming "too big to fail" like global banks have been.

"There is ... an important question as to whether CCPs are resolvable in their current forms, and ... whether changes to the liability structure of CCPs are necessary to make this approach credible, without recourse to taxpayer funds," Bailey said at an event hosted by Deutsche Boerse (DB1Gn.DE).

"The FSB has recently proposed that there must be a minimum level of 'Total Loss Absorbing Capacity' (TLAC) for banks, and we will need to consider carefully whether and how this concept could be effectively translated to CCPs," Bailey said in his speech.

TLAC refers to a buffer of bonds that can be written down or converted into equity to shore up a tottering bank.

Volumes at clearing houses such as ICE (ICE.N), CME Group (CME.O) and LCH Clearnet (LSE.L) are set to grow significantly as banks are forced by regulators to clear their derivatives transactions through CCPs to increase safety and transparency.

The European Commission will publish a draft European Union law in 2015 dealing with a failing clearer, senior Commission official Olivier Guersent said, declining to say if it would include a TLAC-style requirement.

Kay Swinburne, a British member of the European Parliament which, along with EU states, will amend and approve the law, wanted a "TLAC concept" for clearing houses.

"The more instruments that you have the better. You have to remember the costs of failure," said David Wright, secretary general of the International Organisation of Securities Commissions (IOSCO), a global markets watchdog.

"The big question is costs and benefits. I would err on the side of caution because the cost of damage is so high," Wright said.

Speakers signalled a battle also loomed over whether investors with assets trapped in a failing clearer should suffer losses like the clearer's members and owners would, or be shielded as "innocent bystanders".

Swinburne said investors should be protected otherwise it would be like taxpayers bailing out private financial institutions again as they did during the global financial crisis.

(Reporting by Huw Jones, writing by David Milliken; Editing by Hugh Lawson and Susan Fenton)