Tim Geithner wrapped up the closing plenary of Sibos yesterday with words that poured some cold water on the upbeat mood of many of the delegates. Geithner, the youthful president and CEO of the Federal Reserve Bank of New York, identified "some of the major priorities we see over the medium term in strengthening the safety and soundness and the operational resilience of the global payments and settlements system".
He noted how much work had been done over the past 15 years and praised the industry. "These are the types of efforts where the return is almost never quantifiable, for the pay off comes in the avoidance of crisis and a better balance between efficiency and risk."
He then reported on four areas of growth that he expects to shape the payments and settlements industry in coming years. Firstly he said that technology advances will allow the growth in payments traffic to continue expanding faster than economic growth, as it has done in the recent past. He then described the global payments structure as a "complex patchwork" to which more and larger financial institutions were facing exposure. There has also been a concentration of payments in a handful of global institutions, increasing the vulnerability of the system. Given these forces, Geither said he felt that there was a continued need to ensure the resilience and soundness of the global payments and settlements system.
He then revealed his particular fears about the rapid growth of the OTC derivatives market. "The growth in the over the counter derivatives market has advanced much more rapidly than the speed of improvement in important parts of the infrastructure that support the market, including contract documentation and post trade processing and the certainty of the legal arrangements for cross product netting." He called the increased risks involved in the lack of automation "avoidable".
He commended the private sector for working together to sort out some of the problems that bedevil the derivatives industry, but he also called on delegates to think about whether it makes sense to move the derivatives off the counter and into a more formalized structure. "It is worth reflecting on whether it makes sense to build on these efforts by developing and utilizing central counterparty clearing arrangements," he said. Such an arrangement would reduce the systemic risks in the OTC system, even though it would be tough to create a model that would do justice to the complex and changeable nature of the derivatives market.
"Use of a centralized clearing utility could provide significant advantages over the present bilateral arrangements by increasing transparency, enabling multilateral netting and providing centralized risk controls, collateral management and margin requirements."
His call seemed a thinly-veiled threat to the industry that if it failed to come up with its own solutions, the regulators might do so for them.