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(Bloomberg) -- London will probably end up winning the battle over its clearing industry, according to four top bankers in Davos, adding to the debate over whether the U.K.’s financial industry will be stripped of a crown jewel.
Despite French and German threats to claw away clearing in euro-denominated derivatives, Britain will probably continue to house trillions of euros of swaps trades because limiting where the operations can take place could backfire, said the executives from several global firms, speaking on condition of anonymity at events around the Swiss ski resort. Imposing controls on how and where the common currency is used could damage its reserve status, they said. Clearing usually isn’t cocktail conversation in Davos, but Europe’s financial plumbing has been a top concern among power brokers since Britain’s June vote to leave the European Union. Bankers have not been unanimous in their views, however. Executives at four of the biggest global investment banks in London in September said they expect France and Germany will prevail in the clearing tussle.
One of the executives at Davos said forcing a move would pose risks to financial stability, a point the banker plans to make to EU policy makers.
Clearinghouses stand between buyers and sellers and act as protection in case of a default. Their role in the financial system has been solidified by regulations requiring an increasing number of trades to flow through them. Separate industry officials have said it’s also desirable to keep derivatives clearing in the U.K. because traders prefer the country’s bankruptcy law.
Some EU officials coveted London’s market share for euro clearing long before Brexit, and the referendum gave them a reason to try again to take it, whether or not the U.K. found a way to stay in the single market. French President Francois Hollande said in June that the U.K.’s EU presence was the only reason its dominance of euro clearing was tolerated.
Now, U.K. Prime Minister Theresa May has pledged to quit the single market, even though she’s called for a “phased approach” to smooth the process. A report by Oliver Wyman on behalf of a U.K. lobby group estimated that leaving the EU market jeopardizes almost 70,000 British jobs.
To read more about how Brexit threatens London’s clearing industry, click here.
Euro clearing could leave London without being forced to do so, said Graham Bishop, a consultant on EU integration and a former banker. Traders may need to clear euros in the EU if they believe that’s the only place where the European Central Bank will prop up a clearinghouse during a crisis, he said. That’s because the ECB is the lender of last resort for euro assets.
“They’ve put customers on notice that they’re more vulnerable elsewhere,” Bishop said. “Customers will make up their own mind. I’m not sure the ECB needs to do very much for euro clearing to leave London.”
While different forms of daily clearing have taken place in London for more than 200 years, today’s debate centers on a unit of London Stock Exchange Group Plc called LCH. The numbers are immense: LCH has already cleared 1.2 trillion euros ($1.3 trillion) of interest rate swaps this year. The interest-rate swaps market itself, which has been around since the 1980s, is massive -- some $2.7 trillion overall changes hands daily. LCH handles more than 90 percent of cleared interest-rate swaps in major currencies.
Those major currencies include the U.S. dollar. LCH has cleared more than $4 trillion in 2017.
The ECB has previously tried to strip euro clearing from Britain, signaling that policy makers in the past thought the rewards worth the risk. While that effort was defeated in court, EU politicians have reignited the fight.
The ECB currently has some shared authority over British clearinghouses through rules known as European Market Infrastructure regulations. The U.K. will no longer be bound by EMIR after Brexit. ECB President Mario Draghi said earlier this month that the central bank should retain its oversight of U.K. clearing, even after Britain leaves.
In the U.S., Commodity Futures Trading Commission Chairman Timothy Massad has spoken against restrictions on the location of clearing, but has sympathized with the EU’s desire to have oversight of clearinghouses in London. Their health is crucial for euro-denominated assets and the entire European economy.
--With assistance from Will Hadfield To contact the reporters on this story: Stephen Morris in London at firstname.lastname@example.org, John Detrixhe in London at email@example.com. To contact the editors responsible for this story: Trista Kelley at firstname.lastname@example.org, Will Hadfield
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