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NY Fed: Resolving Repo Systemic Risk will Take More Time

The Federal Reserve Bank of New York announced that additional time will be required to complete the roadmap set out by the Tri-party Repo Infrastructure Reform Task Force. The New York Fed formed the task force in 2009 to address potential sources of systemic risk caused by the tri-party repo markets. That roadmap set out “reforms needed to (1) sharply reduce the market’s reliance on discretionary extensions of intraday credit by the clearing banks and (2) foster improvements in market participants’ liquidity and credit risk management practices.”

According to the New York Fed, “full alignment” with the roadmap is not complete for General Collateral Finance repos between dealers at different clearing banks, and a majority of trades still settle the next day requiring “uncapped, discretionary extensions of intraday credit by the clearing banks.” It worries that in a “full-blown stress event,” repo usage and the credit needed to settle these repos “could balloon suddenly and significantly, to levels that a clearing bank is unwilling or unable to support through the provision of the necessary intraday credit.”

While the original roadmap would have implemented same-day settlement for all general collateral finance repos in 2015, the New York Fed’s statement announced that the timeline would need to be extended “given the complexity of the reengineering challenge involved as well as the contention of this effort with other near-term changes that are required for other purposes.”

The statement did highlight general progress made by Bank of New York Mellon in completing a new triparty repo settlement process. This step resulted in the share of triparty repo volume financed with intraday credit dropping from 100 percent in 2012 to its current level of 3 to 5 percent. The Task Force’s goal for the figure was set at less than 10 percent.

The New York Fed also noted that the original roadmap did not address the “risk of fire sales of collateral by a dealer that is losing access to repo financing (pre-default), or by creditors of a dealer once it has defaulted (post-default).” While it suggested that progress has been made on the pre-default fire sale risk, “no mechanism exists to address the challenge of coordinating sales of collateral by the creditors of a defaulted dealer in an orderly manner.” However, it did acknowledge the industry’s efforts to develop central clearing mechanisms.