Regulation driving changes in European repo market

RegulationsRegulations imposed after the financial crisis are driving through radical changes in the European repo market.

A new study by the International Capital Markets Association (ICMA), entitled ‘Perspectives from the eye of the storm: the current state and future evolution of the European repo market’ looks at how the repo market is responding to regulatory pressures.

The study shows that there is growing concern regarding the impact of various prudential and market regulations, along with extraordinary monetary policy, which together could be affecting the ability of the European repo market to function efficiently and effectively.

Specifically, the study found that Basel III is the single greatest regulatory driver of change, transforming the structure and dynamics of the repo market. Cumulatively, the Directive is adding to the cost of capital required to run a repo-trading book and Leveraged Ratio (contained in the Directive) could make repo unprofitable as a traded product.

The European Central Bank’s extraordinary monetary policy of quantitative easing has produced excess bank reserves and negative interest rates which dampen repo activity, according to the study.

The report says that the overriding concern among market participants is that in future, although they expect the repo market to continue in some form, it may be unable to function as effectively and efficiently as it has in the past in providing liquidity and collateral fluidity to the financial system.

“We hope that this new study will raise understanding among regulators of the true state of repo in Europe and of its essential role as a component of the Commission’s plan for Capital Markets Union with its implications for jobs and growth,” says Godfried De Vidts, chair of the ICMA European Repo Council.

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