Tobin tax threatens economic viability of 'repo' market – ICMA
13 Mar 2013
GLOBAL – European Commission proposals to tax repurchase – or 'repo' – deals will put the economic viability of the industry at risk, according to the International Capital Market Association (ICMA).
In its most recent survey of the European market, the ICMA said repo business, as at December 2012, contracted by 0.9% compared with the last survey conducted in June last year.
Year-on-year, the number of repo deals decreased by 9.5% in region.
According to the ICMA, those results are primarily due to the European Central Bank's long-term refinancing operations (LTRO), which have enabled banks to decrease their reliance on funding from repo operations in the market.
The ECB unveiled the LTRO policy, which aims to provide cheap loan incentives for European banks, towards the end of 2011 in a move to ease the impact of the sovereign debt crisis.
But Godfried De Vidts, chairman of the ICMA's European Repo Council, argued that the future of the market was in "jeopardy".
"The European Commission's latest proposal for financial transactions tax (FTT) comes at a time when the Basel Committee has guided interbank lending transactions away from an unsecured to a secured basis, and when wholesale market participants, together with the central bank community, have moved to the repo market because it is the safest way of distributing liquidity throughout the European banking system," he said.
"The FTT proposals to tax repo transactions put the economic viability of repo – including triparty – transactions at significant risk, which will lead to less liquidity provision to the real economy."
De Vidts went on to argue that the FTT also threatened the implementation of EMIR, which requires the use of collateral for centralised and bilateral clearing.
"As ESMA highlighted upon release of its first EU securities markets risk report on 14 February, the collapse of unsecured markets during the financial crisis, as well as regulatory initiatives, have led market participants to rely increasingly on collateral as a means of mitigating counterparty risk, stimulating the demand for collateral," he said.
According to De Vidts, additional demand for collateral would therefore exceed the additional supply of collateral in 2013-14, making collateral much more scarce.
"If the FTT on repo transactions, which facilitate collateral being available where it is needed, goes ahead, the regulatory collateral crunch will actually materialise," he said.
Under EMIR, which aims to pull all trading in over-the-counter derivatives (OTCs) through central clearing, pension funds will be required to post variation margins either in the form of securities or cash.
However, pension funds – like any other market player using the services of a clearinghouse – will also be required to post initial margins, for which clearing entities will accept cash only.
Many experts have voiced concerns over such measures, claiming pension funds do not traditionally hold large piles of cash and would therefore either need to sell portfolio holdings to raise cash or use the repo market.
In a previous interview with IPE, Laura Brown, head of solutions at Ignis Asset Management, said repo was a tool that end-users such as pension schemes should be looking to use even before the arrival of central clearing.
"Pension funds can utilise their strong position, as holders of Gilts, to borrow at low rates by posting these Gilts as security for cash borrowing," she added.
"The cash is typically used to purchase additional Gilt exposure, but could be used to post as collateral under centrally cleared swap contracts."
Author: Cécile Sourbès