Consultation on Assessing Sufficient Equivalence – May 2009 3. An Approach to Assessing Sufficient Equivalence

In considering the sufficient equivalence of an overseas regulatory regime in relation to protection from systemic risk, the Reserve Bank proposes that the following be taken into account:

The clarity and coverage of stability-related principles applied by the overseas regulator relative to the Standards.
The nature and intensity of the overseas regulator's oversight process, including direct comparison with the regime applied by the Reserve Bank.
Observed outcomes relative to those in Australia, as reflected in an initial assessment of clearing and settlement facilities operating under the relevant overseas regime.

The overseas regime will need to demonstrate sufficient similarity to the Australian regime in all three aspects if it is to be judged sufficiently equivalent in relation to protection from systemic risk.

3.1 Clarity and coverage

The scope and coverage of the Reserve Bank's regime is clearly set out in the Financial Stability Standard for Central Counterparties and the Financial Stability Standard for Securities Settlement Facilities. In each case the Standard sets out a licensee's obligations, as follows: ‘a CS facility licensee must conduct its affairs in a prudent manner, in accordance with the standards of a reasonable CS facility licensee in contributing to the overall stability of the Australian financial system, to the extent that it is reasonably practicable to do so.’

Each Standard is supported by a set of minimum measures which the Reserve Bank considers relevant in determining whether a CS facility licensee has met the Standard. The measures are principles based, but supported by detailed guidance to assist both the licensee and the Reserve Bank in assessing compliance.

Given this approach, in assessing sufficient equivalence in respect of clarity and coverage, the overseas regime would be expected to exhibit the following:

A clearly articulated and easily understood approach to assessing a licensee in relation to matters affecting stability, perhaps in the form of a set of principles or standards.
A high degree of overlap in the broad coverage of such principles and the measures underpinning the relevant Standard. Where there are gaps, the Bank would expect to be able to assess equivalence by objective reference to rules and procedures.

This approach is consistent with that developed by ASIC in RG 54 (Principle 8, Section 4.4), under which ASIC deems an overseas regulatory regime to be equivalent where it shares a similar regulatory philosophy and is, at least at a high level, equivalent.

3.2 Oversight process

The Reserve Bank is required by the Act to report to the Minister each year on how each CS facility licensee that it oversees complies with the Standards and whether it is doing all other things necessary to reduce systemic risk. To that end, the Reserve Bank carries out a formal annual assessment of CS facility licensees against the Standards, publishing its findings. It also conducts formal operational and executive liaison meetings with CS facility licensees, imposes formal quarterly data and business reporting requirements (and risk-management reporting for central counterparties), and maintains a regular ongoing dialogue in respect of material developments.

Given the features of the oversight process in place in Australia, an overseas regulator's oversight process would be judged to be sufficiently equivalent if it demonstrated the following:

An established framework for ongoing formal assessment against stability-related principles, with reviews undertaken at a reasonable frequency.
Evidence of regular dialogue with CS facility licensees on matters related to stability.
A well defined process for communication of material changes and evidence of dialogue and follow up by the overseas regulator.
Adequate enforcement capability, perhaps underpinned by legislation, with appropriate procedures to ensure that principles and standards are reliably applied.
Adequate arrangements for information-provision by the licensee, including clearly stated and appropriate data and business reporting requirements.
In the case of central counterparties, regular and appropriate monitoring of risk-management processes and outcomes.

ASIC's focus has typically been on the outcomes achieved by a foreign regulatory regime rather than the regulatory mechanisms adopted by foreign regimes to achieve those outcomes (RG 54, Section 3.8). Nevertheless, as a practical matter, some assessment of mechanisms and approach is necessary, for instance to gauge the likelihood that a breach of the law or the facility's rules will be detected or that the crystallisation of a systemic risk will be anticipated. The approach articulated here also encompasses the expectation in RG 54 that standards are adequately enforced.

3.3 Observed outcomes

Finally, the Reserve Bank proposes an outcomes test. A similar test is envisaged in RG 54.

The outcomes test proposed in the context of protection from systemic risk would involve an initial assessment by the Reserve Bank of the CS facility licence applicant against the measures underpinning the relevant Financial Stability Standard. Such an exercise would draw on publicly available information, including rules and procedures, regulatory compliance reports, and self-assessments, supplemented with information provided by the applicant (and its overseas regulator) in the context of its licence application. Evidence of a high level of compliance with the measures underpinning the Standards would indicate that the overseas regulatory regime was designed to achieve broadly equivalent outcomes to those of the Australian regime in relation to operations, structures and risk-management approaches.

To complement the initial assessment of the licence applicant, a similar exercise would also be conducted (where applicable) for a sample of other CS facilities operating under the same overseas regime. The objective here would be to validate whether the observed outcomes for the licence applicant were illustrative of those generally achieved under the regime in question. Since the Reserve Bank would have no jurisdiction to request additional information from these facilities, such supplementary assessments would be conducted at a higher level, using only publicly available information.

Should this exercise reveal that CS facilities operating in the relevant overseas regime typically achieve outcomes consistent with the measures underpinning the relevant Financial Stability Standard, the overseas regime might, other things being equal, be deemed sufficiently equivalent to the Australian regime.