Competition in clearing and settlement

Australia is falling behind global leaders in financial market capabilities, and urgent action is required to claim our position at the front of the pack

In the early 2000s, Australia was at the forefront of global financial markets capabilities. The stock exchange had adopted electronic trade execution, clearing and settlement ahead of many other global markets. Sydney was ranked 7th on the Global Financial Centres Index (GFCI) as of 2007.

However, Australia’s financial market infrastructure and related regulatory architecture has failed to keep pace with global changes, specifically as new innovations such as distributed ledger technologies (DLT) emerged. This is starkest in Clearing and Settlement (C&S) where the Clearing House Electronic Subregister System (CHESS) was world leading when introduced in 1994 but its underlying technology is now outdated, limiting Australia's ability to continue to improve the service levels and performance of post-trade services. Sydney is now ranked 13th, behind cities in the US, Europe and Asia, while Melbourne had fallen from 18th in 2007 to 31st in 2022.

In 2015, the Council of Financial Regulators (CFR) recommended reforms to Australia’s C&S markets to increase competition aimed at driving innovative improvements in service and cost. However, relatively little has changed since. Over the period 2016-2022, the Australia Securities Exchange (ASX) announced and then failed to implement a DLT-based solution to replace the existing CHESS system, leaving Australia behind global leaders.

There is an urgent need to overcome the challenges posed by the monopoly that ASX currently holds over key aspects of the C&S of listed securities in Australia. In December 2022, Treasury proposed new legislation to address these issues and introduce responsible competition in C&S markets. This aims to boost competition, improve stability, reduce risks and lower costs, in turn fostering innovation and delivering benefits to the broader financial ecosystem.

Modernising Clearing & Settlement services and infrastructure has been beneficial for financial markets overseas

C&S services, currently provided exclusively by the ASX for listed securities, enables the exchange of financial assets between parties. They are critical to the successful operation of Australia’s financial markets, minimising counterparty risk, and providing efficiency and stability for participants.

Introducing responsible competition in global C&S markets has led to three key benefits: (1) enhanced innovation; (2) increased efficiency; and (3) lower costs for participants.

Competition has facilitated new technological innovations, such as DLT and atomic settlement, which are changing the way in which C&S services are delivered. For example, DLT and atomic settlement can eliminate the need for settlement, delivering capital efficiency and reducing risks.

Innovation in global markets has also pushed markets to shorter settlement cycles. European markets moved to T+2 settlement cycles in 2014, while other major financial markets are now considering a T+1 cycle.

Globally, C&S fees have fallen from greater competition and innovation, with fee reductions of up to 80 per cent.

Delivering modern, competitive Clearing & Settlement services requires responsible regulatory reform to deliver for investors, consumers and businesses

New technological innovations are requiring regulators to reconsider the traditional definition of C&S. Globally, these new innovations are changing the nature of C&S, the types of assets being cleared, and the market participants. These changes can have positive outcomes for investors, consumers and businesses.

There are three main challenges being addressed through technological advancement and regulatory innovations: (1) lengthy settlement times; (2) manual processes; and (3) bilateral clearing of risky instruments.

However, Australia’s regulatory approaches have not been updated to enable use of new technologies to overcome these challenges, and require reform to support a modern C&S market that spurs innovation and delivers broad benefits.

Australia can be a leader in financial market innovation and technology in a way that is both responsible and beneficial

Government and industry must work together to design a modernised regulatory framework that delivers reliable, stable, efficient and secure financial markets.

Adopting a phased, risk-calibrated approach to introduce competition in C&S services will enable all relevant stakeholders to maintain confidence in the reliability, stability and security of Australia’s financial markets, while allowing Australia to reclaim its former position at the global frontier of financial markets infrastructure.

There are three key phases to returning Australia to the global frontier of financial markets:

1. Grant regulatory relief for new entrants in C&S markets.

2. Enable interoperability amongst C&S systems.

3. Evolve the market structure to ensure responsible competition in C&S markets.

Read the full report here.