The analysis of risk and risk mitigation techniques in payment and securities settlement systems and the impact on central banks? oversight

The risks, which arise within payment and securities settlement systems, can be of different nature and different can be their probability of materialisation. Overseers are particularly concerned about the occurrence of systemic risk and all other risks which might, directly or indirectly constitute a threat to financial stability. Hence overseers attach importance to assess how systems operators (when made use of the word "system" in the text, it refers to both payments and securities settlement systems) and technical agents currently mitigate the exposures which arise within those systems they operate. Due to the fact that risks can be different within payment or securities settlement systems, the mitigation techniques implemented by risk-takers, such as operators and technical agents, can be various. As concerns risk-takers, they can be faced with the need to find a balance between their business needs, the market demand and the risk-adverse attitude adopted by overseers. Hence their capability to fully mitigate risks might need to be seen in the light of what would theoretically represent a first best solution under a risk-adverse attitude on one hand and what represents currently best practice on the market on the other hand. The first chapter of the study provides with a description of the different systems' exposures followed by an explanation of the scope of the respective mitigation techniques and its use currently done within the Luxembourg environment. In this context, Clearstream Banking Luxembourg operates the Luxembourg-based securities settlement system, while LIPS-Gross and LIPS-Net represent the Luxembourg payment systems. As concerns overseers, the evaluation of exposures and of the availability and appropriateness of risk mitigation techniques is an exercise which they might undertake continuously. Hence, the second chapter describes an oversight framework which can be implemented indifferently to payment and to securities settlement systems. The tools, which are described in the text, have been shaped in a way so as to assess both, exposures and mitigation mechanisms. Their aim is to: (a) enable an understanding of existing risks in the context of payment and securities settlement systems and to foresee possible future exposures which might arise from systems' developments or external threats. Tools which satisfy this aim can be defined as research tools; (b) enable the assessment of the availability and appropriateness of risk mitigation mechanisms currently in use on the market. Tools which satisfy this aim can be defined as assessment tools; (c) enable overseers to react promptly in case of contingency and to contribute, when possible, to a timely reduction of the costs incurred by counterparts after an exposure has materialised. Tools which satisfy this aim can be defined as intervention tools and/or procedures. The use of the different instruments is interconnected. Research tools permit to systematically gain a wide understanding of the threats arising from the financial market and to achieve knowledge of the vulnerabilities within a system. The result of the research permits to dynamically identify the roots of exposures, to assess in turn if the risk mitigation techniques adopted by overseen systems might be adequate and if current mitigation mechanisms could cover new threats in the process of development. This evaluation permits to shape at best the procedures and the intervention mechanism to be used by overseers in case of crisis and contingency. Hence, the aim of assessing risks and risk mitigation techniques in the context of central bank's oversight of payment and securities settlement systems can be defined as an ongoing process which finds its major root in the developments overseen systems are subject to and finds one of its major reasons in the developments overseers might achieve in terms of safety and efficiency within the systems they oversee.