Financial service industry regulators are focused on observing systemic risk across enormously complex interconnected global financial institutions. While these systemically important financial institutions continue to improve their enterprise risk management systems, regulators are now intent on imposing further regulations to analyze the risk exposures that arise across these firms.
Many attempts are underway to understand how to aggregate risk within and across financial institutions and provide for transparency of financial transactions and risk exposures. It is understood that without an ability to view the underlying positions and cash flows, valued in standard ways and aggregated by counterparty through common identifiers, neither risk triggers nor risk exposures can be observed nor can systemic threats be detected.
It has been accepted by regulators that the very first pillar of global financial reform is a standard for identifying the same financial market participant to each regulator in the same way. Getting agreement on a globally unique and standardized legal entity identifier (the LEI) is the first step.
Our research has focused on the past and current efforts by industry members and sovereign regulators, newly empowered through the G20’s Financial Stability Board (FSB) to develop a global identification system for such purpose. We have reviewed the origins of systemic risk in the financial industry and its related data issues and how standard identification of financial market participants and the products they trade connects to regulators’ and financial institutions’ ability to analyze systemic risk. This has resulted in our proposals for a global identification system and approaches taken in other industries and economic sectors.
Financial InterGroup has proposed a government and industry partnership in which governance is shared and operating elements of the global identification system are compartmentalized for control, security and confidentiality purposes. This is underpinned by a global standards convention designed by Financial InterGroup with its operational and technical implementation. The standard proposed is a set of eleven (11) unique, unambiguous and universal characters constructed around a two part apportionment and assignment process between regulators and financial market participants. It is shown that this two part construction is essential to accommodate requirements of sovereignty, control and confidentiality put forward in more recent regulatory requirements.
We are satisfied that our proposed global identification system addresses all known elements of regulators’ requirements for the LEI. It also lays the foundation for further rule making and issues yet to be addressed for contract and instrument identification, financial event identification and data aggregation of valued positions and cash flows for systemic risk analysis, the ultimate objective of the rule making.