HOW TO How to Organize Central Securities Depositories in Developing Markets - Key Considerations - IMF
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HOW TO
NOTES
How to Organize Central
Securities Depositories
How to Organize Central Securities Depositories
in Developing Markets
in Developing Markets: Key Considerations
Key Considerations
NOTE 19/01
NOTE 19/01Monetary and Capital Markets Department
How to Organize Central
Securities Depositories in
Developing Markets
Key Considerations
Prepared by Froukelien Wendt, Peter Katz, and Alice Zanza
I N T E R N A T I O N A L M O N E T A R Y F U N D©2019 International Monetary Fund
Cover Design: IMF Multimedia Services
Composition: The Grauel Group
HOW TO NOTE
Monetary and Capital Markets Department
How to Organize Central Securities Depositories in
Developing Markets—Key Considerations
Prepared by Froukelien Wendt, Peter Katz, and Alice Zanza
Authorized for distribution by Jihad Alwazir
ISBN: 978-1-48439-731-2
ACKNOWLEDGMENT
This note is a product of a project supported by the
Financial Sector Reform and Strengthening Initiative (FIRST).
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www.imf bookstore.orgHOW TO ORGANIZE CENTRAL SECURITIES DEPOSITORIES IN
DEVELOPING MARKETS—KEY CONSIDERATIONS
Introduction and Summary finding the model that best fits their country. Based on
The key objective of this note is to support author- the guidance, different countries may come to differ-
ities in their decision making about the optimal ent conclusions. The outcome for country A may be
organization of central securities depositories (CSDs) to pursue a single CSD operated by the central bank,
in their country. For the purpose of this note, a CSD whereas the outcome for country B may be to pursue
is defined as an entity that provides securities accounts, a single CSD operated by a private operator. Simi-
a securities settlement system, and central safekeeping larly, multiple CSDs could be the optimal solution for
services to market participants, which can be banks some countries.
and other financial institutions.1 These services are The main recommendation is that authorities should
further described in Box 1. strike the right balance between safety and efficiency
In their interactions with countries worldwide, the considerations for securities markets. Although a
IMF and World Bank have noted that authorities in single, private CSD can be the most efficient solution
developing markets, in particular central banks, may from a cost perspective, this option should be pursued
grapple with two questions: (1) whether to pursue a only if there is a strong indication that the safety and
single CSD to increase market efficiencies and benefit soundness of the securities market are not at stake. In
from economies of scale and scope and (2) whether the same vein, although central banks may consider
to partake in the governance of the CSD as owner that owning and operating a CSD is not in their
or operator. core mandate, a CSD can be owned and operated by
This note presents seven considerations for author- private entities only if these entities have the capacity
ities to take into account when answering these to address public interests. Otherwise, the central bank
questions and determining the best model for their may be best placed to own and operate the CSD.
country (Box 2). There is no evident international Furthermore, three cornerstones underpin any decision
best practice on how to organize CSDs at a national about (re)organizing CSD functions: a sound legal
level. Rather, the note argues that the optimal model framework; effective supervision and oversight; and
depends on the country’s specific circumstances and cooperation and coordination amongst all stakeholders,
features, such as the size of its markets, the strength of both private and public.
private operators, and the level of market development. The guidance in this note is based on a combina-
The seven considerations are supplemented by deci- tion of theory and country cases. The note takes into
sion trees, which are intended to guide authorities in consideration academic literature; relevant interna-
tional standards; and best practices worldwide, notably
This note was prepared by Froukelien Wendt, Peter Katz, and the CPSS-IOSCO Principles for Financial Market
Alice Zanza. The authors are grateful for the input from the central Infrastructures (PFMI) and the most recent results
banks and other supervisory authorities from India, the Kyrgyz
Republic, Lithuania, Mexico, the Philippines, Rwanda, and
of the World Bank Global Payment Systems Survey.2
Tanzania, and comments from Darryl King, Fady Alrayyes, Noritaka The note also benefited from IMF and World Bank
Akamatsu, Roberto José Campo, José Antonio Garcia, Maimouna missions to a range of countries in different parts of
Gueye, Vachara-koon Jivakanont, Elias Kazarian, Tanai
the world, specifically the Kyrgyz Republic, Mexico,
Khiaonarong, Raúl Morales Reséndiz, and Wilson Varghese.
Research assistance was provided by Shaoyu Guo. the Philippines, and Tanzania. Further in-depth under-
1A securities settlement system may operate independently from a standing was gained from interactions with authorities
CSD, but in developing markets CSDs typically also operate a from India, Lithuania, and Rwanda.
securities settlement system. That is why this report defines a CSD
as an operator of a securities settlement system, among other roles.
2CPSS is the Committee on Payment and Settlement Systems,
Some CSDs in developed markets may have additional functions,
such as credit provision (often under a banking license) or accepting which changed into the Committee on Payments and Market
cash deposits. These functions are typically not a feature of CSDs in Infrastructures in 2014. IOSCO is the International Organization of
developed markets and therefore not included in the definition. Securities Commissions.
International Monetary Fund | January 2019 1MONETARY AND CAPITAL MARKETS DEPARTMENT HOW-TO NOTES
Box 1. Central Securities Depository Services
A central securities depository (CSD) may be a settlement of securities often involves the delivery of
fully-fledged automated system but may also be a securities against payment, mitigating principal risk.
manually operated register of securities accounts. •• Central safekeeping services: A CSD keeps securi-
Services of a CSD typically include the provision of ties on behalf of customers, with the aim of ensur-
the following: ing (1) the integrity of securities issue records (that
•• Securities accounts: Issuers of securities may is, that securities are not accidentally or fraudulently
deposit their securities into a CSD, allowing created or destroyed or their details changed; see
investors to hold and trade these securities in a CPSS-IOSCO 2012) and (2) the integrity of the
centralized system. In many countries, the CSD customer records (that is, the customers’ holdings
provides securities accounts to banks and other pro- are accurate and not fraudulently altered).
fessional entities that hold the securities on behalf •• Asset services: These services include the adminis-
of investors. In some countries, investors may open tration of corporate actions and redemptions, such
an account in the CSD directly, without intermedi- as interest payments and dividends.
ation of banks or other financial entities. •• Registrar services: These services entail mainte-
•• A securities settlement system: A securities set- nance of the definitive record of legal ownership
tlement system enables securities to be transferred of securities and issuer services. Although in many
and settled on securities accounts according to a countries the CSD fulfils the registrar function,
set of predetermined multilateral rules. The trend in some countries another entity may serve as the
in developing markets is toward automated book official securities registrar. If the CSD is not the
entry processing of dematerialized or immobilized official securities registrar, regular reconciliation
securities. However, in some countries the debiting between the CSD and the official registrar needs to
and crediting of securities accounts takes place man- take place.
ually and securities are still in physical form. The
This note is targeted at decision makers responsible •• A CSD supports market development through the
for the organization of CSDs in a country, but also provision of a central service for clearing and settle-
aims to inform the broader public. Typically, country ment, thereby supporting trading, capital formation,
authorities involved in the decision-making process and (indirectly) liquidity in the market. Cirasino
comprise ministries of finance, central banks, secu- and others (2007) mention that a strong, capital-
rities regulators, and other relevant authorities. They ized, autonomous CSD, with reliable and flexible
often work in close consultation and coordination systems to expedite settlement of transactions and
with the private financial sector, including the stock accessory rights, is crucial for the development of
exchange, private operators of CSDs, clearing houses, securities markets.
banks, custodians, and broker-dealers. The note also •• In most countries, the CSD is classified as a sys-
aims to support policymakers in general, international temically important infrastructure given its central
standard-setters, and other parties involved in financial role in a market. The internationally accepted
market infrastructure issues. presumption is that, in principle, all CSDs are
systemically important at least in their own jurisdic-
tion (CPSS-IOSCO 2012). CSDs are central nodes
Public Function of a CSD in a financial network of operational and financial
Country authorities typically have an interest in an exposures through connections between member
efficient and safe CSD, because CSDs have a public banks and other financial institutions. A failure in
function and should therefore be able to address public the CSD could disrupt securities markets and cause
interests. The following are the most important reasons broader financial and economic instability through
the CSDs have a public function: propagation of operational or financial losses. An
important connection arises from the direct rela-
2 International Monetary Fund | January 2019How to Organize Central Securities Depositories in Developing Markets—Key Considerations
Box 2. Seven Considerations for the Organization of Central Securities Depository Functions in
Developing Markets
1. Efficiencies through a single central securities high fixed cost of CSDs’ information technology
depository (CSD) systems.
The concentration of central securities depository 4. Promotion of public interests
services into a single CSD can bring efficiencies in the The CSD should promote public interests, such
form of economies of scale and scope. Efficiencies can as financial stability and financial market develop-
reduce the costs and complexity of the settlement and ment. Also, the CSD should be able to support the
safekeeping of securities, and increase the general ser- implementation of monetary policy, government debt
vice level and innovation. However, the potential for management, and supervision and monitoring of the
efficiencies should be estimated, as limited potential financial institutions.
efficiencies may indicate that a single CSD is not the 5. Sufficient financial resources and human
best solution for some (often larger) markets. resources
2. Efficiencies through links between CSDs The operator of a CSD should have sufficient
In some cases, market efficiencies can be increased resources (financial and human) to support CSD
through links between multiple CSDs, particularly operations.
in large, developed markets. Links between CSDs are 6. Compliance with international standards
often not a useful tool for smaller or developing mar- The operator of a CSD should be compliant with
kets due to the high fixed cost of CSDs’ information the requirements laid down in international standards,
technology systems. such as the Principles for Financial Market Infrastruc-
3. Efficiencies through competition among CSDs tures, or should be able to comply within a reasonable
In some cases, market efficiencies can be obtained time frame.
through multiple, competing CSDs, in particular in 7. Good reputation and integrity
large, developed markets. Competition is not a useful The operator of a CSD should have a good reputa-
tool for smaller or less developed markets due to the tion and high integrity.
tionships between a CSD and the payment system the capital market, and other purposes. A central
of the country—for example, the real-time gross set- bank’s intraday credit, either for monetary policy or
tlement (RTGS) system to facilitate delivery versus payment systems purposes, relies heavily on timely
payment settlement of securities transfers. availability of collateral.
•• Many governments rely on markets for govern-
ment securities to fund their budgets, manage their In most countries, the public function of CSDs for
liquidity, and access information to develop their government securities is more prevalent than the pub-
debt strategy. Difficulties in CSDs could disrupt the lic function of a CSD for corporate securities (equities
credibility of the government’s debt management and corporate bonds). The five reasons just mentioned
program and undermine investor confidence. typically apply to a CSD for government securities,
•• Central banks rely heavily on CSDs to carry out whereas this may be the case less for a corporate
monetary policy through open market operations securities CSD. Government securities are issued by
with government securities or other securities that the ministry of finance, whereas corporate securities are
are held within the CSD. Disruptions in CSD oper- issued by private sector issuers. Also, government secu-
ations could (1) disrupt the ability of a monetary rities are typically used for monetary policy operations
authority to implement monetary policy effectively; and are considered high-quality collateral. Neverthe-
and (2) fully service the needs of the central bank less, CSDs for corporate securities are not exempted
for liquidity provisioning in the RTGS system, from addressing public interests, as they are critical
in particular when the RTGS system operates for the development of securities markets. Also, their
around the clock. central role requires a sound risk profile that supports
•• CSDs are essential for the timely posting or the stability of securities markets.
delivery of collateral for payments, development of
International Monetary Fund | January 2019 3MONETARY AND CAPITAL MARKETS DEPARTMENT HOW-TO NOTES
Figure 1. Regional Differences in the Organization of Central Securities Depositories
Other developed countries (10)
Euro area countries (17)
Sub-Saharan Africa (13)
South Asia (5)
Middle East and North Africa (9)
Latin America and the Caribbean (17)
Europe and Central Asia (11)
East Asia and the Pacific (13)
0% 20% 40% 60% 80% 100% 0% 20% 40% 60% 80% 100%
There is a single CSD for all types of securities in the country Central bank operated
There are two or more CSDs, each handling only certain types of securities Non-central bank operated
There are two or more CSDs, each handling all types of securities
Source: World Bank Global Payment Systems Survey 2015.
Authorities can address the public function of CSDs The GPSS shows a range of different practices in the
in various ways. First, authorities can make sure CSDs number of CSDs established and in CSD governance
comply with strict requirements in the areas of gov- arrangements. Of the 95 countries that responded to
ernance, risk management, and operational reliability, the most recent survey, 55 have a single CSD for all
based on sound regulation, supervision, and oversight types of securities, and 34 have two or more CSDs,
of CSDs, allowing authorities to induce change where each CSD handling only certain types of securities (for
needed. International standards, in particular the example, only government securities or only equities).
PFMI, provide a framework for this. Second, author- Only six countries have multiple CSDs, each CSD
ities can organize CSDs in their country in a safe and handling all types of securities. Governance arrange-
efficient manner. This entails decisions about not only ments also differ, with varying roles for the public and
the number of CSDs and the type of securities settled private sectors. Of all CSDs worldwide, 33 percent are
by each CSD, but also whether central banks play a operated by the central bank and 67 percent by the
role in the development of capital markets—for exam- private sector.
ple, through contributing to the setup capital of CSDs According to the GPSS, differences between regions
or by operating the CSD. Also, public authorities may are substantial when it comes to CSDs. In Europe, and
partake in the governance structure of a CSD—for in particular the euro area countries, a single CSD is
example, as a shareholder or through a seat in the most prevalent, whereas in South Asia the preference
board of the CSD. Central banks also can facilitate the appears to be for two CSDs at a national level, one for
cash settlement of securities transactions through the government securities and one for equities (Figure 1).
central bank payment system in central bank money. In the Middle East and North Africa, and in east Asia
This second set of issues is discussed in the remainder and the Pacific, all types of CSDs can be found. Gov-
of this note. ernance arrangements also differ greatly, with a strong
operational role for central banks in sub-Saharan Africa
and a very limited operational role for central banks in
International Practices the euro area. The latter can be explained by evolv-
An analysis of international practices may help ing views about deregulating financial markets in the
address questions about the organization of CSDs in a 1990s, which resulted in central banks shifting their
country. To that purpose, this section provides global CSD activity in connection with government securities
data based on the World Bank Global Payment Sys- to the private sector (Kazarian 2006).
tems Survey (World Bank forthcoming).
4 International Monetary Fund | January 2019How to Organize Central Securities Depositories in Developing Markets—Key Considerations
Figure 2. Types of Securities Settled by Central Figure 3. Central Securities Depository
Banks and Non-Central Bank Operators Governance per Income Level
100%
90%
Non-central bank operated 80%
70%
60%
50%
40%
Central bank operated
30%
20%
0 20 40 60 80 100 10%
Number of CSDs 0%
The CSD handles only government securities Low Lower-middle Upper-middle High
The CSD handles only corporate securities Income (7) Income (33) Income (48) Income (50)
The CSD handles both government and corporate securities Central bank operated Non-central bank operated
Sources: World Bank Global Payment Systems Survey 2015; and Sources: World Bank Global Payment Systems Survey 2015; and
IMF staff. IMF staff.
However, the survey data also highlight some global outsourcing created single CSDs that handle govern-
common themes. First, CSDs operated by central ment and corporate securities (for example, equities,
banks typically handle only government securities. This corporate bonds, and warrants).
reflects the fact that in many countries, the central Third, large markets could be less inclined to adopt
bank is the agent for the ministry of finance, mandated a single CSD. Figure 4 displays the relationship
to ensure safe primary and secondary market opera- between the size of the country (by population) and
tions for government securities. In developing markets, the existence of multiple CSDs in the country. A high
the central bank is generally the preferred operator due population size may point to larger markets and a
to its reputation, neutrality, and risk profile. . Further- somewhat smaller need to search for further efficien-
more, the central bank typically operates the real-time cies. This may explain why, for example, countries with
gross settlement system for interbank payments, large securities markets, such as China, the United
allowing cash and securities settlement under the States, and India, have multiple CSDs.
governance of a single entity and in some cases on the
same platform.
Figure 2 shows that of the 138 CSDs incorporated Seven Considerations
in the World Bank GPSS, 45 were operated by a cen- Although international practices are useful to gauge
tral bank, of which 38 handled government securities common themes, more guidance is needed to make
only. In contrast, none of the privately operated CSDs decisions about the organization of CSDs in a country.
handle only government securities. This section provides authorities with seven consider-
Second, private sector–operated CSDs dominate in ations to take into account in their decision-making
high-income countries (Figure 3). This illustrates that process. The considerations can be applied when there
the central bank is usually heavily involved during is no CSD in the country and authorities plan to
the early stages of setting up a securities market, but establish one or more, or when authorities are recon-
outsources the operations to the private sector once sidering a country’s existing structure. An opportune
the market develops. Indicators of market development time to reconsider the organization of CSDs may
are, for example, a regular and fully subscribed issuance arise when (1) an existing domestic CSD undertakes
of government securities, a diverse investor base, and a review to modernize its technology, (2) the central
an active secondary market in treasury bills. Examples bank reconsiders its role in providing securities and
of countries that have outsourced CSD operations settlement services as a core function, (3) the market
include the United Kingdom, Canada, and Italy. This
International Monetary Fund | January 2019 5MONETARY AND CAPITAL MARKETS DEPARTMENT HOW-TO NOTES
Figure 4. Multiple Central Securities Depositories in Large Countries
100%
90% There are two or more CSDs,
each handling all types of securities
80%
70%
60%
50% There are two or more CSDs, each
handling only certain types of securities
40%
30%
20%
There is a single CSD for all types
10% of securities in the country
0%
5 million, 30 million (32)
Source: World Bank Global Payment Systems Survey 2015.
is subject to frauds, or (4) as part of a coordinated “efficiency considerations” and “safety considerations”
market-wide review to develop the securities market. (Figure 5). The considerations are complemented by
The seven considerations aim to support deci- three cornerstones, which are necessary conditions for
sions about the number of CSDs in the country the sound and stable operations of CSDs. The seven
and their governance structure—that is, whether to considerations and three cornerstones are discussed in
pursue a single CSD or multiple CSDs, and whether the remainder of this section and complemented by
the operations or ownership should be in public or decision trees.
private hands. The considerations are grouped into
Figure 5. Considerations and Cornerstones for the Organization of
Central Securities Depositories
4. Promotion of public interests
5. Sufficient financial and human resources
6. Compliance with international standards
Efficiency
considerations 7. Good reputation/integrity
Seven
Considerations:
1. Efficiency through a single CSD Safety
considerations
2. Efficiency through links
3. Efficiency through competition
Three 1. Sound legal and 2. Effective supervision 3. Coordination and
Cornerstones: regulatory framework and oversight cooperation
Source: IMF.
6 International Monetary Fund | January 2019How to Organize Central Securities Depositories in Developing Markets—Key Considerations
Box 3. Literature on Efficiencies in Central Securities Depositories
One of the first studies that explicitly addressed institutions show an increasing trend toward cost
economies of scale in central securities depositories effectiveness.
(CSDs) is Schmiedel, Malkamäki, and Tarkka (2004). Van Cayseele and Wuyts (2007) confirm evidence of
This paper investigates the existence and extent of large economies of scale in the clearing and settlement
economies of scale in depository and settlement industry by estimating alternative multiproduct cost
systems. Evidence from 16 settlement institutions functions of settlement providers and quantifying the
across different regions in the world (for the years cost savings potential through economies of scale in
1993–2000) indicates the existence of significant European CSDs. They, too, find that smaller institu-
economies of scale. The degree of such economies, tions especially stand to gain from scale economies,
however, differs by size of settlement institution and but they also identify the potential for larger operators
region. While smaller settlement service providers to grow along a cost-reducing path.
reveal a high potential of economies for scale, larger
Single or Multiple CSDs may bring economies of scale and scope to a market.
A key consideration in determining the optimal This implies that the average cost per settled securities
number of CSDs is efficiency. Efficient CSDs (that is, transaction diminishes with an increase in the num-
CSDs that optimally use their resources) contribute to ber of transactions. The IT infrastructure of CSDs
the development of securities markets, with higher lev- is characterized by relatively high fixed costs. The
els of service, lower prices, and appropriate investments integration of several platforms into a single system
in risk-management systems, which may attract issuers that settles many transactions is likely to be more cost
and investors. Country authorities can pursue efficient efficient than the juxtaposition of several systems for a
CSDs using multiple approaches: (1) concentration of single local market (Kazarian 2006). Consolidation of
all CSD activities in a single CSD, (2) links between settlement activities into a single CSD may therefore
multiple CSDs, (3) competition among multiple reduce overall costs per settlement transaction, increase
CSDs, and (4) the use of a cross-border CSD. Which market efficiencies, and support market development
approach should be taken depends on the characteris- and growth. Box 3 summarizes existing literature about
tics of the country as discussed in the considerations efficiency gains in CSDs.
1–3. In making choices about design and operation, Economies of scale can be realized using one IT
efficiency considerations should be carefully weighed infrastructure for the same type of securities, whereas
against safety considerations. economies of scope can be realized through one IT
infrastructure for different types of securities. Econ-
Consideration 1—Efficiencies through omies of scale occur when multiple CSDs settling
a single CSD the same type of securities merge into one entity. In
The concentration of central securities depository the case of economies of scope, efficiencies occur if a
services into a single CSD can bring efficiencies in CSD extends its service provision to multiple types
the form of economies of scale and scope. Efficiencies of securities—for example, not only equities, but also
can reduce the costs and complexity of the settlement government securities and central bank securities. The
and safekeeping of securities, and increase the general marginal cost of adding a security type to a single plat-
service level and innovation. However, the potential form is often significantly less than the cost of running
for efficiencies should be estimated, as limited potential two systems in parallel. Despite differences between
efficiencies may indicate that a single CSD is not the the settlement of equities and government securities,
best solution for some (often larger) markets. the main IT infrastructure is typically the same for all
types of securities.
Theory and practice suggest that the concentration An estimation of potential efficiencies is an import-
of CSD activities into a single entity and platform ant input into decisions about integrating CSD opera-
tions. Significant potential efficiencies support the case
International Monetary Fund | January 2019 7MONETARY AND CAPITAL MARKETS DEPARTMENT HOW-TO NOTES
Box 4. Central Securities Depository Technology Options
Central securities depository (CSD) technology is configurations are proven to international standards;
critical for the delivery of both safe and efficient CSD (3) experience can be gained from other users of the
services, and is relevant for many of the seven consid- technology, for example, through forums; and (4) the
erations. Technology—that is, the software, hardware, software typically has a shorter implementation time
and networks to process, distribute, and store pay- with lower risk of nonperformance.
ment, settlement, and custody data—should be able to New technology developments typically bring
perform without significant disruptions and incidents, improvements to existing technology in the sense of
ensuring a high availability rate. CSD technology that more robust systems and communication security.
is not robust will result in the reduction, or break- Distributed ledger technology is a new technology in
down, of services provided by the CSD, damage the which ledgers—records of transactions or ownership of
CSD’s reputation, and system-wide financial losses. assets and liabilities—can be maintained and updated
Also, CSD technology should be practical and cost securely (called “validation”) for an entire network of
efficient for its users. users by users themselves––rather than by a central
Authorities can decide whether to develop in-house agency (He and others 2017). While proponents claim
systems or buy systems “off-the-shelf.” Decision mak- that distributed ledger technology brings potential
ers typically have to periodically consider the relative safety and efficiency improvements, many issues still
cost benefits of in-house-supported systems against must be addressed before benefits can be fully realized.
the alternative of vendor CSD systems. Many small to This technology may pose new or different risks, such
medium CSD operators modernize their services using as potential uncertainty about operational and security
CSD software from a software vendor as an alternative issues; lack of interoperability with existing processes
to in-house development. The benefits of using vendor and infrastructures; ambiguity relating to settlement
software include the following: (1) vendor software finality and the general legal underpinning of the tech-
is developed and utilized by other CSDs and does nology; and issues related to data integrity, immutabil-
not carry the high risks and testing effort required ity, and privacy (CPMI 2017).
for in-house systems; (2) the supporting hardware
for (re)organizing CSD functions, whereas minimum CSDs. For example, integrating settlement systems
or low cost savings indicate that there is not necessarily for government securities and equities combines
an efficiency reason to reconsider the number of CSDs. participants that are typically active in the govern-
An estimation may take the following potential cost ment securities market, such as primary dealers,
efficiencies into account: banks, and other investors, with participants that
•• The number of IT systems, networks, and interfaces are typically active in the equity market, such as
to be used by market participants, where an integra- broker-dealers.
tion of CSDs may imply less IT systems, networks, •• Required support functions, where an integration
and interfaces, resulting in an overall reduction of of CSDs may result in the need for less staff in sup-
costs and complexity. An integration of CSDs also porting functions, such as human resources, legal,
means a decrease of staff time needed for training finance, and audit departments. A single CSD also
and managing new releases and changes to the creates a single point for data entry and reporting
systems. The choice of a certain CSD technology is functions, to the benefit of multiple stakeholders,
instrumental in gaining these efficiencies (Box 4). including supervisors and overseers of the CSD.
•• The number of direct trading counterparties that •• Market resilience and developmental efficiencies. For
can be reached, where an integration of CSDs may example, from an international custodian’s perspec-
increase the number of participants joining the tive, a single point of entry is desirable because it
same clearing and settlement systems to the benefit is cheaper, less complex, and operationally more
of participants (and their clients) that can directly efficient. Custodians are less likely to service markets
settle transactions with more counterparties. These with a convoluted CSD structure.
cost efficiencies relate to the network character of
8 International Monetary Fund | January 2019How to Organize Central Securities Depositories in Developing Markets—Key Considerations
A single CSD is, however, not necessarily the best the two CSDs have established a link to facilitate
option for all markets or countries. Whether to pursue the settlement of government securities that are both
a single CSD depends on the dynamics and size of a traded over the counter and on the stock exchange, but
country’s financial market. When authorities consider are held in only one CSD (see Tanzania country case
merging two or more CSDs into one, evidence should in Section VI).
exist that there is indeed a potential for efficiencies, Another way of linking CSDs is through the adop-
including lower fees, an improved service level, and tion of the same technology. Using a shared technology
innovation. Some markets are so large that these platform (hardware and software) would reduce the
efficiencies are relatively minimal, and authorities required capital to service all securities markets with
may decide that the cost of integrating CSD opera- modern CSD systems, reduce the operating costs, and
tions does not justify the potential gains. The United therefore accommodate lower fees. Parts of the software
States, for example, is characterized by one CSD for could be sectioned off and secured so that CSDs can
government securities (Fedwire Securities Service) and independently manage their own business interests and
one for corporate securities (Depository Trust Corpo- promote the different securities markets. This is the
ration), but shows relatively low potential for further most integrated form of links, in which participants
economies of scale (Schmiedel, Malkamäki, and of each CSD will continue their relationship with that
Tarkka 2004). CSD, but all settlements are affected by the wholly
Efficiencies of a single CSD should not be achieved integrated systems of the linked CSDs. Georgia is an
at the expense of the safety of the CSD operations. It example of a country that is working toward the adop-
is not sufficient to promote a single CSD when the tion of a single technology for its two CSDs. Both the
efficiency gain is the sole consideration. It is equally CSD for government securities, operated by the central
important that the risks are sufficiently mitigated, and, bank, and the CSD for corporate bonds and equities,
in the case of a merger between two or more CSDs, operated by the stock exchange, plan to use the same
the risk profile of the newly established single CSD technology platform, which is maintained by the cen-
should be the same or improved compared with the tral bank. Such an approach also reduces the interfaces
old configuration. and dependencies between CSD systems, networks,
and other core infrastructure, such as RTGS systems,
Consideration 2—Efficiencies through and in that way reduces operational risk. Having both
links between CSDs securities (CSD) and cash (RTGS) legs under one plat-
In some cases, market efficiencies can be increased form operated by a central bank brings opportunity
through links between multiple CSDs, particularly in for settlement automation, including all transactions
large, developed markets. Links between CSDs are often settling on a delivery versus payment basis in central
not a useful tool for smaller or developing markets due bank money. At the same time, the different operators
to the high fixed cost of CSDs’ IT systems. are able to develop the rules and procedures in line
with their respective mandate and responsibilities.
Efficiencies can sometimes be obtained through Links between CSDs may provide fewer opportu-
links between multiple CSDs. Instead of realizing nities to benefit from economies of scale than a single
efficiencies through the creation of a single CSD, exist- CSD, since (some of ) the different IT systems remain
ing CSDs may link to increase the scope of securities operating next to each other. Links may also contain
they are able to settle. A link between CSDs is a set of operational, credit, and other risks, which need to be
technical and legal arrangements for the cross-system identified and managed. That is why in most markets,
transfer of securities. A link permits participants in especially smaller or developing markets, authorities
either CSD to trade and settle trades in securities that often choose to merge multiple CSDs into a single
are held in the other CSD of which the market par- CSD, instead of linking the CSDs.
ticipant is not a member. Instead, the market partici-
pant can access the CSD of which it is not a member
through its own CSD, which acts on its behalf and
functions as a “single gateway.” A link is typically more
cost efficient than the market participant becoming a
member in multiple CSDs. Tanzania is a market where
International Monetary Fund | January 2019 9MONETARY AND CAPITAL MARKETS DEPARTMENT HOW-TO NOTES
Figure 6. Decision Tree—Single or Multiple Central Securities Depositories
Does the market Can these Can these
have potential for efficiencies be efficiencies be Single central
efficiencies for all realized through realized through securities
Y N N
types of securities? CSD links? competition? depository
(CSD)
(consideration 1) (consideration 2) (consideration 3)
N Y Y
Multiple CSDs
Source: IMF.
Consideration 3—Efficiencies through competition among stock exchanges, including their
competition among CSDs CSDs, was introduced to bring efficiencies to the secu-
In some cases, market efficiencies can be obtained rities market (see India country case in Section VI).
through multiple, competing CSDs, in particular in The question is how much efficiency can be
large, developed markets. Competition is not a useful achieved with infrastructures that are typically monop-
tool for smaller or less developed markets due to the high olistic. Competition may work in large, liquid mar-
fixed cost of CSDs’ IT systems. kets, but may be less suitable for smaller markets. The
high fixed cost related to the maintenance of multiple
Instead of actively pursuing a single CSD, authori- CSDs can result in average transaction costs that are
ties may choose to stimulate competition among CSDs relatively high and discourage trading in the capital
to achieve greater market efficiencies. Competition is market. An estimation of potential efficiencies may
possible between CSDs that in principle offer the same therefore indicate that, in many markets, particularly
type of services for the same type of securities. The smaller markets in developing countries, competition
thought is that more competition generally leads to a may not work.
downward pressure on prices while stimulating inno- Also, caution is needed as excessive competition
vation and operational efficiency. If authorities make among central securities depositories may lead to a
a choice for efficiencies through competition, they lowering of risk standards. When competition leads to
should provide a legal framework that supports a level a deterioration of the CSD’s profitability, risk man-
playing field, particularly by ensuring fair and open agement, and service provision, eventually leading to a
access to potential users, price transparency, and suffi- bankruptcy, authorities may determine that competi-
cient incentives to innovate (Giovannini Group 2003). tion harms, rather than benefits, the market.
The European Union and India provide examples of The decision tree in Figure 6 summarizes how the
competition among CSDs. A European example con- various efficiency considerations may result in a choice
cerns the competition between the two international for the number of CSDs in a country. The figure
CSDs, Euroclear Bank in Belgium and Clearstream provides an example of the order and different steps of
Banking Luxembourg, that offer similar settlement and the decision process on this matter at a national level.
custody services in a range of similar products to an The same steps may be used at a cross-border level,
overlapping set of members. They actively compete, although the decision-making process would entail spe-
resulting in well-developed services to address customer cific aspects, as described in Box 5.
needs and competitive tariffs. Also, both CSDs are
potential substitutes in case one of the two faces oper-
ational or financial disruptions. Similarly, in India the Public or Private Operator
two CSDs for the corporate securities market compete. The question of whether public authorities should
With the liberalization of the capital market in 1992, be involved in the CSD’s governance relates directly
10 International Monetary Fund | January 2019How to Organize Central Securities Depositories in Developing Markets—Key Considerations
Box 5. Efficiencies through Cross-Border Integration
Sharing central securities depository (CSD) infra- •• Efficiencies can be gained through links between
structure on a cross-border basis can deliver efficiencies CSDs. These can be relatively simple agreements
for CSD technology development and infrastructure. among CSDs to facilitate direct or indirect
However, the decision to integrate CSD functions cross-participation among the participants in each
into a regional infrastructure should be compatible of the CSDs, but also more complex interopera-
with sovereignty principles and acceptable cross-border bility arrangements involving technical interfaces
legal, oversight, and governance arrangements. between the separate operating platforms. Links are
Authorities may consider partaking in cross-border regularly established between a local CSD and one
initiatives to integrate CSDs. Regional integration of of the international CSDs (Euroclear Bank or Clear-
CSDs typically aims at enabling cross-border trans- stream Banking Luxembourg) to allow members of
actions for financial market participants or for their the international CSD to settle transactions in local
customers, often between the countries within a region government bonds with local financial institutions
(World Bank 2014). Main drivers for integration are that have accounts in the local CSD and vice versa.
(1) political agreements among countries in a region Another example is the Mercado Integrado Latino-
with the objective to expand trade, increase investment americano initiative, in which the CSDs of Chile,
flows among market participants in the region, and Colombia, Mexico, and Peru link through common
deepen regional economic and financial integration; memberships in each other’s CSDs. Also, the Asian
(2) demands of customers or participants in national Development Bank proposed linking up the existing
CSDs to reduce settlement costs of cross-border trades Asian CSDs, as a possibility to further integrate
and facilitate access to regional and cross-regional mar- Asian securities markets (ADB 2014), following
kets and services; and (3) growth orientation through the example of the European “Link Up Markets.”
increased foreign investor participation, which deepens This initiative of eight European CSDs offers direct
and broadens regional financial and capital markets. access to eight markets via a single gateway to
Decisions about pursuing efficiencies in cross-border reduce costs of post-trade processing of cross-border
clearing and settlement arrangements can follow securities trading in Europe.
the same path as similar decisions at a national level •• Efficiencies can be gained through competition. For
(Figure 6): example, the European Commission4 promotes an
•• Efficiencies can be gained through the creation of efficient internal market through legislation that sets
a single CSD in the region. One example con- conditions for competition among national CSDs,
cerns the single regional CSD established in the and strengthens the level playing field through
Economic Community of West African States harmonized requirements and disposition of legal,
(WAEMU) for the issuance and settlement of secu- tax, and other barriers (Giovannini Group 2002).
rities issued by several governments in the region. Where the European Central Bank merged settle-
Euroclear S.A. is another example. Euroclear not ment activities onto a single platform (Target2Se-
only operates an international CSD, but also took curities), the national CSDs compete for depository
over seven national European CSDs.3 Although services, such as registry and asset services.
each of these national CSDs remained a separate In terms of risks, cross-border linkages create new
legal entity in its own country, Euroclear’s clearing challenges. The cross-border integrated CSD(s) faces
and settlement arrangements allowed for a more similar risks as a national CSD does. However, because
efficient settlement of domestic and cross-border of the cross-border nature of the regional arrangement,
securities transactions. A third example is Nasdaq these risks may take on new dimensions that may
OMX, which owns (indirectly, through its hold- be more difficult to understand and manage in an
ings in the relevant stock exchanges) a large part effective manner than in a single-country arrangement
of most of the national CSDs in the Scandinavian (World Bank 2014). Also, the impact of disrup-
and Baltic countries in Europe, realizing efficiencies tions may be more severe, as disruptions can spread
through harmonized procedures and information across borders.
technology platforms.
4Interestingly, the European authorities have chosen to facili-
tate two parallel approaches for achieving cross-border efficiencies
in cross-border clearing and settlement: (1) increased horizontal
consolidation across CSDs in member states; and (2) increased
3Belgium, Netherlands, Finland, France, Ireland, Sweden, and competition between among multiple providers of clearing and
the United Kingdom. settlement services (EU 2009).
International Monetary Fund | January 2019 11MONETARY AND CAPITAL MARKETS DEPARTMENT HOW-TO NOTES
to safety considerations. The answer depends on the •• The central bank or another public authority may
strength of the (envisaged) private operator and its be part of advisory groups, which are consulted
ability to address public interests through a safe CSD. by the management board of the CSD on spe-
Safe CSDs are critical for the development and safety cific topics—for example, fees, IT reforms, and
of securities markets. Poorly designed and operated legal issues.
CSDs can contribute to and exacerbate financial crises, •• The central bank or another public authority may
with disruptions impacting not only the CSD and its occupy seats on the supervisory board or the man-
participants, but more generally financial markets and agement board to represent the public interest. A
the broader economy (CPSS-IOSCO 2012). Such seat may be imposed by regulation or be voluntarily
weak CSDs hamper the development of securities adopted by the CSD itself.
markets and broader economic growth. In contrast, •• The central bank or another public authority may
international experience shows that resilient CSDs can take a stake in the ownership structure of the CSD.
be an important strength—giving market participants As such, the authorities can determine who will be
the confidence to fulfil their payment and settlement elected to the board of directors. The authorities are
obligations on time, even in periods of market stress— generally assured that the board members they elect
and an important building block in the development will take their interests into account in their deliber-
of securities markets. ations and be responsive to their concerns. Whether
Considerations 4–7 can guide authorities in decid- the stake is minority or majority depends on the
ing whether the private sector is capable of operating a legal and regulatory framework in the country, and
safe CSD, or whether (some form of ) involvement of the authorities’ confidence in the ability of the oper-
the public sector is needed. ator to address public interests.
Consideration 4—Promotion of public interests In some cases, authorities may decide that the public
The CSD should promote public interests, such as sector is the best place to fully own and operate the
financial stability and financial market development. CSD. This may be the case for the CSD for govern-
Also, the CSD should be able to support the implemen- ment securities, given its importance for the govern-
tation of monetary policy, government debt manage- ment debt issuance program and monetary policy
ment, and supervision and monitoring of the financial implementation. In special circumstances—for exam-
institutions. ple, in cases of multiple incidents of fraud or another
proven inability of the private sector to operate the
The public function of a CSD requires its owners CSD in the public interest—authorities may decide to
and management team to explicitly address public operate the CSD for all types of securities.
interest. This is first a responsibility of the CSD itself
(CPMI-IOSCO 2012, Principle 2). Supporting the Consideration 5—Sufficient financial
public interest is a broad concept that includes, among resources and human resources
other things, fostering fair and efficient markets; The operator of a CSD should have sufficient resources
striving for solid risk-management practices to support (financial and human) to support CSD operations.
financial stability; and considering interests of a range
of stakeholders, including the CSD’s participants, their An important requirement for a CSD operator is
clients, and the authorities. In that regard, investor that it has sufficient financial resources to invest in
protection is part of addressing public interests. modern IT systems and ensure sufficient capital to
If public authorities are of the opinion that the cover operational and other losses. A private operator
private operator of the CSD is not (fully) capable of must be able to raise capital for operations through the
addressing public interests, they may partake in the private sector. Typically, capital is needed to (1) fund
governance of the CSD. This role in the governance of investments in IT systems, networks, buildings, and
a CSD is in addition to authorities’ role in the regula- other needs to set up or maintain the CSD’s opera-
tion, supervision, and oversight of the CSD, which are tions; and (2) cover potential losses in extreme but
described later in this section. Public authorities may plausible circumstances, such as business losses in cases
consider several options (Russo and others 2004): of negative income and operational losses. Operational
losses can be the result of fraud, errors, and system
12 International Monetary Fund | January 2019How to Organize Central Securities Depositories in Developing Markets—Key Considerations
failures. Also, there may be credit risks and liquidity A CSD operator should be able to comply with
risks to be covered by the CSD’s capital. international standards. The PFMI are the main set of
Equally important, the CSD should have adequate applicable international standards, setting a benchmark
human resources. The CSD needs staff with advanced for safe and efficient systems while fostering trans-
knowledge and understanding of the different areas of parency and financial stability. The principles provide
the CSD’s operations. Staff should be competent to guidelines to identify and mitigate risks inherent in
run a safe and efficient CSD, in line with international a CSD’s operations, and promote resilience in the
standards. In that regard, staff should have knowledge event of major shocks. For example, the CSD operator
of, and be able to address requirements expressed in, should do the following:
the PFMI, to manage legal, credit, liquidity, opera- •• Address operational risk, including maintaining
tional, and other types of risks. In order to attract and robust and tested business continuity and disaster
sustain competent resources, CSDs should remunerate recovery arrangements and ensure a recovery of
their staff adequately in line with market terms. platforms and same-day settlement in the event of
The ministry of finance or the central bank may system hardware, software, or network failures.
decide to provide financial support to a private oper- •• Protect the integrity of the securities issues and
ator through a stake in the capital of the CSD. In minimize the risks related to the safekeeping of
smaller, developing markets, private entities often face securities, to safeguard the rights of securities issuers
difficulties raising sufficient capital and realizing an and investors.
income stream that fully covers the operational costs. •• Maintain securities in an immobilized or dematerial-
This often results in high transaction costs, which may ized form for their transfer in book entry form.
ultimately threaten the existence of the CSD. As this •• Manage credit and liquidity risks, through investing
hampers market development, public authorities may the CSD’s capital at accounts of safe counterparties.
decide to provide financial support through a stake •• Calculate and hold the necessary capital for the
in the ownership of the company (IMF and World CSD’s operations, enabling the CSD to cover credit,
Bank 2001). In the case of Rwanda, the central bank liquidity, or operational losses in extreme events,
of Rwanda decided to fully own and operate a single including natural disasters and cyberattacks.5
CSD for all types of securities to allow the private •• Ensure safe cash settlement, preferably through an
sector to build financial resources and human capacity electronic link with the interbank payment system
(see Rwanda country case in Section VI). In Lithuania, run by the central bank (which is often a real-time
the public authorities gradually reduced their owner- gross settlement system).
ship stake in the CSD, in reflection of strengthened •• Tailor securities settlement arrangements to needs of
capacity of the CSD, until the CSD was fully owned specific markets, and reduce principal risk through
by the private sector (see Lithuania country case in a delivery versus payment mechanism and short
Section VI). settlement cycles.
Public financing can be provided only in cases where •• Use international communication standards, such
a private operator is a stable and safe entity. Providing as SWIFT, ISO standards, and ISIN securities
financing to an entity with a bad reputation that is not numbering.6
able to operate a safe and efficient CSD, compliant
with international standards, nor support development A detailed assessment of a potential, new, or existing
of the securities markets, may be considered a waste operator of the CSD shows the level of compliance
of taxpayers’ money. In this case, it would be better with the PFMI.7 For example, when a central bank
to have the CSD be fully owned and operated by the
central bank. 5The calculation should include stress testing capital adequacy in
extreme but plausible scenarios.
6SWIFT stands for the Society of Worldwide Interbank Financial
Consideration 6—Compliance with Telecommunication; ISO stands for International Organization for
international standards Standardization; and ISIN stands for International Securities Identi-
The operator of a CSD should be compliant with fication Number.
7A template for an assessment is provided in the CPSS-IOSCO
the requirements laid down in international standards,
Principles for financial market infrastructures: disclosure framework
such as the PFMI, or should be able to comply within a and assessment methodology of December 2012, http://www.bis.org/
reasonable time frame. cpmi/publ/d106.htm.
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