From the Regulators

DLT arrangements could help enhance market transparency and risk management, but there could be negative implications to consider

By James Langton |

 

A new report from the Bank for International Settlements (BIS) issued on Monday aims to help central banks, policymakers and financial services firms assess the possible uses and risks involved with the introduction of distributed ledger technology (DLT) within payments systems.

The BIS report, which comes from its standard setter for payments systems, the committee on payments and market infrastructures (CPMI), examines the prospect of distributed DLT, also known as blockchain technology, in payment clearing and settlement. The report is intended to provide regulators with an analytical framework for analyzing the use of distributed ledgers and the potential implications for efficiency and safety for the broader financial markets.

DLT arrangements "could have implications for broader financial market risks," among other things, the report suggests. For example, on the upside, it may help enhance market transparency and risk management. At the same time, the report says there could be negative implications.

For example, in an environment of automated contract tools, "macroeconomic conditions could automatically trigger margin calls across [financial market infrastructures], leading to severe liquidity demand across the financial system and creating a systemic event," the report suggests.

Therefore, it's important for policymakers to understand how possible automation tools could be correlated across the financial system and to "assess whether additional protections are needed to prevent contagion," the report says.

In addition, DLT structures could impact the overall financial market structure, particularly if it leads to the disintermediation of certain functions or entities, the report says: "Such a change in business practices may affect the competitive balance in financial markets and have implications for financial market architecture."\

Other issues include privacy and security; governance and operational procedures to deal with exceptions; connectivity issues and standards development.

"Central banks and other authorities should weigh the risks of using blockchain and other DLT in payment, clearing and settlement against potential cost and efficiency savings offered by the technology," the report says.

"Distributed technology could become a game changer for payment, clearing and settlement activities if fintech companies and financial institutions can leverage the technology to meet demanding legal, operational and risk management requirements," says Benoît Cœuré, chairman of the CPMI, in a statement.

"Central banks have traditionally played an important catalyst role in payments and settlements," he adds. "This report will help central banks, other authorities and the public identify the risks as well as the benefits associated with the emerging technology, which could be the basis for next-generation systems."

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