A little-noticed fight is under way within the financial industry over new data-labeling standards. Although the dispute is esoteric in nature, at stake is the future of a system that could give globe-spanning banks vastly better insight into counterparty risks and offer regulators a way to head off the next financial crisis.
At the heart of the disagreement is the technical design of so-called legal entity identifiers, numeric codes that would distinguish market participants in much the same way that Social Security numbers do with individuals. But the dispute — which pits the Depository Trust and Clearing Corporation and the Commodity Futures Trading Commission on one side against international regulators, academics and nonfinancial companies — has raised concerns that the DTCC could seek to influence on the LEI process in ways that benefit itself or its organizers — giant U.S. financial institutions like JPMorgan Chase (JPM), Bank of America (BAC) and Goldman Sachs (GS).
DTCC officials and securities industry representatives have called such concerns outlandish. Even if they're correct, however, they have roiled an international body that appears intent on demanding that the LEI system remain independent of the DTCC and other industry bodies.
"The LEI system will de facto have a monopolistic element, so it needs to be under strict public governance," says Francis Gross, head of the European Central Bank's external statistics division, speaking in his capacity as vice chairman of the Financial Stability Board group responsible for implementing a global LEI system. "We don't want the tail to wag the dog."
Financial data experts say that while developing a global system offers great promise, it will also require an unprecedented level of cooperation among the various players to create.
"This is the CFTC causing a problem, and the DTCC willingly playing the tune," says a person familiar with the FSB effort but not directly involved in the implementation group. A major fight can still be avoided, but only if the CFTC and DTCC are willing to abandon their current approach, says the person, who wished to remain anonymous because of the ongoing talks.
Even those less invested in the technical issues of the numbering scheme say it has become a significant distraction.
"Whatever it takes to get it done, we should all swallow hard and do," says Mike Atkin, managing director of the Enterprise Data Management Council, a financial industry nonprofit devoted to improving data quality and standards. A functional LEI system would be "a big gift for the industry, and we should stop whining about the other things."
Soiling the Sandbox
The need for legal identifiers arises out of a simple problem: Unlike scannable FedEx packages, or toothpaste tubes printed with bar codes, financial institutions have never been labeled with comprehensive and universally recognized tracking data. Even the divisions of a single bank sometimes identify the same counterparty differently, confounding efforts by its own executives and regulators to track and manage its risks.
Establishing a universal system of codes that permanently identifies market participants is the essential first step in establishing a global tracking system. Proposals for such systems have circulated for many years, but it was the inability of regulators to obtain clean counterparty data during the financial crisis that ultimately gave such initiatives international momentum.
An LEI system would "do the one job that markets could not achieve by themselves ... which is to effectively standardise the most basic data," Gross says. "It's a very simple thing, making sure you are called Jeff by everyone who knows you."
The U.S. enshrined the concept in the Dodd-Frank Act, which requires the CFTC to establish swaps market identifiers. Internationally, the G-20's Financial Stability Board established expert working and advisory groups early this year.
That international process is moving along under the supervision of the FSB implementation group and a nearly 200-member Private Sector Preparatory Group advisory body. The latter organization holds discussions about proposals via email and at occasional meetings, the next of which is scheduled in Basel, Switzerland, next week. Given the size of the group, its work methods are "tedious," but thorough and engineered to build consensus says the Enterprise Data Management Council's Atkin.
The U.S., meanwhile, has sought to fast-track its numerical identification initiative. Facing pressure to roll out a new ID system, the CFTC put the creation and administration of an initial system out for bidding earlier this year. The DTCC, a 501(c)3 backed by large financial institutions, won the contract this summer in a partnership with the Society for Worldwide Interbank Financial Telecommunication (SWIFT), which operates a secure network through which financial institutions route information about financial transactions.
They two organizations rapidly designed a tracking system for the CFTC and sought to roll it out as soon as possible. The DTCC has already assigned a total of 26,000 of the codes, called "CFTC interim compliant identifiers." Under the CFTC's rules, swaps dealers and major participants were supposed to have adopted the codes starting on October 12, though that date has been pushed back and CFTC officials have stated there is no immediate plan to enforce it.