The federal banks are waging with all their might what some big banks are calling a jihad that is imposing tough new rules. Some of the rules are justified, some are not. However, what is totally missing and all too important is countermeasures against all other obvious threats that are not big banks.
In fact, a looming systemic merger of non-banks poses a clear and present threat: Intercontinental Exchange Inc. (ICE). ICE, an already systemic global clearing and settlement firm, is now poised to gain even greater control over critical portals in the even more systemic $12 trillion mortgage market through a merger with real estate software company Black Knight.
If ICE is allowed to complete its acquisition of Black Knight, so much could go wrong so quickly that the company as a whole would need to be quickly classified as a systemic financial services provider and regulated as such by the Federal Reserve.
As previously defined in US laws and regulations, financial markets providers are entities that control systemic payment, settlement, clearing or exchange functions as defined by the Financial Stability Oversight Council (FSOC). Trillions of dollars silently flow through these companies every day. Financial markets utilities are like plumbing: we take them for granted, but we miss them — sometimes sorely — the moment things stop flowing, get stuck, or worse, flood. When this happens with trillions of dollars of payments, settlement, clearing, or exchange transactions per hour every business day, risk instantly shifts from the personal to the institutional, to the systemic, to the macroeconomic.
Why is ICE a financial services firm and how does its risk become even more insurmountable when it takes on Black Knight and is still immune to company-wide security and soundness regulations?
Regulators have acknowledged ICE’s existing systemic size in two relatively small parts of its global empire. In 2012, the US FSOC named ICE Clear Credit LLC a financial markets company because this company is a central counterparty that clears most US credit default swaps and derivatives, allowing financial institutions and even speculators to hedge credit risks or make big bets to act on it. This is clearly a systemic area – the total gross face value of outstanding credit default swaps is $10.9 trillion.
ICE also has a major financial markets presence outside of its credit default swaps clearing activities, controlling the New York Stock Exchange and numerous other equity, forex, commodity and bond market platforms around the world. The extent outside the US is impressive – for example in the UK has named ICE Clear Europe. In fact, ICE is so important in so many markets that its concerns over the implementation of Russia’s oil price cap set by G-7 leaders are ominous its implementation in the European Union.
Combining ICE’s global reach in core markets with a dominant role in U.S. mortgage financing would also increase the risk that even a minor operational hiccup would disrupt critical markets. Earlier this year, the NYSE suddenly went out of business. By the time it came back, investors had lost millions of dollars, but ICE was essentially telling them to take it like adults, until the SEC forcefully suggested otherwise.
Is that all the ICE entails? Absolutely not. As I have shown in a lengthy article, ICE’s control of key financial and mortgage market infrastructure creates clear systemic risk transmission channels using the standards by which global and US regulators measure and control them.
First and foremost is the fact that even a short-term ICE/Black Knight outage could shake financial stability as remaining major alternative providers of critical market infrastructure disappear under ICE’s dwindling market power.
This risk is already increasing due to the rapid adoption of “deep learning” versions of artificial intelligence in key trading and lending markets. ICE is among the players using AI, but it is beyond the reach of regulatory efforts to prevent discrimination or the highly correlated risks that result from opaque models influencing risk decisions in the capital and/or mortgage markets. ICE even plans to connect them after the Black Knight acquisition, for example by creating new futures and secondary markets for mortgages.
ICE/Black Knight would also operate outside the reach of stability-critical operational and settlement rules. The NYSE outage mentioned above is clear evidence that even a small outage is extremely disruptive when there are no alternative systems or commitments to get things back on track quickly.
What if an ICE/Black Knight default in credit default swaps, FX, commodities, mortgages, or some other market adversely affected one or both of the giant state-sponsored corporations whose temporary default in 2008 cost taxpayers hundreds Forced billions of dollars in bailouts? Systemically important banks and providers of financial markets are obliged to have emergency plans in place that ensure continuous operation even under acute stress. ICE must be required to do the same across the scale and scope of its operations, not just in the corners of its central counterparties.
Regulated banks and financial market providers must also ensure that solvency, liquidity or operational stress do not lead to system failure and leave gaping holes in global financial markets that only the taxpayer can fill. I’ve seen and done that before, and ICE shouldn’t pose risks that are all too well known to systemic regulators, let alone taxpayers.
We know that none of these risks are theoretical, as companies like ICE have a history of failing with such disastrous results. Although the extent to which non-bank financial companies should be systematically reported is controversial, neither the Trump nor the Biden administrations have done anything other than reaffirm the importance of the 2011 framework for labeling financial market utility. It has not been used since ICE’s central counterparty and other entities were designated as financial market providers in 2012.
A lot has happened since then in terms of concentrated market power, the increasing use of AI, the increasing digitization of critical infrastructure services and the risks of cybersecurity, geopolitical and even climate-related financial crises.
Any company as dominant and powerful as the combination of ICE and Black Knight requires the rapid mobilization of a systemic risk label to demand effective governance, resilience, transparency and resolvability before another financial crisis reminds us of the cost of infrastructure failures.
Karen Petrou is a managing partner of Federal Financial Analytics, Inc. and the author of “Engine of Inequality: The Fed and the Future of Wealth in America.”
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