Danmarks Nationalbank's
Oversight of the Financial Infrastructure in Denmark

The Danish payment and settlement systems have been more or less unaffected by the financial crisis. In Danmarks Nationalbank's payment system, Kronos, the participants have reserved ample liquidity relative to their daily payments. Similarly, no significant problems have been observed in the settlement of retail payments and securities transactions in the Sumclearing and VP settlement, respectively. As regards the VP settlement, this was most recently emphasised by the smooth settlement on the first banking day of 2010 despite record-high refinancing of adjustable-rate loans. The most serious problems for the Danish payment and settlement systems in 2009 were related to a system breakdown at their joint provider of IT operational services.

Kronos

Danmarks Nationalbank's payment system, Kronos, handles a major part of the exchange of krone payments in the Danish financial system. The main transaction categories are interbank payments, i.e. payments between two account holders, monetary-policy operations, i.e. transactions between Danmarks Nationalbank and account holders, and transfers to other payment and settlement systems.

2009 saw a decrease by just over 10 per cent in the value of payments in Kronos, cf. Table 8. This is attributable partly to a lower value of interbank payments due to e.g. reduced market activity as a result of the financial crisis, partly to a decline in the volume of monetary-policy operations as a consequence of the banking institutions' and mortgage-credit institutes' reduced gross positions vis-à-vis Danmarks Nationalbank by way of loans and certificates of deposit.

Kronos is a real-time gross settlement system, RTGS system, in which payments are settled individually in real time. This reduces credit risk in the system, but entails a larger liquidity requirement than would have been the case for net settlement. In order to accommodate this need, Danmarks Nationalbank grants intraday credit against Danish government securities, mortgage-credit bonds, covered bonds, etc. and – temporarily – a number of other securities as collateral.²¹

The participants' disposable amounts for payment settlement in Kronos significantly exceeded their liquidity requirements again in 2009, cf. Chart 38. Overall, there is thus still ample liquidity for the participants' daily payments, but this should not induce the participants to relax their intraday liquidity management as intraday liquidity is paramount to smooth settlement in Kronos.

Liquidity requirement of Kronos participants	Chart 38
Note: The disposable amount is the participants' total credit line plus their current-account balance when Kronos opened (7:00 a.m.). The maximum liquidity requirement corresponds to the liquidity needed by the participants for settling all payments over the day without delay. The amount depends on the order in which payments were settled during the day. The minimum liquidity requirement corresponds to the liquidity needed by the participants for settling all payments over the day with maximum netting of incoming and outgoing payments. Source: Danmarks Nationalbank.

Retail payments

The retail payments of Danish private individuals and companies are settled in the Sumclearing. 2009 saw a decrease in the value of most types of retail payments in the Sumclearing, cf. Chart 39. The only exception was the slight increase in the value of payments related to international payment cards, which still account for only a small part of total Danish card payments, however. The value of Dankort and Visa/Dankort payments was almost unchanged.

Sums settled in the sumclearing, daily averages	Chart 39
Source: Danish Bankers Association.

Sumclearing operations
The Sumclearing is a net settlement system owned by the Danish Bankers Association. The Sumclearing collects payments over 24 hours for settlement in a night-time block. The banking institutions must reserve liquidity for this purpose in advance, and they are removed from the settlement (postponed) in the event of insufficient cover. The next morning, postponed institutions may transfer more liquidity for the settlement.

The improvement of Sumclearing operations, which was described in Financial stability 2009, 1st half, continued in 2009. Timely completion of settlement failed on only six days. In both 2007 and 2008, the number was 21 days. The improvement is a result of the increase in the Danish Bankers Association's postponement fee as from 1 January 2009.

Substantial excess cover in the Sumclearing
According to international standards, systemically important net settlement systems should be able to withstand the removal from settlement of the participant with the largest payment obligation. Consequently, Danmarks Nationalbank has analysed whether this applies to the Sumclearing. The analysis is based on all banking days in 2009, cf. Box 7. It appears that even if the participant with the largest payment obligation is removed from the settlement, this will have no impact on the other participants on any days. The same applies if the participant with the second-largest payment obligation is removed.

Moreover, the analysis confirms the importance of reserving sufficient liquidity for the settlement. This appears from a hypothetical reduction of the excess cover by a given percentage for all participants and the removal from the settlement of the participant with the largest and possibly also the participant with the second-largest payment obligation. Depending on the size of the reduction, this will lead to postponement of participants.

Postponed participants impede the settlement, even though their payments are normally completed the next morning. Firstly, they delay part of the other banking institutions' entries to customer accounts, which take place after completion of settlement. Secondly, they prolong risk in the system. Postponements are thus particularly problematic on large settlement days.

In a previous similar analysis, Danmarks Nationalbank concluded that the Sumclearing is robust against events resulting in the removal of the participant with the largest payment obligation from the settlement.²²Consequently, the participants have made no major adjustments to their excess liquidity cover as a result of the financial crisis.

SEPA
On 2 November 2009, banks in Europe introduced a new instrument for payments in euro, called SEPA Direct Debit. It is expected to take quite a long time before this product, which is similar to the Danish Betalingsservice system, replaces the existing domestic products. This also applies to the other SEPA instrument, SEPA Credit Transfer, which accounted for only 6.7 per cent of all credit transfers in the euro area in February 2010.²³

With a view to bringing the transition to SEPA products forward, it is being considered to set a formal deadline for the migration of domestic payments to SEPA. Subject to a mandate from the Ecofin Council, the European Commission is currently analysing implementation methods.

Danmarks Nationalbank supports the SEPA Direct Debit solution for the Danish banking institutions by participating in a trans-European payment system for the product, STEP2, on behalf of the institutions.²⁴All banking institutions in Denmark can join this scheme.

Working group on domestic payment transfers
In the spring of 2009, Danmarks Nationalbank, at the request of the Minister for Economic and Business Affairs, established a working group to analyse the need for shorter settlement times in Denmark and how this may be achieved. The members of the working group represented a wide range of stakeholders. The working group published its recommendations in a report in January 2010.²⁵The specific recommendation of the working group is that the Danish Bankers Association, PBS and Danmarks Nationalbank should prepare a final basis for decision on whether to introduce shorter settlement times in Denmark for all retail payments completed during the weekend and whether to enable intraday credit transfer. The basis for decision is expected to be ready in the 2nd half of 2010.

Cost analysis
In 2010, Danmarks Nationalbank will be conducting an analysis of the costs of various types of retail payments in Denmark. The analysis should, to the highest possible degree, measure the costs for all payment parties involved, i.e. not just the banking institutions.

This analysis will be part of an ongoing larger trans-European analysis initiated by the European Central Bank with the purpose of comparing retail payment costs across Europe. The Danish and the European reports are both expected to be published in 2011.

Securities settlement

The level of trading settlement in VP Securities remained high in 2009, cf. Chart 40. The value of settled bond transactions, accounting for the major part of turnover, was approximately 24 per cent up on 2008, cf. Chart 40. The number of settled equity transactions was almost unchanged in 2009, while their value fell by 28 per cent, primarily due to lower equity prices. The introduction of CCP clearing has reduced the number of equity transactions for VP settlement, cf. below.

Equities and bonds settled in the VP settlement, daily average	Chart 40
Source: VP Securities.

VP settlement operations
Like the Sumclearing, the Danish settlement system for securities transactions, etc., called VP settlement, is a multilateral net settlement system. Trading settlement takes place primarily in a number of night-time settlement blocks. Moreover, the system handles settlement of a certain amount of securities transactions, interest and dividend payments as well as exchange of kroner against euro from the night-time settlement in a number of day-time blocks.

In 2009, the night-time settlement blocks generally ran according to schedule, whereas the tendency towards more frequent postponement of the day-time blocks continued, cf. Table 9. This applies especially to the VP33 settlement block for kroner against euro, in which buyers of euro-denominated securities settled as krone transactions in the night-time blocks deliver euro against kroner.

A main reason for the delays in VP33 is the relatively early settlement time for this block, i.e. 9:20 a.m., shortly after the opening of the euro area money market. This gives the Danish banking institutions little time to raise euro liquidity. Danmarks Nationalbank has encouraged the market participants to analyse the consequences of moving the settlement time for VP33 to later in the day.

The generally high operational stability in the night-time settlement blocks is also apparent from the share of bond transactions settled on time, which exceeded 98 per cent again in 2009, cf. Chart 41. The settlement rate is usually somewhat lower for equities, but it has improved gradually since 2008. One exception was the sharp drop in the settlement rate for equity transactions in May 2009 due to problems for a single major participant. The introduction of CCP clearing, cf. below, has influenced the compilation of the number of transactions settled on time.

Settlement rates for securities transactions in the VP settlement	Chart 41
Source: VP Securities.

On the first banking day of the year, i.e. 4 January 2010, securities transactions were settled smoothly despite the record-high refinancing of adjustable-rate loans around the turn of the year for settlement primarily on this date. As was the case in 2009, Danmarks Nationalbank and the banking institutions and mortgage-credit institutes had established contingency measures to resolve any settlement problems.

CCP clearing
Since October 2009, there have been calls for clearing via a central counterparty, CCP, for transactions involving equities in major NASDAQ OMX companies. A CCP is the intermediary in a transaction between the buyer and the seller, assuming the counterparty risk on both parties. Today, CCP clearing is the standard on most stock exchanges in Europe, and after the introduction in Denmark, the Danish market is on a par with the rest of the EU.

The Dutch company European Multilateral Clearing Facility N.V., EMCF, is the CCP on the Danish stock exchange. EMCF also acts as a CCP on a number of other new multilateral trading facilities, MTFs, established after the implementation of the Markets in Financial Instruments Directive, MiFID. As a result, the participants' trades in Danish equities on these trading platforms can be included in one clearing operation at EMCF with overall netting and settlement in VP Securities. EMCF has taken over clearing/netting of between one third and half of the equity transactions that were previously cleared by VP Securities prior to settlement.

Two other CCP's will be offering clearing of transactions on the NASDAQ OMX Nordic markets, including Copenhagen. They are Swiss-based SIX x-clear and UK-based EuroCCP, a subsidiary of the US central securities depository DTCC. Both CCP's are planning to start operations during 2010. This will give the market participants a choice of several CCP's.

Prior to the introduction of CCP clearing, the number of transactions settled on time on the agreed value date, i.e. the settlement rate, was around 96 per cent for equities, which is slightly below the European benchmark. After the transition to CCP clearing, the VP settlement rate has increased to almost 98 per cent, which is on a par with the benchmark. However, the settlement rate for transactions cleared at EMCF is only 93-94 per cent. An investigation has therefore been initiated to identify the reasons. A specific evaluation of the transition to CCP clearing and its consequences will be undertaken in the latter part of 2010.

In view of the risk reduction as a result of CCP clearing, Danmarks Nationalbank supports NASDAQ OMX's initiative to introduce CCP clearing in the repo market, which is far larger than the equity market. Introduction of CCP clearing will considerably reduce the market risk as repos normally have longer maturities. The CCP clearing option is expected to be in place by the end of 2010.

Target2-Securities
Central banks, including Danmarks Nationalbank, central securities depositories and market participants in Europe have worked together to further define TARGET2-Securities, T2S. T2S is a future trans-European securities settlement system in which cross-border transactions can be effected just as efficiently as domestic transactions. The establishment of T2S will influence the future securities settlement system in Denmark in several ways.²⁶T2S is expected to be operational in September 2014.

Directives
As an element of the European Commission's Giovannini process to remove barriers to efficient clearing and settlement of cross-border securities transactions in the EU, the Commission is expected to present a proposal for a Directive on registration of securities rights in July 2010. This Securities Law Directive addresses the legal barriers to cross-border settlement of securities that are a consequence of the lack of trans-European regulation of securities rights. In Denmark, such provisions are laid down in the Securities Trading Act.²⁷

After international negotiations under the auspices of G-20, among others, the Commission has initiated work to implement a number of measures to limit counterparty risk and strengthen the transparency of the derivatives market. The element with the strongest consequences is the wish to prepare a Regulation on securities clearing, including CCP clearing, called European Market Infrastructure Legislation, EMIL. As is the case with the financial Directives, the Regulation is expected to introduce requirements concerning licensing, supervision and risk mitigation. This includes mandatory CCP clearing of standardised derivatives, which mitigates risk.²⁸

CLS

The financial crisis has entailed increased focus on counterparty risk, which continued to affect the international multi-currency settlement system CLS in 2009. The number of participants and the number of transactions rose, while the average value of transactions settled fell as more small-scale foreign-exchange dealers joined CLS.

Since its establishment in 2002, CLS has contributed to reducing settlement risk in the foreign-exchange market. In practice, CLS eliminates the credit risk on a foreign-exchange transaction via simultaneous settlement of the two legs, i.e. Payment versus Payment, PvP. For the CLS participants, settlement is still subject to liquidity risk, but this risk is reduced considerably by netting payments in CLS before completion in the national RTGS systems. Consequently, the CLS participants need far less liquidity than they would have needed for settlement of the gross value of the foreign-exchange transactions via correspondent banks. As regards CLS settlement in Danish kroner, the participants had to pay in only 3 per cent of the total value to CLS in 2009.²⁹

A large number of banks joined CLS as indirect participants during 2009. A significant reason is that, during the financial crisis, foreign-exchange transactions without settlement in CLS were more difficult to perform as the settlement risk was greater outside CLS.

The average daily number of transactions in CLS continued to rise in 2009. In 2009, CLS settled an average of 1.204 foreign-exchange transactions daily with one leg in Danish kroner. This represents an increase by 9 per cent on 2008. The average daily value of the transactions, on the other hand, fell by 3 per cent to just over kr. 200 billion, but has nevertheless almost returned to the level before the onset of the financial crisis in the autumn of 2008, cf. Chart 42.

Number and value of FX transactions in Danish kroner settled in CLS	Chart 42
Note: The Danish krone joined CLS on 8 September 2003. Source: CLS.

CLS is continuously working to introduce new products and currencies in the settlement system. In view of the rising number of participants, this will enable the participants to settle an ever-increasing proportion of their foreign-exchange transactions via CLS, to the added benefit of financial stability in Denmark.

New Aggregation Service in CLS
In the light of the continued focus on reducing foreign-exchange settlement risk, CLS established a new function, Aggregation Service, in January 2010. This service aggregates minor foreign-exchange transactions in the same currencies and between the same two counterparties before settlement. This results in a considerably lower number of trading instructions to be settled, and the operational risk on settling a large number of transactions diminishes.

System breakdown

The IT operational responsibility for a number of key systems in Denmark, including payment and settlement systems, is concentrated on few service providers. Consequently, system failure on their part may have a far-reaching impact. A case in point was the system failure on 14 October 2009 at the IT service provider of VP Securities and PBS, which delayed the VP settlement and the Sumclearing.

Since Danmarks Nationalbank holds the responsibility for the oversight of the two systems, it has received written reports on the event from VP Securities and PBS. VP Securities and PBS have described the causes and effects of the event as well as planned and implemented measures to prevent this from happening again.

The companies behind the Danish payment and settlement infrastructure have outsourced IT operations to one single provider, IBM, and Danmarks Nationalbank is initiating an investigation to assess the related concentration risk.