Next year Gerard Hartsink plans to step down as chairman of the GLEIF, having turned a start-up, for which he had to raise the money to pay the staff, into a soundly based and internationally recognised campaigner, in co-operation with his regulators, for widespread adoption of LEIs. The next challenge is to wide and accelerate adoption of LEIs, and that may require more than voluntary collaboration and concerted action. CSDs can help, by seizing the new
opportunities which LEIs are creating for them.
“Co-operation can be more effective than legislation,” says Gerard Hartsink, the chairman of the board of the Global Legal Entity Identifier Foundation (GLEIF). Certainly, he should know. For seven years Hartsink chaired CLS, the foreign exchange settlement service established in 2002, at the behest of central banks worried about the so-called Herstatt risk, by a group of 39 international banks who were in every other respect fierce competitors.”
“At CLS I learned how to work not only with the biggest banks in the world but the central banks as well,” explains Hartsink. “As an industry-owned consortium, owned by the banks but supervised by the Federal Reserve Bank of New York, and subject to the oversight of a further 20 central banks, CLS operates not only on the boundary between the competitive and the co-operative but on the boundary between the private and the public.”
The Global Legal Entity Identifier Foundation (GLEIF), a not-for-profit established in June 2014 by the Financial Stability Board (FSB) to issue 20-digit alphanumeric Legal Entity Identifiers (LEIs) to every legal entity
participating in financial transactions around the world, is not dissimilar to CLS. It is a Swiss-incorporated brainchild of the heads of state of the G20, worried about a systemic risk – in this case, the difficulty of identifying counterparties to financial transactions – and also charged with securing support in multiple jurisdictions through moral suasion rather than legislative or regulatory diktat.
Where GLEIF is more challenging than CLS is the sheer scale of its mission
Identifying and numbering each and every unique and legally distinct entity that engages in financial transactions entails traversing the entire public and private sectors of every jurisdiction on the planet. As Hartsink notes, there
are already over 1.2 million legal entities with a LEI. 95,000 of them are based in his native Netherlands alone.
Pursuing LEI adoption by suasion not legislation takes time
Inevitably, persuading that many organisations of the benefits of a LEI takes time. The retardant is not just the scale of the task. Adoption is also slowed by legal and regulatory differences between jurisdictions and vested interests in particular markets. Securities trading platforms in Europe, for example, resisted adoption of LEIs, but securities
regulators such as the BaFin in Germany, the Financial Conduct Authority (FCA) in the United Kingdom and the Autorité des marchés financiers (AMF) in France insisted otherwise.
Fortunately, Gerard Hartsink has learned to be patient. He was a member of the CESAME clearing and settlement advisory and monitoring group of the European Union (EU), set up to implement the recommendations of the Giovannini reports of 2001-03. Their recommendations for removing 15 barriers to a single European capital market are still not fully implemented a decade and half later.
Between 2002 and 2012 Hartsink chaired the European Payments Council (EPC), where it took the whole of his term to persuade European banks and their customers to develop and implement the EU plan to make domestic and cross-border payments in euro cheaper and easier through the creation of a single euro payments area (SEPA). “We
thought we could fix SEPA in five years,” recalls Hartsink. “It eventually took nearly ten years because co-operating with competitors, and regulators, even if you have some sort of aligned agenda, is not always easy. This is also the
reality with GLEIF.”
The challenge of working across multiple jurisdictions
In fact, GLEIF is even more complex than SEPA because of the multiplicity of regulatory and legal jurisdictions in which the foundation must work. Hartsink notes that there are 660 company registrars at work around the world, keeping records of millions of issuing companies. Each registrar has a domestic rather than an international focus, the quality of the data they collect varies widely, most but not all charge for access to their data, and none operates to an agreed global standard.
The LEI, by contrast, is based on the ISO 17442 standard. This specifies the minimum reference data that a LEI must incorporate, and GLEIF records all the information it includes. Quality is maintained by an annual check of the data, and by giving any user the right to “challenge” the data published by GLEIF on its web site.
“We do have one unique selling point, which is high quality data,” explains Hartsink. “GLEIF has the duty to collect and store high quality data and make the data free of charge to both public sector users, such as central banks, securities regulators and statistical organisations, and private sector users such as banks, insurance companies,
asset managers, corporates, trading platforms, data vendors, central counterparty clearing houses (CCPs) and central securities depositories (CSDs).”
This is a non-trivial exercise when GLEIF is obliged to make its web site available in 14 written languages, including Chinese and Japanese characters, Arabic script and the Cyrillic alphabet, especially free of charge. Hartsink, who chairs GLEIF on a pro bono basis, recalls that when he started in 2014 the board had to guarantee the salaries of the staff personally.
GLEIF is now funded from a share of a $17 cut of the annual maintenance fee charged by the 32 GLEIF-accredited LEI issuers, though the foundation is committed to reduce its share as LEIs become widely adopted. That is just as well. If GLEIF reaches its target of 30-40 million issued LEIs, the annual fee of $17 will be reduced substantially. GLEIF is a not-for-profit foundation and does not expect to have to fund a higher cost base to support a substantially enlarged number of LEIs.
GLEIF has set itself ambitious targets
At present, a target of 30-40 million issued LEIs looks extremely ambitious. There are currently just over 1.2 million legal entities with a LEI, scattered across 200 separate jurisdictions. In its progress report of November
2015, the LEI Regulatory Oversight Committee (LEI ROC) – a group of 71 central banks and national and international securities markets regulators and 19 observers, drawn from 50 countries, established in January 2013 to oversee the work of the GLEIF – reckoned there could be 200-400 million legal entities eligible for a LEI. That implies 30-40 million LEIs will cover no more than a tenth of the total market.
That said, most publicly listed c ompanies traded at exchanges in G20 countries already have a LEI. The European Central Securities Depositories Association (ECSDA) has acknowledged that the majority of firms listed on European exchanges serviced by its members now have a LEI. Hartsink adds that the GLEIF was expected to focus initially on entities in the capital, money and derivatives markets, where the most acute problems in identifying affiliates and subsidiaries emerged in the financial crisis of 2007-08, and latterly on commercial banking. Unsurprisingly, half of the LEIs issued so far were acquired by firms active in financial markets, even though financial services make up somewhere between an eighth and a fifth of global GDP.
Adoption is not enough: LEIs must be used in business processes
It still means that half of issued LEIs are owned by non-financial firms. But in any event getting a LEI is only a
start, not a destination. “Actually implementing LEIs in business processes is a more complicated story,” explains Hartsink. “To capture the benefits of LEIs through implementation requires more focus.” In theory, LEIs save money by making it quicker and cheaper for firms to identify counterparties during the lifetime of a contract than the current manual searches of multiple names in multiple databases.
In a joint study conducted with McKinsey & Co, the GLEIF estimated that global adoption of LEIs would save the investment banking industry $150 million a year in reduced client on-boarding and trade processing costs and the trade finance industry $500 million a year in faster processing of letters of credit and easier identification of counterparties in e-invoicing networks.
There is of course a cost to implementing LEIs in day-to-day business processes in this way, but Hartsink insists the gains will always outweigh the costs. He says corporates are finding LEIs useful in identifying customers, business partners and suppliers, and in understanding the risks posed by the structure of counterparties. Some are even pressing for an industry code to be added to the basic structure of a LEI.
In fact, the GLEIF is working on a new on-line service designed to display the corporate hierarchies captured by
LEIs in graphical form. Auditors are particularly enthusiastic about this idea, because they can use it to map reporting obligations set by the IFRS and US GAAP accounting standards. Data vendors also value LEIs because they have a high degree of confidence in the quality of the information, which minimises their data cleansing costs before selling it on to client. “The word is spreading that the LEI is a valuable tool,” says Hartsink.
LEIs offer new business opportunities for CSDs
The word has certainly reached CSDs. For them, LEIs are natural territory. CSDs have a relationship with every
public issuer of equity and fixed income instruments in their markets. Some, notably the Depository Trust and Clearing Corporation (DTCC) in the United States, have become an official issuer of LEIs. In addition, even the most cursory review of the list of members of the Association of National Numbering Agencies (ANNA) proves that CSDs are in many cases also the national securities numbering agency.
This puts CSDs in an excellent position to map LEIs to the International Securities Identification Numbers (ISINs) issued members of by ANNA. As it happens, GLEIF plans to work with ANNA to offer a LEI-to-ISIN mapping service from 2019, to match the LEI-to-Bank Identifier Codes (BICs) service it has developed in conjunction with SWIFT. Mapping of LEIs to ISINs and BICs could help customers of CSDs manage counterparty risk and manage their collateral and liquidity positions better. CSDs could help by adding the LEI to the messages they send, as a service to their customers.
“Mapping LEIs to ISINs is a value-added service that is not too complex to deliver,” says Hartsink. “CSDs can
have access to all LEIs for free and build services around it.” One sales opportunity he sees is to sell international banks data tools for managing the risk of their correspondent and agent bank networks across multiple markets,
currencies, CCPs and payments infrastructures. “Their risk and liquidity managers face a complex challenge in consolidating data from multiple data feeds, and then managing the cash and collateral demands and opportunities the data contains,” says Hartsink. “CSDs could develop data consolidation services, based on LEIs, to help them.”
He adds that CSDs could extend the same thinking to retail investors, which have an interest in high quality counterparty risk data sources of the kind currently available to institutional investors only. “How can you tell which companies your fund or tracker is really invested in?” asks Hartsink. “What organisation is really behind the management company of your asset or wealth manager? CSDs could help retail investors find out. The principle `Know Your Supplier’ is also relevant for retail investors.”
The success of LEI adoption in G20 countries needs to be reproduced elsewhere
The ability of CSDs to develop these services ultimately hinges on the comprehensiveness of the LEI data set. With
at most two thirds of one per cent of all legal entities in possession of a LEI so far, coverage is currently far from comprehensive. It is also patchy, with G20 countries making much more progress with LEIs than others.
This is why the GLEIF is working not only with ANNA but with the International Chamber of Commerce
(ICC) and GS1 – the international barcode issuer – to accelerate the adoption of LEIs in domestic markets, and by non-financial companies. The ICC has issued a statement endorsing the use of LEIs in trade finance, for example. But in the end, adoption of LEIs almost certainly depends on government authorities making them mandatory for their regulatory reporting requirements.
On its website, the GLEIF publishes a list of 90 regulatory measures that require or request use of LEIs, which pertain to around 40 jurisdictions. Chief among them are the G20 countries, which include the EU and the United States, both of which require users of OTC derivatives to get LEIs. The proposed EU Prospectus Directive also requires issuers to get a LEI.
True, there is progress elsewhere, in Malaysia and India. The GLEIF was particularly pleased when the Reserve Bank of India made a LEI mandatory to obtain bank loans above a certain threshold.
But, in reality, national regulators hold widely differing views about the value of LEIs, with Americans arguing that main board directors of public companies should be added to the LEI data – a step even a regulatory manufactory as
prolific as the EU believes excessive. “There are different views not just between the United States, Europe and Asia, but between regulators as well, even in the same jurisdiction,” says Hartsink.
There also are inexplicable oddities. The 30 global systemically important banks (G-SIBs) identified by the FSB, for example, are not under any obligation to obtain LEIs for all the legal entities of their firm. The same is true of the nine global systemically important insurers named by the FSB. Whole fields of commercial activity, even in financial services, remain untouched. Hartsink points to the mutual funds industry, with its layers of umbrella and master-feeder funds, as a potential credit crisis in the making, yet even the FSB has not decided on a policy that includes funds as a target for LEI issuance.
Regulators can do more to accelerate adoption of LEIs
“Are we meeting the expectations of the regulators?” he asks. “Yes, in many jurisdictions, where we have delivered what they expected. But in other jurisdictions, especially outside the G20, they are not mandating adoption of the LEI. Regulators have it in their power to make adoption of LEIs proceed faster.”
Yet it would be a mistake to see Hartsink as anything but upbeat about the prospects for widespread adoption of LEIs. “I have done a number of similar things in my life, but this is a passion,” he says. “The G20 reasoned in the wake of the financial crisis that we could not continue to trade and finance each other internationally if we do not know the counterparties and, even where we can get to know the counterparties through a business register in a domestic market, the quality of the data is poor. So I would like to make the LEI happen as a broad public good, not just for myself, or the GLEIF. We may be a private foundation, but we are working for and creating a public good, for the benefit of the whole of society.”
The public good is a corporate responsibility that any CSD, as a “natural monopoly” supplier in a single jurisdiction, will recognise. So they should feel comfortable about helping the GLEIF to grow, and about making use of its output
to develop new products and services for their customers.