New Report Describes Benefits of the Legal Entity Identifier

New Report Describes Benefits of the Legal Entity Identifier

For years, we have recognized the enormous potential benefits of the Legal Entity Identifier (LEI). Establishment of this fundamental data standard was one of the key steps the G-20 took after the financial crisis to retool the global financial infrastructure, and the LEI now serves as a linchpin for making sense of derivatives data stored in repositories around the globe. The LEI, like a bar code for financial market participants, now identifies firms from almost 200 countries — more than 700,000 LEIs in all.

This 20-character code allows the precise identification of these firms regardless of who is seeking to identify them or where they reside. As a basic building block of the global financial plumbing, the LEI improves companies’ risk management, clarifies counterparty exposure, and allows government supervisors to better assess market functioning. The LEI also enables easily combining information from different sources. In addition, the LEI answers two basic questions: who is who, and who owns whom?

Early academic studies found that cost savings associated with adoption of the LEI approached $1 billion annually.

G-20 analysis focused on qualitative benefits such as more precision and transparency, the creation of a public good, and anticipated (but unquantified) time savings. In addition, actual rules that either mandate or, at the least allow, LEI use also anticipate cost savings and greater transparency.

Harder to measure are the long-term benefits to financial stability from an LEI system that gives market participants full transparency into the legal identities of their counterparties. Lack of such an identifier prevented regulators and private-sector risk managers from seeing the total extent of exposures by market participants to Lehman Brothers and its many legal entities at the height of the 2007-09 financial crisis.

As noted in an OFR brief earlier this year, without a basic ability to identify financial market participants and their corporate families, financial companies and the regulators supervising them would continue to struggle to understand the links and exposures throughout the global financial infrastructure.

Now we have better data on LEI benefits. A recent report by McKinsey and Company and the Global LEI Foundation focus on just a few of the industry activities where an LEI could improve processes and reduce costs. It finds that at least 10 percent of operating costs for onboarding clients and trade processing could be eliminated with full adoption of the LEI. Another $500 million could be saved by the investment banking industry in issuing letters of credit. Additional savings can be found in business cases explored in the study.

One of the key findings of the McKinsey report is that to reap full benefits of the LEI, many more companies must have an LEI. To explore how we can reach broader adoption, the OFR has begun its own study of the benefits and challenges of LEI adoption. We have collected information from several small and large firms and the U.S. regulatory community. We are finding that, as expected, the LEI is already producing cost savings and could produce eye-popping savings if it were more fully adopted. But challenges remain, including increasing awareness of the benefits of the LEI, helping authorities quantify savings for industry, and finding space on tight rulemaking calendars.

The McKinsey report is a terrific step in quantifying the benefits of the LEI. The OFR’s work to better understand and quantify these benefits should also help move us closer to full adoption. Together with industry and regulators, we will continue to build this critical financial infrastructure. At the OFR, we won’t stop until the hard work is done.

Matthew Reed is Chief Counsel at the Office of Financial Research and former Chairman of the global LEI system’s Regulatory Oversight Committee.