If it didn’t break, why fix it?

That is the question being asked by foreign exchange bankers after Barney Frank, chairman of the House Financial Services committee, announced currency derivatives would not, after all, get an exemption from proposed US rules that would require all derivatives trades to be processed through a centralised clearing system.

Mr Frank’s move came as policymakers are debating the detail of legislative proposals designed to increase transparency and reduce risk in the vast over-the-counter derivatives market. While the proposals are not final, the U-turn on his previous stance has stunned the FX market.

Bankers have been lobbying hard to steer lawmakers away from forcing currency swaps and forwards on to clearing platforms. They fear it will introduce new systemic risk into the financial system and impose heavy costs on companies that trade internationally. Some fear it could drive currency trading offshore.

At the heart of the unease is the fact that currencies are a vital artery in the global financial system in a way that no other market can lay claim to. The $3,200bn-a-day FX market, which trades across borders and around the clock, is essentially the global payments system.

The purpose of trading includes investment bets and speculation, but also encompasses everyday cross-border business transactions from acquisitions to selling products and covering overseas payrolls.

Swaps and forward contracts dwarf the spot market (which is not covered by the proposals) and are used daily by companies and investors to protect themselves in the period between agreeing a deal and delivering the payment.

“Even if we closed down all the speculation, there still needs to be transactions for corporates, institutional investors and individuals just to do their daily tasks,” said one senior UK-based FX banker.

There is a further resentment: the FX market did not actually seize up during the financial crisis. “We’ve created a system that works. Why are you doing this?”, asked another senior dealer.

But a group of regulators and lawmakers has argued there should be no exceptions to the plans to clear all derivative trades, for fear that bankers will exploit any loophole by creating new instruments to protect their lucrative trading franchises.

The US moves are a shock to the FX market because while it is used to dealing with sudden obstacles – such as the capital controls introduced by Brazil last month – it has faced little in the way of regulatory hurdles.

Its cross-border nature means most changes have come about through a network of industry-led committees convened by various central banks, led by the Bank of England and the Federal Reserve Bank of New York.

It was persistent pressure from the central banks that led the industry to create Continuous Linked Settlement, the multilateral system regulated by the Federal Reserve, through which banks settle hundreds of billions worth of transactions each day.

Settlement risk – the danger one bank pays out but does not get the goods in return – is particularly acute in the FX industry because of the likelihood that the trade is settled in two different time zones, exposing the counterparties to extra risk

This danger is considered far bigger than the credit risk that a clearer would cover because the vast majority of swaps and forwards are short-term in nature, lasting usually less than a month.

In fact, the market developed a central clearing model in the 1990s, but abandoned it because of a lack of demand. Instead, it focused on developing CLS.

Bankers have also warned that clearing in FX could create new concentration dangers which they fear could create fresh systemic risk, given the size and significance of the FX market. The market is already concentrated among a handful of top international banks.

If all participants – from banks to companies – dealt directly with a clearing house, clearers would be taking on potentially enormous financial risk because of the sheer size of the market. If a hub-and-spoke system was introduced – where banks’ clients dealt with the clearer though the bank – the risk would be still concentrated in the clearer and a group of very large banks, meaning little had changed.

This is not a point that clearers accept at all. Roger Liddell, chief executive of LCH.Clearnet, said: “It’s just not true. There are two issues. One of them – is it really that concentrated? And the other – is the risk that horrendous that we should be frightened of it? Concentrating all the risk in one place actually takes a huge amount of risk out of the system because each of the participants in the market would have a single counterparty for all of their interbank trading.”

Barbara Matthews, managing director of BCM International Regulatory Analytics, believes there is a general issue to be considered about concentrating so many markets on to clearing platforms. She warned that policymakers must be aware that clearing houses could create new “choke points” in the system – not unlike the risk created now by any large bank – which must be considered carefully. “Its perfectly natural in a time of uncertainty to look towards some kind of central arrangement,” she said. “But I’m hearing people say it eliminates risk and that’s not true – it just transforms it. If the idea is that risk will be gone, then some people are in for a nasty surprise.”

One currency market participant was more blunt: “If a clearer in FX goes bang, it could bring down the entire market.”

Additional reporting by Jeremy Grant