THE financial crisis exposed serious shortcomings with respect to the over-the-counter derivatives market, which affected the world's economies in several ways.
The House agriculture subcommittee on general farm commodities and risk management held a public hearing Dec. 13 to examine the challenges facing U.S. and international regulators as they attempt to balance various derivatives reforms across a global marketplace.
Following up on the hearing, subcommittee chairman Rep. Michael Conaway (R., Texas) and Rep. David Scott (D., Ga.) sent a letter to the Commodity Futures Trading Commission (CFTC) Dec. 20 asking for clarification on the impending Dec. 31 deadline for cross-border implementation. The letter was sent to all five CFTC commissioners and was signed by 14 representatives.
"Based on testimony the subcommittee received, we are very concerned that a lack of coordination between both foreign and domestic regulators could soon lead to a disruption of the derivatives markets," the members wrote.
The U.S. and the EU have been working in parallel over the past 30 months to adopt the necessary legislative reforms to achieve these common goals.
The U.S. adopted the Dodd-Frank Wall Street Reform Consumer Protection Act in July 2010, including some 80 pages on derivatives reform known as Title VII. Then, in September 2010, the European Commission adopted its legislative proposal to introduce similar reforms in the 27-member European Union.
A recent detailed analysis of U.S. and EU rules identified numerous potential conflicts, inconsistencies and gaps between the rules that should be addressed through mutually acceptable solutions. Failure to address these issues will render many of the collective reform efforts to reduce risk in the system obsolete, Patrick Pearson, head of the European Commission's market infrastructure unit, testified at the hearing.
The U.S. has been implementing the rule in piecemeal, causing some issues with compliance and cross-border implementation.
CFTC commissioner Jill Sommers said the agency could have followed the lead of the Securities & Exchange Commission by not requiring compliance before all of the rules are finished.
"We are working together with our global counterparts, and it is important, in the meantime, for CFTC to not impose on those entities until we know how it will work out," she said in a response to questioning at the hearing.
Appearing for the first time before a congressional committee, regulators from the EU and Japan cautioned that U.S. markets are at risk if due care is not taken to complement regulatory structures across foreign jurisdictions.
"We need rules that work not only for regulators and market participants in a national jurisdiction but also in a cross-border environment and between jurisdictions," Pearson said. "We would strongly urge U.S. regulators not to enforce rules that will obstruct cross-border business before any solutions for cross-border transactions have been finalized."
Conway noted, "If we do not get our Dodd-Frank rules right, American end users who use swaps to manage everyday business risks may have fewer counterparties to deal with. Fewer counterparties will mean less competition and less liquidity in the market, which will lead to higher costs and a higher concentration of risk in the U.S. With our economy facing an uncertain future, we can ill afford to implement reforms without a good-faith attempt to cooperate with the international community. As we heard, failure to do so could have enormous consequences for global derivatives markets."
"The consequences of poor sequencing of rules and implementation dates by CFTC and poor coordination both with other domestic regulators and foreign regulators as well are real and damaging to U.S. companies," Scott said. "As we saw earlier this year, domestic banks can and will lose business to foreign competitors if Title VII rules are not implemented properly and in a timely fashion, and that will, in turn, harm the end-user companies they serve and that we, on this committee, care so very much about."