Commodity Futures Trading Commission Chairman Gary Gensler and European Commissioner Michel Barnier have announced a compromise on the contentious issue of regulating cross-border derivatives.
“Our discussions have been long and sometimes difficult,” Barnier said, adding that he was nevertheless pleased by what were ultimately “continuous and collaborative talks.”
The agreement, released on Thursday, stems from a commitment by G20 nations to lower risk and promote transparency in the over-the-counter (OTC) derivatives marketplace.
“As swap market/derivatives participants come into compliance with new regulatory regimes around the globe, a close working relationship between the U.S. and EU with regard to cross-border swaps regulation is mutually beneficial,” the “Path Forward” agreement between the two parties says. “By coordinating our efforts, we are providing a model for other regulators and jurisdictions working to implement their G-20 commitments.”
The EC and the CFTC agreed they should be able to defer to each other when it is justified by the quality of their respective regulation and enforcement regimes.
Both regimes will have strict legal requirements in place governing central clearing, trade reporting, and trade execution. On Friday, the CFTC is expected to issue final guidance on the cross-border application of its requirements for swaps activities. It has proposed that substituted compliance will be permitted for the requirements applicable in the EU that are comparable to, and as comprehensive as, those applicable in the US.
There will be some accepted differences between both regulatory approaches as certain EU rules are stricter in some areas, and certain U.S. rules are stricter in others. The calendar of compliance dates is also not always synchronized due to differences in their legislative and rulemaking processes. Nevertheless, the final rules were described as “essentially identical, even though the regulatory calendars are not always synchronized.
A top concern in the months leading up to the agreement was that because of the global nature of derivatives transactions, the simultaneous application of each other's requirements could lead to overlapping demands, legal conflicts, inconsistencies, and legal uncertainty. To address this, the CFTC and the EC, in collaboration with the European Securities Market Authority, agreed that jurisdictions and regulators should be able to defer to each other when it is justified by “the quality of their respective regulation and enforcement regimes.”
Where a definition has to be given of market participants or infrastructure subject to U.S. or EU jurisdiction, as a matter of principle, it will be construed on a territorial basis, to the extent appropriate. When foreign entities not affiliated with or guaranteed by US persons are required to register, transaction-level requirements will apply to transactions with U.S. persons and guaranteed affiliates.
For example, EU registered dealers who are neither affiliated with, nor guaranteed by, U.S. persons, would be subject only to U.S. transactional rules for their transactions with U.S. persons and guaranteed affiliates. Additionally, for market participants that are subject to the requirements of the Dodd-Frank Act or European Market Infrastructure Regulation (EMIR), the CFTC plans to issue a no-action letter specifying that where a swap/OTC derivative is subject to joint jurisdiction under U.S. and EU risk mitigation rules, compliance under EMIR will achieve compliance with the relevant CFTC rules.
The CFTC will consult with the EC in giving consideration to extending regulatory relief to trading platforms that are subject to requirements that achieve regulatory outcomes that are comparable to those achieved by the requirements for Swap Execution Facilities.
The various parties say they will continue to work with each other to resolve remaining issues, such as margin requirements, consistent data fields, access to data, and other issues related to privacy, blocking, and secrecy laws.
Additional details of the agreement can be found here.
Michael O'Brien, a partner in corporate law at the firm Winston & Strawn, notes that the agreement was issued one day prior to the expiration of a CFTC Exemptive Order concerning the cross border application of the swaps provisions of the Dodd-Frank Act. The CFTC, on Friday, has scheduled an open meeting to decide whether to extend the Exemptive Order, adopt controversial rules proposed in July 2012 or to take an intermediate or phased-in approach.
The agreement, he says, "clearly is intended to blunt the criticism from many quarters, national and international, that the CFTC has taken an aggressive and go-it-alone approach to the cross border application of Dodd-Frank.”
“In its substance, it is broad in concepts but lacking in detail and filled with qualifiers," he added. "In most areas there is no indication of a change in policy position by the CFTC.”
O'Brien added that, noticeably absent from the press release, is any reference to the Securities and Exchange Commission. On May 1, the SEC proposed rules governing cross-border activities in security-based swaps, the trades it has responsibility over as per the Dodd-Frank Act. Its approach differs in many ways from what the CFTC has proposed and is considered to be less onerous for multinational interests.