Differences among U.S. agencies on cross-border regulations could have global implications for the nearly $650 trillion derivatives marketplace.
An unfolding debate is whether or not the U.S. should be calling shots as the top cop on the swaps beat, forcing members of the European Union and other countries to either abide by its rules or impose regulations of their own that are deemed suitable.
The global interconnectedness of the swaps marketplace has made regulatory efforts an ongoing challenge for the U.S. Securities and Exchange Commission and the U.S. Commodity Futures Trading Commission. To address risks, they and their counterparts around the world are at various stages of implementing new derivatives reforms. This, however, could leave market participants subjected to multiple, overlapping, and likely conflicting regulatory regimes. The U.S. approach to the problem, primarily, is the concept of “substituted compliance.” They will leave matters in the hands of overseas regulators, so long as their rules echo their own.
The plan hasn't gone over well. Concerns about the potential for regulatory overreach by the U.S. were detailed in an April 18 letter to U.S. Treasury Secretary Jack Lew that was signed by, among others, Michael Barnier of the European Commission, Wolfgang Schauble, Germany's finance minister, and Pierre Moscovici, France's minister of finance.
“An approach in which jurisdictions require that their own domestic regulatory rules be applied to their firms' derivatives transactions taking place in broadly equivalent regulatory regimes abroad is not sustainable,” they wrote. “Market places where firms from all our respective jurisdictions can come together and do business will not be able to function under such burdensome regulatory conditions.”
Complicating matters is inconsistency among U.S. regulators. The SEC and CFTC have proposed rules that differ in meaningful ways.
Last month, the SEC proposed new rules for cross-border, over-the-counter security-based swap transactions.The majority of U.S. transactions involve one or more counterparties located in different countries, the SEC says.
The SEC's proposed rules are widely viewed as less stringent, more diplomatic when it comes to international issues, and more accommodating of market differences than those crafted by the CFTC. A narrow definition of what constitutes a “U.S. person” is among the ways the SEC has tried to limit its international reach.
Under the SEC's proposed substituted compliance framework, security-based swap transactions involving activity within the U.S. would generally be subject to U.S. regulation. However, a party may instead satisfy the SEC's requirements by complying with some or all of those in place by foreign regulators, provided that the Commission views this regime as “fostering comparable outcomes.
In making its comparability determination, the SEC would separately assess four categories: requirements applicable to registered non-U.S. security-based swap dealers; requirements relating to regulatory reporting and public dissemination of security-based swap data; requirements relating to mandatory clearing for security-based swaps; requirements relating to mandatory trade execution for security-based swaps. The Commission has stressed that it is “not proposing an ‘all-or-nothing' approach.” If a regime achieves comparable regulatory outcomes in three out of four categories, for example, it would permit substituted compliance in just those areas.
While the SEC's assessment of cross-border regulations stresses outcomes and places its focus on the lessened burden of merely having similarly intended "regulatory outcomes,” the CFTC would make a more direct comparison of rules and regulations when making a substituted compliance decision.
Complicating matters is a push by Republicans in the U.S. Congress to align the SEC and CFTC's cross-border swaps rules. Proposed legislation would require both agencies to enforce identical rules. Meanwhile, CFTC commissioners continue to debate what to do about a fast-approaching July 12 deadline for cross-border derivatives rules. On that date, an exceptive order for acting on its drafted final guidance expires.
Commissioner Scott O'Malia, speaking at a conference in London earlier this month, said the commission should agree to extend exceptive relief until the end of the year. An extension, he said, would allow his commission and international regulators to "continue their ongoing cooperative efforts to harmonize the global regulatory framework.” CFTC Chairman Gary Gensler, however, has been adamant that his commission must stick to its current proposal and implementation deadlines.
The European Union has urged the CFTC to extend the temporary exemption for overseas banks. A May 30 letter to Gensler from Jonathan Faull, the EU's director general for internal market and services, and Steven Maijoor, chairman of the European Securities and Markets Authority, said an extension would reduce compliance costs, and ease legal and operational uncertainties.
European Union Commissioner Michel Barnier has announced that he plans to meet with U.S regulators to discuss cross-border issues in July. In the meantime, on June 20, Gensler was scheduled to meet with European regulators to discuss the matter.