July 10 (Bloomberg) -- Treasury Secretary Timothy Geithner is urging Congress to rein in the $592 trillion derivatives market with new U.S. laws that are “difficult to evade.”

The complexity of over-the-counter derivatives contracts and industry growth let corporations take on excessive risk and caused a “very damaging wave of deleveraging” that exacerbated the global credit crisis, Geithner said in prepared testimony to be delivered today at a joint hearing of the House Agriculture and Financial Services committees in Washington.

Geithner repeated President Barack Obama’s call to force “standardized” contracts onto exchanges or regulated trading platforms, and regulate all dealers. Contracts would be subject to new disclosure rules, and “conservative” capital and margin requirements, as well as business-conduct standards, would be imposed on market participants, Geithner said.

The market, which grew almost seven-times since 2000, complicated government efforts throughout the credit crisis to assess potential losses at U.S. banks and corporations because regulators lacked adequate data to measure their risk, he said.

“The status quo has to change,” Keith Styrcula, the chairman and founder of the Structured Products Association, said in an interview today with Bloomberg Television. “It’s been a privately negotiated market, and with the credit default crisis we’ve had, that’s no longer acceptable.”

Opaque Market

Derivatives are contracts used to hedge against changes in stocks, bonds, currencies, commodities, interest rates and weather. Geithner said investors and corporations have instead been using derivatives to “evade regulation, or to exploit gaps and differences in regulation, and to minimize” taxes.

Opaque financial products contributed to almost $1.5 trillion in writedowns and losses at the world’s biggest banks, brokers and insurers since the start of 2007, according to data compiled by Bloomberg.

Obama’s plan to regulate the derivatives market is part of a wider overhaul of financial industry rules meant to prevent any possibility of a repeat of last year, when the collapse of Lehman Brothers Holdings Inc. and American International Group Inc. froze credit markets and worsened the global recession.

House Financial Services Committee Chairman Barney Frank backed the principals of the administration’s proposal, saying that he and House Agriculture Committee Chairman Collin Peterson were “well on our way” to delivering legislation to the White House.

“Clearly we will be significantly expanding the regulation of derivatives,” Frank, a Massachusetts Democrat, said, adding that hedge funds should also be subject to increased regulation as part of any proposal.

Standardized, Customized

The crux of Obama’s proposal delineates between standard contracts like interest-rate swaps that would need to be cleared through an electronic exchange or trading platform, and custom contracts subject to less regulation. Geithner said the administration will propose a broad definition of “standardized OTC derivatives that will be capable of evolving with the markets and will be designed to be difficult to evade.”

Contracts will move naturally toward standardization over customization, Geithner said, adding that he doesn’t want the law to be too specific for fear companies will “arbitrage the rules.”

“The economic interests of the participants will encourage central clearing,” he said. “As the markets become more standardized it becomes more compelling and economically efficient to move toward central clearing.”

Peterson Is Warming

He said regulations will presume any contract that is accepted for clearing is standard. High-volume transactions will also be considered standard as will those that are centrally cleared and lack “economically important differences between the terms of the contract and the terms of other contracts,” Geithner said.

The Securities and Exchange Commission and the Commodity Futures Trading Commission would jointly oversee the industry.

Peterson, who has taken the lead in writing derivatives legislation in the House, said he is warming to Obama’s plan. Peterson, who has been skeptical of the need for customized derivatives, said his proposal will be folded into a broader financial regulatory bill being drafted by Frank.

Farm-state lawmakers, worried that speculators making bets using over-the-counter derivatives may distort crop and energy prices, have questioned whether Obama’s plan is strict enough.

Putting Up Money

“As long as everybody has to put some money up and we have tight oversight, we can have a strong bill,” Peterson, a Minnesota Democrat, said in an interview, referring to Obama’s call for capital and margin requirements.

Representative Maxine Waters introduced legislation late yesterday to ban all credit-default swaps.

“Preventing all credit-default swaps is essential to bringing stability to the market and preventing a similar crisis in the future,” Waters, a California Democrat, said in a statement released at the hearing today.

In the Senate, Agriculture Committee Chairman Tom Harkin, an Iowa Democrat, reiterated yesterday his push for legislation that would require all over-the-counter derivatives trades be traded on regulated exchanges, not just standardized ones as the Obama administration is seeking.

The Commodity Futures Trading Commission said July 7 it plans to hold hearings this month and next to explore the need for government-imposed restrictions on speculative trading in oil, gas and other energy markets. Chairman Gary Gensler is mainly looking at the possibility of imposing position limits for commodity futures traders.

To contact the reporters on this story: Dawn Kopecki in Washington at dkopecki@bloomberg.net; Robert Schmidt in Washington at rschmidt5@bloomberg.net.

Last Updated: July 10, 2009 11:09 EDT