Swap Regulators Face Congressional Push to Curb Dodd-Frank
U.S. regulators face renewed pressure from congressional lawmakers who voted today to ease Dodd-Frank Act derivatives requirements amid criticism from Wall Street and overseas officials that the rules overreach.
The House Financial Services Committee advanced nine measures that would allow more swaps to be traded in units of banks such as JPMorgan Chase & Co. (JPM) and Citigroup Inc. (C) that hold government-insured deposits. One measure would force U.S. regulators to determine the cost of new Basel III capital charges on banks’ swaps with corporate clients.
“We now have the benefit of almost three years to analyze the impact of the law, to be able again to analyze the unintended consequences,” said Representative Jeb Hensarling, a Texas Republican and chairman of the committee. “Regardless of your thought of how good the act might be, it was not chiseled into stone.”
The measures, which would need approval from the House and Senate before heading to President Barack Obama, are part of an effort by big banks and their congressional supporters to amend or limit the regulatory overhaul the president signed into law less than three years ago. Dodd-Frank requires the Commodity Futures Trading Commission and Securities and Exchange Commission to create swap-market rules after largely unregulated trades helped fuel the 2008 credit crisis.
“In many cases, legislation is premature and aspects would be disruptive and harmful to the implementation of key reforms,” Treasury Secretary Jacob J. Lew wrote in a letter dated yesterday to Hensarling. “We should allow the regulators to complete their ongoing rulemakings, and then determine what changes, if any, might be necessary.”
Congressional efforts to change the law have so far failed to win passage as the CFTC and other regulators seek to finish writing regulations. Representative Jim Himes, a Connecticut Democrat who wrote legislation that would alter Dodd-Frank, said the bills probably won’t become law.
“If I were betting, I would say none of these bills will become law,” Himes said at a Bloomberg Government breakfast in Washington on April 25. “I don’t think there’s a lot of appetite in the Senate to get into which of these bills make sense and how are they balanced.”
One measure, approved on a 53-6 vote, calls for altering a requirement that banks with access to deposit insurance and the Federal Reserve’s discount window move some derivatives trades to affiliates that have their own capital. Commodity, equity and structured swaps tied to some asset-backed securities would be allowed in such banks under the legislation.
Representative Maxine Waters, the top Democrat on the House Financial Services Committee, said last year that “legitimate concerns have been raised about whether pushing a significant portion of swaps out of banks is the best way to mitigate against future systemic risk.” Waters today dropped her support for the measure because she is waiting for regulators to complete Dodd-Frank rule-writing.
Americans for Financial Reform, a coalition including the AFL-CIO labor federation as well as other unions and consumer groups, has opposed changes to the so-called push-out rule.
Sheila Bair, former chairman of the Federal Deposit Insurance Corp., said today that derivatives trades should be permitted in bank holding companies, but not funded with insured deposits.
“If Congress wants to re-open Dodd-Frank on this question, if anything, they should push all derivatives activities (other than the banks’ own hedges) into affiliates outside of the insured bank,” Bair said in an e-mail. “This would force market funding of derivatives thus providing substantially greater market discipline than permitting them to be funded with insured deposits.”
A second bill, supported by the Securities Industry and Financial Markets Association, as well as Philadelphia-based chemical company FMC Corp. (FMC), would require the U.S. Financial Stability Oversight Council to examine the costs of international Basel capital charges for derivatives.
European Union lawmakers insisted on granting exemptions in Basel rules from the credit valuation adjustment, or CVA, to banks’ trades with companies in industries such as energy and chemicals that use swaps to hedge against price swings. The European lawmakers warned that applying the Basel rules as planned would drive up such companies’ costs.
“This exemption will provide a significant financial and business advantage to European banks,” Stephen Fincher, a Tennessee Republican, said at the meeting.
The House measure, approved on a 59-0 vote, requires the 10-member council, led by Lew, to determine the costs to U.S. bank competitiveness from the differences in capital regulations and recommend ways to limit the impact.
The EU’s exemption for non-financial companies was necessary partly to counter “an inbuilt bias” toward the U.S. in this part of the Basel rules, Sharon Bowles, the chairwoman of the European Parliament’s economic and monetary affairs committee, said in an interview.
This bias arises from a requirement that firms calculate the CVA by seeking data from the market on how risky their counterparty is perceived to be.
Under the Basel rule, this is done either by looking at the premium that companies’ have to pay to take out credit default swaps that insure them against losses on the counterparty’s debt, or by examining the price movements of other co-called proxy securities.
The deep liquidity of U.S. bond markets, and consequent high probability that a trader can hedge at an acceptable price, could favor U.S.-based banks in this respect, Bowles said.
“It’s not that we want special treatment for Europe, it’s just that the model of using proxies to calculate the risk doesn’t seem to work anywhere else than the U.S.,” said Bowles, who led calls to write the exemption into the EU’s Basel III law. “In Europe, we would have ended up with an artificially high charge.”
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