Powell Says Regulators Fixing Big Flaws in Derivatives Market

Federal Reserve Governor Jerome Powell said regulators are attempting to fix the “significant flaws” in the over-the-counter derivatives market that were revealed by the financial crisis.

“Increased central clearing and margins for noncleared derivatives are foundational elements of the program” which “can help create a system in which the OTC derivatives-market infrastructure acts as a pillar of strength in the next crisis,” Powell said today in the text of remarks in New York.

Regulators have been working to toughen safeguards in the $693 trillion OTC derivatives market blamed for worsening the credit crisis, in part by moving most trading onto open exchanges away from the private dealing that was the norm. The Dodd-Frank financial overhaul legislation of 2010 required most swaps to be backed by clearinghouses for the first time.

“To achieve this goal, it is imperative that international standards” and “the margining framework for non-centrally cleared derivatives be forcefully and consistently implemented across the globe,” Powell said.

“The financial crisis revealed significant flaws in the structure of the OTC derivatives markets that are now being addressed as part of a worldwide reform effort,” Powell said. Central counterparties must be “safe and effective at managing the risks, interactions and interdependencies inherent in the clearing process.”

“Given their heightened prominence in the financial infrastructure, if CCPs are to mitigate systemic risks they must hold themselves to, and be held to, the highest standards of risk management,” he said. “Effective risk management by both a CCP and its clearing members need to work in concert.”

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