Hearing on the Administration’s Proposal to Regulate the Over-the-Counter Derivatives Market (William Cunningham, Jui-Kai Li, Hsiu-Jui Chang)
At 10:00 a.m. on Friday, July 10, 2009, in 1100 Longworth House Office Building, the Full Committee of the House Agriculture Committee and the House Financial Services Committee conducted a hearing titled "A Review of the Administration’s Proposal to Regulate the Over-the-Counter Derivatives Market." Timothy F. Geithner, Secretary, U.S. Department of the Treasury, was the only witness.
The hearing began with a consideration of the risk to taxpayers from the over the counter derivatives market. According to Wikipedia,
"Over-the-counter (OTC) derivatives are contracts that are traded (and privately negotiated) directly between two parties, without going through an exchange or other intermediary. The OTC derivative market is the largest market for derivatives, and is largely unregulated with respect to disclosure of information between the parties, since the OTC market is made up of banks and other highly sophisticated parties, such as hedge funds. According to the Bank for International Settlements, the total outstanding notional amount is $684 trillion (as of June 2008)."
Upon opening of the hearing, the Chair of the Ag Committee stated that: "Government should not be the one to judge risk." Among other topics, members of the Committee and the Secretary discussed the fact that new regulation is being driven by the a recognition that the OTC market provides a broader set of investment options, but capital requirements and other protections need to be strengthened to better reflect the true riskiness of these options. The Secretary reiterated that this was the purpose of the proposal.
The need for international cooperation among regulators was discussed at several points. A recurring worry was regulatory arbitrage. Influencing this concern was the ability of new technologies, like the Internet, to act as a powerful disintermediation engine, thereby making it easier for OTC derivative market customers to move trading activity to the exchange that is the least regulated.
Another topic of discussion concerned standardized versus customized OTC derivative products or contracts. Note that the Financial Reform Plan released by the Obama Administration calls for the use of more "plain-vanilla" derivatives.
One Committee member suggest banning Credit Default Swaps (CDS) outright, but the Secretary rejected this suggestion, calling instead for higher CDS capital requirements.
The Obama Administration Stimulus Plan was discussed, with one Committee member saying that recent increases in the unemployment rate showed the Plan to be a failure. The Secretary countered by saying that decreases in unemployment lag increases in economic growth at this point in a recovery.
Several Committee members discussed the need for a central OTC derivatives clearinghouse. One member suggested the creation of an electronic clearinghouse. The Secretary suggested that this would increase transparency and make price discovery more efficient. The Secretary also noted that this increased transparency will require closer cooperation and coordination by the SEC and the CFTC, but no decision appears to have been made yet about merging the two regulatory bodies.
The only fireworks came when one committee members asked the Secretary to guarantee that today's derivative buyer will not be tomorrow's bailout recipient. The Secretary declined to offer any such assurance.
The hearing began with a consideration of the risk to taxpayers from the over the counter derivatives market. According to Wikipedia,
"Over-the-counter (OTC) derivatives are contracts that are traded (and privately negotiated) directly between two parties, without going through an exchange or other intermediary. The OTC derivative market is the largest market for derivatives, and is largely unregulated with respect to disclosure of information between the parties, since the OTC market is made up of banks and other highly sophisticated parties, such as hedge funds. According to the Bank for International Settlements, the total outstanding notional amount is $684 trillion (as of June 2008)."
Upon opening of the hearing, the Chair of the Ag Committee stated that: "Government should not be the one to judge risk." Among other topics, members of the Committee and the Secretary discussed the fact that new regulation is being driven by the a recognition that the OTC market provides a broader set of investment options, but capital requirements and other protections need to be strengthened to better reflect the true riskiness of these options. The Secretary reiterated that this was the purpose of the proposal.
The need for international cooperation among regulators was discussed at several points. A recurring worry was regulatory arbitrage. Influencing this concern was the ability of new technologies, like the Internet, to act as a powerful disintermediation engine, thereby making it easier for OTC derivative market customers to move trading activity to the exchange that is the least regulated.
Another topic of discussion concerned standardized versus customized OTC derivative products or contracts. Note that the Financial Reform Plan released by the Obama Administration calls for the use of more "plain-vanilla" derivatives.
One Committee member suggest banning Credit Default Swaps (CDS) outright, but the Secretary rejected this suggestion, calling instead for higher CDS capital requirements.
The Obama Administration Stimulus Plan was discussed, with one Committee member saying that recent increases in the unemployment rate showed the Plan to be a failure. The Secretary countered by saying that decreases in unemployment lag increases in economic growth at this point in a recovery.
Several Committee members discussed the need for a central OTC derivatives clearinghouse. One member suggested the creation of an electronic clearinghouse. The Secretary suggested that this would increase transparency and make price discovery more efficient. The Secretary also noted that this increased transparency will require closer cooperation and coordination by the SEC and the CFTC, but no decision appears to have been made yet about merging the two regulatory bodies.
The only fireworks came when one committee members asked the Secretary to guarantee that today's derivative buyer will not be tomorrow's bailout recipient. The Secretary declined to offer any such assurance.