I’ve spent quite a bit of
time in Europe lately, and this gives a rather interesting
perspective on US derivatives regulatory policy.
Specifically, on the efforts of
Frankendodd’s Igor, Gary Gensler, to make US
Things came to a head when the head of the
CFTC’s clearing and risk
division, Ananda Radhakrishnan, said ICE and
LCH, both of which clear US-traded futures contracts out of the
UK, could avoid cross-border issues arising from
inconsistencies between EU and US regulation (relating mainly
to collateral segregation rules) by moving to the US:
Striking a marked contrast with European
regulators calling for a collaborative cross-border approach to
regulation, a senior CFTC official said he was "tired" of
providing exemptions, referring in particular to discrepancies
between the US Dodd-Frank framework and the European Market
Infrastructure Regulation (Emir) on clearing futures and the
protection of related client collateral.
"To me, the first response cannot be:
'CFTC, you’ve got to provide an
exemption’," said Radhakrishnan, the director of
the clearing and risk division at the CFTC.
Radhakrishnan singled out LCH.Clearnet and
the InterContinental Exchange as two firms affected by the
inconsistent regulatory frameworks on listed derivatives as a
result of clearing US business through European-based
derivatives clearing organisations (DCOs).
"ICE and LCH have a choice. They both have
clearing organisations in the United States. If they move the
clearing of these futures contracts… back to a US only
DCO I believe this conflict doesn’t exist," he
"These two entities can engage in some
self-help. If they do that, neither (regulator) will have to
provide an exemption."
It was not just what he said, but how he
said it. The "I’m tired" rhetoric, and his general
mien, was quite grating to Europeans.
The issue is whether the US will accept EU
clearing rules as equivalent, and whether the EU will
reciprocate. Things are pressing, because there is a December
deadline for the EU to recognize US CCPs as equivalent. If
this doesn’t happen, European banks that use a US
CCP (e.g., Barclays holding a Eurodollar futures position
cleared through the CME) will face a substantially increased
capital charge on the cleared positions.
Right now there is a huge game of chicken
going on between the EU and the US. In response to what Europe
views as US obduracy, the Europeans approved five
Asian/Australasian CCPs as operating under rules equivalent to
Europe’s, allowing European banks to clear though
them without incurring the punitive capital charges. To
emphasize the point, the EU’s head of financial
services, Michael Barnier, said the US could get the same
treatment if it deferred to EU rules (something which
Radhakrishnan basically said he was tired of talking
"If the CFTC also gives effective
equivalence to third country CCPs, deferring to strong and
rigorous rules in jurisdictions such as the EU, we will be able
to adopt equivalence decisions very soon," Barnier said.
Read this as a giant one finger salute
from the EU to the CFTC.
So we have a Mexican standoff, and the
clock is ticking. If the EU and the US don’t
resolve matters, the world derivatives markets will become even
more fragmented. This will make them less competitive, which is
cruelly ironic given that one of Gensler’s claims
was that his regulatory agenda would make the markets more
competitive. This was predictably wrong-and some predicted this
unintended perverse outcome.
Another part of Gensler’s
agenda was to extend US regulatory reach to entities operating
overseas whose failure could threaten US financial
institutions. One of his major criteria for identifying such
entities was whether they are guaranteed by a US institution.
Those who are so guaranteed are considered "US persons," and
hence subject to the entire panoply of Frankendodd
requirements, including notably the Sef mandate. The Sef
mandate is loathed by European corporates, so this would
further fragment the swaps market. (And as I have said often
before, since end users are the alleged beneficiaries of the
Sef mandate-Gary oft’ told us so!-it is passing
strange that they are hell-bent on escaping it.)
European US bank affiliates with
guarantees from US parents have responded by terminating the
guarantees. Problem solved, right? The dreaded guarantees that
could spread contagion from Europe to the US are gone, after
But US regulators and legislators view
this as a means of evading Frankendodd. Which illustrates the
insanity of it all. The SEF mandate has nothing to do with
systemic risk or contagion. Since the ostensible purpose of the
DFA was to reduce systemic risk, it was totally unnecessary to
include the SEF mandate. But in its wisdom, the US Congress
did, and Igor pursued this mandate with relish.
The attempts to dictate the mode of trade
execution even by entities that cannot directly spread
contagion to the US via guarantees epitomizes the overreach of
the US. Any coherent systemic risk rationale is totally absent.
The mode of execution is of no systemic importance. The
elimination of guarantees eliminates the ability of failing
foreign affiliates to impact directly US financial
institutions. If anything, the US should be happy, because some
of the dread interconnections that Igor Gensler inveighed
against have been severed.
But the only logic that matters her is
that of control. And the US and the Europeans are fighting over
control. The ultimate outcome will be a more fragmented, less
competitive, and likely less robust financial system.
This is just one of the things that
Gensler hath wrought. I could go on. And in the future I
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