[House Hearing, 112 Congress]
[From the U.S. Government Publishing Office]

CHALLENGES FACING THE U.S. CAPITAL MARKETS
TO EFFECTIVELY IMPLEMENT TITLE VII OF
THE DODD-FRANK ACT

=======================================================================

HEARING

BEFORE THE

SUBCOMMITTEE ON CAPITAL MARKETS AND

GOVERNMENT SPONSORED ENTERPRISES

OF THE

COMMITTEE ON FINANCIAL SERVICES

U.S. HOUSE OF REPRESENTATIVES

ONE HUNDRED TWELFTH CONGRESS

SECOND SESSION

__________

DECEMBER 12, 2012

__________

Printed for the use of the Committee on Financial Services

Serial No. 112-163

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79-693 WASHINGTON : 2013
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HOUSE COMMITTEE ON FINANCIAL SERVICES

SPENCER BACHUS, Alabama, Chairman

JEB HENSARLING, Texas, Vice BARNEY FRANK, Massachusetts,
Chairman Ranking Member
PETER T. KING, New York MAXINE WATERS, California
EDWARD R. ROYCE, California CAROLYN B. MALONEY, New York
FRANK D. LUCAS, Oklahoma LUIS V. GUTIERREZ, Illinois
RON PAUL, Texas NYDIA M. VELAZQUEZ, New York
DONALD A. MANZULLO, Illinois MELVIN L. WATT, North Carolina
WALTER B. JONES, North Carolina GARY L. ACKERMAN, New York
JUDY BIGGERT, Illinois BRAD SHERMAN, California
GARY G. MILLER, California GREGORY W. MEEKS, New York
SHELLEY MOORE CAPITO, West Virginia MICHAEL E. CAPUANO, Massachusetts
SCOTT GARRETT, New Jersey RUBEN HINOJOSA, Texas
RANDY NEUGEBAUER, Texas WM. LACY CLAY, Missouri
PATRICK T. McHENRY, North Carolina CAROLYN McCARTHY, New York
JOHN CAMPBELL, California JOE BACA, California
MICHELE BACHMANN, Minnesota STEPHEN F. LYNCH, Massachusetts
KEVIN McCARTHY, California BRAD MILLER, North Carolina
STEVAN PEARCE, New Mexico DAVID SCOTT, Georgia
BILL POSEY, Florida AL GREEN, Texas
MICHAEL G. FITZPATRICK, EMANUEL CLEAVER, Missouri
Pennsylvania GWEN MOORE, Wisconsin
LYNN A. WESTMORELAND, Georgia KEITH ELLISON, Minnesota
BLAINE LUETKEMEYER, Missouri ED PERLMUTTER, Colorado
BILL HUIZENGA, Michigan JOE DONNELLY, Indiana
SEAN P. DUFFY, Wisconsin ANDRE CARSON, Indiana
NAN A. S. HAYWORTH, New York JAMES A. HIMES, Connecticut
JAMES B. RENACCI, Ohio GARY C. PETERS, Michigan
ROBERT HURT, Virginia JOHN C. CARNEY, Jr., Delaware
ROBERT J. DOLD, Illinois
DAVID SCHWEIKERT, Arizona
MICHAEL G. GRIMM, New York
FRANCISCO ``QUICO'' CANSECO, Texas
STEVE STIVERS, Ohio
STEPHEN LEE FINCHER, Tennessee
FRANK C. GUINTA, New Hampshire

James H. Clinger, Staff Director and Chief Counsel
Subcommittee on Capital Markets and Government Sponsored Enterprises

SCOTT GARRETT, New Jersey, Chairman

DAVID SCHWEIKERT, Arizona, Vice MAXINE WATERS, California, Ranking
Chairman Member
PETER T. KING, New York GARY L. ACKERMAN, New York
EDWARD R. ROYCE, California BRAD SHERMAN, California
FRANK D. LUCAS, Oklahoma RUBEN HINOJOSA, Texas
DONALD A. MANZULLO, Illinois STEPHEN F. LYNCH, Massachusetts
JUDY BIGGERT, Illinois BRAD MILLER, North Carolina
JEB HENSARLING, Texas CAROLYN B. MALONEY, New York
RANDY NEUGEBAUER, Texas GWEN MOORE, Wisconsin
JOHN CAMPBELL, California ED PERLMUTTER, Colorado
KEVIN McCARTHY, California JOE DONNELLY, Indiana
STEVAN PEARCE, New Mexico ANDRE CARSON, Indiana
BILL POSEY, Florida JAMES A. HIMES, Connecticut
MICHAEL G. FITZPATRICK, GARY C. PETERS, Michigan
Pennsylvania AL GREEN, Texas
NAN A. S. HAYWORTH, New York KEITH ELLISON, Minnesota
ROBERT HURT, Virginia
MICHAEL G. GRIMM, New York
STEVE STIVERS, Ohio
ROBERT J. DOLD, Illinois

C O N T E N T S

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Page
Hearing held on:
December 12, 2012............................................ 1
Appendix:
December 12, 2012............................................ 67

WITNESSES
Wednesday, December 12, 2012

Bailey, Keith, Managing Director, Markets Division, Barclays, on
behalf of the Institute of International Bankers (IIB)......... 42
Bopp, Michael D., Gibson, Dunn & Crutcher, LLP, on behalf of the
Coalition for Derivatives End-Users............................ 44
Cohen, Samara, Managing Director, Goldman, Sachs & Co............ 46
Cook, Robert, Director, Division of Trading and Markets, U.S.
Securities and Exchange Commission (SEC)....................... 13
DeGesero, Eric, Executive Vice President, Fuel Merchants
Association of New Jersey, on behalf of the Petroleum Marketers
Association of America (PMAA), the New England Fuel Institute
(NEFI), and the Fuel Merchants Association of New Jersey (FMA). 47
Deutsch, Thomas, Executive Director, American Securitization
Forum (ASF).................................................... 49
Gensler, Hon. Gary, Chairman, Commodity Futures Trading
Commission (CFTC).............................................. 10
Giancarlo, J. Christopher, Executive Vice President, GFI Group
Inc.; and Chairman, Wholesale Markets Brokers Association,
Americas (WMBAA), on behalf of WMBAA........................... 51
Parsons, John E., Senior Lecturer, Finance Group, Sloan School of
Management, Massachusetts Institute of Technology (MIT), and
Executive Director, MIT's Center for Energy and Environmental
Policy Research................................................ 53

APPENDIX

Prepared statements:
Bailey, Keith................................................ 68
Bopp, Michael D.............................................. 85
Cohen, Samara................................................ 88
Cook, Robert................................................. 99
DeGesero, Eric............................................... 106
Deutsch, Thomas.............................................. 112
Gensler, Hon. Gary........................................... 120
Giancarlo, J. Christopher.................................... 135
Parsons, John E.............................................. 145

Additional Material Submitted for the Record

Garrett, Hon. Scott:
Written statement of Companies Supporting Competitive
Derivatives Markets........................................ 151
Written statement of Terrence A. Duffy, Executive Chairman
and President, CME Group, Inc.............................. 158
Moore, Hon. Gwen:
Written statement of Americans for Financial Reform.......... 161
Letter to Treasury Secretary Timothy F. Geithner and CFTC
Chairman Gary Gensler from Hon. Barney Frank, dated
September 21, 2012......................................... 171
Sherman, Hon. Brad:
Letter to CFTC Chairman Gary Gensler from Senator Blanche L.
Lincoln, dated December 16, 2010........................... 172
Stivers, Hon. Steve:
Letter to CFTC Chairman Gary Gensler from George Osborne,
Chancellor of the Exchequer, UK Government; Michel Barnier,
Commissioner for Internal Market and Services, European
Commission; Ikko Nakatsuka, Minister of State for Financial
Services, Government of Japan; and Pierre Moscovici,
Minister of Finance, Government of France, dated October
17, 2012................................................... 174
Bopp, Michael D.:
Written responses to questions submitted by Chairman Bachus.. 176

CHALLENGES FACING THE U.S. CAPITAL
MARKETS TO EFFECTIVELY IMPLEMENT
TITLE VII OF THE DODD-FRANK ACT

----------

Wednesday, December 12, 2012

U.S. House of Representatives,
Subcommittee on Capital Markets and
Government Sponsored Enterprises,
Committee on Financial Services,
Washington, D.C.
The subcommittee met, pursuant to notice, at 10:05 a.m., in
room 2128, Rayburn House Office Building, Hon. Scott Garrett
[chairman of the subcommittee] presiding.
Members present: Representatives Garrett, Schweikert,
Royce, Biggert, Hensarling, Neugebauer, Campbell, Pearce,
Posey, Fitzpatrick, Hayworth, Grimm, Stivers, Dold, Canseco;
Waters, Sherman, Lynch, Miller of North Carolina, Maloney,
Moore, Carson, Himes, Peters, and Green.
Ex officio present: Representative Bachus.
Chairman Garrett. Good morning. The Capital Markets and
Government Sponsored Enterprises Subcommittee is called to
order. I thank everyone for being with us. Today's hearing is
entitled, ``Challenges Facing the U.S. Capital Markets to
Effectively Implement Title VII of the Dodd-Frank Act.'' I
welcome the panel, and I welcome my colleagues on both sides of
the aisle.
Before I begin, I will start with this, a little more than
a housekeeping matter--I made a similar statement previously to
a private sector panel who appeared before us, and it is
apparently apropos that I make this statement here, and that is
is that it was agreed in a bipartisan manner with the rules of
the committee with regard to testimony and its preparation for
the committee and for both sides of the aisle's members of the
committee--Mr. Gensler and Mr. Cook, as you are aware, the
committee rules require that the committee receive written
statements 48 hours, that is 2 days, in advance of the hearing.
In this case, this committee invited you all to testify before
Thanksgiving. The SEC's written submission arrived at
approximately 1:25 yesterday afternoon. The CFTC's submission
did not arrive until around 4 p.m. yesterday.
And the reason I bring it up is the same reason I brought
it up when the private sector was here; the reason we agreed
that we should have these things in all of our hands 48 hours
in advance is for ourselves and our staffs, for all of us to be
able to read it, understand it, and digest it in a timely
manner. In this case, as I say, it goes back almost several
weeks that this meeting was noticed, and also, as you know,
this was actually postponed one time.
So I hesitate to put a rationale as to why the Commissions
are unable to provide the statements in a timely manner. I
hesitate to wonder why they are not able to comply with the
House rules when I am sure that you would require various
businesses and what-have-you to comply with your rules. Some
would suggest that it appears to reflect a lack of respect for
the committee and its members, and I will--just before we
begin, I will just ask both of you, is that the reason or is
there--
Ms. Waters. Would the gentleman yield?
Chairman Garrett. Yes.
Ms. Waters. With all due respect for your concern about
whether or not our witnesses are in compliance with the rules,
I would respectfully ask the Chair to have a private
conversation with them about their workloads and what they are
attempting to do. And I am not attempting to make any excuses,
but I think we would be better served if we could move forward.
For today, I think you have indicated your concern. Let us do a
private meeting or a private response to that and move on,
because the issue before us today is of such great importance
that I would like us to not utilize all of our time with them
having to make an excuse for it. As the ranking member, I am
concerned about these issues. I take it seriously, and I would
respectfully ask that we move forward and have Mr. Gensler and
Mr. Cook both talk with you a little bit later about this.
Chairman Garrett. That is fine, and I will defer then to
the ranking member's wishes on this, because I am sure she
shares the same concern that I do that her staff has the
opportunity to review this, as our staff and our Members do as
well.
And so with that, we will move into the hearing, begin with
opening statements, and I will recognize myself for 5 minutes.
As everyone is well aware, the main reason Congress is
still in session after the recent election is because
negotiations are ongoing to try to reach an agreement on the
so-called fiscal cliff. However, there is another cliff that is
receiving a lot less attention, but has the potential to be as
problematic and costly to Main Street businesses, retirees,
farmers, municipalities, and many others, and that, of course,
is the Dodd-Frank regulatory cliff. And while the President
campaigned for reelection, his financial regulators kept a
number of these potentially economically damaging rules, you
might say, bottled up to get through the November 7th election.
Now that the election has passed, the regulators have been
free to unleash their regulation tsunami, you might say, on the
U.S. economy. Whether it is the Qualified Mortgage (QM)
definition; the Volcker Rule; the risk retention issue; or the
Collins Amendment, the economic impact of each one of these
individually and collectively will be severe.
Today's hearing will focus on just one specific area of
this regulatory cliff, the new regulations of the U.S. swap
markets under Title VII.
So let me begin by correcting a common mischaracterization
from friends across the aisle sometimes: Republican do not
oppose all regulations. In fact, in the aftermath of the
financial crisis, Republicans proposed additional regulations
for the swap markets in a regulatory reform alternative, and,
believe it or not, we do support regulation of the market.
Unfortunately, some of our colleagues always present a false
choice on this issue. They say, either you support what is
exactly proposed by the regulators, the CFTC, or you support
deregulating the swaps market altogether.
This cannot be further from the truth. My colleagues and I
support commonsense, thoughtful regulations in the markets that
promote transparency and allow for Main Street end users to be
able to effectively hedge their day-to-day operations in a
prudential manner. Unfortunately, in terms of the proposals
that have been issued so far, this has not been the case.
Recently, the CFTC had a Global Markets Advisory Committee
meeting with foreign regulator counterparts, and during that
meeting the head of the European Commission's Financial Markets
Infrastructure, Patrick Pearson, described in detail many
potential negative consequences of some of the proposed rules
in Title VII, and he stated at the time, ``Washington, we have
a problem.'' And I believe if he was sitting up here, he might
say, ``Chairman Gensler, we have a problem.''
The criticism the CFTC has received from foreign countries
has been overwhelming. Europe, Asia, and Australia have
formally weighed in as well. If this keeps up, some suggest
that our President may have to go around the world at the
beginning of the year and do one of his famous apology tours
for what is going on here in this country.
The criticism of this as received is by no means limited to
foreign regulators. There has also been a lot of criticism
levied by many domestic entities, including some of your
counterparts at the SEC and even some of your own
Commissioners. Even former Clinton Administration Chairman of
the Council of Economic Advisers Martin Baily, a senior fellow
now in the Economic Studies Program at the somewhat liberal-
leaning Brookings Institute, has suggested that a swing of the
pendulum has gone back and is overly harsh.
I also constantly hear about the CFTC being a world-class
regulator, and that is what we all want. Now, I am told it is
the best entity to determine the rules of the road for the
swaps market, but some might have some doubts. For example,
does a world-class regulator rush forward on some rules and
then, after that, issue dozens of so-called short-term no-
action letters to exempt market participants? And would a
world-class regulator circumvent the lawful, good-government
rulemaking process of Congress by issuing regulations through
guidance or staff emails? Does a world-class regulator ignore
specific letters from congressional oversight panels, or does a
world-class regulator front-run its foreign and domestic
counterparts in order to try to have some sort of legacy here
for this institution in this country? Does a world-class
regulator not properly prepare its rulemakings, only to find
them struck down repeatedly in the courts? And would a world-
class regulator throw an entire consumer funding market into
disarray, doing so by encroaching on another regulator's
discretion? And does a world-class regulator repeatedly defy
congressional intent by not following congressional statute?
Does a world-class regulator create arbitrage opportunities and
reduce competition for market participants by overreaching on
its proposed rulemaking?
So from the refusal to work collaboratively with foreign
and also domestic counterparts, to the attempts to bypass the
appropriate cost-benefit analysis that we require, to laws to
rush unorganized exemptive actions creating more market
stability, to refusal to follow explicit congressional intent
to allow voice brokerage, to finally forcing market
participants to leave the swap markets to go over now to the
future markets because, well, it is a chaotic and overreaching
nature of the rulemaking, I can say that the entire
implementation, then, of Title VII has been somewhat, you might
say, of a train wreck. And now, because of a train wreck, we
have as a class its migrating away from the swaps into the
futures markets, and I am not sure why then the ranking member
went through all the hard work on the law that--well, he is not
here with us today--bears his name if the regulation is being
finalized--not this ranking member, the ranking member of the
full committee--if the laws that are being finalized by the
CFTC simply make swaps now economically unfeasible.
So what do we need? We need an appropriate and workable
regulatory regime over our swaps market if there is to be one.
A regulatory framework should promote transparency, increase
efficiency, and allow end users to effectively hedge the risk.
And this committee and others will have to hold many other
oversight hearings going forward to ensure that this is the
eventual outcome, and the implementation, therefore, is too
important and affects too many people to let us to continue to
deteriorate. We must get things back on the right track, and
that means involving some commonsense approach.
With that, I yield back, and I recognize the gentlelady
from California.
Ms. Waters. Thank you very much, Mr. Chairman, for holding
this important hearing today. And I would like to welcome Mr.
Gensler and Mr. Cook here today.
Mr. Cook, I understand that this perhaps will be your last
hearing, that you will not be the Director of the Division of
Trading and Markets following this session, so we would like to
thank you for your service.
Mr. Gensler, thank you for appearing here once again, and I
would like you to not feel constrained to defend yourself
against the accusations that were just made about you and your
work.
Under Title VII of the Dodd-Frank Wall Street Reform and
Consumer Protection Act, the Congress responded to one key
cause of the 2008 financial crisis: the unregulated over-the-
counter derivatives market. Through the Act, the Congress
tasked the Commodity Futures Trading Commission (CFTC) and the
Securities and Exchange Commission (SEC) with bringing much
needed transparency to this market, which amplified the
collapse of the housing bubble and cascaded losses across the
global financial system.
The CFTC and the SEC are now in the process of implementing
what the Congress has tasked them with both through regulation
of firms at the entity level and with regulation at the
transaction level, including clearing, data reporting, margin,
trade execution, and business conduct standards. Once in place,
these rules will bring much needed stability to the financial
system, while also lowering costs to the end users who rely on
these products to run their businesses.
With that said, our hearing today will begin to get into
the details with regard to some of the rulemakings the CFTC and
the SEC are now conducting, particularly with regard to how
swaps regulations will extend across U.S. borders. On this
point, I think it is important that we be sure not to import
unregulated risk back to the United States, while also
recognizing some of the legitimate concerns raised by market
participants, including a lack of harmonization between the SEC
and the CFTC, challenges raised by the faster implementation
timeline in the United States relative to the European Union
and Asia, as well as lack of global harmonization and a lack of
clarity regarding implementation dates.
In addition to exploring these concerns, I look forward to
hearing comments from stakeholders related to a number of other
issues related to Title VII and its implementation. I hope we
can all agree on the broad goals and structure of Title VII,
which will strengthen our financial system even as we continue
to debate the implementation details of some of these reforms.
With that, Mr. Chairman, I thank you very much, and I yield
back.
Chairman Garrett. Thank you.
The gentlelady yields back. The chairman of the full
Financial Services Committee, Chairman Bachus, is now
recognized for 5 minutes.
Chairman Bachus. Thank you.
We all know the Dodd-Frank Act is 2,300 pages long, and
Title VII, which is the subject of this hearing, is 444 pages
long. Reforms are absolutely necessary. We all know what
happened, we witnessed what happened in 2008, and there should
be no question that we need reforms.
Actions of companies like AIG and others--there were a lot
of innocent parties in the economy--jobs that were lost as a
result of those actions. And I think we know and I think the
dealers should report their trades to a data repository or an
appropriate regulator. Dealers should submit eligible trades
for clearing to a central counterparty or registered
clearinghouse and electronic platforms. And exchange trading
and voice brokerage should be available to market participants.
Having said all that, the rules must have some flexibility.
They must be flexible enough to have alternative forms of
execution to flourish. If all derivatives were supposed to be
traded on an exchange, then they would all be futures.
Derivatives are different from exchange-listed products, and
imposing the listed futures or equities market model on the
derivatives is not the mandate of Title VII. And I know there
are some different interpretations.
I want to say that the very complexity of this, we were all
there, a lot of this was done in the last 2 or 3 days, the last
night things were thrown together, and that is a problem for
the regulators. This was not something you went out and wrote;
it was handed to you. I don't underestimate your challenges,
and I want to compliment the SEC and the CFTC and your staffs,
because actually we have had seven hearings before this
subcommittee. That has required a lot of preparation on your
part. You are dealing with challenges. You are continuing to
deal with misbehavior in many cases in the market. This is the
greatest rewrite of our financial laws since the 1930s, I
suppose.
And I want to say, Mr. Cook, this may be your last
appearance before the committee. I appreciate your service. I
appreciate, Chairman Gensler, that you served here under a
difficult time. I don't think the committee members ought to
underestimate the challenges and sacrifices that you have made,
and the SEC and the CFTC.
My concern, and I think a concern of a lot of us--and this
is not blaming you--is just that law is ambiguous in parts, it
is subject to different interpretation. If we have a
conflicting definition of what is capital, for instance, which
appears to be the case with the regulators, and even the global
regulatory bodies, people can't seem to agree on some of the
definitions, then our financial institutions are having to deal
with various interpretations, various different approaches by
the regulators. And I would just urge you to try to sync those,
because there is a real concern, I think, on the Hill, and part
of this is the law itself and the complexities of the law, so
it is not something that you created; but it is absolutely
essential that when it becomes operational, it syncs together
and it is functional. And I would just urge you to consider as
this is implemented its effect on the economy, the markets, the
institutions, and even your abilities to regulate. It is going
to be absolutely essential that you cooperate in this effort.
I want to say this: The Financial Services Committee has
been successful in a bipartisan way, many times working with
the SEC and the CFTC, in fixing some of the big problems with
Title VII, including striking the provisions that would impede
American businesses use of derivatives to ensure stable pricing
and to reduce volatility, and fixing the indemnification
provisions in the swap push-out program. That has all been done
by this Congress, with the help of the regulators, and
moderating the extraterritorial reach of Title VII.
So I would hope that in this next Congress we can continue
to work together, not pointing fingers or publicly castigating
each other, but it is going to require a lot of behind-the-
scenes work and a lot of work together, because we are all
patriotic Americans, we all want what is best for the economy,
and for the sake of the financial industry and the consumers
and the American public, we need to try to get together and
cross those bridges and try to what I would say is make these
regulations functional and the implementation as smooth as
possible.
I appreciate your attendance, and I would like to say that
Mr. Schweikert, who is vice chairman of this subcommittee, and
one of the most capable members of this committee, will not be
serving on it over the next 2 years, and neither will Mr. Dold,
Ms. Hayworth, and Mrs. Biggert. I think we all agree they are
some of our most thoughtful Members who won't be with us, and
that is a tremendous loss our committee, I think, in its
ability to perform its service.
But I thank the gentlemen for being here. Many times, there
is a lot of criticism, and a lot of frustration on your part,
but no one ought to think that this is a problem that you
created, because it is not. Thank you.
Chairman Garrett. The gentleman yields back, and I, too--
Chairman Bachus. And also Mr. Canseco, who is one of my
best buddies; I have been to San Antonio with him on two
occasions. I want to thank you for your service.
Chairman Garrett. I thank the gentleman from Alabama, and I
also echo the words dealing with Director Cook for your
service, and we do appreciate that, and also for the members of
the committee. It is indeed a true brain trust that we are
losing here on the committee. These members brought a
significant amount of ability to the committee. I think that
was one of the things we all said with this class coming in and
these members of the committee, that they got right to it, they
understood the issues, and they did delve into it in a big way.
And, of course, that goes in strong measure to my vice
chairman, whom I will certainly miss in that capacity, and the
many services that he performed for me as well. So I thank you
all for your service to the committee, and I will allow you a
moment at the end, 10 seconds, if we get permission from the
ranking member.
Mr. Schweikert. Thank you, Mr. Chairman. Sort of a point of
personal privilege. For all of us, we love being on this
committee, but do you notice a pattern here of how many of us
are going to be gone? Could it be you? No, it has truly been
one of my great joys being on this subcommittee.
Chairman Garrett. I said I liked you in the past being vice
chairman of the subcommittee. But thank you. And with that--and
we will be mindful of the time--
Ms. Waters. Mr. Chairman, what I am going to do is I am
going to build in a little bit of extra time to make up for the
difference. So with our next speaker Mr. Lynch, there will be 2
minutes.
Chairman Garrett. The gentleman from Massachusetts is
recognized for 2 minutes.
Mr. Lynch. I thank the ranking member and I thank the
chairman for your courtesy. I would also like to thank the
witnesses here for your good work, for your service, and for
helping the committee with its work.
As we know, Title VII of the Dodd-Frank Act brought
historic and much needed reform to the over-the-counter
derivatives market by bringing these financial products out of
the shadows and onto transparent exchanges and requiring
companies to actually show that they have the cash to back up
their commitments.
As the full committee chairman, the gentleman from Alabama,
mentioned earlier, in the AIG example we had a small London
affiliate of the insurance parent manage to quietly make enough
of these risky bets to put the fate of the company at risk and
also the fate of the entire financial system in jeopardy.
Congress has now enacted Title VII to address this kind of
rampant speculation and turn the over-the-counter derivatives
market from that opaque backroom market operation to a more
transparent public market, something more akin to the stock
exchanges.
And I have to say that the regulators have done much to put
these reforms into effect, and I want to thank you for your
continued work, but more must be done before we can deem the
derivatives market safe and sound. We also want to make sure
that the rules apply to the entire derivatives industry,
whether the swaps market, the futures market, or any other
market if it has the capability to bring down the economy, as
happened in the AIG example.
So I hope that the regulators will move forward with
necessary reform measures, and that this committee will again
provide you with the resources necessary to get that work done,
because it is very important to the entire financial system. I
thank the chairman for the additional time, and I yield back.
Chairman Garrett. The gentlelady from California?
Ms. Waters. Next, we will have Mrs. Maloney for 2 minutes.
Mrs. Maloney. Thank you, and welcome to the witnesses.
Title VII of Dodd-Frank is in many ways the heart of our
financial reform. Derivatives trades are unregulated, and
transacted completely in the dark between two counterparties
with little oversight. The financial crisis proved that if one
financial institution became overly leveraged and invested in
overvalued instruments, that one institution could bring down
the whole system.
With AIG, confidence fell like that, and they came before
this committee and told us they didn't know where their swaps
were, they didn't know their exposure, they only needed $50
billion. They kept coming back; next time $85 billion, and we
still don't know what is going on. It ended up being $185
billion in taxpayer money.
Dodd-Frank tried to change that. It put rules in place,
capital and margin requirements, recording and clearing
components and other checks on an institution's ability to add
risk to the system, to put sunlight so that people could
understand what was going on.
Now, the CFTC, to its credit, has released roughly 60 draft
rules and proposals, yet in the days leading up to the October
12 effective date, a number of the rules--they were forced to
issue these no-action letters and guidance because they needed
more time to act and to get it right. And we do need to give
the regulators enough time to get it right, and to really get
it right, because it is so critically important, and in a way
that we do not implement rules that drive business away from
America, and that we do not implement rules that make it
difficult for us to interact with the global markets, and with
other countries, and certainly with the SEC.
But I feel that markets run much more on trust than on
capital. And I would like to see America remain the financial
capital of the world, and I would like to see rules that help
us remain in that position.
I would like to also understand why all the financial
crises seem to happen in London. AIG exploded in London in
their Financial Special Markets Office, not in their well-
regulated New York office. The London Whale, the LIBOR crisis.
Why do all of the crises happen in London?
Thanks. My time is up.
Chairman Garrett. I thank the gentlelady from New York.
Ms. Moore is recognized for 2 minutes.
Ms. Moore. Thank you so much, Chairman Garrett and Ranking
Member Waters.
I just want to laud the SEC and the CFTC for the
extraordinary work that both agencies have done to this point.
It is a Herculean task when you consider a point that Ranking
Member Waters has driven into the ground, and that is you are
not adequately funded to do the work that we have asked you to
do in such a short timeframe.
I am concerned about a couple of things today that have
already been mentioned, and I look forward to hearing from the
regulators on the rulemaking process, particularly on H.R.
4235, which Mr. Dold and I authored, which removes the
requirement that SDRs as primary regulators be indemnified
prior to sharing the data with other regulators, including
foreign regulators. The SEC has testified to this committee
that it favors removal of this indemnification requirement, two
CFTC Commissioners have opined on this, and yet the CFTC
interim guidance on indemnification is something that is not
being--it raises grave concerns among our foreign regulators as
to its efficacy.
Finally, I am troubled, as we have heard earlier, by
reports detailing the parties are encouraging the use of
product swap futures over swaps to avoid margin, and that they
are being marketed as economic equivalents. Although I think
that they carry unique market risk, this is a regulatory
arbitrage, I believe, and I would argue that promotion of these
products may provide another damaging example of market
participants putting their interests ahead of their end-user
customers.
I do thank you for your testimony, and I look forward to
hearing from our witnesses. I yield back, sir.
Chairman Garrett. The gentlelady yields back.
The gentleman from Connecticut is recognized for 2 minutes.
Mr. Himes. Thank you, Mr. Chairman. I would like to just
take a few seconds--thank you, Chairman Gensler and Director
Cook, for being with us. I would like to just take a few
seconds to try to offset some of the criticism of you in which
the hearing opened.
Of all the vast causes in the web of the difficulties that
brought down the economy in 2008, no area, I think, is more
complex than the areas that you have been charged to oversee,
derivatives; not Fannie Mae, not Freddie Mac, not pick-a-pay
mortgages, not the activities of Countrywide. This is one of
the more catastrophic areas as we look back on where we were
and also probably the most complex area, and I salute you and
compliment you for really working hard around something that is
enormously challenging in the face of criticism. And I exempt
the chairman of the committee when I say this. It is often
churlish of your efforts, and it is a criticism that also
forgets the devastation that was visited on this country, the
trillions of dollars of lost value as a result of the downturn,
the devastation that was visited. The criticism forgets when
words like ``tsunami'' are bantered about, what kind of tsunami
hit America households in 2008 and 2009. So thank you for your
efforts in that regard.
You also are struggling uniquely, I think with cross-border
issues. And we have had lots of conversations on this issue,
and I think that regardless of party, we agree that final
regulations from a public policy standpoint should avoid
international arbitrage. We don't want these instruments, which
are so useful to so many commercial end users, and that, by the
way, in many instances are also very dangerous, to move to less
regulated environments and therefore decrease our transparency
of these instruments. We also, of course, want to make these
regulations with a nod towards our industry competitiveness.
So I close with just a request, which is that in particular
as we look back on the events of October 12th and some of the
concern about offshore entities not perhaps registering, I
would make a request of both of you that you give us a
perspective and an update perhaps on how you believe those
events inform final rules and how you feel about them. But
again, I close as I began, by saying thank you for your efforts
and your constructive work in this terribly important area.
I yield back.
Chairman Garrett. The gentlelady from California?
Ms. Waters. Mr. Green for 2 minutes.
Mr. Green. Thank you, Madam Ranking Member, and I thank the
Chair as well, and I thank the witnesses for appearing.
It is my belief that the general public probably does not
put a lot of emphasis on words like ``arbitrage'' and ``cross-
border swaps,'' but I do think the general public understands
that a major institution such as AIG ought to be properly
funded. And I think the general public understands that this
country by and through its representatives did the right thing
when we did not allow AIG to bring down the economic system not
just in this country, but probably and possibly worldwide.
So I am here today to thank you for what you are doing to
help us perfect Dodd-Frank. There is still great work to be
done, but any time we pass legislation of this magnitude, there
is work to be done in the years to come. I plan to work with
you and I plan to work with my friends across the aisle to make
sure we do this great work. And I yield back the balance of my
time.
Chairman Garrett. The gentleman yields back. And that
concludes all time for Members on both sides of the aisle.
We will now turn to our first panel, which is comprised of
the Chairman of the CFTC, Gary Gensler, and Mr. Robert Cook,
Director of the Division of Trading and Markets at the SEC.
Chairman Gensler?

STATEMENT OF THE HONORABLE GARY GENSLER, CHAIRMAN, COMMODITY
FUTURES TRADING COMMISSION (CFTC)

Mr. Gensler. Thank you, Chairman Garrett, Ranking Member
Waters, Chairman Bachus, incoming Chairman Hensarling, and
members of the subcommittee for your time. I, too, want to
thank all the Members I may be testifying before for the last
time, unless you come back to this body, which often happens;
and to Robert Cook, because I think we have all worked so well
together on an enormous challenge that was created out of the
2008 crisis: How do we best bring commonsense rules of the road
to help best protect the public.
Two-and-a-half years after Congress and the President came
together to ensure that swaps markets reform works for the
American public, we are here before you. And I just want to
address the chairman to say that we have deep respect for this
committee and for Congress. We will work to get testimony in
earlier where we can. We just always are trying to make it
complete and to address all the questions that we think might
come up from the committee. So it may be balancing that a
little bit to that issue.
A crisis, as we all know, put 8 million people out of work,
partly due to the unregulated swaps market and, yes, as
Congressman Himes said, a very complex market. Congress
directed the CFTC and the SEC to bring reforms to this market,
and given the magnitude of the crisis, Congress actually asked
us to do it in 1 year, and they gave us a lot to do, as was
mentioned, maybe up to 60 rules that were mandated for the CFTC
and others for the SEC.
Where are we today, 2\1/2\ years in? We haven't been doing
this against a clock; we have been trying to do it
thoughtfully, taking into consideration all the costs and
benefits and the nearly 40,000 public comments that we received
in nearly 2,000 meetings that we have had.
We have completed about 80 percent of the rules. The
marketplace is increasingly moving to implementation, and the
results of completed reform, central clearing, which this
committee, I think, on a bipartisan basis endorsed, will start
to be a reality throughout 2013 and phases through 2013. And
this fulfills the President's commitment at the G-20 meeting in
Pittsburgh in 2009 to have that in place be the end of 2012.
This committee, this Congress made that happen.
Transparency has begun with reporting to regulators, but
beginning on the first of the year, it will be to the public as
well. We price in volume for certain interest rate and credit
default swap indices like the indices that were in the midst of
the London Whale. And, yes, swap dealers will begin to register
at the end of this month.
Now, the CFTC has been working to complete these reforms in
a deliberative way, taking into consideration and seeking broad
public input, and working with our friends at the SEC and
international regulators.
We have also looked at phased compliance. We have been a
significant supporter of phasing compliance. We want to smooth
the transition from an opaque, unregulated market to a
transparent, regulated marketplace. As Chairman Bachus said, if
I may quote you, you want to make it operational, sync together
and function.
So in the midst of that implementation, and it is upon us
now, it is the natural order of things that many market
participants have sought further guidance. Sometimes the
questions come early, but as all of us know, because we were
all in school at one point, sometimes we do our papers late
into the night the day before it is due, and that is just human
nature. We will address questions that come up early, and we
will do our best to address them even if they come up late.
Prior to a milestone on October 12th--and this milestone
was just because the SEC and the CFTC had finished the
foundational definitional rules, and so the definition of
``swap'' and ``swap dealer'' and so forth went into effect on
October 12th--we got a lot of those questions, some early, some
late. Along with my fellow Commissioners and staff, we sorted
through about 20 issues, and I think that we sorted through
them for the benefit of the public to make it operational, sync
together and function; but we also said, if you have further
questions, come in. And we have gotten further questions. We
are committed to working through those questions to smooth this
transition, because it is very significant and important.
Four years after the crisis, though, it is time for the
public to benefit from this transition to transparency and
lower risk. Reforms that hold the similar promise of the 1930s
reforms in the securities and futures markets I think can
contribute to decades of economic growth and innovation. That
is what transparency is about. It helps growth and innovation
in our economy.
So though we are nearly complete, we have two important
areas I just want to address, we still have to finish rule
writing, and they have come up already in this hearing. First,
final rules to promote pre-trade transparency. This is through
the trading platforms, the swap execution facilities. And I
know you will hear from Mr. Giancarlo later today, with whom we
have spent a lot of time.
These execution facilities will benefit the public by
bringing greater liquidity and competition in the markets.
Buyers and sellers will meet in the marketplace on the most
standardized swaps; not the customized, but the most
standardized swaps.
The Commissioners are reviewing the draft final rules now,
and though we had hoped to maybe get them out in December,
yesterday, or 2 days ago, we provided some additional relief
that we will try to get these out in January or February and
phase them in throughout 2013 to give the market time to phase
this in.
Second is guidance in phased compliance regarding cross-
border application of the swaps market reform. Congress
recognized the basic lessons of modern finance in the 2008
crisis in adopting Dodd-Frank. Swaps executed offshore by U.S.
financial institutions can send risk straight back to our
shores. It was true with the affiliates of AIG, of Lehman
Brothers, Citigroup, and Bear Stearns. And yes, risk here can
send things crashing to Europe, and we certainly did that with
our housing crisis, hurting people in Europe as well.
Under the guidance and completed rules, swap dealing of
more than $8 billion in notional value with U.S. persons would
require somebody to register, and we anticipate many will do so
at the end of this month.
The best way to protect taxpayers and promote transparent
markets swaps, markets reform should cover transactions of
overseas branches and overseas affiliates guaranteed by U.S.
entities. I think failing to do so, if we don't cover somehow
the overseas affiliates that are guaranteed back here, not only
will we expose the public to risk like AIG, but we actually
will probably send jobs from the United States to overseas
because our U.S. firms would just send the jobs overseas, but
the risk would still back here. I think that is a competitive
issue.
Furthermore, for foreign firms that register, we are
committed to substituted compliance. What does this mean? That
means if there is comparable and comprehensive foreign
regulatory requirements that we can look to, let us look to
them. For a lot of reasons, it is the right thing to do. But we
are also a small agency, and a bit underfunded, so it is good
to look to other regulators.
But where the overseas swap dealer transacts with a U.S.
person, let us say back here in the United States, maybe it is
in New Jersey or in California, but they are transacting back
here in the United States, we think that on a transaction
level, those foreign swap dealers should come under Dodd-Frank
just like a U.S.-affiliated swap dealer. Again, this is
consistent with the law, but it also enables U.S. and overseas
firms to compete on a level playing field, rather than U.S.
firms coming under Dodd-Frank, and overseas firms not. That
does not seem to be the right competitive place to be.
I thank you for this opportunity to testify today. I know I
ran a little over. I just want to say one last thing. I am so
damn proud of the people at the CFTC, sir. I know that there
are going to be many criticisms raised about this agency. That
is because this agency is doing something for the American
public. The crisis was partly about the swaps, and 8 million
people lost their jobs. And you all, I think, coming together
gave us a heck of a task, but it is an important task. The
dedicated folks of the CFTC are not trying to be, as you say, a
``world-class regulator.'' They are just trying to comply with
the law, put it in place, ensure for transparent markets, and
ensure, yes, for a smooth transition so it is operational,
syncs together and functions. Thank you.
[The prepared statement of Chairman Gensler can be found on
page 120 of the appendix.]
Chairman Garrett. Thank you.
Director Cook?

STATEMENT OF ROBERT COOK, DIRECTOR, DIVISION OF TRADING AND
MARKETS, U.S. SECURITIES AND EXCHANGE COMMISSION (SEC)

Mr. Cook. Chairman Garrett, Ranking Member Waters, and
members of the subcommittee, good morning. My name is Robert
Cook. I am the Director of the Securities and Exchange
Commission's Division of Trading and Markets. Thank you for the
opportunity to testify today on behalf of the Commission
regarding Title VII of the Dodd-Frank Act.
Let me begin by acknowledging the chairman's concerns about
the timing of the testimony, to apologize for that, and to
assure you that it was by no means any indication of
disrespect, and we would be happy to address any further
concerns in that regard at your convenience.
As you know, Title VII creates an entirely new regulatory
framework for over-the-counter derivatives and directs the SEC
and the CFTC to write a number of rules to implement this
regime. The SEC has authority over security-based swaps, and
the CFTC has authority over swaps. The vast majority of
products subject to Title VII are within the CFTC's
jurisdiction.
My testimony today will provide an overview of the SEC's
efforts to implement Title VII since Chairman Schapiro's
testimony before the subcommittee in April. In addition, I will
discuss the Commission's efforts to address the implementation
of Title VII in the cross-border context.
Since enactment of Dodd-Frank, the SEC has proposed
substantially all the rules required by Title VII and in some
cases has adopted final rules, and we continue to work hard to
implement the title's provisions. Our adoption efforts to date
have focused on the key definitional terms under Title VII and
the rules relating to clearing infrastructure.
In July, the SEC, acting jointly with the CFTC, adopted
final rules and interpretations related to product definitions.
This effort followed a joint adoption in April of final rules
and interpretations relating to Title VII entity definitions.
Although the completion of these two joint rulemakings is a
significant milestone in the journey toward full implementation
of Title VII, the adoption of these two definitional rules did
not trigger a requirement to comply with other rules the
Commission is adopting under Title VII. Instead, the compliance
stage applicable to each final rule will be set forth in the
adopting release for each such rule, taking into account the
scope and complexity of that rule's requirements and any other
relevant factors known at the time of the adoption. In this
way, the Commission will be better able to provide for the
orderly implementation of the various Title VII requirements.
To that end, the SEC issued in June a policy statement
describing the order in which it expects to require compliance
with the Commission's final rules and requesting public comment
on that proposed order. The SEC's approach aims to avoid the
disruption and cost that could result if compliance with all
the rules were required simultaneously or haphazardly. The
policy statement also emphasizes that those subject to the new
regulatory requirements should be given adequate but not
excessive time to come into compliance with them. Market
participants have generally had a positive response to the
policy statement, and we are taking their comments into account
as we work toward completing the Title VII adoption process.
In addition to the key definitional rules, the Commission
has also adopted rules relating to clearing infrastructure. In
June, the Commission adopted rules that established procedures
for its review of certain actions undertaken by clearing
agencies. These detail how clearing agencies will provide
information to the Commission about the security-based swaps
the clearing agencies plan to accept for clearing, which the
Commission will then use to aid in determining whether those
swaps are required to be cleared.
The rules also require clearing agencies designated as
systemically important under Title VIII of the Dodd-Frank Act
to submit advance notices of changes to the rules, procedures
and operations that could materially affect the nature or level
of risk at those clearing agencies.
In October, the Commission adopted a rule that established
standards for how clearing agencies should manage their risks
and run their operations. This is designed to help ensure that
clearing agencies will be able to fulfill their
responsibilities in the multi-trillion-dollar derivatives
market as well in the more traditional securities market.
Finally, also in October, the Commission proposed capital
margin and segregation requirements for security-based swap
dealers and major security-based swap participants.
The next major step in our efforts to implement Title VII
will be the Commission's efforts to address the international
implications of Title VII in a single holistic proposal. Our
cross-border approach is being informed by discussions with
fellow regulators in other jurisdictions, and we are also
paying close attention to the comments on the CFTC's proposed
guidance.
In part, the purpose of the publication of a single
proposal addressing the international implications of Title VII
across the full range of regulatory categories and transaction
requirements is to give investors, market participants, foreign
regulators, and other interested parties an opportunity to
consider our proposed approach as an integrated whole. The
cross-border release will involve notice-and-comment
rulemaking, not only interpretive guidance. As a rulemaking
proposal, the release will incorporate an economic analysis as
required by the Exchange Act that considers the effects of the
proposal on efficiency, competition, and capital formation.
Although a rulemaking approach takes more time, we believe
there are a number of benefits that will make this approach
worth the effort, including a full articulation of the
rationales for and economic consequences of particular
approaches and a consideration of usable alternative.
In conclusion, as we continue to implement Title VII, we
look forward to continuing to work closely with Congress, our
fellow regulators both at home and abroad, and members of the
public.
Thank you for the opportunity to share our progress and
current thinking on the implementation of Title VII. I will be
happy to answer your questions.
[The prepared statement of Director Cook can be found on
page 99 of the appendix.]
Chairman Garrett. And I thank you, Director Cook.
At this time, we will begin the questioning, and I will
recognize myself for 5 minutes.
So, Christmas is coming, and I am in the process of trying
to buy some gifts for the family, and I won't say what I
bought, but I will just lay out what I have done to try to
achieve that, to do that.
One is I went online, and I bought some stuff from Texas.
So I ask Chairman Gensler, would you say that when I bought
those packages for my kids from Texas online, would that be
interstate commerce that I was engaged in?
Mr. Gensler. I am not sure where the question is going, but
I think it is good for your children for sure, and it is
probably interstate commerce.
Chairman Garrett. Okay. And then I bought some other things
from Michigan through one of the catalogues, mail catalogues.
And would you say when I did that, it was also through means of
interstate commerce?
Mr. Gensler. Again, I hope your children are happy with the
gifts.
Chairman Garrett. They don't ask for much. They are good
kids.
And lastly, one of them I had to go and call up a company
out in California and buy their gifts. Would you say that was a
means of interstate commerce that I did with them?
Mr. Gensler. If I understand the question, whether using a
telephone, online, and there may have been a third means in
there--
Chairman Garrett. Yes, mail.
Mr. Gensler. These are all means of interstate commerce, I
think I understand that they are. Even carrier pigeons might be
a means of interstate commerce.
Chairman Garrett. If they had not become extinct.
So that seemed pretty clear to us, and it was pretty clear
to Congress when we put in the language any means of interstate
commerce would be appropriate and allowable under SEFs. But it
seems as though the Commission, a hard-working staff, I agree
with you all, are having difficulty in defining that. And that
now I understand that the Commission is considering revising
the rules that will reference the latter one, the last one,
which was the voice over the telephone, is that correct? You
are revising it to include voice, but you are using language
not in the actual rule to do so; you are doing so in the
preamble.
So the question is if it is so clear to both of us right
here that these are any means of interstate commerce, why isn't
it clear to the Commission, and why is this one little area
something that is already resolved and done with?
Mr. Gensler. Just to bring it back to basics, what Congress
asked us to do, both agencies, is to ensure greater competition
where buyers and sellers meet in a transparent marketplace
through swap execution facilities. ``By any means of interstate
commerce'' is in the statute. We got a lot of comments, and
they were good comments, on our proposal that we have to ensure
that we are technology neutral, whether it is telephone,
Internet and these three means, and that is what is being
considered by the Commission right now--
Chairman Garrett. Okay.
Mr. Gensler. --revising it to be technology neutral.
Chairman Garrett. Okay. I will close on this, that it seems
that all three of your ``any means of interstate commerce,''
this should be able to be resolved quickly.
Moving on through the process here, I see a different
process between your agency and the SEC as far as handling some
of these things. For example, with cross-border applications,
one agency is doing a formal rulemaking process, and the other
agency is doing more through--and therefore with cost-benefit
analysis, the other agency here is doing it not so much with
rulemaking, a formal process, instead is doing it through
guidance and missing what Congress intended, which is cost-
benefit analysis.
So in one specific area, you are in the process of creating
a new definition of U.S. and non-U.S. persons, correct; the
agency, CFTC, in the process of defining a new definition of
what a U.S. person is as opposed to a non-U.S. person?
Mr. Gensler. It is included in an exemptive order that
actually also has cost-benefit.
Chairman Garrett. So when the SEC did this, they went
through the regulation, as I understand it, to do so, but the
CFTC misses that and does it through guidance. As a matter of
fact, this was a letter that I think our office sent to yours
asking why are you going through guidance on some of these
things as opposed to what the SEC is doing here, I will say
more thoughtful and more compliant with Congress' intent in
going through a formal rulemaking process? So, first, why are
you doing it; and second, should we anticipate an answer to our
letter back from this summer?
Mr. Gensler. Congress included in Title VII something for
the CFTC that was not included for the SEC. There is a specific
provision for cross-border application in swaps, not
securities-based swaps. It is actually Section 722(d). We got a
lot of questions in our rulemaking. We put out the 55
proposals, all with cost-benefit. As we finalized rules, we are
doing--and benefiting from cost-benefit on all of those. But
people ask, can you interpret these words, make a legal
interpretation of these words, in Section 722(d)? And we put
that out to public comment and notice, and we are benefiting
from public comment as well on that.
Chairman Garrett. So you can't do that through a rulemaking
process as opposed to a guidance and seeking advice?
Mr. Gensler. There are a number of places; this is probably
the fourth or fifth place that we have addressed through
interpretation. It was referred to earlier. The indemnification
area is another area for swap data repositories we used and
interpret it. People have asked us, can you interpret words,
and we are trying to do that in this circumstance.
Chairman Garrett. I am mindful of my time and other
Members'. These things can all be done, and it may be asking
the agencies for that. I am sure the SEC was being asked for
some of these clarifications as well. But I applaud what the
SEC did. It complied with congressional intent here through a
formal process.
With that, I yield now to the gentlelady from California
for 5 minutes.
Ms. Waters. Thank you very much, Mr. Chairman.
I want to get back to some more discussion on
extraterritoriality. Under Section 722(d) of the Wall Street
Reform Act, the CFTC was given latitude and flexibility in
terms of how you would regulate swaps that crossed national
borders. You actually would.
In June, the CFTC released its interpretive guidance on the
cross-border application of Title VII of the Wall Street Reform
Act. That guidance defined foreign branches or guaranteed
subsidiaries of U.S. persons to be U.S. persons and therefore
subject to the entity and transaction-level requirements of
Dodd-Frank.
Many in the industry, again, have expressed concern that
non-U.S. entities have been stopping business with the branches
or guaranteed subsidiaries of U.S. firms overseas. Others have
even suggested that the guidance encourages U.S. firms to
incorporate subsidiaries overseas simply to avoid our U.S.
derivatives reforms. At the same time, we certainly don't want
unregulated risk occurring in the offshore branches or
subsidiaries of U.S. firms to be imported back here to the
United States.
So, Chairman Gensler, how are you reconciling these
competing concerns given that other parts of the globe are
still behind us in terms of derivatives reform?
Mr. Gensler. An excellent question, and it is a matter of
balance. The overseas affiliates guaranteed back here can send
risk back here, and so I think Congress included 722(d) to
ensure that risk didn't flow back here as it did in AIG, in
Lehman, in Bear Stearns, and in others. But what we have said
is for those offshore guaranteed affiliates, substituted
compliance can be the way to move forward. Foreign regulators
that are comparable and consistent, that is okay with us. And
we are also saying we are not going to have any of those rules
come in for some time.
The only rules that come in on January 1st is if a dealer
is dealing with U.S. persons, which is more of a territorial
U.S. person, not the guaranteed affiliates. And we are saying
until next summer, let us continue to work with the other
overseas regulators to sort through it. So narrow U.S. person
will come into place early, say January 1st. The guaranteed
affiliates we are delaying that, phased compliance as well as
substituted compliance.
Ms. Waters. Thank you.
Mr. Cook, can you weigh in on the question also?
Mr. Cook. Sure. Thank you. The Commission has not yet
issued its cross-border guidance. It is the front of the agenda
for us in terms of implementation of Title VII. I do believe
that the task at hand is to try to strike the right balance
between, on the one hand, achieving our domestic regulatory
priorities, and on the other hand, recognizing that this is a
global marketplace and that we need to understand that what we
do here will impact what the other regulators and other
jurisdictions do.
I would point to a statement that recently was issued by a
number of the leaders of different regulatory agencies around
the world, as a result of a meeting earlier at the end of
November, where there was a discussion about how to best
achieve international coordination consensus. And that is part
of an ongoing dialogue that I think we will incorporate into
our cross-border release and try to take that into account at
that point.
Ms. Waters. Finally, let me just remind everybody that the
President's request for the CFTC and the SEC is $308 million
and $1.566 billion, respectively. However, the House
Appropriations Committee has passed a bill appropriating only
$180 million and $1.371 billion for your agencies. Give me a
moment and tell me how this funding level will affect ongoing
operations, especially as it impacts on implementation and
enforcement of Title VII authorities. Do your counterparts
overseas face similar funding shortfalls? How are they funded?
Mr. Gensler. Simply put, the CFTC is an underfunded agency.
We are about 10 percent larger than we were 20 years ago and
the futures market we oversee has grown fivefold. And Congress
has asked us, of course, to take on this important task in the
swaps market. We won't be able to address everybody's
questions. There will be gaps in our oversight.
Ms. Waters. Mr. Cook, we are very concerned about the SEC.
It looks as if you are losing people over there. What is going
on? How do you deal with the question of a lack of adequate
funding?
Mr. Cook. Thank you. I think that does present challenges,
particularly in the implementation phase. I think writing the
rules is less people-resource intensive, however, than
ultimately overseeing, examining, and bringing enforcement
actions to enforce the new regime. So I think as the progress
moves forward, the challenges will become greater, because
there is a wide range of new types of market participants and
new types of transactions that are coming within this
regulatory framework, and there needs to be strong and
effective enforcement around it to make it meaningful.
Ms. Waters. Thank you very much, and I yield back.
Chairman Garrett. The gentlelady yields back.
The gentleman from Arizona is recognized for 5 minutes.
Mr. Schweikert. Thank you, Mr. Chairman. There are just so
many different questions here to run through. Just because you
touched on it, and it wasn't going to be one of my original
questions, indemnification of depository, why not do a full
rule set?
Mr. Gensler. Indemnification of data repositories?
Mr. Schweikert. Correct.
Mr. Gensler. We did an interpretation to try to interpret
it so that foreign regulators could have access, and if it was
regulated by them or it is under their laws, that they have
access without that indemnification. And though that addressed
probably the bulk of their concerns, as the Congresswoman had
raised earlier, the question still remains whether this
Congress or the next Congress addresses that.
Mr. Schweikert. Chairman Gensler, my understanding is the
way you did that then, you did not do a cost-benefit, go
through those mechanics?
Mr. Gensler. That is correct. It was a legal interpretation
of when does an indemnification have to be used. There is
probably, I think it is four or five different places that we
have done this where people have come to us and said, what does
a word mean? It is not a full rulemaking, but when does that
indemnification under the words in the statute?
Mr. Schweikert. All right. Thank you, Mr. Gensler.
Mr. Cook, my understanding, when it comes to cross-border,
the SEC is doing a formal rulemaking, you are doing a full
cost-benefit analysis, correct?
Mr. Cook. Yes, sir.
Mr. Schweikert. Mr. Gensler, wasn't that actually in the--
and help me, I have only had little bits of information on
this--the court case that recently went against the CFTC, that
was because you had not done that?
Mr. Gensler. For different reasons, actually, sir. We do--
Mr. Schweikert. Let me just, because I want to help define
this. My understanding is the court ruled that you had not done
enough cost-benefit analysis. Do you disagree with that?
Mr. Gensler. I do, respectfully. Though the litigants
raised that issue, the court spoke to a different topic. It was
whether there had been a specific mandate from Congress that we
put in place position limits. We believe that Congress really
did mandate it, and the judge sent it back and said he saw it
differently. But we did do full cost-benefit in the position
limit rule, as we have in all of the 40 or 50 or so rules that
we do. We benefit from them. And we do them with the chief
economist has to sign off on each one personally before we
consider them.
Mr. Schweikert. So in this particular case, because I know
in a lot of what we read there is the constant discussion of
harmonization between U.S. regulators, foreign regulators, and
often we are concerned is there harmonization between the two
of you in both the approach, the methodology, use of language
in the regs. Because many of us are starting to see a more
complex world coming in swaps where there is multiple products
wrapped in there. And if there is a currency in there, okay,
that might be exempt. There might be a package swap that
actually has, from both of you, that sort of harmonization
really does become really important. Is there a difference
between the way your two regulatory bodies are approaching
these?
Mr. Gensler. We have jointly worked together and
harmonized, we have had joint rules on the definitions you just
mentioned about swaps and mixed swaps and securities-based
swaps. So I think the public has a great deal of guidance and
rules on that. But to the extent they need to come back, as you
say, on these package swaps we would address it together, and I
would look forward to that.
Mr. Schweikert. Okay. In my last 60 seconds, Mr. Cook, do
you have any comment? Am I seeing different approaches? Is that
just cultural between your two regulatory bodies?
Mr. Cook. I can't speak to the CFTC's statute per se. But
one of the reasons it drove us towards doing a rulemaking in
the cross-border context is that we looked at the data. And in
our market, the security-based swap market, most transactions
involve a party that is not in the United States. So this is
really a cross-border market. And how you do the cross-border
rules is really how you do Title VII. And so we felt under
those circumstances that when you were looking at the whole it
was important to take a holistic approach to the cross-border
rules and that, because it had such a significant impact on how
those rules were going to work, that we needed to do a formal
rulemaking.
Mr. Schweikert. Okay. Mr. Cook, thank you.
Mr. Chairman, I know I am literally out of time. I am
comfortable with what Mr. Cook is doing because of the amount
of data you are going to collect.
Mr. Gensler, it makes me a little nervous, particularly
because of the different approaches there.
And there are so many other questions I wanted to get to,
but, Mr. Chairman, I know I am out of time. Thank you.
Chairman Garrett. Thank you. The gentleman yields back.
The gentleman from California has joined us.
Mr. Sherman. Thank you.
Mr. Gensler, I am a little concerned about whether your
budget is adequate. You have expressed those concerns. I wonder
if you could provide for the record a couple of things. First,
if we really wanted effective regulation, what should be the
budget of your agency? And second, will it be a fee structure
so that we could collect that amount from those who rely on
derivatives? I am not really asking for an oral answer now, but
I wonder if you could provide that for the record?
Mr. Gensler. We could.
We are about a $205 million agency. The President put a
budget of $308 million forward. It is for about 1,040 people,
up from our 700 people now. But what we really need is also an
enhanced technology. We need to probably close to double our
technology because it is so data-intensive.
Mr. Sherman. But although you are dealing with a market
that is 5 times as large as it was a couple of decades ago, the
308 would be sufficient to properly regulate the market?
Mr. Gensler. I think that it is appropriate also to phase
in wherever we are. I don't know where we might need to be 5 or
10 years from now. But I think this is--to be a 1,000-person
agency--our friends at the SEC are 4,000, just to put it in
context. We are really like the smallest regulator around.
Mr. Sherman. Okay. And hopefully you can provide us with a
fee structure so that the average person working in my district
isn't paying these costs; they are being paid by those who deal
with derivatives.
Next, I would like unanimous consent to submit for the
record a letter from Senator Blanche Lincoln, dated December
16, 2010, and addressed to the CFTC. She was the primary author
of the title we are dealing with.
Chairman Garrett. Right. Without objection, it is so
ordered.
Mr. Sherman. Deepened liquid commodity markets will provide
benefits to our economy. Pension plans and institutional
investors, even ordinary people saving for their retirement now
depend upon mutual funds that invest not only in stocks and
bonds, but also commodities. Will the new position limits
arbitrarily limit mutual fund trading in these markets and take
this kind of investment away from those who are saving, whether
they be pension plans or individuals? And particularly, how
would that relate to index commodity funds?
Mr. Gensler. I think not. Congress has debated position
limits since the 1930s when they were put in our statute. And
they are really to promote the integrity of markets to ensure
that no one actor, no one speculative actor, has too big a
footprint in the marketplace. But the nature of the ratios that
were in position limits, the mutual funds or pension plans
could invest, it is just that they couldn't have, no one could
have an--
Mr. Sherman. Is there much difference, though, with an
index fund? Five small index funds do exactly what one big
index fund does. Would you classify the index funds as
speculative investors?
Mr. Gensler. Again, Congress has given us guidance on that,
that it is the producers and merchants and people who actually
use a physical commodity or intend to use it or receive it who
are not under position limits, and then everyone else
colloquially are called ``speculators,'' but they are the non-
producer merchants and hedgers.
Mr. Sherman. I don't know if I would use the word
``speculator'' for an index fund, but I will move on.
My next concern is just the whole process of these no-
action letters. And you have market participants who are trying
to complete the work needed ahead of a compliance date, and
then at the 11th hour, the date is extended. Certainly, it
would be better if the date were extended prior to the 11th
hour. I understand that the CFTC has been issuing numerous no-
action letters and temporary relief exemptive orders and that
they tend to come in at the 11th hour. It can be frustrating
for those who don't know until that 11th hour whether that
document will be issued.
Do you think that full implementation schedule with
adequate time for compliance would be more appropriate, or in
the alternative, post a full no-action letter until all the
Dodd-Frank rules are finalized? And just in general, what can
be done so that companies don't have to wait until the 11th
hour.
Mr. Gensler. With all due respect, it is a bit of both. The
data reporting rules were completed in 2011, one year ago, and
when they were completed we said the compliance would be July
15th or 17th of this year. We extended the general compliance
of that until about this time. So now they have had 1 year, the
big dealers, to get ready, or 2\1/2\ years since the law. There
are further questions. We really want to smooth this
transition, and so we give further phased compliance when it is
targeted. We could stick with the January 1st deadline, but we
think it is appropriate to give that additional relief.
Chairman Garrett. Thank you. And the gentleman's time has
expired.
Mr. Sherman. I yield back.
Chairman Garrett. Thank you.
The chairman of the full Financial Services Committee is
recognized for 5 minutes.
Chairman Bachus. Thank you. Chairman Gensler, on page 7 of
your written statement, about halfway down, you say, ``we are
very committed to allowing for substituted compliance, or
permitting market participants to comply with Dodd-Frank
through complying with comparable and comprehensive foreign
regulatory requirements.'' You go on to say, ``The guidance--
you are talking about cross-border guidance, which is what a
majority of these questions have been about--includes a tiered
approach for foreign swap dealer requirements, which was
developed in consultation with foreign regulators and market
participants.''
When you say consultation, after that meeting a lot of the
participants at least expressed that they have grave concerns,
that they didn't appear to agree that was the approach you were
taking. Have any of the foreign regulators endorsed the CFTC's
approach? I know in conversation with Brazilians that
substituted compliance has come up, and I know they are hoping
for that.
Mr. Gensler. The consultation started in early 2011, so
nearly 2 years ago. The approach that entity-level requirements
would come under substituted compliance and transaction level
would be done separately actually came from the international
bankers, the IIB, that you will hear from later. I saw Sally
here, who represents them. It came from their letters
initially, this concept.
So we largely embraced, we could be criticized from the
other side, we largely embraced what market participants and
the large international banks said, entity level, substituted
compliance, and they then said transactions with U.S. persons
in Alabama, New Jersey, California, Arizona--it would be Dodd-
Frank. We put that out to public consultation with a lot of
consultation with international regulators, Canada, Australia,
Japan, Europe, et cetera, and we continue to work the issues. I
would say that with banks registering, the largest banks
registering near term, we are going to have many issues to sort
through, and we are committed to sorting through those issues.
Chairman Bachus. Yes, and you are talking about those firms
which register, when you are making that statement?
Mr. Gensler. Right. Yes, just the firms that register.
Chairman Bachus. But I have seen expressions from some of
the foreign regulators that they feel like some of the guidance
may be in conflict with their own regulations, and I guess that
is what I am saying. They said you know they are in conflict.
So how are you dealing with those conflicts?
Mr. Gensler. One example is in Japan. They have a clearing
requirement they actually put in place November 1st, and we now
have a clearing requirement we finished in November. There is a
conflict because we both say they have to be cleared and
registered clearinghouses. They have yet to register the London
clearinghouse and we have yet to register the Japanese
clearinghouse, and so we are working on relief so that our U.S.
firms can use that Japanese clearinghouse even though it is not
registered here and give that clearinghouse, they have asked
for a year in that case. And so we are going to do that in the
next few days. Where there is a direct conflict, we are
completely committed to sorting that out and sorting it out in
a practical way.
Chairman Bachus. And with the no-action letters, some of
them were sort of last minute. If we see that we are trying to
work out these conflicts and more time is needed, I suppose you
will announce that ahead of time?
Mr. Gensler. Yes.
Chairman Bachus. Okay. Mr. Cook, has the SEC endorsed the
CFTC's approach to cross-border guidance?
Mr. Cook. The Commission hasn't formally made its proposal.
We have been very much engaged with both the CFTC and foreign
regulators on how to approach this issue. There are concerns,
frankly, between--there are a lot of jurisdictions that are at
the cusp of implementing their G-20 commitments. And I think
there is a real opportunity at this moment in time to find a
way to strike the right balance and to bring the whole system
to the right place, because I think any one piece of it that
doesn't come along or that goes along too far can disrupt the
dynamic.
Different jurisdictions have different ways of thinking
about this. The Europeans, for example, talk in terms of mutual
recognition instead of substituted compliance. What all that
means is something that I think is part of an ongoing dialogue,
the devil is in the details. What does substituted compliance
really mean, where will you recognize, where won't you, how
broadly will you look. I think that is part of the work that we
all have in the next few months, frankly.
But there has been part of this international dialogue an
effort to catalogue conflicts, overlaps, inconsistencies, so at
least we know what we are talking about. Where is there a
conflict. As Chairman Gensler says, that is a real problem. We
need to figure out a way. Where are there inconsistencies?
Chairman Garrett. Thank you. We got the point. Thank you.
Chairman Bachus. All right. Because you have had a
Singapore bank, a Swedish bank said we are not going to
register. But I appreciate it. That is the answer I wanted, is
that you are identifying those conflicts and the dialogue is
proceeding.
Chairman Garrett. Thank you.
The gentleman from Massachusetts is recognized.
Mr. Lynch. Thank you, Mr. Chairman. I appreciate it.
Mr. Gensler, I want to thank you again for your service.
You have done some great work on this. I did hear your opening
remarks, especially with respect to the extraterritorial
application of Dodd-Frank's derivatives reforms. I remain
concerned that financial firms will still try to avoid those
reforms in Title VII by using the foreign subsidiary structure.
I read part of your proposed guidance, and I think you are
right on the mark when you, I am quoting you here, you said
that in your view the concerns regarding risks associated with
the affiliated group structure are heightened where a U.S.
person guarantees a foreign affiliate or subsidiary. You go on
to say, you ask whether the term U.S. person should be
interpreted to include a foreign affiliate or a subsidiary
guaranteed by a U.S. person.
And I think you are right at the heart of the issue there.
When the American taxpayer bailed out AIG, for example, we
didn't just bail out AIG's AIG-FP, their London affiliate. The
conduct of AIG-FP had already infected the entire company so
that when we came in, we had to bail out the entire company.
The kind of risks that are posed by the derivatives market that
we tried to address in Dodd-Frank don't stop at our borders.
These are international risks. When a company has agreed to
backstop a foreign affiliate, that affiliate is for all intents
and purposes a U.S. company. And I know in your remarks as well
you address the job issue where the jobs could also follow that
foreign affiliate.
I would just like to get your thoughts on how we might
tighten up the language in your proposed guidance to try to get
at that problem in a more effective way.
Mr. Gensler. You are very kind. I am just trying to
maintain it, not lose it. I think if we do not cover the
guaranteed affiliates offshore, that you can basically blow a
hole out from the bottom of Title VII. And all of what Congress
intended on transparency and risk--I served on Wall Street for
18 years, we often structured around legal entities, and that
is the nature of modern finance. Many of these large financial
institutions have 2,000, 3,000, 4,000 legal entities. It is a
matter of structuring. And if you can put a legal entity
somewhere and guarantee it, the risk still comes back here.
And in the middle of a crisis, you pull one thread of a
financial institution and the whole sweater comes undone. If
there is a run on one subsidiary in Japan or Australia or
Canada, the United States, Europe, it runs elsewhere. So our
risks run to Europe, but also those risks run back here. But we
are comfortable with substituted compliance if there are real
rules over there to cover our guaranteed affiliates.
I think if we don't cover them, also it is not good for the
jobs. I see the Congresswoman from New York. I think the large
financial institutions in New York would then just move the
jobs to some jurisdiction, put a legal box on the structure in
that jurisdiction, be done with it, be happy that the CFTC gave
the relief that they requested. But I don't think it is good
for New York jobs, I don't think it is good for the economy
because the risk would just flow right back here in a crisis.
And we are somewhat like the fire department. We have to look
at our rules in the context of crisis, what are the rules in
crisis so that the risk doesn't hit our taxpayers.
Mr. Lynch. What kind of cooperation are we getting right
now in terms of substituted compliance? I know Congressman
Frank earlier was working on that with our colleagues in the
EU, but how is that going?
Mr. Gensler. Excellent. I can't say enough good things
about our friends and colleagues in the European Union and
London and France, Brussels, Germany, throughout, and other
countries as well. They are anxious as to how this will work.
We have said, let's give it more time, let's work through the
substituted compliance issues. But they have been excellent.
Mr. Lynch. Okay. Thank you.
My time has expired. I yield back. Thank you, Mr. Chairman.
Chairman Garrett. The gentleman yields back.
The gentlelady from Illinois is recognized for 5 minutes.
Mrs. Biggert. Thank you, Mr. Chairman.
And thank you, Chairman Gensler and Director Cook, for
being here. Am I right that there is a different timetable that
has been adopted by the SEC and the CFTC on comparable
requirements?
Mr. Gensler. You are right that we were given maybe an
easier task than the SEC because we are just a futures and
swaps regulator, a derivatives regulator, so that is what we
have been focused on, and they have a much broader portfolio.
So we have completed about 80 percent of the rules. We actually
got the same time scale, 1 year. Congress gave us 1 year to
complete the task. But here we are, 2\1/2\ years later.
Mrs. Biggert. Right. Is that going to be confusing for
firms and costly for U.S. firms?
Mr. Gensler. Though there may be challenges, the swaps that
we oversee, interest rate swaps and the physical commodity
swaps and credit indices represent about 95 percent of the
marketplace. They are also used by corporations and municipals
across this country. The securities-based swaps are not only a
smaller part of the market but they are generally not used by
your small and medium-sized companies across this country.
Mr. Cook. I agree that most of the market is under the
CFTC's jurisdiction, 95 percent versus 5 percent. I think as a
practical matter, as the SEC begins to move towards
finalization of rules that have already been adopted by the
CFTC, we will need to take into account that framework, and to
the extent that there is any perceived need to be different
need to explain it and justify the potential cost to market
participants. There are different products, and so sometimes it
makes sense to have differences. The types of information you
report for an oil-based swap might be different than what you
would report for an equity-based swap. And there may be other
examples. But I think that ultimately, if we are different, we
are going to need to be able to justify those differences.
Mrs. Biggert. So you are talking about December 31st or
January 1st?
Mr. Gensler. It actually would have been finished in July
of 2011, we were supposed to be complete.
Mrs. Biggert. But it has been extended?
Mr. Gensler. We extended it through three 6-month
extensions called exemptive orders. But now that we have
completed so many of the rules, we have moved to these more
targeted phase compliance, either no-action letters and the
like.
Mrs. Biggert. But you talk about January 1st or December
31st?
Mr. Gensler. That is correct.
Mrs. Biggert. The reason I ask is it just seems like kind
of an odd time to launch such a big project. Aren't most
companies really focused on closing the books for the year, and
really are they having to do a lot in this last couple of
months that is going to cut into that time?
Mr. Gensler. For many of them we delayed and deferred the
compliance and gave additional times throughout, as they
requested. There are some that we are delaying from December
31st. For instance, the trade association, International Swap
Dealers Association, has come in and said many of their sales
practice regime, they want it delayed from October to the end
of the year. We did that. They have now come in and said they
are only about 20-plus percent done, could we give them 4 more
months. And we have something in front of the Commission to
give them 4 more months. So we are working through to phase
each of these where issues come up.
Mrs. Biggert. So you don't think that this really has any--
it won't cause--if there are operational problems, they can be
solved easily?
Mr. Gensler. This is a very significant change, an
important change for the public. But as firms register come
January 1st and start sending information to data repositories,
that is a positive for the American public. As long as people
are operating in good faith, we are going to continue to work
with each of these market participants to get this in place in
the smoothest way possible.
Mrs. Biggert. So there is some flexibility?
Mr. Gensler. Yes, absolutely, absolutely.
Mrs. Biggert. Thank you. I yield back.
Chairman Garrett. If the gentlelady will yield to me, I
just have one follow-up question. So with regard to this issue
of swaps and guarantee of swaps, the Commission has said that
guaranteed swaps aren't actually swaps, whereas the SEC has
held a contrary view on that. My question to the Commissioner
is, can you point me to the page of Title VII where the word
guarantee is explicitly set out anywhere that gave you the idea
that a guarantee of a swap is a swap?
Mr. Gensler. I am sorry, because I will probably get a
little geeky here. In the securities law, a guarantee of a
security is a security, and that is in statute, predates Dodd-
Frank. So a guarantee of a securities-based swap is a security.
That happened on their side, as I understand it anyway. What we
look to is Section 722(d), does it have a direct and
significant effect on the commerce or activities in the United
States, and so that is where we--
Chairman Garrett. You use that as an expansive, and it
could bring in anything then as long as it is--
Mr. Gensler. No, it is related to the guaranteed
affiliates. So if a large financial institution here guarantees
that offshore affiliate, as sure as we are sitting in this
room, if that offshore affiliate fails, the risk is going to
come cascading back here of that legal entity.
Chairman Garrett. Let me just say that the SEC, as I said,
at the outset, takes a contrary view on--
Mr. Gensler. Actually, theirs is more direct. It is right
in statute. But Robert might want to address it.
Chairman Garrett. My time has--
Mrs. Biggert. I yield back.
Chairman Garrett. The gentlelady yields back.
I will go to the gentlelady from New York. Mrs. Maloney is
recognized for 5 minutes.
Mrs. Maloney. Thank you.
In Dodd-Frank, it was made clear that clearinghouses must
provide open access, be transparent, and that data repositories
cannot bundle or require that additional services be bought
from them. I am hearing there are some difficulties in this
area, and I would like to submit some questions in writing on
some technical items there.
And I would like to go back to the opening question of the
chairman, the statute that we adopted defined swap execution
facilities as being able to use any means of interstate
commerce. Your proposed rule in January 2011 restricted the
permitted modes of execution. But I understand that your draft
final rule allows for voice, but it is only made clear in the
preamble and is silent in the regulation. Why is it not clear
in the regulation or the rule itself?
Mr. Gensler. As it is a draft and it is internal documents,
can I just speak more broadly just to the--Congress said by any
means of interstate commerce. We got a lot of comments. And I
can only speak for this Commissioner. I believe that the final
rule should be as Congress directed, technology neutral. By any
means of interstate commerce covers phones, Internet, carrier
pigeons. However there is still a requirement, and it is a very
real requirement, that it is multiple parties having the
ability to transact, buy or sell with multiple parties. That is
how markets work best. It was true in days of old when you had
a central market for fruit and vegetables, and it is true in
this electronic era that multiple people meet multiple people,
but they can meet them in a number of different technology
ways.
Mrs. Maloney. I would like to ask about, in your judgment,
why so many of the crises seemed to happen in London. And as
you said, in many of the cases it comes back and hits the
American taxpayer. So is their regulation the same as ours, is
it stricter, looser? But it is unusual that many of the major
financial crises that have rocked the confidence of the markets
have started in London. Why do you think that is?
Mr. Gensler. I think more generally, risk knows no
geographic border or boundary. It can go around the globe. So
risk here in the United States of our housing crisis also
splashed over to Europe. It is true in both directions.
But the nature of modern finance is that these large
financial institutions will have several thousand legal
entities sometimes, or just hundreds, and often will put a
legal entity somewhere that satisfies their capital needs. And
sometimes, they want lower regulation in an island nation. It
could be the Cayman Islands. Long-Term Capital Management had
their entity set up in the Cayman Islands. Bear Stearns had a
number of their legal entities in the Cayman Islands. They
found that was appropriate for them for tax planning and other
reasons, but the risks still came back here.
Mrs. Maloney. If the risk comes back to us, is the
substituted compliance as strict in London as it is in America?
It is unusual that the crisis happens in London. Mr. Cook,
would you like to comment on that?
And I will say that in Basel III, we are hearing from some
of our financial institutions that the capital requirements are
more onerous on American banks because American regulators are
going to enforce them and their competitors may feel they will
not enforce it. So this is a problem if someone can go to
another, have a different standard in what is a competitive
global market in the case of capital requirements, have a
situation which is a disadvantage to American firms. And
certainly, I am concerned about the threat to American
taxpayers. You can say you have substituted compliance, but how
are you enforcing the substituted compliance? You hear from
some financial institutions, I won't say it publicly, but they
don't feel that it is regulated in certain cases in certain
places, and I am wondering, is London one of them? Why are so
many financial crises in London? I would like to hear from Mr.
Cook.
Mr. Cook. Thank you. I think that is going to be a very
important consideration if substituted compliance is granted,
is how do you evaluate the foreign regime and whether it is
deemed sufficient and along what metrics. Saying you are going
to give substituted compliance is just the beginning. You then
have to figure out, you have to understand the other regime,
how it works, and then you need to think about as well how is
that regime being enforced.
I think one of the advantages of substituted compliance is
that you basically retain jurisdiction, so in the future, if
you determine that the regime is inadequate or is not being
adequately enforced, then you can determine that the
substituted compliance is no longer available. I think the
question you are raising about the different capital and other
requirements, while we are not, I think, the banking regulators
who are behind the Basel regime, I think it does raise the
broader question of how do we make sure that there is full
implementation of these G-20 commitments in the derivatives
space, not just in the United States but in other countries as
well. And I think that is part of the advancing international
dialogue, and I think there is a lot of progress being made,
but that is something that would need to be taken into account
before recognizing any other regime for substituted compliance
purposes.
Mrs. Maloney. Thank you. Thank you for your service. My
time has expired.
Chairman Garrett. Thank you.
I recognize the gentleman from Texas, Mr. Neugebauer.
Mr. Neugebauer. Thank you, Mr. Chairman.
I appreciate you both being here today. Chairman Gensler,
in the last couple of years, I think this committee has
expressed a lot of concerns about the rulemaking process as you
begin to implement this title, and some people have felt that
some of these rules were inconsistent, confusing, and others
felt that the CFTC was dodging some issues by just issuing
guidance rather than being very prescriptive, and then others
have said that you are overreaching the original intent of
Dodd-Frank.
I think the question and what the concern was is that was
going to cause uncertainty in the market participants. And I
think what we are beginning to do now is see that playing out.
For example, as you are aware, recently ICE decided to move
trillions of dollars worth of swap, energy swap contracts over
to the futures side. And so the question is, is when you look
at a lot of regulations and the policy that you are making, it
almost appears that you believe that the intent of Congress was
to somehow drive people out of the swap market. Do you believe
that was the intent of Congress?
Mr. Gensler. Not at all, and I don't think that is what our
rules are about either. I think swaps are critical to our well-
functioning economy so that end users, whether farmers or
ranchers or large financial institutions, can lock in a price
and hedge a risk and then focus on what they do well, and
create jobs and innovate. And it is to promote transparency in
that market and lower the risk of that market, but it is just
like the reforms of the 1930s, transparency in the securities
and futures markets, I think, helped promote economic growth
these last 7 or 8 decades.
Mr. Neugebauer. As we are beginning to see how some of the
market participants are reacting to this, has the agency said
internally, hey, we didn't anticipate, for example, that ICE
would move trillions of dollars worth of transactions out of
one space to another space? Are you beginning to wonder whether
the road you are going down is actually accomplishing the
intent of Congress and is it beneficial to the marketplace?
Mr. Gensler. Every day when I walk in, I wonder about that
very question, because markets adjust, evolve; this is a very
complex market. And so that is why we have changed. Nearly
every one of the final rules have been changed from the
proposals. We have reproposed some of them. We are not shy of
doing that. If we don't think we got the first one right, like
we did on block rules, we do not shy away from phasing
compliance and where we think we can under the law to giving
the appropriate relief to smooth this into place.
In terms of futures and swaps I think you had a regulated
futures market that has worked well through the crisis and for
many decades and an unregulated swaps market that, frankly, did
not work well in 2008. So when Congress said regulate this and
bring it up somewhere here, it is sort of inevitable that some
of these swaps might now be called futures. But if I might say,
futures is transparent, it has a low risk profile because it is
centrally cleared, and the dealers or the equivalent of dealers
tend to be regulated. So I think whether it is futures or
swaps, Congress has said it should be transparent and have some
oversight.
Mr. Neugebauer. I think there is no question that there is
a place for both of those products in our financial markets.
What I am concerned about is that we seem to be by some of the
policies and the rules that you are initiating, trying to move
the marketplace more to the futures space, whereas this is a
valuable part of risk management that many of the market
participants that I talk to are very concerned about--one is
that in the form that it has been in the past, certainly
everybody is for the transparency and making sure that we
address some of the risk factors of that, but I don't think
there is support that we move all of the market to the futures.
Mr. Gensler. You and I completely agree on that.
Mr. Neugebauer. We would like to see some things that would
indicate that is the Commission's position. And I think one of
the things that we keep talking to you about, Chairman Gensler,
is the cost-benefit analysis before we implement a lot of this
and anticipating some of the consequences, unintended
consequences of some of this rulemaking process rather than
being in a hurry to just put out a lot of different rules. And
so obviously the market is telling you something here, and
hopefully we will look for your response as to rethinking
whether you have done some things here that are pushing--we
don't need the government telling people what markets they can
participate in. What we need the government to be doing is
making markets transparent and fair. But we don't need the
government trying to tell people that these are the products we
think you should be using.
Chairman Garrett. Thank you. Thank you very much.
Ms. Moore is recognized for 5 minutes.
Ms. Moore. Thank you so much, Mr. Chairman.
I just sort of want to pursue the line of questioning that
Mr. Neugebauer ventured into, because it seems to me that you
are suggesting that futures are transparent, they are well-
regulated, and we all know that swaps were not. And now that
this new swaps future market is developing, I am wondering if
you are concerned about the regulatory arbitrage of only about
50 percent of margin being required and if they are being
treated as equivalents don't you think that--margin may just be
one of the regulatory gaps that exist. Wondering what your
thoughts are on that.
Mr. Gensler. One of the innovations in the market in the
last few months has been this product of future on a swap, so
it is a future, it trades or on a futures exchange, and it is
clear, and it is transparent. But yes, we are taking a look at
it to better understand it. It is a new product. If I can call
you chairman as well, the chairman said the market should
innovate, that we are not deciding whether it is futures swaps
or futures on swaps, but we are certainly taking a look at the
development.
We have historically had reason to have higher margin
requirements on swaps because they were not as liquid as
futures. Margin is meant to be there just if one party defaults
to unwind the position after somebody goes bankrupt. If
liquidity comes to the swaps market, an active liquidity like
the futures market, then you would want to ensure that the
margins were more aligned.
Ms. Moore. Mr. Gensler, much of your testimony was devoted
to how you thought that your regulatory work has been focused
on making sure these swap execution facilities get up and
running and they are well-regulated. You say that you don't
want to pick what kind of products people ought to use in the
marketplace. Are you concerned that these SEFs may just become
irrelevant as you see the exit from swaps into the new product?
Is that any concern about market stability?
Mr. Gensler. I think it is critical that we finish these
rules on swap execution facilities. This has been a long
journey together, 2\1/2\ years when Congress only gave us 1
year. I think the swap execution facility rules need to be
finalized. We have something in front of the Commissioners. We
will find a consensus amongst the five of us and try to finish
this up in January or February so that these commercial
enterprises--
Ms. Moore. It won't be a dinosaur by the time you are done,
will it? It won't be irrelevant?
Mr. Gensler. Knowing some of the men and women who work at
these institutions, no, I don't think so. I think they are very
clever and innovative institutions. But I think we need to
finalize these, complete the task that Congress gave us, and
then let these swap execution facilities and designated
contract markets provide a service to the public and compete.
Ms. Moore. Let me ask you a question about some of the
extraterritorial stuff that we have been talking about today.
Mr. Dold and I, and I am sure he is going to pursue this, we
passed H.R. 4235. And a couple of the Commissioners--
Commissioner Sommers and Commissioner Scott D. O'Malia--have
said that they really do think that there should be a
legislative fix to this. And I would submit that H.R. 4235 was
that fix. And so if you were to join with these Commissioners,
we could repeal the indemnification provisions that were passed
by this committee, I believe unanimously. And I am wondering if
you would endorse that kind of legislative fix to this?
Mr. Gensler. We have been working with the international
regulators, and we did within the law the best we could to
address this issue through the interpretive approach. It was
interpreting this indemnification. Foreign regulators, who have
required data to be in a data repository, can access that data
without the indemnity.
Ms. Moore. I guess my understanding is that they have grave
concerns about the guidance versus this legislative fix. Why
don't we just do H.R. 4235?
Mr. Gensler. That, of course, is not the Commission. We
have done what we can.
Ms. Moore. I know, but if--
Mr. Gensler. I imagine in 2013 Congress will take this
issue up as they take up, whether it is our reauthorization of
the Commodity Exchange Act or other things that Congress takes
up.
Chairman Garrett. Thank you. I thank the gentlelady.
Mr. Pearce is recognized for 5 minutes.
Mr. Pearce. Thank you, Mr. Chairman.
Mr. Gensler, I am fascinated with your discussion. On page
14, it paints a vivid picture: Picture the NFL expanding
eightfold to play more than 100 games in a weekend without
increasing the number of referees. This would leave just one
referee per game, and in some cases, no referee. Imagine the
mayhem on the field, the resulting injuries to players, the
loss of confidence fans would have in the integrity of the
game. So I think I would like to begin my discussion about this
idea of how many referees it would take. And so I go, to judge
the future, I take a look at the past, and so I am looking. The
CFTC was pretty involved in MF Global, right? You were there.
Mr. Gensler. The CFTC--
Mr. Pearce. You were the referee, yes?
Mr. Gensler. The CFTC oversees the futures market--
Mr. Pearce. Yes, so the CFTC was deeply engaged in MF
Global, is that correct?
Mr. Gensler. It is one of the many Futures Commission
merchants, yes. MF Global is one that we oversee.
Mr. Pearce. And MF Global had about 30,000 futures accounts
and 318 SEC-regulated accounts, so one of the many. It is
almost 100 percent under CFTC regulations. And yet the referees
in the room made a decision, according to Chairman Schapiro,
when I questioned her, that they were going to allow it to be
described as a security trading firm, not the 30,000 accounts,
but the 318 are going to dominate the process. And you see that
is a little, just for those people who might be watching out
there in America, that was a little sleight of hand. You talked
about the clever, innovative companies that you try to
regulate. But there was a clever sleight of hand because when
declared it a securities firm, then it was allowed to process
bankruptcy in a way that favored investors.
Mr. Cook, would you have any idea who made the
recommendation that this would be a securities firm and not a
futures trading firm?
Mr. Cook. Sir, the MF Global unit that had customers--
Mr. Pearce. I am asking, do you know who made that
suggestion? Because Chairman Schapiro said that someone from
SEC made the suggestion. Were you in the room that day?
Mr. Cook. I was on the phone at the time.
Mr. Pearce. Were you in the room?
Mr. Cook. No, I was not.
Mr. Pearce. You were not a participant, but you were one of
the referees on the field, I think is what we are talking
about. Mr. Gensler drew us a very good word picture there. You
were one of the referees.
Mr. Cook. Yes, there was an ongoing call among the
regulators that included the CFTC and the SEC to determine what
to do in light of the shortfall in accounts and the obvious
inability of this firm to open up the next morning.
Mr. Pearce. Yes, but who made the decision that it was
going to be a securities firm and not a futures firm?
Mr. Cook. The decision was made to refer this to SIPC
because--
Mr. Pearce. And that allowed then the investors to be
protected at the loss, at the loss to the consumers.
Mr. Cook. Well, no.
Mr. Pearce. And I am reading, if you will allow me, I am
reading your testimony, sir. And you say that in the
discussions before us on derivatives trading, we are here to
avoid systemic risk, we are here to enhance investor
protection, we are here for transparency, we are here for
consistent and comparable requirements, we are here to protect
the consumers. And yet, you were on the phone and Mr. Gensler
was in the room; you were the referees. We were the referees,
but we need hundreds more of us. You two guys were sitting
there when 30,000 accounts were turned over and you protected
the investor and you did not protect the consumer, and you want
us to sit up here and give you more money, you want us to sit
up here and believe the fairy tales that you are giving us that
somehow you are going to act differently under derivatives
trading.
And I say, if I am going to look at your future, I am going
to look at your past. You two guys, not the ones sitting across
the hall from you. And I just wonder about this Administration,
which constantly talks about the 99 percent. When it comes down
to the rub, it protected the 2 percent. It didn't protect the
small guys, it didn't protect the hog farmers--30,000 accounts
versus 318 accounts. Mr. Gensler, you worked at Goldman Sachs.
You knew those guys. They started picking up assets that day.
Mr. Chairman, I yield back.
Chairman Garrett. The gentleman yields back.
Mr. Carson is recognized for 5 minutes.
Mr. Carson. Thank you, Chairman Garrett, Ranking Member
Waters, Mr. Gensler, Mr. Cook, and all of the witnesses.
I want to remind my colleagues of the importance of
cooperation and collaboration with our international partners.
I believe the United States should demonstrate our global
leadership by raising our financial standards and not entering
into a race to the bottom of sorts of banking standards. I also
believe that if the provisions of Dodd-Frank were in place 5
years ago, we would not have faced the economic crises we are
just beginning to crawl out of. So I am very reluctant to carve
out more exceptions or exemptions to Dodd-Frank before the
rules have actually been put in place to fully implement the
law or without more speculation that could go wrong.
My colleague, Peter King, would have us suspend enforcement
of Dodd-Frank's Volcker Rule until our international partners
have instituted their own regulations addressing proprietary
trading. As I mentioned in my opening statement, I strongly
believe that the United States should lead by example and not
wait for others to take the lead. What do you guys see being
the pros and cons of Mr. King's proposal?
Mr. Cook. Both the CFTC and the SEC have a role in
implementing the Volcker Rule. I think the Commission hasn't
taken any position on this proposal. We are actively engaged at
a staff level with the other agencies to move forward with the
Volcker Rulemaking, taking into account the enormous number of
comment letters we got, over 18,000, a very complex set of
issues, but I think we have been making a lot of progress. And
I think as a staff person, our goal is to continue moving
forward with the implementation process as expeditiously as we
can.
Mr. Gensler. And though I am not familiar with the proposed
legislation, the Volcker Rule is one of the more challenging,
maybe the most challenging of rules I think the regulators were
given, to prohibit one activity, proprietary trading, to help
the taxpayers not bear some risk, and yet permit things that
are important to markets, market making, hedging, underwriting
and the like. So prohibit one thing, permit another, and then
where is the border or boundary between the two? So it is one
of the most challenging I think, and there are five regulatory
agencies working on that. Internationally, they don't have the
similar rule, and so we are dealing with Congress' will and
trying to get that in place when they don't have that overseas.
Mr. Carson. Thank you. Thank you, Mr. Chairman. I yield
back.
Chairman Garrett. Thank you. The gentleman yields back.
Mr. Dold is recognized for 5 minutes.
Mr. Dold. Thank you, Mr. Chairman.
I certainly want to thank Mr. Gensler and Mr. Cook. Thank
you for taking your time to be here.
Mr. Gensler, back in March the committee held a hearing
about the potential danger of our regulatory framework if
foreign regulators are required to comply with the
indemnification and confidentiality provisions in Dodd-Frank.
The European Securities and Markets Authority expressed concern
that the CFTC cannot overrule the Dodd-Frank Act itself and
concluded that the confidentiality and indemnification issue
could only be fully addressed with a legislative amendment by
repealing the original provision in Dodd-Frank.
As you know, this committee passed, as my colleague Ms.
Moore noted, H.R. 4235, which would provide this legislative
fix, a solution that I believe is supported by the SEC and
certainly supported by our foreign authorities as well. The
CFTC's interpretive guidance says that the CFTC will not
require foreign regulators to indemnify a registered SDR or its
primary regulator. This regulatory workaround is essentially to
ignore the law, to ignore a provision of Dodd-Frank. On what
basis of authority do you propose that the CFTC can ignore the
law and how can foreign regulators rely upon this
interpretation?
Mr. Gensler. With all due respect, I think we actually took
this law into consideration. Also, as I understand it--I am not
a lawyer, but rules of international comity--in essence, when
there is a conflict between laws how do we address that? We are
doing that in the cross-border rules as well. So we have
interpreted the indemnification provision that Congress put in
place, but said if a European regulator or Asian regulator, or
Canadian regulator actually requires that information to be in
that data repository, that Dodd-Frank doesn't trump their law,
that they can have access to that information without an
indemnity. So it was actually taking into consideration what I
have come to understand as the international regimes on comity
and recognition that has gone all the way to our Supreme Court.
Mr. Dold. On H.R. 4235, Mr. Gensler, Ms. Moore asked, do
you support that legislative fix. Obviously you said, well,
perhaps they are going to do that in 2013. Unfortunately or
fortunately, however you want to look at it, we are going to be
in session here for a little while and we have an opportunity
to fix it right now. Would you support an H.R. 4235 fix which
has passed the committee here unanimously? So again, why put
off until tomorrow what we can try to deal with today? Would
you support something along those lines?
Mr. Gensler. I will just leave it that I support the
interpretive guidance that we completed. I think that we
addressed the issues that ESMA raised with regard to that. ESMA
doesn't have to indemnify if there is information in that data
repository that they have asked to be there.
Mr. Dold. Two dissenting Commissioners, Mr. Gensler, stated
that the Commission has purposely chosen to interpret the
statute in a manner that constrains other domestic regulators'
ability to examine the swap market data. If the DOJ needed to
access data from an SDR for an investigation, would it need to
enter into an indemnification agreement? Can the DOJ do that?
And if not, why would the CFTC limit access to relevant data?
Mr. Gensler. I might have to have our General Counsel get
back to you on the specifics of that question, but I know that
other U.S. regulators have two paths: they can get it directly
from the data repository; or they can come to the CFTC, and we
would forward it to the Department of Justice in your scenario.
Mr. Dold. I have nothing further. Thank you again for being
here.
I yield back, Mr. Chairman.
Mr. Garrett. Thank you. The gentleman yields back.
The gentleman from Texas is now recognized.
Mr. Canseco. Thank you, Mr. Chairman.
The derivatives portion of Dodd-Frank, which is Title VII,
has spawned some of the most baffling and complicated
regulations that the financial markets have ever seen. In part,
this is due to the vagueness of Dodd-Frank and more so, and
largely due to the manner in which some regulators,
particularly the CFTC, have gone about implementing Title VII.
Now, in recent months, and leading up to October 12th,
there has been a decrease in trades with U.S. firms.
International regulators have condemned the overreach of the
CFTC, all which shows that Title VII is doing plenty to
increase confusion, and is taking business away from the United
States, yet it remains an open question whether any of these
rules are making our financial system safer or sounder.
Mr. Gensler, in past appearances before this committee, you
have touted the CFTC's work and cooperation with international
regulators. For example, when you testified before our
committee in early 2011, you stated that the CFTC is ``actively
consulting and coordinating with international regulators to
harmonize our approach to swaps regulations,'' and that you had
worked closely with regulators in Europe, the U.K., and Japan.
And just recently, in October, you stated in a speech that the
CFTC has ``consistently engaged with our international
counterparts through bilateral and multilateral discussions to
promote robust and consistent swap market reform.''
Recently, the regulators of the U.K., France, and Japan
sent the CFTC a letter and urged your agency to better
coordinate regulation with them, and it has been widely
reported that regulators of other countries are concerned about
your agency's approach. So my question to you is, what
happened?
Mr. Gensler. What happened is what happens in human nature
is that not--we don't always agree, partly because we have
different underlying statutes, we have different cultures, we
have different political systems. We have been sharing our
drafts rules, our term sheets. We get feedback. I don't know of
any other U.S. regulator who does this, by the way, with all
due respect. We really do get a lot of excellent feedback, but
ultimately there will be some differences. We can narrow those
differences, but we will have some differences.
Mr. Canseco. So what you are saying is that it is going to
take some time to get these regulations in sync with the EU and
Japan and other traders?
Mr. Gensler. We have made tremendous process. There are
laws in place in Europe, Canada, the United States, and Japan
to have central clearing, data reporting, and, at least here in
the United States and Japan, for some of this public
transparency. Europe is still focused on that.
Wherever there is a direct conflict, we are going to sort
that through and be very practical, as we have been in Japan,
as we have on this indemnification issue, within the law and
recognizing international regimes, called this international
comity. But where there are some differences where they haven't
adopted a law, whether it be in the Cayman Islands or other
places, we have to make sure that our taxpayers are protected
and our markets are transparent.
Mr. Canseco. I understand that, but in the meantime we are
losing a lot of that market share and all of that opportunity.
What assurances do you have that we are going to get these
regulations in sync with the Europeans and the Japanese and
others?
Mr. Gensler. I think that as we have moved forward, we have
done that where we can. Another example is--and I know it was
raised earlier by other Members--margin, the amount of money
that is put up on transactions. We proposed something along
with the bank regulators in the spring of 2011. We have not
finalized that because we went out internationally with the
Europeans and Asians and put out a concept on how to do this
earlier this year. And we are committed to try to do this in
sync, with them, which may take until late in the first half of
this coming year.
Mr. Canseco. Now, let me ask you this: Do you believe that
the international regulators are wrong in their statements that
they made at the GMAC conference earlier this autumn? Fabrizio
Planta of the European Securities and Markets Authority stated
that this is not workable with regards to the rules that are
being implemented by the CFTC. And he says, they are not
workable, and we, as international regulators, have the
responsibility to find mutually acceptable workable solutions
to solve these issues. And Patrick Pearson from the European
Commission stated that the message is, Washington, we have a
problem. That is an objective fact, not a subjective one.
Mr. Gensler. I believe this is workable. We have something
that is in our law, which is registration. Congress debated
that firms will register, and they will register starting in a
few weeks. That is not in European or Asian law. So that is
just a difference in approach.
They will register, but then we will look to substitute a
compliance, we will look to phased compliance. We have an
exemptive order that we are finalizing pieces of to give more
time for that. But when they are dealing with enough U.S.
persons, they will register so that the public here is
protected as well and that we level the competitive playing
field. We don't want our firms from New York or elsewhere in
this country to have to register, but just if you are in
Frankfort, or Paris, or London, or Tokyo, that you don't
register when you deal with U.S. persons in this country. That
would seem not only to be a conflict with the law, but it
wouldn't be appropriate competitively.
Mr. Canseco. Thank you. I see my time has expired.
Chairman Garrett. The gentlelady from New York is
recognized for 5 minutes.
Dr. Hayworth. Thank you, Mr. Chairman. And I want to
express my appreciation for the privilege of having worked
under your guidance on this subcommittee for the past 2 years.
And Mr. Cook and Mr. Gensler, thanks for your service, Mr.
Cook particularly, upon this particular occasion.
Recognizing that Dodd-Frank is a massive law that was
passed with the best of intentions, but, of course, it was not
composed in its entirety by people who are so deeply immersed
in the world of financial services and its products and
processes as you are and as those we are seeking to serve are,
do--I realize you have been given a set of tasks that can be,
as we have heard, amply documented not only in this hearing,
but throughout the past couple of years; that we are working to
try to provide a certain element of--obviously a tremendous
element of control, of assurance, of security, of minimization
of risk to the vulnerable, but in so doing it is clear that
trying to map that law onto a regulatory structure and onto our
financial services industry has created tremendous problems in
terms of process and timing, and they have real cost in a
highly competitive world. So these issues that we are talking
about, as you know, as we all know, have real consequences, as
Mr. Canseco was just saying. We lose market share when products
and offerings and services move elsewhere in the world where it
is perceived that they are more welcome or there is more
opportunity.
I want to ask you more specifically in that regard about
cross-border guidance, and I know you had a--Mr. Gensler, you
had a little conversation with Chairman Bachus about it, and
you say there has been a cost-benefit analysis done. Earlier
this year, in February at a CFTC open meeting, your counsel
said that indeed there had been a cost-benefit analysis on a
particular rule, but when Commissioner O'Malia asked it about
subsequently, in fact it turned out that there actually hadn't
been a numerical sort of analysis that they could actually look
at and say, yes, this is what it is going to cost, this is what
we reliably project.
Clearly we need that kind of quantitative analysis, because
obviously we have to assess the costs and benefits of what we
are doing. There is a happy point in there somewhere
statistically, there has to be realistically.
So do you have a real quantitative analysis that you can
provide of the cross-border rules? And if so, could you provide
that to the committee in the next few days?
Mr. Gensler. We consider cost-benefits on each of our
rulemakings. Sometimes they measure 100 pages long in some of
these and throughout these 40 or so rules. Thus, it measures
into the thousands of pages and always signed off by our chief
economist.
It benefits from market input, but it is both qualitative
and quantitative. And often we ask market participants for
numbers, and they are not able to give us numbers, partly
because it is a competitive issue, they may not want to send
it, and partly because this is a new regime--
Dr. Hayworth. Right.
Mr. Gensler. --as well. So we consider that throughout the
various rules.
It also has to be measured against the cost to the American
public, and I think Congress was well aware of that, of the job
losses, the businesses that shuttered, the people who lost
their homes as a result of a crisis that in part was due to
this opaque marketplace.
Dr. Hayworth. Sir, without--and I don't mean to interrupt
you abruptly, but do you--all taken, yes, although the root
cause remains Federal action that facilitated the kind of
unwise investment in the housing markets, the high-risk
investments that resulted in this. The derivatives were a
symptom, if you will, or an end result, but the root cause was
actually Federal action, I would submit.
But, sir, do you have a quantitative analysis of any of
these cross-border rules that you can share with us,
understanding limitations that you have described?
Mr. Gensler. In each of our rules, whether it is about data
reporting, clearing, business conduct, there is cross-border--
cost-benefit considerations written up.
Dr. Hayworth. Understood. Can you provide them to us, sir;
can you give us some sort of documentation of them?
Mr. Gensler. We could probably pull together those 40 or so
cost-benefit sections and send them in and so forth.
Dr. Hayworth. Yes, sir.
Mr. Gensler. But they are rule by rule.
Dr. Hayworth. Understood. But whatever you could provide
us, I think that would be useful.
I know my time has expired, and I thank you.
Chairman Garrett. Anything we can get from the Commission
with regard to cost-benefit analysis would be beneficial, and a
first, so that would be great.
Mr. Stivers is recognized for 5 minutes.
Mr. Stivers. Thank you, Mr. Chairman.
And I appreciate both witnesses being here today. Big
picture, we all want to promote market integrity, lower risk,
and have harmonized regulation both here in the United States
and internationally.
I would like to start with harmonization because I think it
is really important. Since the two of you are at the table, how
would you, in very brief terms, characterize the coordination
between the SEC and the CFTC on swaps rules as they stand
today? Are you in unanimity, are you close, are you--do you
have distance between you?
Mr. Gensler. I would say the coordination has been
exceptional. And I want to take this moment to thank Chairman
Schapiro, because I know her term is almost up, as well as Mr.
Cook, because they have been incredible partners to this
agency. We jointly put in place definitional rules, as Congress
asked us to do. We jointly address public reporting of hedge
funds. Many of the other rules we were not asked by Congress
nor required to be ``joint,'' but we had to consult and
coordinate and harmonize where we can, and we have done that.
But where we are different is in timing. The CFTC has
completed about 80 percent, and Robert could tell you--Mr. Cook
could tell you their percent. But that is partly because that
is all we really do. We oversee futures and swaps, and they
have a lot more to oversee.
Mr. Stivers. If we could allow him to quickly characterize
where you are, and then I have a bunch more questions.
Mr. Cook. Sure. I would agree that there has been good
coordination in terms of sharing documents back and forth.
Mr. Stivers. Would you agree you are in the same place?
Mr. Cook. As far as timing, we are in a very different
place, but again, we are 5 percent of the market, and they are
95 percent of the market.
I think the other thing is that at the proposal stage,
there has been a lot of similarity, and there have been some
differences. Sometimes those differences reflect difference in
products; sometimes they reflect a difference in approach. I
think that it is appropriate at the proposal stage to put out
different ideas for people to think about. As we move into our
final rulemaking stage, we will need to really focus hard on
where we are different, and is there a justification for being
different from the CFTC?
Mr. Stivers. And I would argue very strongly that
differences in timing create a lot of uncertainty in the
marketplace. And also the fact that the CFTC didn't go through
the administrative rulemaking process without formal comments,
they are doing many things through guidance and non-action
letters, I think that is a real problem. And I would urge you
to try to come together more on timing because I think it will
help keep the market from becoming fragmented.
I would like to ask Mr. Gensler, approximately how many no-
action letter requests do you have before you now on these
swaps rules?
Mr. Gensler. We have worked through many of them, but I
think that we have between 10 and 15 right now that we are
still working through. But if I am off, there could be a
handful more.
Mr. Stivers. So when you add those up with the ones you
have already approved, how many would be in effect at the
beginning of--well, in short order? How many--add the 10 to 15
you have now with--how many no-action letters have you already
approved?
Mr. Gensler. I don't have an exact number. It is on our Web
site, and we can get back to you, sir, with a specific number.
Mr. Stivers. That would be great.
The whole point of that is if you had gone through the
administrative rulemaking process, you could have gotten
comments, you could have changed rules, and you could have
gotten the benefit of cost-benefit analysis that we talked
about.
I do want to ask Chairman Gensler the status of H.R. 2779,
which is the inter-affiliate swap bill that Congresswoman Fudge
and I sponsored. It passed the House with 357 votes, and I know
you proposed the rule to allow inter-affiliate exemption from
clearing requirements. How is that going?
Mr. Gensler. We proposed something probably around when
your bill was, but maybe it was after that, recognizing that we
might not have the time to complete that, and we had this
cross-border and other issues in front of us. We did use a no-
action letter to give us time until I think it is April 1st to
complete that. We got very good comments from the public, and
we look to complete that in the first quarter.
Mr. Stivers. Thank you.
I am running out of time. I would like to insert a letter
for the record on harmonization from our international partners
that Mr. Canseco referenced. In the letter, they state that
they have really deep concerns about the differences between
their positions and ours right now.
I yield back the balance of my time to the chairman for a
question that he would like to ask.
Chairman Garrett. I appreciate that.
Just very quickly, with regard to position limits in the
court case right now, first, I have heard media reports that
the Commission might be thinking of appealing that decision?
Mr. Gensler. We actually did file papers to appeal it.
Chairman Garrett. Okay. And second, I have heard rumors
actually from fellow Commissioners stating that you plan to
draft another positions limits rule to try to fix that problem.
Mr. Gensler. We are looking at that as the district court
suggested that--they remanded it, so recognizing that Congress
really said, get this in place. And if I might say, position
limits work. They work in the markets to promote integrity in
the markets.
Chairman Garrett. Has your solicitor or your counsel
notified the court at the same time that you are filing an
appeal that you are also going down another track of
potentially proposing another rule?
Mr. Gensler. I will raise that with our counsel, but it is
really--
Chairman Garrett. Because that would--
Mr. Gensler. We appealed it because we think that Congress
directed us to put position limits in place. They said, in
fact, not even do it in the year, do it in 6 and 9 months, and
then report back to Congress once we have done it.
Chairman Garrett. I am just--
Mr. Gensler. But in the meantime, we are also looking at--
Chairman Garrett. Having been in court and seeing other
cases by this Administration where the Administration filed in
court, and the court says no, and at the same time at the last
minute they come back into court and say, never mind to the
appeal that has been filed, we have seen already courts from
the bench saying, why didn't you let us know that you were
doing this? You are basically running down two expensive tracks
at the same time, one an appellate process trying to appeal
your original position, and the other at that time creating
another rule. We have heard so much that the Commission is
short on assets and resources to get the job done. This just
seems to be one case of an evidence of that, why that may be
the case.
With that said, and coming to the close of this first
panel, I appreciate both the Chairman and the Director being
with us today. There will be opportunity for Members to submit
other questions in writing. Now, I would normally end it right
there, and say to the next panel to come on up, but that does
remind me of my opening comment that we have already done that
in the past, sent letters to the Commission asking for answers
on some things, and several months later, we are still awaiting
answers from the Commission.
So on one hand, I am extending that offer to all the
Members, all my colleagues on both sides of the aisle, to once
again within the next 30 days submit questions to both members
of the panel. I would ask the panel before they leave, is it
their intention to answer these questions and any previous
questions from any Members that they may have in a timely
manner, timely being within the next week or so?
Mr. Gensler. In a timely manner, yes. In a week is very
often a challenge. I am just being very realistic. A week
sometimes--
Chairman Garrett. How about any outstanding correspondence
from myself and anyone else who may have--
Mr. Gensler. I am not aware of any outstanding ones, but I
would like to work with your staff to ensure that--if there are
any outstanding ones.
Chairman Garrett. Okay. Sure. I appreciate that. I am sure
the Commission will--
Mr. Cook. We will work very hard to get to your answers as
quickly as we can.
Chairman Garrett. Great. Thanks.
With that, I thank both members of the panel. This first
panel is dismissed. Thanks a lot.
Mr. Gensler. Thank you very much.
Mr. Cook. Thank you.
Chairman Garrett. And to the second panel, greetings. While
you are getting your papers, et cetera, organized in front of
you, I welcome the second panel.
First, a couple of housekeeping items. I know some members
of the panel have testified here before, and others have not.
So for those who have not been here before, and as a reminder
to those who have, your complete written statements will be
made a part of the record. You will be recognized for 5 minutes
for a summary of your statement right now. Sometimes, we say to
capsulize your statement. And, of course, right in front of
you, in front of Eric there, is the little clock with red,
green, and yellow lights. It goes down to 5 minutes and final
time.
Also, I will just say that I saw all of you sitting here
for the first panel. And so we understood from the first panel
everything is going well. We will move quickly through the
process and have harmonization not only around the world, but
back here at home as well. And I assume the second panel is
going to tell us the exact same thing, that everything is
moving smoothly, and we have no real need for concern, in which
case we can leave here happily. If not, then I get the old
adage of the former radio host Paul Harvey: And now, we hear
the rest of the story.
So with that, we have seven members to the panel. We will
start right off as we normally do from the left. Mr. Bailey
from Barclays, we recognize you and welcome you to the panel,
and you are recognized for 5 minutes.

STATEMENT OF KEITH BAILEY, MANAGING DIRECTOR, MARKETS DIVISION,
BARCLAYS, ON BEHALF OF THE INSTITUTE OF INTERNATIONAL BANKERS
(IIB)

Mr. Bailey. Good afternoon, Chairman Garrett, Ranking
Member Waters, and members of the subcommittee. My name is
Keith Bailey. I am from Barclays, where I am a managing
director in the markets division. I appreciate the opportunity
to testify today on behalf of the Institute of International
Bankers (IIB) on the implementation of Title VII of the Dodd-
Frank Act and its impact on the market.
The IIB greatly appreciates the hard work that has been
done by the regulators and the congressional committees to
promote efficient transition of markets to meet the goals of
Title VII. The challenges facing the CFTC and the SEC in
getting this right are considerable, given the OTC markets
operate on such a global basis.
My testimony will focus on the continuing uncertainty
surrounding the cross-border application of the Title VII
regulations, the effect this is having on the market today, and
the risks to the market if the implementation process is not
placed on a more stable footing.
Congress in the Dodd-Frank Act recognized the need for
international consistency and coordination in the
implementation of Title VII's derivative reforms. As the
committee is aware, in support of this goal, the Act limits the
overseas application of U.S. rules to activities where there is
either a direct and significant effect on U.S. commerce or the
potential for evasion.
We support the goals of Title VII, which will provide
greater market transparency and increased oversight of the
global swaps market; however, there is growing concern
surrounding the sequencing of rules by the CFTC and the
divergence between the CFTC and the SEC regarding the process
and timing for the consideration and adoption of rules
governing how swaps and security-based swaps are offered to
clients. As the committee is aware, the industry is facing
quickly approaching compliance deadlines with respect to swaps
without the benefit of final guidance as to the international
scope of these rules.
The lack of clarity related to the rules' cross-border
application manifests itself in particular with respect to
three aspects which apply equally to registration with the CFTC
and the SEC, albeit the more immediately pressing concerns over
the CFTC's requirements. The first is, who has to register as a
swap dealer? Given the need to register by December 31st, firms
had to make decisions a while ago as to which entities to
register with the CFTC. Making these decisions without being
fully informed as to the rules that will apply and what it will
take to comply imposes an untenable level of unpredictability
on firms. The inability to properly plan affects the ability of
firms to serve their clients.
The second major challenge is the creation of a new
definition of ``U.S. person.'' The CFTC has proposed a
definition that is expansive and without precedent, posing
difficulties for market participants to know which entities
around the world will be in scope. This is important because if
a registered dealer trades with a U.S. person anywhere in the
world, that transaction will be subject to U.S. requirements to
clear and to execute that trade on a U.S.-registered
clearinghouse and swap-execution facility, potentially in
conflict with local regulations.
Conflicts introduce compliance risks for both the dealers
and clients, resulting in trades simply not occurring. A
narrower definition of ``U.S. person'' will reduce the
instances of this conflict.
Regulators must also mutually recognize each other's
clearinghouses and exchanges. The expansive U.S. person
definition further contributes to the uncertainty over who has
to register under the so-called aggregation rule. As it stands
now, this rule requires affiliates of non-U.S. dealers that
register with the CFTC to themselves register as swap dealers
if they transact even a single transaction with a U.S. person.
This would significantly increase both the number of registered
swap dealers and the resources the CFTC will require to
regulate them. It is hard to see how the liabilities of non-
U.S. entities with only a very limited U.S.-facing activities
could pose a risk to U.S. commerce.
Substituted compliance is the third issue. It applies more
broadly than just to the execution of transactions. For
example, to what extent is a foreign-headquartered bank
accountable to the CFTC for risk management of its global swap
activities if the CFTC's rules are different than those of its
home country prudential regulator?
The CFTC is proposing to apply the offshore prudential
regulators rules, but only if their rules pass a narrow
substitute compliance test that will require a high degree of
comparability. The IIB agrees with the numerous global
regulators who have suggested that such an approach won't work.
As demonstrated this past October, such uncertainties create
paralysis in the market. Clients, regulators, and Title VII's
objective for transparence and efficient markets are the
losers.
The resolution of these issues cannot wait until the last
minute. As discussed at greater length in our written
statement, there are near-term steps the CFTC can take to
alleviate these uncertainties. Such actions not only would
provide the breathing space needed for global regulators to
resolve their differences in striving for convergence in
achieving the G-20 objectives for OTC derivatives reform, but
also would provide the time for the CFTC and the SEC to
establish a consistent approach to the cross-border application
of Title VII's requirements.
Thank for inviting us here today to contribute to the
dialogue, and I look forward to any questions you may have.
[The prepared statement of Mr. Bailey can be found on page
68 of the appendix.]
Chairman Garrett. And I thank you.
I now recognize Mr. Bopp from the Coalition for Derivatives
End-Users. I hope to hear so much about what would be impacted
by this. Thank you for being on the panel.
Mr. Bopp. Thank you.
Chairman Garrett. You are recognized for 5 minutes. Make
sure you do pull your microphone close to your face.

STATEMENT OF MICHAEL D. BOPP, GIBSON, DUNN & CRUTCHER, LLP, ON
BEHALF OF THE COALITION FOR DERIVATIVES END-USERS

Mr. Bopp. Chairman Garrett, Ranking Member Waters, and
members of the subcommittee, I want to thank you for inviting
the Coalition for Derivatives End-Users to be represented at
this important hearing. The Coalition includes more than 300
end-user companies and trade associations, and collectively we
represent thousands of end users from across the country. Our
members are united in one respect: They use derivatives to
manage risk, not to create it.
Many U.S. companies are able to maintain more stable and
successful operations through the use of a variety of risk-
management tools including derivatives, yet derivatives used by
end users must be put in perspective. End-user trades account
for less than 10 percent of the notional value of the overall
derivatives market.
The Coalition has been very engaged throughout the
regulatory process, meeting with regulators dozens of times,
submitting nearly 20 comment letters. We very much appreciate
the receptivity of regulators to hearing our concerns and for
taking the time to meet and speak with us on numerous
occasions.
We also work with Congress, and in particular with your
committee, on legislative means to prevent unnecessary
regulatory burdens from being imposed on Main Street
businesses.
On behalf of the Coalition, I would like to take a moment
to thank the Financial Services Committee for its hard work in
helping to move legislation through the House to address some
of the unintended consequences of the Dodd-Frank Act. In
particular, I want to thank Congressmen Grimm and Peters for
the end-user margin bill; Congressman Stivers, Congresswoman
Fudge, and Congresswoman Moore for the inter-affiliate swaps
bill. The overwhelmingly bipartisan and collegial process that
led to passage of both bills in the House demonstrates that
there are changes to the Dodd-Frank Act that make sense and can
achieve a consensus.
With regulatory compliance deadlines looming in the next
few months, however, the Coalition is concerned with the
direction in which certain rules appear to be heading. We are
primarily concerned about regulations relating to margin and
capital requirements, inter-affiliate trades, Treasury hedging
centers, and the application of rules across borders. I will
touch upon these points briefly.
The proposed margin requirements, particularly those
proposed by the prudential banking regulators, are especially
troubling and would harm Main Street businesses. Congress was
clear both throughout the legislative process and in the text
of the Dodd-Frank Act that end users should not be subject to
margin requirements because they do not meaningfully contribute
to systemic risk. Congress also made it clear that imposing
margin requirements would unnecessarily impede end users'
ability to efficiently and effectively manage risks.
As proposed, however, the rules contradict congressional
intent and would impose unnecessary margin requirements on end
users, diverting working capital away from productive business
use. A survey conducted by our Coalition found that a 3 percent
initial margin requirement could reduce capital spending by as
much as $5 billion to $6.7 billion among S&P 500 companies
alone, costing 100,000 to 120,000 jobs.
We are also concerned that inter-affiliate derivatives
trades, which take place between affiliated entities within a
corporate group, may face the same regulatory burdens as
market-facing swaps. There are two serious problems that need
addressing. First, under the CFTC's proposed rule, financial
end users would have to clear purely internal trades between
affiliates unless end users posted variation margin between the
affiliates or met specific requirements for an exception. If
end users have to post variation margin, there is little point
to exempting inter-affiliate trades from clearing requirements
as the costs could be similar.
Second, many end users, approximately one-quarter of those
we surveyed, execute swaps through an affiliate. This, of
course, makes sense as many companies find it more efficient to
manage their risk centrally and to have one affiliate trading
in the open market instead of dozens or even hundreds of
affiliates making trades in uncoordinated fashion. But it
appears from the regulators' interpretation of the Dodd-Frank
Act that purely non-financial end users will face a choice:
Either dismantle their central hedging centers and find a new
way to manage risk, or clear all of their trades. Stated
another way, this problem threatens to deny the end-user
clearing exception to end users because they have chosen to
hedge their risk in an efficient, highly effective way. It is
difficult to believe that this is the result Congress hoped to
achieve.
Finally, the proposed cross-border guidance is also a cause
for concern for the Coalition. The guidance would impose
additional costs on end users and would diminish their
available choices of counterparties. We are also concerned by
the CFTC's creation of a new regulated entity found nowhere in
the four corners of the Dodd-Frank Act. The term ``conduit'' as
used in the proposed guidance could be applied to central
hedging centers and, again, could force end users to abandon
these efficient structures for executing trades.
Throughout the congressional development of the Dodd-Frank
Act and the regulatory process that has followed its passage,
the Coalition has advocated for a more transparent derivatives
market through the imposition of thoughtful, new regulatory
standards that enhance financial stability while avoiding the
imposition of needless costs on end users. We believe that
imposing unnecessary regulation on derivative end users, which
did not contribute to the financial crisis, would create more
economic instability, restrict job growth, decrease productive
investment, and hamper U.S. competitiveness in the global
economy.
Thank you.
[The prepared statement of Mr. Bopp can be found on page 85
of the appendix.]
Chairman Garrett. I appreciate that. Thank you, Mr. Bopp.
Ms. Cohen, welcome to the panel. You are recognized for 5
minutes.

STATEMENT OF SAMARA COHEN, MANAGING DIRECTOR, GOLDMAN, SACHS &
CO.

Ms. Cohen. Chairman Garrett, Ranking Member Waters, and
members of the subcommittee, my name is Samara Cohen, and I am
a managing director in the securities division of Goldman
Sachs. My responsibilities include developing and delivering
trading, hedging, and risk-management solutions to the firm's
OTC derivatives clients, with specific focus on the market
structure changes resulting from global regulatory reform. In
my current role, I interact regularly with market participants
that transact in swaps to manage risk, access liquidity, and
improve returns. Thank you for inviting me to testify at
today's hearing to share a perspective with you and answer any
questions you may have.
Goldman Sachs supports the overarching goals of Dodd-
Frank's derivatives provisions, including decreasing systemic
risk and increasing transparency, and has devoted substantial
resources to build necessary compliance systems.
Commissioners and staff at the regulatory agencies,
including the CFTC and the SEC, were given a very difficult
task, and we commend their efforts to fulfill the goals of the
legislation. Along with our customers, we have been carefully
monitoring the way that regulators view the cross-border reach
of Dodd-Frank's derivatives provisions, including how the U.S.
regime will interact with the regulatory reform efforts under
way in other G-20 jurisdictions.
Today, I will raise four challenges we and our clients see
with the CFTC's approach to Title VII implementation and the
consequences that might result from their proposed cross-border
guidance.
First, the CFTC has taken a sweeping approach to its
jurisdiction beyond U.S. shores that is without precedent.
Recent public meetings held by the CFTC and others have made it
clear that swap market participants and non-U.S. regulators
have substantial concerns about this expansive approach. These
concerns will inform the ways in which swap market participants
operate, with some local banks in Asia, Europe, and South
America signaling to U.S. financial institutions that they will
have to stop trading with U.S. dealers to avoid CFTC swap
dealer registrations. The approach also may encourage foreign
regulators to be similarly expansive as they craft their own
regulatory regimes.
Second, the CFTC's definition of ``U.S. person'' that
dictates registration and application of Title VII requirements
is overly broad and at times vague. As a result, market
participants do not know whether they or their counterparties
are or are not U.S. persons and cannot make informed business
plans. In addition, the breadth of the definition makes it
nearly certain that some market participants will be both a
U.S. person for the purpose of U.S. regulation and an EU person
or its equivalent for the purpose of EU regulation, causing
unnecessary overlap and potential conflicts in regulation.
Third, regarding sequencing, the CFTC has chosen to
finalize substantive Title VII rules and require compliance
with them before specifying to which entities they will apply.
As a result, market participants face significant uncertainty
as to what rules may apply. In contrast, the SEC recognizes the
need to finalize the cross-border application of its rules well
before requiring compliance.
Our fourth and final concern relates to the fact that the
CFTC's cross-border approach has not been developed in
coordination with non-U.S. regulatory regimes as is necessary
in a global derivatives market. In the short term the timing
mismatch between the CFTC's rulemaking and that of other G-20
jurisdictions could cause swap customers to move their business
so that U.S. regulations do not govern their swap transactions.
While a permanent solution to these issues is being
developed, it is critical that the CFTC address the industry's
immediate concerns to avoid harmful and potentially permanent
disruptions to the swap markets on and around December 31st.
Specifically, the CFTC should temporarily permit the simplified
form of the ``U.S. person'' definition in the CFTC's October
12th registration no-action letter for compliance with all
Title VII obligations. This definition is simple and clear, but
still captures the vast majority of entities that market
participants generally consider U.S. persons. While a final
U.S. person definition is developed, in consultation with other
regulators, the CFTC should apply Dodd-Frank requirements to
transactions between registered swap dealers and U.S. person
customers only.
We appreciate the opportunity to offer our views to this
committee, Congress, and the regulators as we work together to
fully implement these important new rules.
Thank you, and I look forward to your questions.
[The prepared statement of Ms. Cohen can be found on page
88 of the appendix.]
Chairman Garrett. Thank you, Ms. Cohen.
Mr. DeGesero, of the Fuel Merchants Association, welcome to
the panel.

STATEMENT OF ERIC DEGESERO, EXECUTIVE VICE PRESIDENT, FUEL
MERCHANTS ASSOCIATION OF NEW JERSEY, ON BEHALF OF THE PETROLEUM
MARKETERS ASSOCIATION OF AMERICA (PMAA), THE NEW ENGLAND FUEL
INSTITUTE (NEFI), AND THE FUEL MERCHANTS ASSOCIATION OF NEW
JERSEY (FMA)

Mr. DeGesero. Thank you, Chairman Garrett, Ranking Member
Waters, and members of the subcommittee. My name is Eric
DeGesero, and I am representing the Fuel Merchants Association
of New Jersey, the Petroleum Marketers Association of America,
and the New England Fuel Institute. Our members collectively
distribute 60 percent of the gasoline and 90 percent of the
heating oil consumed by the American public.
First, we want to commend the CFTC for its dedication to
moving forward with prudent futures and swaps market
regulations which will bring greater transparency, certainty,
and fairness to all commodity market participants. Bona fide
end users of commodities, many of which are our members, feel
that the futures and swaps markets are not serving the best
interests for what they were created: managing risk and
discovering price.
So why Title VII? For the first time, Dodd-Frank requires
all swaps, whether cleared or not, to be reported to swap data
repositories. This is an important step to help the CFTC
capture the trillions of dollars traded in the opaque swaps
market.
Additionally, Title VII is important because it limits
excessive speculation on energy trades, enhances prohibition
and prosecution of fraud and manipulation, and promotes greater
consumer protections. While the rules might not be perfect,
they are a welcome start in overturning the Commodity Futures
Modernization Act (CFMA), which watered down oversight,
exempted Wall Street from position limits and requirements that
ensured transparency and competition and prevent fraud, and
manipulation, and excessive speculation.
Before passage of the CFMA, commercial hedgers comprised 60
to 90 percent of the market for commodities. Today, 60 to 90
percent is purely speculative, and that is only the markets
that we know about. This level of speculation is excessive and
undermines risk mitigation and price discovery mechanisms,
exacerbates market volatility, and unhinges the markets from
supply and demand fundamentals.
Commodity futures markets were established as a tool for
true physical hedgers to manage risk. They weren't set up
strictly for investment banks to dominate the marketplace.
The very definition of ``cash-settled swaps'' as look-
alikes means that what occurs in the financially settled swaps
market directly impacts what occurs in the physical market.
In recent years, excessive speculation on oil futures
exchanges has driven prices at the pump. In April 2011, Goldman
Sachs warned clients to lock in trading profits before oil and
other markets reversed, suggesting speculators were boosting
crude prices as much as $27 a barrel, which translates to
upwards of 40 to 60 cents per gallon at the pump. Goldman noted
that every 1 million barrels of oil held by speculators adds an
8 to 10 cent rise in oil prices.
So not to say that we are opposed to speculation. Quite the
contrary. We need speculation in the marketplace for physical
end users to manage risk, but excessive speculation distorts
the markets and creates tremendous volatility.
Furthermore, the effect of excessive speculation on small
business petroleum marketers is a problem with far-reaching
consequences. In recent years, gasoline and heating oil
retailers have seen profit margins from fuel sales fall to the
lowest point in decades as prices have surged. Small businesses
do not benefit from high crude or gasoline prices because they
operate in such a competitive environment: the higher the
prices climb, the further the margins are compressed. Thus,
rising gasoline prices not only hurt motorists, but small
businesses as well.
Regarding the position limits rule, it is unfortunate that
the U.S. district court ruling vacated the clear intent of the
elected branches of government on the new position limits rule,
albeit on narrow ground, and sent it back for further
consideration.
More than 100 studies have been published showing that
excessive speculation has been disruptive to commodity markets.
We would also like to note, in echoing statements that were
made earlier relative to the bipartisan process of some of
this, that as recently as the 110th Congress, 70 House
Republicans voted to approve legislation that would have
established across-the-board position limits and provided the
CFTC with 100 employees, 100 new employees, to carry out their
mission. Of that number, 44 are still Members of the House.
Regarding cross-border derivatives, transactions conducted
by offshore affiliates of U.S.-based firms can have a direct
and immediate impact on businesses, consumers, and the
stability of the American economy. Financial institutions have
direct access to the Federal Reserve's discount window and FDIC
backing. That is why Congress gave the CFTC enough discretion
to go after offshore affiliates. If the CFTC isn't able to
effectively regulate U.S. bank foreign affiliates that engage
in swap transactions, Title VII of Dodd-Frank will effectively
be gutted.
Given the over-the-counter derivatives market has grown
exponentially over the last 10 years, a small downpayment for
the CFTC to ensure the markets are reflective of supply and
demand is critical. The OTC market totals approximately $300
trillion in the United States and another $300 trillion
worldwide. We believe the CFTC's budget needs to increase from
$205 million to $308 million. We urge the subcommittee to allow
the CFTC to do its job and implement the will of the people's
branch without further delay.
I thank the subcommittee for the opportunity to testify and
I look forward to any questions you may have, Chairman Garrett.
Thank you.
[The prepared statement of Mr. DeGesero can be found on
page 106 of the appendix.]
Chairman Garrett. Thank you very much.
Mr. Deutsch, you are recognized for 5 minutes.

STATEMENT OF THOMAS DEUTSCH, EXECUTIVE DIRECTOR, AMERICAN
SECURITIZATION FORUM (ASF)

Mr. Deutsch. Chairman Garrett and distinguished members of
the subcommittee, my name is Tom Deutsch. I am the executive
director of the American Securitization Forum. I thank you for
the opportunity to participate in the hearing today on behalf
of the 330 member institutions of the ASF that represent all
the various constituencies in the global structured finance
markets, including issuers, investors, financial
intermediaries, lenders, trustees, servicers, and rating
agencies.
In my testimony today, I address in detail two key
unintended consequences of potential outcomes of the
implementation of Title VII of the Dodd-Frank Act on the
structured finance industry. There are certainly a number of
areas of securitization and structured finance that is subject
of Dodd-Frank, such as QM, QRM, risk retention, loan level
data, conflicts of interest; certainly a litany of issues that
we would address in different hearings.
Today's hearing is not one in the summer of 2010 that I
would have expected us to participate in, in large part because
the use of swaps and derivatives in securitizations are
generally of the most plain-vanilla type, such as the use of
interest rate or currency swaps to eliminate securitizations
investors' exposures to interest rate or currency fluctuations.
Let me provide two basic examples. First, a captive auto
finance company, they package a number of auto loans into a
securitization to sell to investors. Typically, auto loans are
sold to borrowers at a fixed rate; that is, the borrowers want
to keep their fixed-rate loans and have managed their daily
fluctuation. However, captive finance companies, when they try
to sell these securitizations to investors, oftentimes the
investors want to have floating-rate notes. So the issuers of
those securitizations want to ensure a basic swap to
effectively be able to allow the borrower to enter into a
fixed-rate loan with the issuer, but at the same time be able
to sell to investors. Pension funds, mutual funds, and the like
would like to get floating rate notes. In effect, both sides
and all three parties win in that transaction. The borrower
gets a fixed-rate note, the investor gets a floating-rate
purchase, and also the issuer is able to provide as much and
maximize the amount of investor appetite for those securities
as possible.
Let me provide a second example. That is an English
mortgage lender may package a number of home loans that it
makes to English homeowners into a securitization to sell to
U.S. investors. The English homeowners are required to pay
their loans, obviously, in U.K. pounds. The English homeowners
are required then to pay those back, but the U.S. institutional
investors who purchase the mortgage-backed securities that they
are based on, they have to pay their obligations, that is to
U.S. pensioners and other investors in mutual funds--they have
to pay those back in U.S. dollars.
As such, the U.K. securitizer will enter into a currency
swap that will effectively protect the investor from any
currency fluctuations in buying a securitization. That way,
again, the English homeowner gets their mortgage in U.K.
pounds, but ultimately the institutional investor can focus on
the credit and prepayment risk of those securities rather than
worrying on currency fluctuations.
Now, historically this hasn't been a challenge, and there
has been little interaction between the CFTC and
securitization, but two recent rule changes and proposals have
unfortunately created significant concern for the
securitization markets with these: first, that a posting of
cash margin may be required for securitization transactions
even for the most basic vanilla types; and second, various
commodity pool regulations that may trip up and rope in many
securitization transactions into those rules.
First, let me address briefly the posting of the cast
margin. Our concern is that many securitizations that use these
plain-vanilla swaps will, in fact, have to post cash margin
into the transaction, and that will take on additional risk for
the securitization, but, most importantly, tie up much of the
much needed capital for many types of securitization vehicles.
If you look in Appendix I of our written testimony, we
provide a very detailed example showing that if posting of cash
margin is required for these transaction vehicles, then in
scenario 1, where interest rates were to be within 95 percent
of their usual fluctuation, nearly 10 percent of the
securitization transaction will have to be posted as margin. So
as an example, there is $42 billion a year issued in auto ABS
in 2011. If 10 percent margin would have to be posted on those
transactions, that would be approximately $4 billion that
wouldn't be available in credit. That leaves a lot of cars on
car lots and a lot of factories idling.
But in scenario 2, where we look at a much higher increase
or fluctuations in interest rates, over 20 percent of liquid
margin will have to be posted in those transactions, meaning
approximately $8 billion of margin would have to be posted for
those auto ABS transactions, again, a significantly more
restricted credit market just in the auto context alone, let
alone in mortgage, credit cards, autos, and the like.
With that, we would also like to thank the CFTC for their
work related to commodity pool and alleviating many of the
concerns associated with it. I look forward to answering
questions as the committee may see fit.
[The prepared statement of Mr. Deutsch can be found on page
112 of the appendix.]
Chairman Garrett. Thank you.
I now recognize Mr. Giancarlo from GFI, and also the
Wholesale Market Brokers Association.

STATEMENT OF J. CHRISTOPHER GIANCARLO, EXECUTIVE VICE
PRESIDENT, GFI GROUP INC.; AND CHAIRMAN, WHOLESALE MARKETS
BROKERS ASSOCIATION, AMERICAS (WMBAA), ON BEHALF OF WMBAA

Mr. Giancarlo. I am Chris Giancarlo, executive vice
president of GFI Group, an American business and a wholesale
broker of swaps and other financial products. I testify today
as chairman of the Wholesale Markets Brokers Association, an
independent industry body representing the world's largest
wholesale brokers, active in every global financial market.
Our member firms were the model for swap execution
facilities, or SEFs, under Dodd-Frank. We use voice and
electronic trading platforms to execute trades and swaps and
other products. Our members plan to register as SEFs and
security-based SEFs when final rules are completed.
We stand for swaps regulation that improves transparency,
promotes competition, and increases market participant access.
We have supported the clearing, execution, and the regulatory
reporting mandates of Dodd-Frank through dozens of writings and
formal testimony, and we continue that support today.
I would like to briefly discuss: one, the unfinished SEF
rulemaking; two, the cross-border impact of Dodd-Frank; and
three, the overnight futurization of swaps markets.
I will start with the SEF rulemaking. We are informed that
final SEF rules have been presented to the CFTC Commissioners
and hopefully may be finalized soon. Chairman Gensler has said
that the final rules allow swaps to be executed ``through any
means of interstate commerce,'' as set out under Title VII of
Dodd-Frank, and our member firms welcome the news.
But, Mr. Chairman, I was pleased to hear Chairman Gensler
say a few minutes ago that swaps execution should be
technologically neutral, including voice transactions. That
neutrality needs to be stated not just in the preamble to the
final rules, but in the rules themselves. The rules must be as
clear as was the statute. To provide otherwise would be
inconsistent with the express provisions of Dodd-Frank,
contrary to public comment, and will certainly lead to
regulatory uncertainty and market confusion.
Let me tell you now what we are seeing in overseas
financial markets. Since the June release of the CFTC cross-
border interpretive guidance, U.S. trading firms are being
shunned by foreign counterparties to avoid registering with the
CFTC. In some cases, two-tiered trading markets are emerging,
one where U.S. traders can transact, and one where U.S. traders
are prohibited from transacting. As we meet today, we are
hearing from foreign firms that they don't want to trade with
American firms lest they be caught in CFTC regulation. This
development is not good for America's global trading and not
good for America's economic interest.
Finally, I will speak about futurization of the swaps
markets. From Friday, October 12, 2012, to Monday, October
15th, we saw a complete migration of trading activity in U.S.
natural gas and electric power markets from cleared swaps to
economically equivalent futures. By Tuesday, almost no swaps
were trading in the North American energy markets.
This overnight development in a vital U.S. market happened
almost entirely because energy trading firms sought to avoid
registering as swaps dealers or major swaps participants. It
happened because the CFTC has furthered regulatory arbitrage
against one product under its jurisdiction, swaps, in favor of
another product, futures. And it happened with little study or
understanding by regulators of the unintended consequences on
U.S. markets, traders or energy consumers. And it happened
certainly without a cost-benefit analysis.
Here are the concerns. First, the futurization of swaps
harms the competitive market structure that Dodd-Frank meant to
preserve; that is, choice of financial products, choice of
methods of trade execution, trading venues and clearinghouses.
By contrast, the U.S. futures market, while serving a finite
set of highly liquid commodities and financial products,
restrains competition by limiting trading methods and having
single vertical silos for execution and clearing. The
futurization of swaps leads to monopolistic control, reduced
customer choice and, inevitably, higher costs of trading and
execution.
Second, the futurization of swaps markets increases balance
sheet risk for market participants and systemic risk for the
U.S. economy. Because futures do not allow for specific
exercise dates, they are imperfect hedges and cause market
participants to incur basis risk and greater earnings
volatility. But futurization also increases systemic risk,
because labeling a product as a future and listing it on an
exchange results in a lower margin requirement than for a
cleared swap even though the economic characteristics of their
products may be identical.
Let me repeat that: Calling something a swap future and
putting it on exchange results in a lower margin than for the
same economically equivalent instrument if it is called a swap.
Regulators have not analyzed what that means to systemic
risk. As a result, clearinghouses are forced to absorb more
risk, especially during a liquidity crunch or market crisis.
While a lower margin may be attractive to some futures traders,
it can have dire consequences for the American taxpayer.
Dodd-Frank was designed to promote competition, reduce
systemic risk, facilitate clearing, and increase transparency.
Congress did not mandate a preference for futures products over
swaps, monopolies over competition, or increased risk to
trading firms or the economy.
In closing, we call on regulators to finish the SEF rules
as Congress intended, to carefully consider their international
impact, and to better understand and analyze any further
migration to futures.
Thank you very much, and we look forward to your questions.
[The prepared statement of Mr. Giancarlo can be found on
page 135 of the appendix.]
Chairman Garrett. And I thank you.
Finally, from MIT, Mr. Parsons from the Center for Energy
and Environmental Policy Research.

STATEMENT OF JOHN E. PARSONS, SENIOR LECTURER, FINANCE GROUP,
SLOAN SCHOOL OF MANAGEMENT, MASSACHUSETTS INSTITUTE OF
TECHNOLOGY (MIT), AND EXECUTIVE DIRECTOR, MIT'S CENTER FOR
ENERGY AND ENVIRONMENTAL POLICY RESEARCH

Mr. Parsons. Thank you. I am John Parsons. I am a member of
the finance faculty at MIT Sloan School of Management. I
publish research on hedgings, and teach a course on risk
management for non-financial corporations, and have consulted
with a number of companies on hedging issues as well as other
corporate finance issues.
I want to thank Chairman Garrett, Ranking Member Waters,
and other members of the subcommittee for allowing me the
opportunity to testify here.
All of us share a common objective, I think, of helping in
our different ways to craft effective regulation that reduces
hedging costs for companies and increases the productivity of
the economy.
I submitted my written testimony with the title, ``Hit or
Miss.'' I am going to use these remarks basically to describe
two broad categories of actions: one that I think misses the
mark, that will be ineffective at reducing costs for non-
financial companies and potentially have some dangerous side
effects; and another broad category of actions that I think has
a proven track record of helping to reduce costs for companies,
which I would label the hit.
So, first to talk about the miss. In the public discussion
of Title VII and the OTC swaps markets, I see that there is a
very broad misunderstanding about how companies can avoid the
costs of hedging. Many people imagine you can avoid those costs
if you can avoid margins. And a lot of congressional action has
been targeted to trying to find ways to facilitate non-margin
swaps because that will lower costs. I am worried that people
think that you can get a free lunch in an area like this.
All non-margin swaps entail credit risk, and all credit
risk is costly. Banks know that, derivative dealers of all
sorts know that. They handle non-margin swaps accordingly. They
examine companies' credit risks, they maintain a folder, so to
speak, in the old days, but more currently other means, to keep
track of companies' credit risks and they price the credit risk
when they sell the swap. They charge for it, the cost is there.
Lobbyists have sponsored studies commissioned to produce
large estimates of costs as a result of forcing companies to do
margins. , You have heard the results of one of those studies
cited here by Mr. Bopp. All of those studies that I have seen,
including the one cited by Mr. Bopp, are preposterous. All of
those studies assume away any costs created by credit risk to
non-margin swaps. That problem has been publicly stated and
criticized. There is no public defense of the inadequacies of
those studies. And I would recommend that the Congress look for
reliable figures from disinterested parties which can stand up
to public scrutiny.
Some legislation which has been aimed at avoiding this cost
is misguided at best and dangerous at worst, especially bills
which try to direct bank supervisors to ignore the credit risk
that is embedded in non-margin swaps. For example, H.R. 2682 is
one of those types of bills. It threatens to return us to an
unstable and ill-supervised financial system.
Turning now to the hit, I want to talk briefly about
central clearing and how it is an effective tool for decreasing
costs. Once again, in the public discussion I think there is a
lot of misimpression that central clearing is a new, untested
mandate originated in Dodd-Frank imposed on a tried-and-true
OTC market structure that had evolved to minimize cost. In
fact, it is quite the opposite. It is a return to a tried-and-
true system, a rediscovery of an important innovation which
American financial markets and American industry expanded on
throughout the 20th Century to reduce costs. I think that the
way we want to look at the problem is to find a way to improve
the extent of central clearing, improve the extent to which
central clearing can reduce costs, and there are lots of ways
to make that implementation better.
So in closing, I hope we can focus on true and effective
means for reducing costs to non-financial companies and avoid
focusing on ineffective ones. Thank you very much.
[The prepared statement of Dr. Parsons can be found on page
145 of the appendix.]
Chairman Garrett. And I thank you, Mr. Parsons.
I thank the entire panel. Before I proceed to questions, I
ask unanimous consent to make two statements a part of the
record: first, the testimony of Terrence Duffy, executive
chairman and president of CME Group; and second, testimony of
the Companies Supporting Competitive Derivatives Markets.
Without objection, it is so ordered.
I now yield myself 5 minutes. I am not necessarily running
down the whole list, since I can't get to that in 5 minutes. I
will start though, with Mr. Parsons, since the thought is in my
mind. So with central clearing, that of course is the way that
we are going here, there is, though, another side to the cost
factor with central clearing, is there not, and that is, is
that now you are centralizing, hence the name, the risk, too.
It is combining all of the risk in this one place. And under
Dodd-Frank we gave the clearinghouses through Title VIII access
now to the discount windows at the same time. So isn't there a
potential for an additional cost and/or risk?
Mr. Parsons. It is true that you now have the risk
centralized, but you should be careful you are not just moving
risk. Central clearing actually reduces risk overall. That is
why so many exchanges at the end of the 19th Century and the
beginning of the 20th Century moved to it, because it allowed
them to sell more derivatives more effectively at lower cost,
because the absolute amount of risk in the system was less.
Chairman Garrett. Mr. Giancarlo, do you have a comment on
that? And then secondly, do you have a comment on what you
probably heard earlier today from the Commissioner with regard
to CFTC on the SEF rulemaking?
Mr. Giancarlo. Thank you, Mr. Garrett. We do. Our trade
association, the WMBAA, supports central clearing of swaps
transactions. I note Mr. Parsons' comment, which I take very
well, that non-margin swaps equal credit risk. My concern would
be that then it must be equally true that inadequately margined
futures would also equal credit risk for clearinghouses. And as
you note, with clearinghouses having access to the discount
window I wonder whether in a few years, in the next market
crisis, we may be back here where the clearinghouses are too-
big-to-fail because the margin rules made an arbitrageable
situation between swaps and futures, in favor of futures.
Chairman Garrett. We have already taken care of that with
the point on access to the discount window. They will just be
able to get whatever they need and so they will never fail.
Mr. Giancarlo. I think they said that about the big banks
at one time.
Chairman Garrett. Yes, exactly.
Mr. Giancarlo. As I noted also in my testimony, I was very
pleased to hear Chairman Gensler say that swap execution, in
accordance with Congress' stated intent, will allow SEFs to use
any means of interstate commerce. I think he said it will be
technology neutral. And I think it is essential that technology
neutrality be recognized in the rule itself so that there is no
confusion on this as there are on a number of other rulemakings
that have come out.
Chairman Garrett. Thank you.
Mr. DeGesero, you probably heard my question. I was just
curious about your comment with regard to position limits and
where the CFTC is going right now with their court case and
with their appeal on it, and also down their other track with
regard to coming up with a potentially new rule on that. Do you
have any thoughts on that?
Mr. DeGesero. Thoughts regarding the parallel track?
Chairman Garrett. The parallel track and also what the
potential outcome will be on that. Obviously, the court has
struck it down initially. I think you commented on that, but I
will let you elaborate.
Mr. DeGesero. I think Chairman Gensler said he needed to
leave it to the General Counsel of the CFTC to respond. So I
certainly am not qualified to respond to the parallel track
question.
Chairman Garrett. And with regard to their position thus
far on the position limits and their appeal to that case,
obviously the court struck it down.
Mr. DeGesero. Right.
Chairman Garrett. Right. Let me give you an opportunity
to--
Mr. DeGesero. The stated position of the CFTC is that they
are appealing that, for which we are thankful. We think the
position limits are long overdue, and we think that the court's
ruling was completely erroneous. The Petroleum Marketers
Association of America must have testified 15 times, give or
take, in the years leading up to the passage of Dodd-Frank. And
while not every single one of those hearings was on position
limits, it was certainly discussed in Congress.
The ruling is very narrow. Only in Washington are the words
``is'' and ``appropriate'' not known. I think it is unequivocal
that Congress intended with the timeframes that were put in
there and that the court overturned it on something called the
Chevron part one or part two test, I think the will of the
elected branch was explicit and the court overturned the will
of the elected on a very narrow ground and sent it back.
Chairman Garrett. And, Ms. Cohen, you mentioned the one
word that we tried to get through on the previous panel, which
was on sequencing, and if I am understanding your testimony
correctly, the lack thereof perhaps as far as how the CFTC has
handled matters, and I am not putting words in your mouth,
versus how the SEC has handled matters. Do you want to
elaborate on that?
Ms. Cohen. Sure. Thank you for the question. The CFTC
probably more than any global regulator in the world has
attempted to meet the 2012 deadline for derivatives reform. But
in doing so, they have assembled a confluence of rules that
really all go effective at the same time in the next couple of
weeks. And we can contrast that to the SEC's approach, where
they actually provided to the market a sequencing plan
conditioned on certain foundational rules such as what product
definitions. That is something the SEC did jointly with the
CFTC. Entity definitions, who is a swap dealer, who is a major
swap participant, they did that jointly as well.
But unlike the CFTC, the SEC has also said that they will
make their cross-border rule a rule and foundational, just like
product definitions and entity definitions, so we can take
those three foundational pieces of information and build our
implementation plan. They then went on to give categories of
rules which related one to the other, which really helps effect
and implement reform in a practical and thoughtful way.
Chairman Garrett. Just to close before I yield, we tried to
engage the FSOC in this matter as well, since they would
presumably have some authority to say let's try to bring these
parties together and sequence it or put that together an order,
and we got not much of a positive answer back.
With that, I yield back. And I yield to the gentlelady who
has her notes all there and ready--yes, there you go, for 5
minutes.
Ms. Moore. Thank you so much, Mr. Chairman. And I just
think this is an outstanding panel. I guess I just want to say
that Mr. Giancarlo's comment about Mr. Gensler preferring the
futures market over the swaps market because of its
jurisdiction, I guess I find that rather provocative. And I
will let him respond a little bit, but I was more curious about
what Mr. Parsons thought about Mr. Giancarlo's comments that
this really creates a lot of regulatory arbitrage and
unintended consequences. As an economist, I would like for you
to comment on his testimony.
Mr. Parsons. It is a very important problem, and the CFTC
is kind of between a rock and a hard place, for two reasons. If
you are talking about customized swaps, those are clearly
different from futures and can only be dealt with in the OTC
swaps markets. But, for example, all of these energy swaps we
have been discussing that moved from ICE swaps into futures,
those were not customized. Those are standardized instruments,
they trade on an exchange effectively, they are cleared.
As long as you are dealing with standardized swaps, and if
you require them to satisfy regulations, supervised
transparency, and clearing, they are virtually, from an
economist point of view, indistinguishable from futures. So now
you definitely get to regulatory arbitrage. No matter what the
CFTC does, any little difference in the regs for futures and
swaps will send those standardized instruments to one or the
other. But there is no way, when Congressman Neugebauer was
discussing this earlier, he kept referring to Congress' intent.
It is impossible for the CFTC to meet the intent of preserving
standardized swaps, because once you do the things that Title
VII requires--make them transparent, make them cleared--and
they are regulated, supervised, which they weren't before,
there is no fundamental economic difference with futures, and
it is always going to be little regulatory differences that
cause things to move one to the other.
Ms. Moore. I did promise you could weigh in, yes, sir.
Mr. Giancarlo. Thank you. Two quick points. If in fact all
we have seen is a shift from swaps to futures without any
change in the liquidity characteristics of the market, which I
can vouch for because that is what we have seen and my members
have seen, then there should be no difference in margin. There
shouldn't be 5-day margin for swaps and 1-day margin for
futures.
Second, if Congress intended to have a competitive trading
landscape for swaps and if that competitive landscape is now
migrating into futures, then we do have to ask ourselves
whether the anti-competitive, single-silo, monopolistic
structure of the futures market should continue for products
that were formerly swaps and that Congress intended to trade
through competitive venues and competitive clearinghouses.
Ms. Moore. Thank you.
Let me ask Mr. Bopp a question regarding the inter-
affiliate swaps. Can you speak to how the CFTC rules compare to
a bill that we had, H.R. 2779, and whether or not you think
that margin and clearing enhances the market for inter-
affiliate swaps? Because I am thinking of companies in my
jurisdiction who have really indicated to me that inter-
affiliate trade, the credit risk really is not there when it is
inter-affiliate, it is just a book entry for central risk and
hedging purposes. So can you tell me how the CFTC's rule would
apply?
Mr. Bopp. Sure. And you are absolutely right, Congresswoman
Moore. This is an important issue and your bill is still
needed. Now, the CFTC proposed rule is helpful, there is no
question. They have created an exemption for inter-affiliate
swaps that applies to non-financial end users. The problem is
there are two key issues, two problems facing end users that
are not addressed by the CFTC rule.
Number one, non-financial end users, there is an eight-step
process or an eight-criteria process that non-financial end
users must meet. And one of the criteria is posting variation
margin between affiliates. Now, again, if you post, if you have
to post variation margin between affiliates, the whole point
behind an exemption from clearing requirements is defeated
because your costs are roughly similar if you have to post
variation margin.
Second, though, and very importantly, there are lots of
companies, both in your district and throughout the country,
that have Treasury hedging centers, and the CFTC rule doesn't
do anything to exempt trades. So if you have a non-financial
end user with a Treasury hedging center and that hedging center
is facing the market, if what that hedging center was set up to
do is enter into swaps, that hedging center will be deemed to
be a financial entity. So now you have a financial-to-financial
swap that is not eligible for the end-user clearing exemption
even if the swaps are being entered into for a purely non-
financial end user. It is a big problem, I know a number of you
are hearing from companies about it, and it is not addressed by
the CFTC rule.
Ms. Moore. Thank you. Are we are going do have another
round?
Chairman Garrett. Maybe.
Ms. Moore. Maybe.
Chairman Garrett. The gentleman from Arizona.
Mr. Schweikert. Mr. Chairman, I am enthusiastically looking
forward to the next round. This is one of those moments where
there are just so many things I want to ask this panel. I do
need to just touch on one thing just because it bothered me.
Mr. Parsons, if I remember in some of your testimony you
actually come back and the staff committee preparation for this
hearing, so you actually in here quoted the committee's hearing
memo. I am not going to ask where you got it, but traditionally
that is sort of--that is an internal document that we work on
back and forth. It is sort of like your lawyer, somehow you
getting my internal lawyer's prep memo. So someone sort of
violated the mechanics and the internal rules I think we all
live under. And that is as much being shared, so next year's
committee knows that we are not supposed to go there. You have
all started a conversation that--
Ms. Moore. Mr. Schweikert, would you yield? Would you
yield? I am sorry about this, but they are making me go. You
know how staff are.
Mr. Schweikert. Oh, you are going to leave me.
Ms. Moore. They are making me go. But I just wanted to know
if I could ask unanimous consent to enter in the record
something for the ranking member, a statement from Americans
for Financial Reform.
Chairman Garrett. Without objection, it is so ordered.
Ms. Moore. Thank you. Can you give him back his time, Mr.
Chairman?
Chairman Garrett. More than he wants.
Mr. Schweikert. I want to hit on an overall theme that I
have dealt with for the last 2 years on this committee, and
that is the law of unintended consequences, because I have
already seen multiple bits of conversation here saying the pop
term of regulatory arbitrage. On one hand, we start to have the
discussion of swap futures. But my understanding is margin
should stay the same because margin is ultimately risk-priced.
So in some ways I am not sure the way I was understanding what
you are saying is completely fair. But let's first step out to
regulatory arbitrage internationally.
Mr. Parsons, you have really smart people around you, the
rest of you do, and Mr. Deutsch and I have had this
conversation in the past. Do we wake up with our rule sets and
first get an international arbitrage? And then second, with
things like swap futures, are we even starting to see some
movement in our own energy markets internally? And is that just
rational economically, is you are going to go to where you
perceive either the lowest cost of ultimately doing your
trades? Am I barking up the wrong tree? Or first if you sat
down with your really smart people, could you first find an
international way to arbitrage some of the rule sets and then
do you find a domestic way?
Mr. Bailey. Thank you for the question. Clearly, the
regulators have expressed and have endorsed a profound intent
to eliminate regulatory arbitrage internationally. And I think
you do see that very clearly in the efforts in relation to the
margin for uncleared swaps and IOSCO and the regulators coming
together. It is difficult to envision, though, that everything
will be completely the same across the world. There will be
instances of preference, there will be certain entities, be
certain participants in the markets, pension plans who have
slightly different rule sets that apply to them. And I think it
is simply unrealistic to suppose that we are going to get
complete harmonization.
Mr. Schweikert. And this is the hazard of doing these in 5-
minute increments. The brilliant young man sitting behind me,
we were sort of game theorying this earlier, what if I just
routinely turned my swap into slightly customized, all of a
sudden now did I just move it to sort of an OTC-type product.
Anyone else want to? Am I complicating the simple? Ms. Cohen?
Ms. Cohen. I don't think you are complicating the simple. I
think that is something we have to watch very closely. And we
are seeing one instance, in the case of futurization, where
investors are demonstrating where they think they will get the
most efficiency in return. I would make the case in the example
of futurization that these are also highly regulated markets,
but it is a good example that we will see investor behavior
driven by different rule sets. And a particularly good example
is probably in the equity and the credit markets, where the
CFTC and the SEC really do share jurisdiction of products that
are traded often by the same trading desks and the same
investor bases, where significantly different rules promulgated
by the two regulators will likely encourage migration between
the two products. So I think it is a really important question
to ask now and to keep asking as the rules are finalized.
Mr. Schweikert. And this is to everyone on the panel. I
actually have a real interest in this, because in sort of our
game theory we have worked out what would happen if you have
international affiliates? Are there certain things they could
be trading that are meant that you keep solely on the book of
the international even though ultimately it is trading at
domestic risk? What happens if you break up your trading desk
or your Treasury management now is sort of broken up through
the organization? Does that move you out of some of the end-
user rules and the obligations? If I started to customize the
design in my hedges, do I get around some of the platform
trades? So I am just trying to get my head around where are
exposures and where are we going to walk into the law of
unintended consequences.
Mr. Chairman I yield back.
Chairman Garrett. The gentleman yields back.
The gentleman from Texas.
Mr. Canseco. Thank you, Mr. Chairman. And thank you to the
members of the panel.
Mr. Bailey, let's talk about the term ``U.S. person.'' How,
in your opinion, should it be defined?
Mr. Bailey. We take the view that you have to be extremely
careful in relation to funds and the treatment of funds and
whether you are looking at a relationship where the investors
themselves are U.S. investors or whether the fund manager is a
U.S. person. We think that the CPO definition needs to be very
much tidied up. We have questions around whether the principal
place of business should be in the definition.
So we really do, at the IIB, we line up closely with the
definition that the CFTC arrived at in the no-action letters
that preceded October 12th, where they took the 7 prongs that
they had in the original proposal and basically cut that down
to 4\1/2\ prongs. And though that was specifically for the
purpose of registration only, we think that as an interim
definition that has some merit while the CFTC--
Mr. Canseco. So you are happy with the CFTC's definition of
``U.S. person?''
Mr. Bailey. This is the definition that they revised on
October 12th.
Mr. Canseco. But in your opinion, how should it be defined,
the way the CFTC does it, or how should it be defined?
Mr. Bailey. How the CFTC had defined it on the October 12th
for the purpose solely of what needs to be included in the
calculation of whether or not you reach the de minimis trading
limit to have to register is close to the appropriate
definition that they should use for all the purposes under the
statute.
Mr. Canseco. So do you perceive any problems or have there
been any problems over the uncertainty of defining ``U.S.
person'' as it is defined by the CFTC?
Mr. Bailey. Are you asking in relation to whether the
marketplace has continued to be reticent to trade with U.S.
persons in that regard?
Mr. Canseco. Correct. On the definition of ``U.S.
persons.''
Mr. Bailey. That is an issue on which we only have some
anecdotal evidence, and I think it would be difficult to depend
on. I defer to Mr. Giancarlo's issue where I think he has
stated that he has seen lately the reticence on the part of
European institutions in some cases to trade with entities that
may possibly fall within a U.S. definition if the CFTC were to
adopt the wider definition that they had originally proposed in
July. The uncertainty issue is still there.
Mr. Canseco. Do you have an opinion whether or not a broad
definition is a good idea or a bad idea?
Mr. Bailey. A broad definition brings into play
considerable risks in relation to introducing higher levels of
conflict, because entities that are present in Europe and Asia
would fall within that definition with the result that the
local rules may very well apply, would likely apply to them, as
well as the U.S. rules, and that puts increased pressure on the
need for substitute compliance to resolve that issue.
Mr. Canseco. I have a short time. Mr. Giancarlo, do you
want to weigh in on this U.S. person definition?
Mr. Giancarlo. We have not taken a view, my organization
has not taken a position on that, and I don't wish to take one.
All I do wish to say, though, is harmonization is absolutely
critical if we are not going to balkanize global trading
markets and discriminate against U.S. trading participants.
Mr. Canseco. Thank you.
Now, Mr. Bopp, I represent a district that is home to a
large energy industry as well as farmers and ranchers who use
derivatives to manage risk. Why should Congress exempt non-
financial companies from the margin requirements?
Mr. Bopp. That is an excellent question. And the answer is
because non-financial companies don't engage in the sorts of
trades that create risk that would warrant margin requirements.
Non-financial companies enter into derivatives transactions to
manage risk. And baked into Dodd-Frank is a requirement that if
a non-financial company is going to be eligible for the end-
user clearing exemption, they can only be eligible if they are
hedging commercial risk. And so the types of transactions that
they enter in, that end users enter into, and the fact that
they are not speculating, they are managing their risk, in
other words that the transactions offset risk within the
company, all suggest that--not just suggest--but that margin
requirements on non-financial companies are not only not
needed, but would impose additional costs that simply are just
not--that would be detrimental to these companies.
Mr. Canseco. So do you feel that the actions by regulators
have carried out the intent of Congress or do you feel that
there is still some ongoing confusion regarding the end-user
exemption?
Mr. Bopp. We do not. We do not feel that the actions of
regulators have carried out faithfully the intent of Congress.
We do think that the CFTC margin rule is better and closer to
the intent of Congress than the prudential regulators margin
rule. But the prudential regulators margin rule would impose
margin requirements on end users. And they believe, the
prudential regulators believe that the Dodd-Frank Act, as
written, handcuffs them and does not give them enough authority
such that they don't have to impose margin requirements on end
users. We simply do not believe that regulators should be in
the room second-guessing the decisions made by corporate
treasurers and their swap dealer counterparties.
Mr. Canseco. Thank you, Mr. Bopp. I see my time has
expired.
Chairman Garrett. The gentleman's time has expired. We will
just run through--I have a couple of questions, but I won't
take the whole 5 minutes.
Mr. Deutsch, we have talked earlier about October 12th and
prior to that and all the exemptions that have come out from
that point in time. Can you speak to your position with regard
to the exemptions, which are obviously temporary, right, with
regard to commodity pools and basically, as I understand the
situation, in securitization, that you basically have swaps
within the securitization and the exemption gives you some
really temporarily on this but not overall? What does that do
to the marketplace now and what relief permanently you would be
looking for?
Mr. Deutsch. Sure. Over the summer, I think the
securitization market kind of put a lot of pieces together and
realized that the commodity pool regulations may actually rope
in securitizations to be called commodity pool operators which
are by definition operated for the purpose of trading in
commodity interest. Most plain-vanilla securitizations, auto
loan securitizations, credit card, mortgage securitizations,
really aren't conceived at all for the purpose of commodity
interest, but instead to fund credit fundamentally. We
approached the CFTC in June and many follow-up letters and
dialogue with the CFTC staff and Commissioners and Chairman
Gensler himself to get appropriate relief to make sure it is
very clear that securitization should not be roped into those
commodity pool regulations.
Chairman Garrett. Part of the argument there is that
securitization is already regulated.
Mr. Deutsch. Correct. There is a significant amount of
regulations from the SEC and other various parts from, say,
Dodd-Frank and otherwise, and particularly the transparency
issues, if a securitization has a swap in it the disclosure
requirement's required by the SEC, not from the CFTC.
So we are already effectively sort of covered by the
transparency-related issues. The real question is, does
securitization use swaps for kind of investment exposure to
take investment risk? And in most instances they don't take any
investment risk, they are really trying to hedge risk for the
investor's benefit to eliminate, say, currency or interest rate
swaps. So far, we have gotten no-action relief or interpretive
guidance both on October 11th and then also most recently this
past Friday that provides for some legacy relief from the staff
for all outstanding transactions and then extension of the
compliance deadline for other transactions until March 31st. So
we look forward to working with the CFTC staff on the
additional transactions that their relief hasn't covered
already. There are certain types of transactions that still may
not fall within the four corners of that relief.
But the hope is that these transactions and the market
participants simply don't have to start preparing to comply
when they won't have to comply, in effect. There are many types
of transactions that just clearly aren't commodity pool
operators, and so far at this point, we have gotten most of
what we need, but I think there are still some key areas to
evolve the guidance by March 31st.
Chairman Garrett. Okay.
One other question. Ms. Cohen, you heard the previous
discussion with regard to definition of U.S. personnel. Do you
want to share your perspective there?
Ms. Cohen. Absolutely. Thanks again for the question. We do
think that there are risks to a ``U.S. person'' definition that
is too broad. One of the risks--we were talking earlier about
unintended consequences--is again that you can have a market
participant who is a U.S. person, an EU person, and maybe not
an SEC U.S. person, and that market participant could
potentially optimize around what person or combination of
people they want to be. And that is potentially an unintended
consequence.
I think really the guiding principle, I think that the U.S.
person definition has to be addressed in two ways. Number one,
the immediate need for a clear, consumable definition, and
specifically the one to which we have been implementing, so
that we can go live with a number of very important rules, such
as SDR reporting business conduct that will really position us
showing leadership to the rest of the world on key aspects of
derivative reform. We need that clarity so that we can start in
the next 3 weeks.
And then over time, in consultation with other stakeholders
here and around the world, whatever definition of U.S. person
is ultimately decided upon has to be something that is clear,
consumable, and not debatable from firm to firm. We don't want
firms competing on whether or not they see a specific entity as
a U.S. person. And I would add that one of the accomplishments
of Dodd-Frank that is already under way is that all entities
that participate in the financial marketplace register for
legal entity identifiers, and when they do that, they register
a country of organization. I can go to the Web site, you can go
to the Web site, we can all see whether their country of
organization is in the United States or not. That is the level
of clarity that we need for the ``U.S. person'' definition.
Chairman Garrett. So it sounds like where we stand now, we
are creating a schizophrenic definition, schizophrenic U.S.
person with multiple personalities.
Ms. Cohen. The clients that I talk to every day cite that
as their number one confusion.
Chairman Garrett. Okay. My time is up. The gentleman from
Arizona for last questions.
Mr. Schweikert. Thank you, Mr. Chairman.
Mr. Giancarlo, okay, I am sorry, back to our running
through this before. Okay. So on swaps futures what would you
change?
Mr. Giancarlo. We believe, and I just want to clarify my
remarks before if they weren't clear, we believe that margins
should be the same for economically equivalent swaps or
futures. The name should not determine the margin if they are
economically equivalent. Perhaps you didn't understand that.
Mr. Schweikert. And we may have to drill down into that
one, because I think I have a couple of articles that talk
about, and maybe I need to learn more on sort of the risk side
on the margins actually being somewhat equivalent.
Mr. Giancarlo. But, say, in the North American natural gas
and electric power markets, which were formerly swaps and that
moved over the course of a weekend into futures, the liquidity
in those markets did not change. But what changed from Friday
to Monday was the margin that market participants--
Mr. Schweikert. Was the margin also the fact of having to
go do the types of registration?
Mr. Giancarlo. The registration for non-traditional dealers
facing the prospect of registering as dealers drove them into
futures, so the regulatory arbitrage drove it. But also, the
margin changed. And the point I was making is that we are
creating systemic risk if in fact--
Mr. Schweikert. Back to the original part of the question,
what would you change? If you saw this as a problem, what would
you fix?
Mr. Giancarlo. Okay. So a number of things. The first is
the margin, as I said. Second, there are a number of other
arbitrageable differences. One is in fact that exchanges set
their own block trade sizes. Those are commercial entities.
They take commercial advantage of that. In swaps the CFTC has
taken for itself the right to set block size notwithstanding, I
think, the fairly clear language of Dodd-Frank that says that
SEFs should be setting block sizes. So now in one case of
futures you have exchanges setting block sizes, in the case of
swaps, you have the regulator, the non-commercial regulator
setting block sizes. And that is going to be another
opportunity for arbitrage for market participants in choosing
one product over another.
Another area is the timing of trade reporting. Congress
established a swap data reporting regime for swaps. That regime
doesn't exist in futures. Arguably, that regime is what
Congress intended, but now we are seeing products move away
from Congress' intention to have that type of reporting regime.
There are business conduct rules that apply to swaps that don't
apply to futures. So there is a whole series now of
implications of that movement from one product to the other,
but there is no real change in the economic nature of the
products themselves.
Mr. Schweikert. Okay. And this is for anyone else on the
panel, probably Mr. Deutsch. Is this something I should fret
about?
Mr. Deutsch. I think the margining rules that we focused on
are something that we fret about quite consistently and are
very concerned about on a go-forward basis, that if
securitization transactions, as an example, are required to
post margin, particularly liquid margin, in the 10 to 20
percent range on a deal, reducing consumer credit by $4 billion
to $8 billion in the auto market today, that would
significantly change the auto landscape, we think.
Mr. Schweikert. Do others on the panel see a migration
here? Is this sort of the unintended consequences? Mr. Parsons?
Mr. Parsons. Yes. I think there is a certain amount of
inevitability here. When the Dodd-Frank Act was passed, the OTC
swaps market sold itself as doing customized instruments. Now
we are learning that a vast amount of what the OTC swaps market
does is economically equivalent to what can be done on the
futures market. So you have to eventually decide should the
swaps regulations be set for a market that is customized, which
will be one set of regulations, or should it be set for a
market that is standardized. But right now it was done as if
they were all customized but they aren't.
Mr. Schweikert. Yes. And that was almost where I was before
in the previous question. Does anyone else think this is worthy
of our focus?
Mr. Bailey. Speaking as Barclays, rather than the IIB, I
would just note that it is perhaps a curiosity that a market
maker in swap futures doesn't have to register as a swap
dealer, which I think was part of the reason why that was such
a critical date, the October 12th instance, that it precluded
you from having to count obviously those swaps in the tally
whether or not you had to register. But I would say that
absolutely futures has a place in the future representation of
the derivative market for swaps. It is just a question of
whether or not it is intellectually consistent with the
treatment of other products in the same space.
Mr. Schweikert. And there becomes my fear of a market that
actually seems pretty efficient, the fear of actually doing
damage when we are trying to make other things work at the same
time, and back to our law of unintended consequences.
Mr. Chairman I yield back. Thank you.
Chairman Garrett. Thank you.
And the gentleman from Texas with a final word.
Mr. Canseco. Thank you, Mr. Chairman. Just a few follow-up
questions.
Ms. Cohen, with regards to cross-border regulations, do you
feel that the SEC and the CFTC should harmonize the cross-
border approaches before implementing them?
Ms. Cohen. I think, just like product definitions and
entity definitions, cross-border application of the derivative
provisions is foundational to implementing derivatives reform.
And I would also note that a major area of distinction between
the U.S. approach to derivatives reform and the rest of the G-
20 is that we do have these two regulators who are responsible
for different products, and that creates confusion, more
confusion around the rest of the world as they look and try to
understand the system to which we are implementing. So I think
that there are certain areas where it is much more acute than
others that the two regulators coordinate tightly, and cross-
border guidance is one of the most significant.
Mr. Canseco. Thank you. Would anyone else on the panel like
to weigh in on this issue?
Mr. Bopp, following up what I was asking earlier, if
regulators decide to impose margin and capital requirements on
end users do you feel there is a possibility that companies
could begin to use markets outside the United States to manage
their risk, in other words a flight of business out of the
United States?
Mr. Bopp. It is an excellent question, and it is a question
that I think our member companies have to think about. We heard
from Chairman Gensler that the CFTC is trying to make its rules
coherent and consistent with foreign rulemaking as well. If the
prudential regulators, if we can bring them in and the rules
can become consistent and consistently applied, we are still
hopeful that we can get some relief from margin requirements on
a regulatory basis and not have to have legislation passed.
Now, that said, the legislation is still critical at this point
because, as Chairman Bernanke testified earlier this year, the
Fed believes that its hands are tied and that it has to impose
margin requirements even on non-financial end users.
Mr. Canseco. So you think that it will jeopardize the
flight of business out of the United States and into other
markets?
Mr. Bopp. I think that is an option that companies have to
think about. And I know that some certainly are giving it some
thought. I don't think that it is an option that they want to
take advantage of. I think that what companies are hoping for
is some rationality, and that congressional intent behind Dodd-
Frank will eventually prevail.
Mr. Canseco. Thank you, Mr. Bopp.
I yield back.
Chairman Garrett. The gentleman yields back. That concludes
the questioning. And I very much thank this entire panel, both
for your testimony that you gave here just now and also for
your written testimony which we and our staffs have reviewed
previous to this. So I thank you for that. I get a lot of
different takeaways from this. And it was good that we had this
panel following the first panel to see actually how the
implementation of Title VII by the CFTC specifically is panning
out, and we may be actually getting into that, as I said
before, schizophrenia situation on more ways than one as far as
this plays out in the weeks and months ahead.
So I thank this panel.
The Chair notes that some Members may have additional
questions for this panel, which they may wish to submit in
writing. Without objection, the hearing record will remain open
for 30 days for Members to submit written questions to these
witnesses and to place their responses in the record.
This hearing is now adjourned. Good day.
[Whereupon, at 1:50 p.m., the hearing was adjourned.]

A P P E N D I X

December 12, 2012

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