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House Panel Cuts CFTC Funding, Despite Extra Regulatory Load

The head of the Commodity Futures Trading Commission decried a House appropriations subcommittee's vote last week to reduce spending for the agency in fiscal year (FY) 2013. The move comes at a time when the CFTC is gearing up to oversee the multi-trillion-dollar derivatives market.

The Subcommittee on Agriculture, Rural Development, Food and Drug Administration, and Related Agencies last Wednesday approved only $180 million for the CFTC in FY 2013, a cut of $25 million from FY 2012 and $128 million below the amount that President Obama requested for the agency. The proposed funding for the CFTC is included in a bill that calls for $19.4 billion in discretionary funding for a number of Department of Agriculture, rural economic development and rancher conservation programs.

Wall Street has been lobbying heavily against reforms to regulate the derivatives market, and lower funding could potentially weaken the CFTC's ability to rein in violators.

"The result of the House bill is to effectively put the interests of Wall Street ahead of those of the American public by significantly underfunding the agency Congress tasked to oversee derivatives -- the same complex financial instruments that [in 2008] helped contribute to the most significant economic downturn since the Great Depression," said CFTC Chairman Gary Gensler.

"The CFTC's...staff is just 10% more in numbers than at our peak in the 1990s, yet Congress has now directed the agency to oversee the swaps markets; that is eight times larger than the futures market." Without additional funding, he said, there could be "mayhem and loss of confidence" in the energy and agriculture markets that the CFTC oversees.

Before the spending bill can be sent to the House floor, it must first be approved by the full appropriations committee. A mark-up by the committee has not been scheduled yet, a spokeswoman said.

The Senate Subcommittee on Financial Services and General Government plans to mark up on Tuesday (June 12) an appropriations bill that will include funding for the CFTC in FY 2013. Following the mark-up, the panel will release a summary of bill, which will list the spending increases and decreases, said a spokesman for the Senate Appropriations Committee.

In other CFTC developments last week, CFTC's Gensler stressed the need for cross-border regulation. Pointing to international investment house failures that rebounded to their U.S. affiliates and ultimately the American taxpayer, he said those foreign-based affiliates should come under the same market reforms being installed in the United States.

Speaking at the Sandler O'Neill Global Exchange & Brokerage Conference in New York, Gensler said, "recent events at JPMorgan Chase are a stark reminder of how swaps traded overseas can quickly reverberate with losses coming back into the United States. We've seen this movie before. Financial institutions set up hundreds, if not thousands, of legal entities around the globe. During a default or crisis, risk inevitably comes crashing back onto our shores. We all remember AIG, Lehman Brothers, Citigroup, Bear Stearns and Long-Term Capital Management."

AIG's subsidiary AIG Financial Products "brought down the company and nearly toppled the U.S. economy," he noted. The AIG subsidiary was run out of London as a branch of a French-registered bank, though technically it was organized in the US.

Citigroup provided another example, guaranteeing numerous structured investment vehicles that were launched out of London and incorporated in the Cayman Islands. When they were about to fail, the U.S. Citigroup assumed the huge debt, and taxpayers later bore the brunt with two multi-billion-dollar infusions.

"I believe that swaps market reform should cover transactions not only with persons or entities operating in the U.S. but also with their overseas branches. In the midst of a default or a crisis, there is no satisfactory way to really separate the risk of a bank and its branches. Likewise, I believe this must include transactions with overseas affiliates that are guaranteed by a U.S. entity, as well as the overseas affiliates operating as conduits for a U.S. entity's swaps activity," Gensler said.

Commissioners now are reviewing the staff recommendation on the cross-border application of swaps market reforms.

Nearly four years after Congress passed the Dodd-Frank Wall Street Reform and Consumer Protection Act, the Commission has completed 33 of the reforms called for by Congress, and have fewer than 20 to go (see NGI, July 26, 2010). Currently, the CFTC staff is preparing recommendations on clearing requirement determinations, Gensler said.

"The first determinations will be put out for public comment this summer and hopefully completed this fall," Gensler noted. They are likely to begin with standard interest rate swaps, as well as a number of CDS [credit default swap] indices. "Staff is recommending that we propose a requirement for fixed-to-floating interest rate swaps, basis swaps, forward rate agreements and overnight index swaps in four currencies: U.S. dollars, Euros, British pounds and Japanese yen.

"For CDS indices, the requirement likely will cover certain North American investment-grade and high-yield CDX indices, as well as certain European iTraxx, high-volatility and crossover iTraxx indices." According to Wikipedia, iTraxx is a brand name for a family of CDS index products covering Europe, Australia, Japan and Asia, except for Japan.

The Commission staff has made recommendations and the CFTC will soon consider a final rule on the implementation phasing of the clearing requirement and the end-user exception.

"For market participants trying to plan for the first clearing determinations, though, I don't have a specific date, if we're able to put a proposal out next month, the determinations could be as early as October," the CFTC chairman said.

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