While Democrats and Republicans tried to smooth out their differences in the comprehensive financial regulatory reform bill, Senate Majority leader Harry Reid (D-NV) grew impatient and scheduled the first test vote on the bill for Monday (April 26).

Reid attempted to bring the Senate Banking Committee’s financial reform bill (S. 3217) to the floor last Thursday, but Senate Republican Leader Mitch McConnell of Kentucky objected, citing ongoing negotiations to reach a bipartisan measure. Reid filed for a cloture vote to move forward with limited debate on the bill Monday, which would require 60 votes and would head off a threatened Republican filibuster.

Democrats will need all 59 members of their caucus and at least one Republican to vote to invoke cloture, or limit debate, if the bill is to proceed to the floor for debate, CQ Today reported. The vote will be an interesting one because it’s unclear how many Democrats and Republicans, if any, will break ranks.

Sen. Kay Bailey Hutchison (R-TX) warned that all 41 Senate Republicans are going to oppose the financial reform bill going to the Senate floor “until it is a good bill and it’s a bipartisan bill.”

While financial regulatory reform will take center stage this week, some of the attention will be diverted when Sens. John Kerry (D-MA), Kelsey Graham (R-SC) and Joe Lieberman (I-CT) release their long-awaited climate change bill Monday. The details of the legislation still were too speculative last week.

President Obama traveled to New York City last Thursday to launch a full-court press to overhaul the financial regulatory system. He called on the titans of industry to “join us” in supporting sweeping financial regulatory reform, and he urged industry lobbyists to put a stop to their “furious” attempts to shape the legislation to their special interests.

The goal of the Democratic reform legislation “is to make sure [that] taxpayers are never on the hook” for bailing out major banks and firms, and that a large company can be wound down without bringing down the entire U.S. financial system, Obama said in his address at Cooper Union College.

On a more narrow issue, Obama said the Democrats’ proposal acknowledges that there is a “legitimate role” for derivatives, but it takes steps to prevent “reckless risk-taking” in that market.

“There is a legitimate role for these financial instruments in our economy. They can help allay risk and spur investment. There are a lot of companies that use these instruments to that legitimate end. They are managing exposure to fluctuating prices or currencies in fluctuating markets,” Obama said.

But “the problem is these markets operated in the shadows of our economy — invisible to regulators, invisible to the public — so reckless policies were rampant.” Reforms proposed by the Obama administration and Senate Democrats “will rein in excess and help ensure that these kind of transactions take place in the light of day,” the president said.

“Many practices were so opaque, so confusing, so complex that the people inside the firms didn’t understand them, much less those who [were] charged with overseeing them. They weren’t fully aware of the massive bets that were being placed. That’s what led Warren Buffett to describe derivatives that were bought and sold with little oversight as ‘financial weapons of mass destruction,'” Obama said.

Without congressional passage of financial regulatory reform legislation, “we’ll continue to see what amounts to highly leveraged, loosely monitored gambling in our financial system.”

The president said he was encouraged to see that a Republican — Sen. Chuck Grassley of Iowa — joined with Democrats in voting an over-the-counter (OTC) derivatives bill out of the Senate Agriculture Committee last Wednesday. “That’s a good sign,” he said. The measure would bring regulation to the $600 trillion opaque derivatives market for the first time. It will be folded into broader legislation overhauling the financial regulatory system that the Senate banking panel approved last month (see Daily GPI, March 24).

At a press briefing on Capitol Hill last Wednesday both Sens. Richard Shelby of Alabama, the ranking Republican on the Senate banking panel, and Saxby Chambliss of Georgia, the ranking Republican on the Senate agriculture panel, said they were still negotiating with Democrats on the broader financial reform package and the derivatives reform measure. Both expressed optimism that a bipartisan agreement would be reached.

“We still have some major issues to be resolved,” said Chambliss, who added that Senate Agriculture Chair Blanche Lincoln (D-AR) had made a commitment to resolve the disputed issues. “We’ve narrowed it down to a limited number of areas where we disagree and we’re going to work very hard to try to see if we can bridge the gap between the two of us.”

Shelby said he and Senate Banking Chairman Christopher Dodd (D-CT) were meeting every day to try and forge a “substantive bill” that would win broad support.

Hutchison said the OTC derivatives portion of the legislation was critical. “It is very important that we get that right because there are legitimate uses for end-users on derivatives. We want to protect those who are using them right, while we regulate those who are using them wrong.”

The Senate Agriculture Committee’s legislation seeks to curb commodities market speculation by forcing OTC derivatives trades onto regulated exchanges and clearinghouses. It makes an exemption to the trading/clearing requirement for large commercial traders who use derivatives to hedge the risk associated with trading of physical products.

The bill could significantly restrict trading by large Wall Street banks — such as JPMorgan Chase & Co. and Goldman Sachs Group — by barring swaps dealers from receiving any type of federal assistance (including federal deposit insurance and access to the Federal Reserve discount window) in connection with their trading of derivatives.

“This is no time for small fixes” in the OTC market; rather “bold changes” are necessary, Lincoln said. OTC derivatives reform will be a “critical component” and “heart” of the sweeping financial regulatory bill, Lincoln and Chambliss agreed.

The revised legislation clarifies that the trading/clearing exemption would apply to end-users (and their affiliates) who use OTC derivatives to hedge the risk associated with all commodities, as well as the manufacturers of goods. “The definition of who is a commercial end-user is not restrictive…There was some concern that our definition did not cover the manufacture of goods, nor did it cover all commodities,” a Lincoln staff member said.

In the legislation, “we’re trying to indicate that there are a lot of commodities that people use, and it’s acceptable for commercial entities to be engaging in [bona fide hedging of] all commodities, not just the listed ones” in the bill, he said.

In addition, “an affiliate of a commercial entity can be actually assisting the parent or another affiliate, which is a commercial entity, in terms of hedging” and qualify for the exemption, the staff member said. The exemption would not apply to financial institutions and other large swap dealers. Under the Lincoln bill, the capital and margin requirements for uncleared transactions would be significantly higher than those for cleared transactions.

The measure also fine-tuned the definition of swap participants to exclude pension funds, and broadened the definition of swap dealer to capture some very large commercial traders that buy swaps all the time, but don’t sell them.

Lincoln’s revised bill also calls for the permanent establishment of an energy and environmental market advisory committee at the Commodity Futures Trading Commission (CFTC).

Chambliss offered a substitute amendment that was defeated by 9-12. The substitute was based on a bipartisan discussion draft on OTC derivatives reform, which Lincoln, Chambliss and their staffs had worked on for five-six months. A key different between the Chambliss substitute and the Lincoln amended bill is that it proposed a broader exemption of the trading/clearing requirement to include businesses — manufacturers, processors or financial institutions. Financial institutions would include a farm credit institution but not a JPMorgan Chase, he said.

Chambliss noted that substitute clarified that companies like “Koch Industries [in Georgia] and Goldman Sachs should not be regulated in the same way.”

Chambliss said one of the “unintended consequences” of Lincoln’s amended legislation would be that small banks, farm credit banks and companies such as Koch would be treated like the Wall Street banks and restricted in their trading of OTC derivatives.

CFTC Chairman Gary Gensler said he was not aware of any farm credit bank that was considered a swap dealer, making it ineligible for the trading-clearing exemption.

Chambliss raised particular concerns about the bill’s anti-bailout provision for large swap dealers. “Large banks won’t be able to access that [Federal Reserve] discount window if they engage in swap deals. And they account for 99% of the U.S. swap market. So if we cut them out of the swap market, the end-users are not going to have another party that they can engage in swap transactions with.”

If the legislation clears Congress, Gensler estimated that the CFTC would need 250 more staff members to carry the additional monitoring and enforcement responsibilities, and “a lot more spending on technology.”

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