WASHINGTON — Gary Gensler, chairman of the Commodity Futures Trading Commission, on June 4 urged Congress to enact legislation creating a comprehensive regulatory framework governing all over-the-counter (O.T.C.) derivative dealers and the markets in which derivatives are traded.
"This is vitally important for the future of our economy and the welfare of the American people," Mr. Gensler told members of the Senate Committee on Agriculture, Nutrition and Forestry. The agriculture committee oversees the C.F.T.C., and the committee’s chairman, Senator Tom Harkin of Iowa, earlier this year introduced legislation that would require all O.T.C. futures contracts to be traded on regulated exchanges.
Mr. Gensler said the proposed comprehensive regulatory framework must apply to all dealers and all derivatives, both present and future products, and should include interest rate swaps, currency swaps, commodity swaps, credit default swaps and equity swaps. The framework also must apply to customized as well as standardized derivatives.
Four principal objectives for his proposed new regulatory regime for O.T.C. derivatives were outlined by Mr. Gensler: lowering systemic risks; promoting the transparency and efficiency of markets; promoting market integrity by preventing fraud, manipulation, and other market abuses, and by setting position limits; and protecting the public from improper marketing practices.
Mr. Gensler said lowering systemic risk would require a framework that sets capital requirements for derivative dealers, creates initial margin requirements for derivative dealers whether they deal in standardized or customized swaps, requires centralized clearing of standardized swaps and develops and enforces business conduct standards for dealers.
Mr. Gensler pointed to several elements that should be part of the new regulatory framework to promote market transparency and efficiency. All O.T.C. transactions, both standardized and customized, must be reported to a regulated trade repository or central clearinghouse, Mr. Gensler stated. Clearinghouses and trade repositories would be required to make aggregate data on open positions and trading volumes known to the public. Clearinghouses and trade repositories also would be required to make data on any individual counterparty’s trade and positions available on a confidential basis to the C.F.T.C. and other regulators.
The framework must require centralized clearing of standardized swaps, Mr. Gensler said. Standardized products must be moved onto regulated exchanges and regulated, transparent trade execution systems. There also must be timely reporting of trades and prompt dissemination of prices and other trade information.
Mr. Gensler said it was important that tailored or customized swaps that are not able to be cleared or traded on an exchange still be "sufficiently regulated." He said regulations should ensure customized derivatives are not used solely as a means to avoid the clearing requirement.
Objective criteria should be established to enable regulators to determine whether, in fact, a swap is standardized, Mr. Gensler said.
"For example, there should be a presumption that if an instrument is accepted for clearing by a fully regulated clearinghouse, then it should be required to be cleared," he said.
Additional criteria that should be considered when determining whether a contract should be considered a standardized swap might include the volume of transactions in the contract and the similarity of the terms in the contract to terms in standardized contracts, Mr. Gensler said.
To promote market integrity, Mr. Gensler asked Congress to provide the C.F.T.C. with clear, unimpeded authority to impose recordkeeping and reporting requirements and to prevent fraud, manipulation and other types of market abuses. He also asked Congress to provide the C.F.T.C. with authority to set position limits for O.T.C. derivatives, including aggregate position limits across markets.
To protect the public against improper marketing practices, Mr. Gensler said business conduct standards must be applied to derivatives dealers regardless of the type of instrument involved.