In a white paper, Giancarlo proposes an alternative cross-border framework that pursues multilateralism and gives deference to non-US jurisdictions with comparable G20 swaps reforms.
CFTC (Commodity Futures Trading Commission) chairman J Christopher Giancarlo has issued a white paper advocating for a risk-based approach in swaps reform which give deference to comparable non-US regulation.
In the paper, Giancarlo expresses reservations about the CFTC’s current “flawed approach” to applying its swaps rules to cross-border activities, which he says is premised on the false assumption that nearly every single swap entered into by a US person requires the imposition of CFTC transaction rules.
“This approach fails to distinguish between those swaps reforms that are designed to mitigate systemic risk and those reforms that address particular market and trading practices that are suitable for adaptation to local trading conditions,” the paper says. “It also fails to recognise the substantial implementation of G20 swaps reforms in non-US jurisdictions in which the majority of global swaps activity takes place.”
The white paper says the CFTC’s cross-border approach is over-expansive, unduly complex, operationally impractical, and increases transaction costs while reducing economic growth and opportunity. Additionally, it shows “insufficient deference to non-US regulators” that have adopted comparable G20 swaps reforms and is inconsistent with the comity the CFTC shows to competent non-US regulators in futures regulation.
According to Giancarlo, the current cross-border approach has driven global market participants away from transacting with entities subject to CFTC swaps regulation and fragmented global markets into a series of separate liquidity pools, thereby increasing systemic risk rather than diminishing it.
The white paper proposes an alternative cross-border framework that pursues multilateralism and recognises the distinction between swaps reforms intended to mitigate systemic risk and reforms designed to address particular market and trading practices that may be adapted appropriately to local market conditions.
“The CFTC should take necessary steps to end the current division of global swaps markets into separate US person and non-US person marketplaces,” says Giancarlo, suggesting that markets in regulatory jurisdictions that have adopted comparable G20 swaps reforms should each function as a unified marketplace under one set of comparable trading rules and one competent regulator, and that the CFTC should act with deference towards these jurisdictions.
Giancarlo intends to direct the CFTC to put forth new rule proposals to address a range of cross-border issues in swaps reform. The improvements recommended in the white paper include an expansion of the use of the CFTC’s exemptive authority for non-US CCPs (central counterparties) that are subject to comparable regulation in their home country and do not pose substantial risk to the US financial system. Non-US CCPs should be permitted to provide clearing services to US customers indirectly through non-US clearing members that are not registered with the CFTC, Giancarlo argues.
Non-U.S. trading venues should also be excepted from having to register with the CFTC as swap execution facilities in regulatory jurisdictions that have adopted comparable G20 swaps reforms, he says, adding that non-US swap dealers should only require registration where their swap dealing activity poses a “direct and significant” risk to the US financial system.
On clearing and trade execution requirements, Giancarlo says the CFTC should adopt an approach that permits non-US persons to rely on substituted compliance in comparable jurisdictions, and only apply its requirements in non-comparable jurisdictions if they have a “direct and significant” effect on the US.
For domestic swaps trading activity, including trades that are “arranged, negotiated, or executed” domestically by personnel or agents of such non-US persons, the US may take a territorial approach and apply CFTC rules, the white paper said.
In response to Giancarlo’s white paper, FIA president and CEO Walt Lukken applauded the effort to rethink the manner in which cross-border regulations are applied to the derivatives markets: “The derivatives industry is global in nature, so it is imperative that international regulators come together to design a coherent regulatory framework that recognises this fact.”
“The deference model utilised by the futures markets has worked extraordinarily well over the thirty years of its existence, even during times of crisis,” Lukken said. “FIA agrees that a similar recognition model would benefit the broader swaps industry without jeopardising the safety and soundness of our marketplace.”