September 1, 2011
Before the 2008 financial crisis, our country’s largest financial institutions were trading complicated derivatives, called swaps, in the shadows, which helped propel the economy into a downward spiral.
Though the crisis had many causes, it’s evident that swaps – created to lower risk for Main Street businesses – heightened risk on Wall Street. Further, the swaps market created the belief that certain financial institutions were not only too big to fail but too interconnected to fail. When AIG, Bear Stearns and others faltered or crumbled, it was the taxpayers who were left with the bill. It wasn’t just the financial system that failed; the regulatory system designed to protect the public also failed.
As we approach the third anniversary of the collapse, we’re still feeling the aftershocks of the financial crisis with a stubbornly high unemployment rate, a weak housing market and millions of Americans who are struggling to make ends meet.
Two key reforms will help combat the forces that helped cause this crisis: bringing transparency to the swaps market and lowering the risks of this market to the overall economy. Just over a year ago, Congress and President Barack Obama came together to pass the historic Dodd-Frank Wall Street Reform and Consumer Protection Act, giving the Commodity Futures Trading Commission and other regulators new enforcement tools.
Derivatives emerged as a means for producers and merchants to lock in the price of commodities, interest rates and currency rates. Our nation’s economy relies on a well-functioning derivatives market, a market that benefits consumers. And it’s essential that companies continue to manage their risks through futures and swaps. With the Dodd-Frank reforms, this important market will function better.
At the CFTC, commissioners and staff are working day and night to put up the necessary street lamps to bring the swaps market out of the shadows and the traffic signals to protect the public from another financial crash.
For example, the law promotes transparency by moving swaps transactions to exchanges or swap-execution facilities. This will allow buyers and sellers to meet in an open marketplace where prices are made publicly available, creating a better climate for businesses to grow and create jobs and ensuring that derivatives dealers don’t have an edge over everyone else.
The law also reduces risk to the economy by requiring that standardized swaps go through a clearinghouse, which guarantees the obligations of both parties. Clearinghouses have lowered risk for the public in the futures markets since the late 19th century. And it’s time that we modernize the swaps market by providing the same protections for taxpayers.
This summer, the CFTC turned an important corner, as we began finalizing rules to make a more open and transparent derivatives market. Among the regulations we’ve completed is a rule giving the commission more authority to effectively prosecute wrongdoers who recklessly manipulate the markets. Also, we’ll soon begin rewarding whistleblowers for their help in catching fraud, manipulation or other misconduct in the financial markets.
We also finished rules that, for the first time, will give regulators and the public specific information on the derivatives market’s scale and risk. These rules will require large traders to give the CFTC data about their swaps activities and establish swap data repositories, which will gather information on all swaps transactions. By contrast, in the fall of 2008, there was no required reporting about swaps trading. In fact, no one knew how big a problem this market posed to the economy.
A year after the Dodd-Frank reforms became law, there are those who would like to roll them back and put us back in the regulatory environment that led to the 2008 crisis. But economists have agreed for decades that transparency in markets actually reduces costs. And Dodd-Frank is about transparency and ensuring the public doesn’t bear the risks of Wall Street.
If you play by the rules, Dodd-Frank works to your benefit.
But until we complete our reforms, the public remains at risk. That’s why the CFTC is working so hard to ensure that these reforms promote transparent markets, lower costs for consumers and protect taxpayers.
Gary Gensler is chairman of the Commodity Futures Trading Commission.
Last Updated: September 1, 2011