December 20, 2013
I respectfully dissent from the Commodity Futures Trading Commission’s (“Commission”) approval of the Notices of Comparability Determinations for Certain Requirements under the laws of Australia, Canada, the European Union, Hong Kong, Japan, and Switzerland (collectively, “Notices”). While I support the narrow comparability determinations that the Commission has made, moving forward, the Commission must collaborate with foreign regulators to harmonize our respective regimes consistent with the G-20 reforms.
However, I cannot support the Notices because they: (1) are based on the legally unsound cross-border guidance (“Guidance”);1 (2) are the result of a flawed substituted compliance process; and (3) fail to provide a clear path moving forward. If the Commission’s objective for substituted compliance is to develop a narrow rule-by-rule approach that leaves unanswered major regulatory gaps between our regulatory framework and foreign jurisdictions, then I believe that the Commission has successfully achieved its goal today.
Determinations Based on Legally Unsound Guidance
As I previously stated in my dissent, the Guidance fails to articulate a valid statutory foundation for its overbroad scope and inconsistently applies the statute to different activities.2 Section 2(i) of the Commodity Exchange Act (“CEA”) states that the Commission does not have jurisdiction over foreign activities unless “those activities have a direct and significant connection with activities in, or effect on, commerce of the United States ….”3 However, the Commission never properly articulated how and when this limiting standard on the Commission’s extraterritorial reach is met, which would trigger the application of Title VII of the Dodd-Frank Act4 and any Commission regulations promulgated thereunder to swap activities that are outside of the United States. Given this statutorily unsound interpretation of the Commission’s extraterritorial authority, the Commission often applies CEA section 2(i) inconsistently and arbitrarily to foreign activities.
Accordingly, because the Commission is relying on the legally deficient Guidance to make its substituted compliance determinations, and for the reasons discussed below, I cannot support the Notices. The Commission should have collaborated with foreign regulators to agree on and implement a workable regime of substituted compliance, and then should have made determinations pursuant to that regime.
Flawed Substituted Compliance Process
Substituted compliance should not be a case of picking a set of foreign rules identical to our rules, determining them to be “comparable,” but then making no determination regarding rules that require extensive gap analysis to assess to what extent each jurisdiction is, or is not, comparable based on overall outcomes of the regulatory regimes. While I support the narrow comparability determinations that the Commission has made, I am concerned that in a rush to provide some relief, the Commission has made substituted compliance determinations that only afford narrow relief and fail to address major regulatory gaps between our domestic regulatory framework and foreign jurisdictions. I will address a few examples below.
First, earlier this year, the OTC Derivatives Regulators Group (“ODRG”) agreed to a number of substantive understandings to improve the cross-border implementation of over-the-counter derivatives reforms.5 The ODRG specifically agreed that a flexible, outcomes-based approach, based on a broad category-by-category basis, should form the basis of comparability determinations.6
However, instead of following this approach, the Commission has made its comparability determinations on a rule-by-rule basis. For example, in Japan’s Comparability Determination for Transaction-Level Requirements, the Commission has made a positive comparability determination for some of the detailed requirements under the swap trading relationship documentation provisions, but not for other requirements.7 This detailed approach clearly contravenes the ODRG’s understanding.
Second, in several areas, the Commission has declined to consider a request for a comparability determination, and has also failed to provide an analysis regarding the extent to which the other jurisdiction is, or is not, comparable. For example, the Commission has declined to address or provide any clarity regarding the European Union’s regulatory data reporting determination, even though the European Union’s reporting regime is set to begin on February 12, 2014. Although the Commission has provided some limited relief with respect to regulatory data reporting, the lack of clarity creates unnecessary uncertainty, especially when the European Union’s reporting regime is set to begin in less than two months.
Similarly, Japan receives no consideration for its mandatory clearing requirement, even though the Commission considers Japan’s legal framework to be comparable to the U.S. framework. While the Commission has declined to provide even a partial comparability determination, at least in this instance the Commission has provided a reason: the differences in the scope of entities and products subject to the clearing requirement.8 Such treatment creates uncertainty and is contrary to increased global harmonization efforts.
Third, in the Commission’s rush to meet the artificial deadline of December 21, 2013, as established in the Exemptive Order Regarding Compliance with Certain Swap Regulations (“Exemptive Order”),9 the Commission failed to complete an important piece of the cross-border regime, namely, supervisory memoranda of understanding (“MOUs”) between the Commission and fellow regulators.
I have previously stated that these MOUs, if done right, can be a key part of the global harmonization effort because they provide mutually agreed-upon solutions for differences in regulatory regimes.10 Accordingly, I stated that the Commission should be able to review MOUs alongside the respective comparability determinations and vote on them at the same time. Without these MOUs, our fellow regulators are left wondering whether and how any differences, such as direct access to books and records, will be resolved.
Finally, as I have consistently maintained, the substituted compliance process should allow other regulatory bodies to engage with the full Commission.11 While I am pleased that the Notices are being voted on by the Commission, the full Commission only gained access to the comment letters from foreign regulators on the Commission’s comparability determination draft proposals a few days ago. This is hardly a transparent process.
Unclear Path Forward
Looking forward to next steps, the Commission must provide answers to several outstanding questions regarding these comparability determinations. In doing so, the Commission must collaborate with foreign regulators to increase global harmonization.
First, there is uncertainty surrounding the timing and outcome of the MOUs. Critical questions regarding information sharing, cooperation, supervision, and enforcement will remain unanswered until the Commission and our fellow regulators execute these MOUs.
Second, the Commission has issued time-limited no-action relief for the swap data repository reporting requirements. These comparability determinations will be done as separate notices. However, the timing and process for these determinations remain uncertain.
Third, the Commission has failed to provide clarity on the process for addressing the comparability determinations that it declined to undertake at this time. The Notices only state that the Commission may address these requests in a separate notice at a later date given further developments in the law and regulations of other jurisdictions. To promote certainty in the financial markets, the Commission must provide a clear path forward for market participants and foreign regulators.
The following steps would be a better approach: (1) the Commission should extend the Exemptive Order to allow foreign regulators to further implement their regulatory regimes and coordinate with them to implement a harmonized substituted compliance process; (2) the Commission should implement a flexible, outcomes-based approach to the substituted compliance process and apply it similarly to all jurisdictions; and (3) the Commission should work closely with our fellow regulators to expeditiously implement MOUs that resolve regulatory differences and address regulatory oversight issues.
While I support the narrow comparability determinations that the Commission has made, it was my hope that the Commission would work with foreign regulators to implement a substituted compliance process that would increase the global harmonization effort. I am disappointed that the Commission has failed to implement such a process.
I do believe that in the longer term, the swaps regulations of the major jurisdictions will converge. At this time, however, the Commission’s comparability determinations have done little to alleviate the burden of regulatory uncertainty and duplicative compliance with both U.S. and foreign regulations.
The G-20 process delineated and put in place the swaps market reforms in G-20 member nations. It is then no surprise that the Commission must learn to coordinate with foreign regulators to minimize confusion and disruption in bringing much needed clarity to the swaps market. For all these shortcomings, I respectfully dissent from the Commission’s approval of the Notices.
1 Interpretive Guidance and Policy Statement Regarding Compliance with Certain Swap Regulations, 78 FR 45292 (Jul. 26, 2013).
3 CEA section 2(i); 7 U.S.C. 2(i).
4 Title VII of the Dodd-Frank Wall Street Reform and Consumer Protection Act, Public Law 111-203, 124 Stat. 1376 (2010).
6 http://www.cftc.gov/ucm/groups/public/@newsroom/documents/file/odrgreport.pdf. The ODRG agreed to six understandings. Understanding number 2 states that “[a] flexible, outcomes-based approach should form the basis of final assessments regarding equivalence or substituted compliance.”
7 The Commission made a positive comparability determination for Commission regulations 23.504(a)(2), (b)(1), (b)(2), (b)(3), (b)(4), (c), and (d), but not for Commission regulations 23.504(b)(5) and (b)(6).
8 Yen-denominated interest rate swaps are subject to the mandatory clearing requirement in both the U.S. and Japan.
9 Exemptive Order Regarding Compliance With Certain Swap Regulations, 78 FR 43785 (Jul. 22, 2013).
Last Updated: December 20, 2013