I want to begin by saying what a true honor and privilege it is to be here, and to express my gratitude for the opportunity to work and serve with my fellow commissioners and that I am looking forward to our future together.

I also want to thank my team, my Chief of Staff, Meghan Tente, my Senior Counsel, Gates Hurand, and my Senior Policy Advisor, Keaghan Ames. Most of all, I want to thank the dedicated staff of the Commission.  They have indeed faithfully executed our mission and the enormous responsibility that we have taken on under our expanded authorities granted by the Dodd-Frank Act.

One of the things that I want to note is the progress that the world has made since the 2008 financial crisis in implementing the G20 global derivatives reforms.  For example, the Financial Stability Board's (FSB) OTC Derivatives Market Reforms: Implementation Progress in 2021 stated that the overall implementation of the OTC derivatives reforms were “well advanced” and described the incremental progress that has been made since October 2020 across FSB member jurisdictions.[1]

Specifically, there has been significant progress in implementing final higher capital requirements for uncleared derivatives in 15 out of 24 FSB member jurisdictions.[2]  For margin requirements for uncleared derivatives, that's in force in 16 jurisdictions with the expectation that all jurisdictions will have implemented by the compliance date of September 1, 2022.[3]  Trade reporting requirements for OTC derivatives transactions are in force in 23 FSB member jurisdictions and central clearing requirements are in force in 17 FSB member jurisdictions.[4]  I think we can say that truly the world has come together to find a global solution to the global challenge of the 2008 financial crisis, and that there are now well developed regulatory frameworks in place in our fellow FSB member jurisdictions around the world.

Another point that I wanted to raise is that with the implementation of Dodd-Frank, we have had some challenges with getting the rules right. We have used various tools that we have at our disposal to try to ensure that we can adjust and fix the rules as necessary.  To that effect, there are nine no-action letters that expire in the next year.[5] I encourage the Commission to come up with a plan to provide regulatory certainty well in advance of the expiration dates.  I believe that we should hold ourselves accountable to the same standards that we ask of our registrants, who have to plan ahead to ensure compliance with our rules.

Next, just a couple of comments on today’s proposals. Regarding the proposed capital adequacy and financial reporting comparability determination for non-bank swap dealers located in Japan, I would like to note first of all that the staff of the Market Participants Division, formerly the Division of Swap Dealer and Intermediary Oversight, has been working very hard on these proposals.  Their diligence in implementing a comprehensive oversight regime for swap dealers has helped make the U.S. financial system safer.  Both global and U.S. markets work best when there are clear and simple rules with common standards. Ensuring that these rules are harmonized minimizes operational complexity that can otherwise increase risks and costs.

As Commissioner, I take this responsibility to encourage international regulatory harmonization seriously.  Significantly, the proposed conditional capital adequacy and financial reporting comparability determination order for Japan is the first of its kind for the Commission.  These determinations will set the stage for the capital adequacy and financial reporting determinations to follow for the UK, EU, and Mexico.  Therefore, we need to carefully ensure that these determinations are a model for those that come next and I look forward to good work being done through the notice-and-comment rulemaking process.  With that in mind, I would like to also mention that it's important that we uphold principles of deference to home country regulators and promote international regulatory harmonization to minimize market fragmentation.

As others have noted, an approach that favors direct oversight of both U.S. and foreign entities often does not recognize that another regulator is already overseeing the activity at issue in a comparable manner.  As I previously mentioned, we do have comprehensive derivatives reforms in place in FSB member jurisdictions.  Without an approach that favors deference through reliance on the home country regulator, trading and clearing becomes more complex and therefore costlier and less efficient for all market participants.  Accordingly, one of the things that I will be focused on is to ensure that these proposals properly balance avoiding the weakening of the Commission's oversight abilities, but also not unduly constraining cross-border activity. In doing so, I invite commenters to touch upon any of these aspects.

Finally, I'm pleased that we will consider a proposal to enhance clearinghouse risk governance.  I note that this proposal follows on to the good work and policy recommendations from the Market Risk Advisory Committee.  Engaging with the public through roundtables in a transparent manner is the type of good process that results in good outcomes.  We should consider other advisory committee recommendations as appropriate, and I thank the Chairman for his leadership of and sponsorship of the Market Risk Advisory Committee.

[2]  Id.

[3]  Id.

[4]  Id.

[5]  See CFTC Letter No. 19-19 (July 31, 2019), available at: https://www.cftc.gov/csl/19-19/download; CFTC Letter No. 20-28 (Aug. 15, 2020), available at: https://www.cftc.gov/csl/20-28/download; CFTC Letter No. 21-20 (Sep. 30, 2021), available at: https://www.cftc.gov/csl/21-20/download; CFTC Letter No. 20-31 (Oct. 9, 2020), available at: https://www.cftc.gov/csl/20-31/download; CFTC Letter No. 20-37 (Nov. 18, 2020), available at: https://www.cftc.gov/csl/20-37/download; CFTC Letter No. 22-05 (May 25, 2022), available at: https://www.cftc.gov/csl/22-05/download; CFTC Letter No. 21-24 (Nov. 17, 2021), available at: https://www.cftc.gov/csl/21-24/download; CFTC Letter No. 21-31 (Dec. 22, 2021) available at: https://www.cftc.gov/PressRoom/PressReleases/8474-21 ; CFTC Letter No. 20-30 (Sep. 25, 2020) available at: https://www.cftc.gov/csl/20-30/download

I respectfully concur with the notice of proposed order and request for comment on an application for a capital comparability determination submitted by the Financial Services Agency (FSA) of Japan.

First, I want to recognize the staff’s work as each of my fellow Commissioners has done because this is not easy—not only for this rulemaking, but also, generally speaking, swap dealer oversight is an incredibly complex regulatory regime.  I also appreciate your commitment to providing substituted compliance.

In addition, in my past work in Japan and with their financial sector, I have enjoyed working with the FSA for many years, and I appreciate their thoughtful and robust oversight of their regulated firms.  I also want to say that my thoughts and heart are with the people of Japan regarding the tragic loss of Prime Minister Shinzo Abe.

As I mentioned in my opening statement, the CFTC should take an outcomes-based approach to substituted compliance that appropriately balances and recognizes the nature of cross-border regulation of global markets and firms, and that preserves access for U.S. persons to other markets.[1]  I appreciate the Chairman's remarks and I welcome comments, particularly on operational issues with additional reporting requirements given the time difference, language translation, conversion to USD, local governance and regulatory requirements, and differences in financial reporting.

I urge a pragmatic approach with sufficient time to implement conditions before any compliance date, and I appreciate the thought that the staff have been putting into that.  I speak from my past experience as a global head of swap dealer compliance who had to implement global regulatory reforms.  I'll also note that in a crisis, such as during the early days of the COVID-19 pandemic, there was timely and effective engagement between and amongst CFTC registrants and U.S. regulators.  I have been on many calls and spoken to many regulators all over the world, not only during COVID-19, but also during times of market disruption or potentially material events.

There is a difference between a phone call and a formal written notice, and that’s just one example of the conditions in this proposal.  So, I appreciate receiving comments on this and any other operational issues and the careful consideration by the staff and the Commission of how to take a practical approach to achieving appropriate oversight and mitigation of risk to the United States and to our markets.

The CFTC is one of the regulators at the forefront of climate-related risk management as firms and individuals will increasingly turn to the derivatives markets to manage and mitigate climate change-induced physical and transition risk.  We are making great progress at the CFTC to better understand our role in adapting the derivatives markets to withstand increasing climate-related financial risk.

In March 2021, I created the Climate Risk Unit (CRU) within the CFTC to leverage the agency’s resources and expertise to better understand the role of derivatives in pricing and mitigating climate-related risk, and support the orderly transition to a net zero economy through market-based initiatives.[1]  During its initial 12 months, the CRU focused on engaging with internal and external stakeholders to explore opportunities for public-private partnerships to identify how the commodities and derivatives markets may support the transition of risk to finance climate change solutions.

As an outgrowth of that exploration, the CRU hosted an all-day voluntary carbon market (VCM) convening at the Commission on June 2nd.  The convening, which included panelists from all corners of the VCM, discussed carbon offset standards and quality initiatives; the trading ecosystem for carbon offsets, which are the underlying commodity to several CFTC-regulated futures products; and the participants’ recommendations for the CFTC’s role in this space.

To support a whole-of-government approach to climate-change, the convening included representatives from the White House’s Office of Science and Technology Policy, and the Departments of Treasury, State, Transportation, and Agriculture to discuss their policy initiatives for carbon offsets.

Concurrently, I announced the Commission’s issuance of a Request for Information (RFI) on climate-related market risk.  The RFI seeks feedback on all aspects of climate-related financial risk as it may pertain to the derivatives markets, underlying commodities markets, registered entities, registrants, and other market participants.  The RFI also seeks responses on questions specific to data, scenario analysis and stress testing, risk management, disclosure, product innovation, voluntary carbon markets, digital assets, greenwashing, financially vulnerable communities, and public-private partnerships and engagement.  The Commission may use this information to issue new or amend existing guidance, interpretations, policy statements, and regulations, or take other potential Commission action.  My intention is to focus on ensuring that our market participants are equipped to manage their risks from increasingly severe and frequent weather events as well as the transition to a net-zero, low-carbon economy.  I look forward to the public’s feedback, which is due by October 7, 2022.

At the start of the first open meeting of this historic Commission, with a full complement of five Commissioners, I am pleased to offer this opening statement.  I am humbled by President Biden’s decision to nominate me and the U.S. Senate’s confirmation of my nomination.  It is a privilege to serve our nation during this transformational moment in the history and development of our financial markets.

Over these last three months, I have had the great pleasure of getting to know Chairman Behnam, Commissioners Goldsmith Romero, Mersinger, and Pham, and meeting with staff in each of the Commission’s Divisions, who demonstrate expertise, professionalism, and commitment, even as we navigate cutting-edge issues on the frontier of the future of finance. I am grateful to the staff for their service to the Commission and our nation and their invaluable contribution to the stability and integrity of the global economy.

For each of the two proposals before us, today’s actions mark this Commission’s commitment to clarify, carefully consider, and codify requirements.  Our efforts today will lead to clarity regarding the application of existing or newly implemented regulation. Upon conclusion of rigorous debate and comprehensive and dynamic dialogue among domestic and international regulators, regulated entities, other stakeholders, and citizens in our community, we will carefully consider—in light of this broad range of interests—how best to achieve the goals identified in our mandate.  Our efforts today aim to codify measures that enhance systemic risk management and mitigate the likelihood that risks such as counterparty default or a liquidity or solvency crisis again might threaten the safety and soundness of our financial markets.

Today, as we vote on proposals that grow out of this mission, this newly formed Commission receives the mantle and demonstrates two of the greatest strengths of our nation—the continuity of our government and the commitment of its public servants.  First, we continue the dialogue of our predecessors regarding the appropriate risk management framework for derivatives clearing organizations focusing on the potential strengths and limitations of governance reforms.  Second, we consider an application for a capital comparability determination from the Financial Services Agency of Japan (JFSA).

In September of 2008, the global economy experienced a shock that reverberated across communities, markets, and nations.  Regulators, market participants, and citizens witnessed the precipitating collapse of storied financial institutions that made ill-informed bets in an opaque, bespoke, bilateral market characterized by a lack of intermediation or central clearing.  As international authorities observed, global output and credit markets “contract[ed] at [a] pace not seen since the 1930s;” trade plummeted; jobs disappeared; housing markets trembled and “people worried that the world was on the edge of a depression.”[1]

A year later, G-20 leaders gathered at a summit in Pittsburgh to address these concerns.  Having identified catalysts that triggered the economic crisis, and with absolute resolve, they articulated a prescription targeting an under-supervised sector of our markets—“all standardized [over-the-counter] derivative contracts” would be “traded on exchanges” or “cleared through central counterparties” by 2012.[2]  Observing that the period leading to the summit was marked by “a critical transition from crisis to recovery,” global leaders declared the need “to turn the page on an era of irresponsibility and to adopt a set of policies, regulations and reforms to meet the needs of the 21st century global economy.”[3]

Twelve years ago, President Barack Obama signed the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act)[4] into law, translating this global imperative into a critical and demanding local mission.  The mandate outlined in Title VII of the Dodd-Frank Act deploys specific, well-tailored solutions to implement the spirit of international collaboration and cooperation that characterized the Pittsburgh summit and continued with subsequent meetings, including the CPMI-IOSCO deliberations that developed the Principles for Financial Market Infrastructures (PFMIs).[5]  Title VII of the Dodd-Frank Act articulates two longstanding principles echoed across commodities and derivatives markets regulation—commitments to customer protection and to ensuring the safety and soundness of our financial system.

The Dodd-Frank Act introduced groundbreaking reforms.  Firmly nestled among other key provisions in the Dodd-Frank Act, the statute entrusted derivatives clearing organizations (DCOs) with maintaining the integrity of the derivatives markets through comprehensive and prudent risk mitigation practices.  DCO Core Principle O recognizes the critical importance of DCOs as pillars of the broader financial system in requiring governance arrangements that “fulfill public interest requirements.”[6]

I support issuing the proposed governance rulemaking for comment, continuing a broader governance deliberation that dates back to proposals issued over the last decade.  It addresses new recommendations that the Commission received from the Market Risk Advisory Committee (MRAC).  These recommendations are based on a report prepared by MRAC’s Subcommittee on Central Counterparty (CCP) Risk and Governance (Subcommittee).[7]  The Subcommittee Report, and today’s proposed governance rulemaking, stem from meaningful and constructive discourse between DCOs, clearing members, and end users, and focus on establishing DCO governance arrangements that can effectively internalize input from clearing members and end users with respect to matters that materially impact a DCO’s risk profile.  DCO risk management practices may profoundly impact individual firms and, in some instances, the broader financial economy.  I look forward to receiving substantive commentary necessary for developing final rules from all stakeholders on matters implicated by the proposal.  Such commentary will enable us to tailor governance rules that further enhance a DCO’s ability to prudently manage risk.

Moving beyond the financial crisis, beginning in February and March of 2020, markets faced deeply concerning shocks.  The onset of the COVID-19 global pandemic, destabilizing geopolitical events, and macroeconomic conditions marked by persistent inflation and periods of sustained volatility demonstrate that risk management remains a vital and increasingly important imperative.  In every sense of the term, market conditions stress tested DCOs and the effectiveness of the reforms codified under the Dodd-Frank Act.  Undeniably, DCOs demonstrated notable resilience in response to this real-world, real-time unanticipated stress test.  Clients, clearing members, and policymakers generally agree that central clearing has strengthened resilience in the derivatives markets.

It would be a mistake, however, to rest on our laurels.  While clearing mandates have contributed to the development of fair and orderly markets, noteworthy concerns persist. DCOs play a critical role as central risk managers in markets.  Increasing clearing mandates and market shifts have amplified dependence on DCOs, concentrating credit and liquidity risks.  Some even argue that such concentration creates single points of failure with the potential to undermine the progress that we have achieved.

The capital comparability determination application from the JFSA raises different but equally critical questions. In July 2013, when the Commission first published interpretive guidance and a policy statement regarding cross-border application of certain swap provisions of the Commodity Exchange Act, few jurisdictions had made significant progress implementing the global swaps reforms leaders referenced in the G-20 Pittsburgh summit.  Today, many jurisdictions have made great strides to adopt effective regulatory regimes, mitigating the systemic risks that pervaded markets at the onset of the Global Financial Crisis.

Swap dealers, counterparties, and market participants are geographically dispersed and remarkably diverse.  These characteristics underscore the necessity of collaboration by international regulators.  I support the Commission’s issuance of the Notice of Proposed Order on the capital comparability determination from the JFSA for comment.  The Commission’s capital and financial reporting requirements are critical to ensuring the safety and soundness of our regulated swap dealers. When the Commission adopted regulation 23.106 in 2020 as part of the final swap dealer capital rules, we acknowledged undercapitalization as a core issue that precipitated the Global Financial Crisis.  Maintaining adequate capital standards requires transparency and accountability.  We must continuously assess and evaluate the levels of capital and ensure accurate and timely reporting of financial conditions to preserve market stability, promote resiliency, and mitigate shocks that threaten to disrupt our financial markets ecosystem.

Although more than a decade separates the day Congress adopted the Dodd-Frank Act from the moment where we find ourselves today, we must continue to be resolute in our focus and unwavering in our commitment to promote the adoption and enforcement of capital adequacy rules that mitigate systemic risk.  We dare not rest on the resilience of reforms from the last crisis; it is imperative that we remain vigilant.  We must be prepared to introduce appropriate risk management and capital adequacy rules with respect to novel financial products; innovative uses of data; predictive, learning algorithms; and emerging market participants and platforms.  Simply stated, we must consistently prioritize our common goals and commit to identifying effective regulatory solutions.

Two values codified as principles of the Commission will always be top of mind for me as we approach any issue: first, customer protection is among my highest priorities and second, the integrity of financial markets.  I am always thoughtful about those who may not be market participants subject to our regulatory oversight, but may nevertheless be deeply impacted by the decisions of this Commission and other financial market regulators.  While these individuals may be less familiar with the causes and characteristics of complex issues that we contemplate daily, such as market volatility, they are all too familiar with the consequences—the pain they feel at the pump when buying gas or the difficulties of stretching an already challenging budget at the local grocery store.  We must work together to ensure that our markets remain resilient and continue to serve the public’s interest.

It is hard to describe how humbling it is to sit on the dais at the Commodity Futures Trading Commission (CFTC or Commission) today among this distinguished group and where many extraordinary individuals have sat before us.  When I first walked into this room three years ago and witnessed the collegial debate and deliberation that occurred on this dais during Open Meetings, I honestly did not imagine that one day my name would be on this placard and I would occupy this seat.  But we do not always know the destination when we first step onto a new path.  There are four wonderful individuals seated up here with me whom I have had the good fortune to get to know along this path, as well as the dedicated CFTC staff, including the teams we will hear from today.

The items we are considering today reflect some of the greatest attributes of the CFTC: the diligent work of our staff, the willingness of our market participants to share their expertise and provide recommendations, and the CFTC’s coordination with – and respect for – our regulatory counterparts in other jurisdictions.

Governance Requirements for Derivatives Clearing Organizations

One of the special characteristics of the CFTC is the level of engagement and expertise of its advisory committees, through which market participants and other interested parties come together to provide us with their perspectives and potential solutions to practical problems.  I have witnessed this through my prior role as the Designated Federal Officer of the Agricultural Advisory Committee, my support of former Commissioner Stump’s sponsorship of the Global Markets Advisory Committee, and the numerous advisory committee meetings that I have attended over the past few years.

Today’s proposed derivatives clearing organization (DCO) governance regulations were born out of a report from the Market Risk Advisory Committee’s (MRAC) Central Counterparty Risk and Governance Subcommittee (Subcommittee), which was adopted by the MRAC in February 2021.[1]  I thank the members of the Subcommittee for the thorough and extensive work they did in preparing that report and the recommendations contained therein, and I thank the members of the MRAC for their consideration of that report.  Additionally, I want to offer sincere thanks to the Chairman for his leadership as the sponsor of the MRAC.  The accomplishments stemming from the diligence and cooperation of the members of the MRAC under Chairman Behnam’s sponsorship are numerous and serve as an example to new commissioners, including myself, of how to effectively engage with a CFTC advisory committee to the betterment of our rulemaking agenda.  I am certain the MRAC is in good hands with Commissioner Johnson as its new sponsor.

The proposed rules we are considering today reflect areas of general agreement among the Subcommittee members and build upon their report’s specific recommendations regarding the establishment of risk management committees (RMCs) and risk advisory working groups (RWGs).  The Core Principles in the Commodity Exchange Act (CEA) provide that a DCO must have governance arrangements that are transparent in order both to fulfill public interest requirements and to permit the consideration of the views of owners and participants.[2]  CFTC regulations implementing this Core Principle set forth more detailed requirements regarding the form and substance of a DCO’s governance arrangements.[3]

The proposed rules we are considering today would enhance these regulations by requiring a DCO to establish one or more RMCs and one or more RWGs.  The rules would require a DCO to maintain written policies and procedures regarding the establishment of RMCs, the RMC consultation process, and the formation and role of each RWG, but would afford the DCO flexibility on the specific contents of those policies and procedures.

There are currently fifteen DCOs registered with the Commission.  Of those, twelve already have some form of an RMC, and six already have some form of an RWG.  Codifying these best practices implements the statutory Core Principle that DCOs have governance arrangements that are transparent and permit the consideration of the views of owners and participants.  I look forward to receiving comments on our proposed rule text as well as the many questions we are asking throughout the proposal. 

These proposed rules are an important first step in what I hope is further discussion and rulemaking around the best practices when it comes to DCO governance.  Good governance benefits DCOs, market participants, and markets.

Thank you to the members of the Subcommittee and the members of the MRAC for their work on these issues, and, most especially, thank you to the staff of the Division of Clearing and Risk for their work on this proposal and their consideration of questions and comments from me and my Office.

Another Advisory Committee Report: Margin Requirements for Non-Cleared Swaps

But before leaving the topic of advisory committees, I would note that in May 2020, the CFTC’s Global Markets Advisory Committee (GMAC)[4] adopted a comprehensive report prepared by its Subcommittee on Margin Requirements for Non-Cleared Swaps (GMAC Report).[5]  The GMAC Report included recommendations to tailor the Commission’s uncleared margin rules for swap dealers to account for the very real practical and operational challenges arising when they are applied to the different set of financial end-users (such as pension plans, endowments, insurance providers, and mortgage service providers) that are now coming into scope of the margin rules.

The Commission promptly – and unanimously – adopted four of the GMAC Report’s recommendations.[6]  And, most recently, the Commission included two more of these proposals in its “Agency Rule List” that it published this Spring.[7]

GMAC members worked extraordinarily hard to reach consensus on these recommendations, and I would like to have seen these two proposed rulemakings on today’s agenda.

Notice of Proposed Order and Request for Comment on an Application for a Capital Comparability Determination from the Financial Services Agency of Japan

Now, returning to that agenda:  Another special characteristic of the regulatory regime at the CFTC is our demonstrated ability to work collaboratively with foreign regulators.  Our markets are global, and international coordination and deference to comprehensive, comparable home-country regulation are essential.

When the G-20 leaders met in Pittsburgh in 2009 in response to the financial crisis, they recognized the global nature of the derivatives markets and explicitly committed to taking action to raise standards together so that national authorities would implement global standards consistently in a way that would ensure a level playing field and avoid fragmentation of markets, protectionism, and regulatory arbitrage.[8]  The U.S. Congress memorialized these commitments throughout the Dodd-Frank Act,[9] and the CFTC has implemented a regulatory framework that respects these commitments.

In accordance with CFTC regulations, the Financial Services Agency of Japan (JFSA) submitted an application requesting that the Commission determine that Japan’s capital adequacy and financial reporting requirements, and related financial recordkeeping and reporting requirements for non-U.S. nonbank swap dealers, are comparable to the corresponding CFTC regulations.  The proposed order we are considering today reflects countless hours of work by staff in our Market Participants Division (MPD), as well as a real commitment and engagement by our regulatory counterparts in Japan.  For that, I offer a sincere thank you to our staff and the JFSA.

The Commission’s approach for conducting this comparability determination is a principles-based, holistic approach that focuses on whether Japan’s regime achieves comparable outcomes to the corresponding CFTC requirements.  This has been no small undertaking, and this effort has literally taken years to get to this stage.  This is just the first of several capital comparability determinations the Commission has been asked to consider, so the work here is just getting started.  I appreciate the MPD staff’s diligence and continued efforts on these complex and labor-intensive analyses.

Concluding Thoughts

Again, I want to thank the staff from MPD and the Division of Clearing and Risk for their hard work on the proposals before us today.  I also want to say thank you to staff in our Legal Division, including the Secretariat’s Office, and the Chief Economist’s Office for the work they do in order for the Commission to consider matters at an Open Meeting.

I would be remiss if I did not also mention our technology and logistics teams for their part in preparing for and executing today’s meeting.  We often forget just how critical they are to the success of the Commission’s Open Meetings, as well as to our ability to do our everyday jobs.  Thank you for all of your efforts and hard work which allows this agency to function, not only during Open Meetings, but every single day.

I support the Commission’s efforts for strong capital requirements and financial reporting to help ensure the safety and soundness of swap dealers whose activities could affect U.S. markets, including through this proposed Capital Comparability Determination for Japan.  The proposal promotes financial stability and the benefits of global harmonization with a like-minded regulator for the global swaps markets.  Thank you to the staff for their hard work, and for their thoughtful engagement with me and my office on changes to improve the proposal.

The 2008 Financial Crisis and TARP Capital Injections

A key cause of the financial crisis was the failure of bank regulators to require financial institutions to have high quality capital in a sufficient amount to serve as a buffer against risk.  This included the lack of capital requirements that would ensure that financial institutions that were swap dealers, and other major participants in swaps markets, had adequate capital to absorb losses.  The devastating result of this undercapitalization swept rapidly through the highly interconnected financial system.  The default or margin failure of one counterparty triggered another, and then another – which led to a short-term liquidity crisis.  Risk and losses also cascaded from subsidiaries and affiliates to bank parent companies and/or bank holding companies, including across borders.     

The financial contagion was not limited to major players in the markets.  The entire economy suffered, with Main Street bearing the consequences of Wall Street.  The federal government made unprecedented capital injections of hundreds of billions of taxpayer dollars into more than 700 financial institutions through the Troubled Asset Relief Program (“TARP”).  For the last decade, I served as the Special Inspector General for TARP (“SIGTARP”), providing oversight over TARP programs.  I have testified before Congress and reported publicly on lessons learned from inadequate capital requirements pre-crisis and the need for strong levels of high-quality capital to lower systemic risk in the financial system. 

The Dodd Frank Act’s Capital Requirements for Swap Dealers

Swap dealer capital requirements are one of the most critical reforms in the Dodd-Frank Act for derivatives markets.  These reforms led the CFTC to allow nonbank swap dealers to use a capital framework similar to what prudential banking regulators apply to banks.[1] 

Capital protects the solvency of the swap dealer from unexpected losses, such as counterparty defaults and margin collateral failures.  Capital requirements are aimed at ensuring a swap dealer has the ability to absorb losses, and they prevent market disruption by helping to ensure that swap dealers continue to perform their critical function to provide liquidity and market making.  Capital along with margin requirements for uncleared swaps reduces the potential for contagion, thereby lowering systemic risk in the financial system, and promoting financial stability.

The CFTC’s First Substituted Compliance Determination for Capital Requirements

The global nature of the financial crisis also highlighted the need for the CFTC to coordinate with foreign regulators, as swap activities in a foreign jurisdiction may have an impact here in the United States.  For example, risk of a foreign subsidiary can flow to their U.S. parent company. 

The CFTC’s “substituted compliance” framework leverages a second regulator, a like-minded foreign regulator that has rules, supervision and enforcement that are comparable in purpose and effect to the CFTC’s.  Under this global harmonization, the CFTC would allow a non-U.S. entity to be deemed in compliance with CFTC requirements if the non-U.S. entity complied with the foreign regulator’s comparable rules. 

I am mindful that this proposal is the first of its kind – the first substituted compliance determination for the CFTC’s capital rules.  Therefore, we should proceed carefully, as we are establishing precedent.

The proposal today is for nonbank swap dealers that are domiciled in Japan, where we have a Memorandum of Cooperation and a long history of cooperation with the Japanese Financial Services Agency.[2]  Currently, this proposal would apply to Japanese affiliates of Bank of America, Morgan Stanley and Goldman Sachs – three systemically important institutions and three of the largest TARP recipients having collectively received $60 billion in TARP capital injections.  Therefore, it is vital that the CFTC ensures that these swap dealers have adequate amounts of high-quality capital.  Public comment will be helpful on whether the CFTC is correct in its preliminary determinations of comparability.

I highlight, and express my appreciation for, the involvement of the Japanese Financial Services Agency in this process.  CFTC staff’s engagement with our regulatory counterparts in Japan has helped to ensure the accuracy of the staff’s assessment of Japanese capital and financial reporting requirements, along with supervisory and enforcement programs.[3]

Substituted compliance does not require an all or nothing determination.  The CFTC may continue to require compliance with certain of its rules, and impose any terms or conditions that it deems appropriate.[4]

The CFTC proposes to continue to require that Japanese nonbank swap dealers comply with the CFTC’s $20 million capital requirement, as Japan has no minimum requirement.[5]  I strongly support retaining the $20 million capital requirement.  However, the CFTC is not requiring compliance with our requirement that the $20 million be in the form of common equity tier 1 capital – one of the strongest forms of capital.  Instead, the proposal would allow the $20 million requirement to be satisfied with types of capital defined in a category called “Basic Items” under Japanese regulation.  I look forward to commenters’ response on whether allowing the $20 million capital requirement to be satisfied with this category of “Basic Items” is comparable in purpose and effect to the CFTC’s requirement that only common equity tier 1 capital be included in the $20 million.

Japan also does not have a minimum requirement for capital that is tied to the margin for uncleared swaps entered into by the nonbank swap dealer.  The CFTC requires an aggregate of common equity tier 1 capital, additional tier 1 capital and tier 2 capital equal to or greater than 8 percent of the nonbank swap dealer’s uncleared swap margin amount.  I look forward to commenters’ response on the question as to whether Japan’s capital requirement in an amount equal to 25% of operating expenses is comparable in purpose and effect to the CFTC’s capital requirement equal to 8% of the uncleared swap margin amount.

It is a priority for me to ensure that the CFTC guards against complacency with post-crisis reforms, particularly after market stresses from the pandemic and geopolitical events.  We should remember that our capital rules serve as critical pillars of Dodd-Frank reforms to help ensure the safety and soundness of financial institutions and to protect the market from serious risks and contagion.  The CFTC has a duty to ensure that our comparability assessment is sound and that the foreign regulator is like-minded in not only rules but in their approach, supervision and enforcement.  Substituted compliance must leave U.S. markets and our economy at no greater risk than full compliance with our rules. 

[1]  This bank-based approach is consistent with the Basel Committee on Banking Supervision’s international framework for bank capital requirements.

[2]  As noted in the proposal, in making a Capital Comparability Determination, the Commission may consider any facts or circumstances it deems relevant, including whether the relevant foreign regulatory authority has a memorandum of understanding or similar arrangement with the Commission that would facilitate supervisory cooperation.  See 17 CFR 23.106(a)(3)(iv). 

[3]  The Commission may consider all relevant factors in making a Capital Comparability Determination, including the ability of the relevant foreign regulatory authority to supervise and enforce compliance with the foreign jurisdiction’s capital adequacy and financial reporting requirements.  See 17 CFR 23.106(a)(3)(iii).  The proposal also makes a preliminary determination that the Japanese financial reporting rules are conditionally comparable in purpose and effect with the CFTC’s financial reporting rules.

[4]  See 17 CFR 23.106(a)(5).

[5]  Japanese capital requirements are consistent with Basel bank capital standards, similar to the CFTC.

I support the Commission’s efforts to strengthen the resilience of clearing houses to future risk, including through this proposed rule.  Since the 2008 financial crisis, I have spent my entire career in federal public service helping our nation recover and build a stronger, safer, more resilient financial system.  I have seen how clearing houses play an important public interest role – one of critical market infrastructure that fosters financial stability, trust, and confidence in U.S. markets.  The Financial Stability Oversight Council (“FSOC”) has recognized this public interest role, designating several clearing houses as systemically important Financial Market Utilities.  FSOC’s designation highlights the important role that the Commission plays in the oversight of clearing houses. 

Thank you to the staff for taking this oversight role seriously.  Thank you for working closely with me and my office on changes to improve the proposal in ways that will facilitate effective oversight by the Commission and promote greater accountability, transparency, and predictability.

Clearing houses serve as a cornerstone to mitigating risk in U.S. markets.  The 2008 financial crisis revealed that over-the-counter trades left market participants vulnerable to the weaknesses of their counterparties, and left regulators in the dark about hidden risk.  In contrast, clearing houses – who put themselves in the center of markets as counterparties – take on counterparty risk and bring transparency to the markets and regulators. 

One important post-crisis reform was to increase central clearing of trades in U.S. markets, putting clearinghouses in even more of a public interest role.  However, this has resulted in a concentration of more risk in clearinghouses.

FSOC found that the failure or disruption of systemically important clearinghouses “could create or increase the risk of significant liquidity or credit problems spreading among financial institutions or markets and thereby threaten the stability of the U.S. financial system.”[1]

The systemic nature of several clearing houses registered with the Commission further underscores the need for vigilant oversight.[2]  Under the Commission’s oversight, clearing houses have shown resilience in navigating an ever-growing list of recent market stress events.  They have helped U.S. markets maintain financial stability during the global pandemic, supply chain issues, and geopolitical events. 

However, uncertainty surrounding these events has driven home the need for the Commission to enhance its rules so that clearing houses strengthen their resilience to future risk.  The public interest role of clearing houses is best served when the clearing houses work with their clearing members who have much at stake as they shoulder the burden of losses and defaults.  Clearing houses, members, and end users should work collaboratively to decide how to increase the resilience of their respective clearing houses, and how to best navigate risk during times of market stress.  Simply put, there is strength in numbers and diversity of perspective. 

We have seen how clearing houses have benefitted from risk management committees and other working groups that reflect a broad coalition of stakeholders.  The voices of these stakeholders should be heard in a meaningful way.[3]  Today, the Commission proposes formalizing requirements for these committees.[4]  We propose a requirement for the consideration of input from members of risk committees on matters that could strengthen or weaken the resilience of the clearing organization to future risk.  The proposed rule seeks to balance the calls of those on the committees for increased transparency, predictability, and a voice in risk management, with the clearinghouses’ calls for flexibility and consideration of their own internal opinions on risk.  Commenters will tell us whether we have gotten this balance right in a way that will strengthen the resilience of clearing houses to future risk while keeping it agile to respond to sudden market events.

Additionally, we endeavor to formalize governance rules that promote accountability of clearing houses and facilitate oversight by the CFTC.  Both accountability and oversight are served in the proposal through written policies and procedures, and documentation that stakeholder voices have been solicited and heard.  The proposal is not prescriptive about the content of the policies and procedures.  A requirement for written policies and procedures, accompanied by documentation of the consideration of input, will benefit the full range of clearing houses, from systemically significant clearing houses to new or future clearing houses, including in the digital asset space, who may not have a history of risk management committees. 

It is my hope that over time, a requirement for policies and procedures will serve as a launch pad for best practices to emerge.  I look forward to public comment on additional opportunities for how the Commission can effectively advance best practices, including the question of whether the Commission should require the publication of the policies and procedures, and whether the Commission should be prescriptive of the content.  I also look forward to comments on whether meetings of risk advisory working groups should be documented to ensure that those members’ voices are adequately heard in a meaningful way.

Today’s proposal serves as an important first step to promote accountability, transparency, predictability, and effective oversight for the governance of clearing houses.  We also invite comment on future rulemaking for best practices.  I look forward to future consideration of additional opportunities for the Commission to promote transparency, accountability, predictability, and effective oversight.[5]

[1]  See U.S. Department of the Treasury, Policy Issues: Designations (last accessed July 26, 2022), available at https://home.treasury.gov/policy-issues/financial-markets-financial-institutions-and-fiscal-service/fsoc/designations.  FSOC designates clearing houses who serve as central counterparties responsible for clearing a large majority of trades as systemically important Financial Market Utilities.

[2]  The Commodity Exchange Act established several core principles for Derivatives Clearing Houses, including a requirement that the clearing houses establish governance arrangements that are transparent to fulfill public interest requirements and to permit the consideration of the views of owners and participants.  7 U.S.C. §7a-1(c)(2)(O).  To further implement these core principles, the Commission adopted several rules, including a rule that clearing houses maintain clear, documented governance arrangements.  Commission regulation 39.24(b).

[3]  The Commission previously stated that clearing organization governance rules, “improve DCO risk management practices by promoting transparency of governance arrangements and making sure that the interests of a DCO’s clearing members and, where relevant, their customers are taken into account.”  Derivatives Clearing Organization General Provisions and Core Principles, 85 Fed. Reg. 4800, 4848 (Jan. 27, 2020).

[4]   Proposals include broad and diverse participation, fitness, the importance of independent, expert opinions, and a performance of committee duties focused on the safety of the clearing organization and the stability of the financial system.

[5]  While there may be a diversity of views on these additional opportunities, I hope that diversity will help, rather than deter, this independent Commission to develop strong and long-lasting rules to strengthen the resilience of clearing houses to future risk.

Good morning and welcome.  In some respects, today’s open meeting is a historic event. It is the first open meeting to be held in person at the Commission in almost two and a half years, since the onset of the COVID-19 pandemic.  It is also the first open meeting to be held with all five Commissioners since December 2020.  Perhaps most notably, it is the first open meeting with our history-making CFTC Commissioners.

At a time when many across the country have dispensed with the formalities of office-life, these public meetings seem to be a sharp contrast to our current day-to-day operations.  However, these formalities should serve as a fresh reminder of the importance of the work we do as a full Commission and who we are here for: the American public.  On that note, I am honored to be here today as Chairman of the Commodity Futures Trading Commission, at this dais, working closely and collaboratively with my colleagues and providing the public a direct view into the critical work we do.

I want to express my great appreciation to our colleagues in the Division of Clearing and Risk and the Market Participants Division for their efforts on the two proposals before the Commission today.

My intention is to make today the first of many productive and insightful open meetings as our new Commission thoughtfully supports the growth, transparency, and vibrancy of the U.S. derivatives markets.  During the pandemic, CFTC staff has continued its diligent oversight of the derivatives markets through an everchanging range of market events, including historic demand destruction across all commodity classes in the spring of 2020, titanic shifts in global monetary policy, supply chain disruptions, and the more recent Ukraine crisis.  These unpredictable events have only intensified the need for price discovery and risk management tools.

We will be considering two proposals today, each representing critical components of CFTC markets: governance requirements for derivatives clearing organizations, and a proposed order and request for comment on the Application for Capital Comparability Determination Submitted by the Financial Services Agency of Japan.  I will share my remarks on the respective proposals in greater detail following staff presentations.

Thank you again to the division staff, Abigail Knauff and Alicia Lewis in my office, and to my fellow Commissioners and their staff for their support and work to get us here – on this historic day.

Proposed Rulemaking Governance Requirements for Derivatives Clearing Organizations

The last several years have tested the resilience of the derivatives markets and post-financial crisis reforms more generally in ways that few risk scenarios could have contemplated.  Despite a resoundingly strong response to the numerous market shocks, the global regulatory community, in concert with market participants, has appropriately debated the need for additional tools, resources, and rules to manage these and future risks.  As farmers, ranchers, corporates, pension funds, insurers, and other market participants continue to turn to the derivatives markets for risk management and price discovery, it is critical that derivatives clearing organizations (DCOs) clearing these products sufficiently calibrate their risk management tools and frameworks to meet the most extreme, but plausible, tail events.

DCOs with governance structures that embrace the diverse risk-based views of clearing members and their clearing members’ customers will be better situated to refine their risk management frameworks to withstand extreme but plausible market conditions while promoting financial stability.  With an ever-evolving risk landscape, including new clearing structures, new product innovation, and the emerging risk of climate change to name just a few, it is critical that DCOs’ governance arrangements and fitness standards evolve.

That is why I support today’s proposal to amend the governance requirements for DCOs in CFTC Regulation 39.24 to enhance the role of clearing members and customers of clearing members in the risk governance process for DCOs.  A DCO’s robust risk management framework is particularly critical because of the systemic nature of clearinghouses and the integral role that DCOs have in promoting financial stability.

Today’s DCO governance proposal is a direct outgrowth of the work of the Central Counterparty (CCP) Risk and Governance Subcommittee (Subcommittee) of the Commission’s Market Risk Advisory Committee (“MRAC”),[1] of which I was the immediate past Sponsor.  The Subcommittee’s February 2021 report to the MRAC provided several recommendations for improving DCO governance standards that the Commission is proposing today to amend CFTC Regulation 39.24.

First, the Commission proposes to require each DCO to establish one or more risk management committees (RMCs) to consult with clearing members and clearing member customers prior to making any decisions that could materially affect the risk profile of the DCO.  Under the proposal, the DCO would need to consult with the RMC for material changes to a DCO’s margin model, default procedures, participation requirements, risk monitoring practices, and clearing of new products.  The proposal would further require a DCO to have written policies and procedures related to the RMC’s consultation process, composition, and rotation of the membership on a regular basis.  As proposed, a DCO would be required to establish and enforce appropriate fitness standards for RMC members.  The Commission also proposes that a DCO maintain policies that are designed to enable RMC members to provide independent, expert opinions in the form of risk-based input on all matters presented to the RMC for its consideration.

Second, the Commission proposes to require each DCO to establish one or more risk advisory working groups (RWGs) as a forum to seek risk-based input (as opposed to commercially-driven input) from a broader array of market participants on matters that could materially affect the DCO’s risk profile.  The Commission proposes to require a DCO to maintain written policies and procedures related to the formation and role of each RWG, which would be required to convene at least quarterly.

Finally, the Commission is also requesting comment on the consultation process to add or amend a DCO rule, disclosure of opposing views in a rule submission, and whether DCOs should be required to maintain policies and procedures designed to enable an RMC member to share certain types of information in order to obtain additional expert opinions.

Today’s proposal is an extremely positive and critical step towards further enhancing the effectiveness of the CFTC’s governance standards.  Strengthening the clearing ecosystem and developing a DCO governance policy has been a priority since I joined the Commission in 2017.  As Chairman, this critical market infrastructure will remain a focus, and I look forward to taking a data-driven approach to support any possible enhancements to the agency’s oversight of DCOs, ensuring coordination and consistency with our domestic and international partners as we collectively pursue our shared goals of market resiliency and financial stability.  Today is a big step, and the Commission will continue to monitor the clearing ecosystem and engage market participants on DCO risk and governance issues in the future.

Proposed Order and Request for Comment on the Application for Capital Comparability Determination Submitted by the Financial Services Agency of Japan

Turning to another important matter, as CFTC provisionally-registered swap dealers (SDs) operate and manage risk globally, the Commission’s supervisory framework must acknowledge the realities of multi-jurisdictional operations.  I support the Commission’s proposed order and request for comment on its preliminary determination that nonbank[2] swap dealers (SDs) organized and domiciled in Japan are subject to, and comply with, capital and financial reporting requirements in Japan that are comparable to certain capital and financial reporting requirements under the Commodity Exchange Act and the Commission’s regulations (Capital Comparability Determination), subject to certain conditions.

Today’s preliminary Capital Comparability Determination is the first such order proposed by the Commission since adopting its regulatory substituted compliance framework for non-U.S. domiciled nonbank SDs in July 2020.[3]  The Commission is proposing this order in response to an application submitted by the Financial Services Agency of Japan (FSA), which has direct supervisory authority over the three Japanese nonbank SDs that are provisionally-registered with the Commission.

The Commission’s principles-based approach to the proposed determination focuses on whether the FSA’s capital and financial reporting requirements achieve comparable outcomes to the corresponding CFTC requirements.[4]  Specifically, the Commission has also considered the scope and objectives of FSA’s capital adequacy and financial reporting requirements; the ability of FSA to supervise and enforce compliance with its capital and financial reporting requirements; and other facts or circumstances the Commission has deemed relevant for this application.

Throughout its analysis, the Commission recognized that jurisdictions may adopt unique approaches to achieving comparable outcomes, and the Commission has focused on how the FSA’s capital and financial reporting requirements are comparable to its own in purpose and effect, rather than whether each are comparable in every particular aspect or contain identical elements.  In this regard, the approach was not a line-by-line assessment or comparison of FSA’s regulatory requirements with the Commission’s requirements.[5]

Consistent with the Commission’s authority to issue a Capital Comparability Determination with terms and conditions it deems appropriate, today’s proposed order contains 22 conditions.  These conditions aim to ensure that the proposed order, if finalized, would only apply to Japanese nonbank SDs that are eligible for substituted compliance and that these Japanese nonbank SDs comply with FSA’s capital and financial reporting requirements as well as certain additional capital, margin, position, financial reporting, required recordkeeping, and regulatory notice requirements.

If the Commission, upon consideration of the comments received, determines to issue a favorable comparability determination, an eligible Japanese nonbank SD would be required to file a notice of its intent to comply with FSA’s capital adequacy and financial reporting rules in lieu of the Commission’s requirements.[6]  The Commission (or the Market Participants Division through delegated authority) would then be obligated to confirm to the Japanese nonbank SD that it may comply with the foreign jurisdiction’s rules as well as any conditions that would be adopted as part of the final determination, and that, by doing so, it would be deemed to be in compliance with the Commission’s corresponding capital adequacy and financial reporting requirements.

I believe it is important to note that today’s proposed Capital Comparability Determination, if finalized, would not compromise the Commission’s capital and financial reporting requirements.  Instead, it recognizes the global nature of the swap markets with dually-registered SDs that operate in multiple jurisdictions that mandate prudent capital and financial reporting requirements.  A capital and financial reporting comparability determination order of this kind is not a compromise or deference to a foreign regulatory authority.  The Commission would retain its enforcement authority and examinations authority as well as obtain all financial and event specific reporting to maintain direct oversight of nonbank SDs located in Japan.

While the CFTC and the FSA have a pre-existing memorandum of understanding (MOU) in place, it is important to note that an MOU or a similar agreement is not necessary for the Commission and the National Futures Association to monitor these firms’ compliance with the conditions of a capital comparability determination.

I look forward to the public’s submission of comments and feedback on this proposed determination and order.

Looking beyond the proposed Japan Capital Comparability Determination on the Commission’s agenda today, the Commission will consider the proposed capital comparability determination for non-bank SDs domiciled in Mexico at a future date to allow for additional dialogue between CFTC staff and its international counterparts.

Separately, the Market Participants Division is actively considering whether to renew its no-action position in NAL 21-20, which currently expires on October 6, 2022.  MPD hopes to provide certainty to provisionally-registered nonbank SDs located in the four jurisdictions with a capital comparability determination that is under active Commission consideration as soon as practicable.

I wish to again thank the hardworking staff in the Division of Clearing and Risk and the Market Participants Division for all of their efforts towards bringing us here today.

Introduction

Good afternoon.  I am delighted to join you today.  Thank you to Brookings for hosting this event, to Aaron Klein for sitting down with me following my remarks, and to the distinguished panel participants.

In a 1984 New York Times article, astrophysicist Dr. Jeremiah P. Ostriker remarked, “The discrepancy between what was expected and what has been observed has grown over the years, and we’re straining harder and harder to fill the gap.”[1]  Ostriker was referring to findings that a vast majority of the mass in the universe is not detectable, but consists of “dark matter.”  While it is compelling to get into a discussion about the similarities between dark matter and digital assets—and indeed, at least one author has done so with respect to Bitcoin,[2] for me, the fact that I cannot actually see either is about as far down that rabbit hole as I want to go today.  What does resonate, since watching the cryptoverse develop and expand over the last several years, is that the space has not necessarily evolved in ways we may have anticipated.  Neither has our regulatory approach—and we are now straining harder and harder to fill that gap.

We are here today because digital assets are trending towards becoming a part of mainstream American portfolios, with surveys and polls demonstrating that as many as one in every five adults has invested in or otherwise used cryptocurrency.[3]  This market has developed in the absence of a firmly demarcated regulatory perimeter.  A massive influx of retail participants has further galvanized an industry eager to meet demand for products and services.  Each digital asset is empowered by the free, largely unfettered flow of information—the defining characteristic of the information age we are currently occupying—and relatively low barriers to access.

The onset of the current “crypto winter,” now blanketing the streets from Main to Wall, is further invigorating the call for a technology-neutral regulatory approach, guided by the risks within the crypto ecosystem, and not by risks within the underlying technology that makes it possible.[4]  The prior wintery mix of 2018 is attributed to a crypto mania bubble bursting, accelerated by the chilling effect of hacks, the failure of institutional support, and hard forks.  The current storm is brewing from macroeconomic factors, leverage built up by the emergence of new financial products, high risk investing, and contagion.

An Inflection Point

And so today marks yet another inflection point.  We find ourselves here largely because the digital asset industry in the U.S. does not fall under a single comprehensive regulatory regime.  Instead, the CFTC, other federal agencies, and state regulators are most often collectively compared to a patchwork blanket that is increasingly proving inadequate as temperatures drop and vulnerabilities lay bare.

While our oversight capabilities are generally complimentary, market regulation and financial supervision in the U.S. often relies on the development of cooperative arrangements between regulators—a challenge given jurisdictional inexactitudes and sometimes imprecise or nonexistent statutory authority.  This is made more difficult by the rapid emergence and development of the digital asset market which has largely taken place on the outskirts of the traditional financial market structures.  Each U.S. regulator is facing the challenge of melding mission, mandate, and monetary resources around products, processes, and participants, while preserving policy goals, risk principles, and avoidance of systemic risk.

The CFTC’s core responsibility is regulating the commodity derivatives markets.  Our focus is on how individuals and market participants use the derivatives markets as a means for managing and assuming price risks and exposures, discovering prices, and disseminating prices through trading in liquid, fair, and financially secure trading facilities.[5]  Our guiding statute, the Commodity Exchange Act (CEA), and regulations create a principles-based system aimed at accomplishing execution certainty by ensuring transparency, integrity, and security of transactions.  We facilitate customer protections through intermediary oversight and a robust disclosure regime aimed at informing customers about who they are dealing with and providing material information so that they understand the risks of participating in our markets and are prepared to accept that risk.

Today, our work is never done.  While there are a multitude of strategic decisions ahead, our policy goals are firm: reducing systemic risk, preserving market liquidity, and incentivizing market participants to use the derivatives markets to manage risk.

Crypto-Market Trajectory

Towards the end of 2017, the first bitcoin futures contracts were self-certified for trading by CME and the CBOE Futures Exchange, and the first bitcoin binary options were self-certified by the Cantor Exchange, bringing the first derivatives with an underlying digital asset commodity fully within the CFTC’s direct oversight.[6]  The increasingly rapid development of FinTech products like cryptocurrencies, and the corresponding demand for new and novel price discovery and risk management tools, meant that the Commission had to utilize its authority and expertise to ensure that the markets we oversee innovate responsibly within an appropriate oversight framework.  At that time, I urged for greater action to provide legal certainty with respect to the process for evaluating new products.[7]  Innovators and regulators alike were dealing with an emerging asset class in what was, for the most part, a regulatory vacuum.  For the CFTC, I believed it was critical that we engage with industry in addressing risk, provide legal and regulatory certainty to the market, and educate the general public.

With our highest priorities being the protection of customer property and promotion of safe, transparent derivatives markets, our engagement and vigilance could not wane in the face of criticism of bureaucratic stall, undermining innovation and the free market approach.

About 7 months later, I delivered remarks at the very first Blockchain for Impact global summit at the United Nations Headquarters.[8]  By then we were already seeing that further developments in the digital asset space were not necessarily going to progress positively in the straight line that optimists and early adopters had envisioned.  The debate on crypto was just beginning, but two points were already clear: (1) crypto assets respect no borders, and (2) regulation was already behind the curve.

While some countries had already outlawed crypto and others had swiftly adopted strict laws to oversee them, many just paused in bewilderment, avoidance, or in abeyance as other jurisdictions took the lead.  The U.S., with our multiple-regulator approach, could best be described as ad hoc.  Though there was no clear direction from the Administration or Congress at the time, there was no clear and present danger to the existing economic system to warrant a coordinated, collective strategy yet because the overall size and development of the digital asset markets were still in their nascent stage.

By 2019, we were deep in contemplation with regard to the greater FinTech agenda which resulted in a collective analysis paralysis.  After reflecting on the past success of coordinated frameworks to address technological inflection points,[9] possible solutions started emanating.  It took a few years, but I am pleased an initiative is now underway thanks to President Biden’s Executive Order on Ensuring Responsible Development of Digital Assets.[10] 

The Covid 19 global pandemic created an especially fertile ground for crypto-development.  By February of this year, as I testified before Congress,[11] there were hundreds of thousands of unique digital assets in circulation with a combined market capitalization of approximately $2 trillion.  At the center of this burgeoning industry are the trading platforms where most investors access this market.  Several of these platforms operate on a global scale and host marketplaces for trading both in the underlying digital assets and the derivative contracts referencing those assets.  According to public data, every month in 2021 except one saw over $1 trillion in monthly trading volume in the digital asset cash market, with a high of $2.23 trillion in trading volume in May 2021.[12]  And the derivatives market is even larger, with notional exchange volumes in just bitcoin futures surpassing those numbers.[13]

Since February—and perhaps a bit before, cryptocurrency prices have tumbled, with the price of bitcoin down 70% from highs in November.[14]  The market value of the top 500 crypto tokens has dropped to less than $1 trillion, down from a high of $3.2 trillion.[15]  The May collapse of TerraUSD (UST) stablecoin, the world’s fourth largest stablecoin at the time, rocked the cryptoverse, and since then we have witnessed events that demonstrate how technology alone cannot make this market failsafe and volatility, leverage, interconnections, and contagion manifest in the crypto-asset ecosystem through precisely the same channels and in response to the exact same macro-economic pressures as our traditional financial markets.

This crypto-winter is getting anything but an icy response, and, given what we have seen with the tech mania of the dot.com era or the subprime frenzy, there are no signs that the growth and progress to date will be frozen.[16]  Washington is finding itself in a flurry of calls to action for international engagement and inter-agency action to address the risks of digital assets.[17]

The CFTC: Same Risk Regulator, Same Regulatory Success

The CFTC is ready and well situated to address the risks in the cash markets for digital assets through direct oversight.  At its core, the CFTC is a markets-focused regulator that works to ensure market integrity and vibrancy through oversight of exchanges and clearinghouses that are required to comply with well-established core principles and regulations, as well as through oversight of market intermediaries and participants.  The CFTC’s focused principles-based approach to customer protection, market integrity, price discovery, transparency, competition and enforcement have proven effective throughout the evolution of our jurisdictional markets and related markets, even in times of volatility.

While the CFTC does not have direct statutory authority to regulate cash markets, the CFTC maintains anti-fraud, false reporting, and anti-manipulation enforcement authority over commodity cash markets in interstate commerce.  When the CFTC becomes aware of potential fraud or manipulation in an underlying market, we investigate and address misconduct through our enforcement authority.

In the digital asset space, since 2014, the CFTC has aggressively exercised its enforcement authority, bringing more than 50 enforcement actions.  As the digital asset markets have grown in size and retail participation, so has the number of CFTC enforcement actions.  In FY 2021, the CFTC filed more than 20 enforcement actions alleging digital asset-related misconduct, including numerous cases charging retail fraud involving digital assets[18] and cases charging platforms with illegally offering off-exchange trading in digital assets.[19]

Thus far in FY 2022, the CFTC has filed several enforcement matters involving digital assets, including an action for making untrue or misleading statements and omissions of material fact in connection with the U.S. dollar tether token (USDT) stablecoin.[20]  The Commission recently filed a complaint involving allegations for making false or misleading statements of material facts or omitting to state material facts to the CFTC in connection with the self-certification of a bitcoin futures product.[21]  Last month, the CFTC filed a complaint against a commodity pool fraudulently soliciting bitcoin from members of the public.[22]  The pool accepted more than $1.7 billion in bitcoin – the largest fraudulent scheme involving bitcoin charged in any CFTC case.  Just last week, the Commission announced the successful resolution of its first enforcement action alleging a digital asset “pump-and-dump” scheme. [23]

These numbers do not reflect the breadth and depth of tips, complaints, and referrals the CFTC receives daily relating to potential misconduct in the digital asset space.  Our approach from triage to filing is strategic, tactical, and involves a high degree of analytical work and cooperation with our fellow regulators.  But the truth is that the existing ambiguities force hard decisions at the CFTC—as they do with our fellow regulators.  Even the strongest cooperative relationships may not yield the efficiency we need to put hard and fast stops to misconduct that increasingly has impacts beyond individual investors.  Our guiding principle at the CFTC and throughout the government must be to stop fraudulent and manipulative conduct that harms our markets and those who participate in them.  This means that we must work closely with our local, state, and federal partners to ensure that the government uses its strongest authority to bring those who harm our markets to justice.

Where there is direct, unambiguous impact on the integrity of CFTC jurisdictional markets or members of the public, an immediate, comprehensive enforcement-driven response from the CFTC is warranted.  We will continue to use our enforcement authority to the fullest extent, and leverage our cash market expertise as a function of our historical mandate over the derivatives markets and assert essential oversight within our current statutory remit.

To be clear, the CFTC’s oversight authority over all cash markets for commodities in interstate commerce is not currently at issue.  However, there are several unique elements of the digital asset commodity cash market that distinguish it from other cash commodity markets, suggesting it would benefit greatly from CFTC oversight.  The most notable difference between the digital asset market and other commodity markets is the level of retail participation.  Most commodity derivative markets, such as the agriculture and energy markets, are dominated by wholesalers, end-users and institutional investors engaging in hedging and other risk management transactions.  However, the digital asset market is characterized by a high level of retail participants that are engaged in price speculation.

Recent CFTC studies find that trading indicative of retail participants makes up approximately 25% of long open interest in the Bitcoin futures market, which is significantly higher than is generally observed in other futures markets, such as corn, soybeans, wheat, WTI crude, gold, and S&P E-mini futures, where retail long open interest ranges from 5% to 11%.[24] These studies suggest the amount of retail participation in the digital asset futures market is more than double that in other futures markets.

The barrier to entry in the digital asset space is lower than traditional financial markets, and crypto presents an opportunity to build wealth by those who have found themselves shut out.  However, these same groups are less likely to have the financial resources to absorb losses.  Declining digital assets prices could mean significantly more severe losses for lower-income investors,[25] with knock-on effects penetrating the greater economy.

Most investors in the cash market entrust their digital assets to the platforms upon which they trade, failing to differentiate this type of custody arrangement from that offered by the traditional regulated banking industry.  The technical complexities around securing and transacting in digital assets, particularly issues around custody, have resulted in numerous platforms losing funds to hacks, exploits, and poor cyber security.

And, while participants in the digital asset market may seem to be interacting with exchanges and intermediaries structured like those seen in other financial markets, the lack of a comprehensive regulatory regime applicable to businesses operating in the digital asset market has led to inconsistent practices around issues such as trade settlement, conflicts of interest, data reporting, and cyber security.

All of this suggests that, as with any trading market, the digital asset market would benefit from uniform imposition of requirements focused on ensuring certain core principles, including market integrity, customer protection, and market stability.

In the Mean Time…

I am encouraged by the bipartisan and bicameral support for legislation that recognizes the need for guardrails around the burgeoning digital asset economy and calls for regulation to impart transparency, accountability, stability, customer protections, and oversight across the cryptoverse.  While we cannot predict any legislative outcomes, the CFTC will continue to aggressively and relentlessly press forward in the digital asset commodity space within its historical remit.  I will ensure that the CFTC continues to use our existing enforcement authority to its fullest extent in the digital asset commodity space to protect customers from fraud and manipulation.  In so doing, we will work with our domestic counterparts to ensure that no fraudulent or manipulative activity falls through a gap between regulators.  And I will ensure that the CFTC continues to share our experience and expertise in support of work with our domestic and international counterparts towards a comprehensive and coordinated oversight approach.

As the new technological era has embraced our markets, the power of social media, coupled with the ease and speed of access, has broken down barriers.  As new participants and infrastructure providers increasingly access, impact, and shape the automated aspects of our markets, there is greater concern that in this environment— which can be game-like— there are built in limits and supervision, or that there is constant monitoring for risky behaviors— and risk generally.

Regulators must be nimble, and new challenges may require us to dig deeper, take a different look into how our organic statutes promote our growth alongside the markets we regulate.  In the absence of new legislative authority, we at the CFTC continue to look at how we can work to protect markets and investors within the bounds of our existing authority.  We have (and will forcefully utilize) our fraud and manipulation enforcement authority.  But, given the regulatory vacuum, we are also thinking creatively about how else we can use our existing regulatory authority to protect retail commodity markets and investors.  Make no mistake: we will use all levers at our disposal, and all relevant authorities to continue rooting out fraud and manipulation.

Looking Forward

Many here may be familiar with our engagement with financial technology innovators through LabCFTC.  Although less public, the CFTC’s efforts related to digital assets have evolved with the market, and we are now engaged in a more proactive and comprehensive effort across the agency to regulate these markets with the tools currently available to us.

For example, many digital asset-related companies now operate CFTC-registered exchanges, and our Division of Market Oversight is regularly reviewing new products tied to digital assets both from these new entrants and from more traditional registrants.  I have asked the staff to be proactive in considering the extent to which our authority can be leveraged to bring these novel products into the regulatory fold to ensure important protections for customers and market integrity provided by CFTC regulation.

Also, the digital asset market has been at the center of numerous proposals around non-intermediated access to our markets, and the Division of Clearing and Risk and Markets Participants Division have been leading engagement with the public as well as with internal experts as to the impact of these novel market structures on the regulatory principles the CFTC upholds.

These and numerous other examples demonstrate that we have moved past the stage of digital assets as a research project.  Our core policy divisions are now directly addressing how the CFTC can leverage our existing authority to bring important regulatory protections to this market.  Through our work, we have developed a deep understanding of this novel market and the underlying innovations that fuel the market.

To that end, I would like to take the opportunity today to announce that LabCFTC is evolving in new ways and will take on a new identity as the Office of Technology Innovation (OTI) with an updated operating model.  There is now a real intersection between the financial innovations and our markets that did not exist even a few years ago when former Chairman Giancarlo ambitiously and appropriately established LabCFTC as a means to accelerate CFTC engagement with fintech innovators.  As I testified in February, we are past the incubator stage, and digital assets and decentralized financial technologies have outgrown their sandboxes.

The issues are at the front and center of our thinking at the Commission, and with a greater acceptance of the role of regulators, innovators need no invitation to office hours to engage directly with our operating divisions and senior leadership.  Our resources will be better utilized through an Office of Technology Innovation, reporting directly to the Chairman’s office and staffed by a Director, a FinTech Policy and Technology Specialist, a strategic Communications and Education leader, and rotational opportunities for all CFTC employees to gain exposure and expertise.

OTI will continue to lead the CFTC’s efforts in incorporating innovation and technology into our regulatory oversight and mission critical functions, and it will do so purposefully by supporting the operating divisions and the Commission’s participation in domestic and international coordination.  But OTI will also have an opportunity to evolve within its new structure and have flexibility to meet needs both internally at the Commission and externally in the regulatory space and in the markets.

Another change we are making is the realignment of the Office of Customer Education and Outreach within the Office of Public Affairs.  This strategic alignment will leverage resources and a broader understanding of the issues facing the general public towards addressing the most critical needs in the most vulnerable communities.  The importance and need for this critically important responsibility of educating and protecting the public cannot be overstated.  Indeed, according to the Federal Trade Commission, since the start of 2021, more than 46,000 people have reported losing over $1 billion in crypto to scams, with the median individual reported loss at $2,600.[26]  With the top cryptocurrencies used to pay scammers identified as Bitcoin (70%), Tether (10%), and Ether (9%),[27] our mandate is clear.

Conclusion

At this point, I fear these remarks may have expanded further than I had anticipated and have not only filled the gap, but have spilled over.  It’s the nature of the cryptoverse—there is always more to explore.

I chose to focus on what I believe is most pressing in terms of the CFTC’s mission and the risks on both sides of our streets.  As other government agencies consider how FinTech impacts federal policy related to payments, custody, illicit activity, national security and a host of other issues, I anticipate they too will advocate for greater authority.  Our individual missions should not diminish our efforts towards a coordinated federal approach in this area, and the CFTC will continue to be a proactive participant in the process.

Thank you for your generous time. I look forward to your questions.

I am disappointed that Shanghai Clearing House (SHCH) is again receiving an extension of relief permitting it to clear swaps for the proprietary accounts of SHCH clearing members that are U.S. persons or affiliates of U.S. persons.  SHCH has for too long been permitted to do so without registering with the Commodity Futures Trading Commission (CFTC or Commission) as a derivatives clearing organization (DCO) or obtaining from the Commission an exemption from registration as a DCO.  I am troubled by SHCH’s lack of engagement with Commission staff regarding its application for an exemption from DCO registration, its sudden re-engagement as the expiration date for its prior no-action letter looms, and issues surrounding the feasibility of securing a memorandum of understanding with the People’s Bank of China (PBOC) that satisfies the requirements for such an exemption.

A DCO’s eligibility for an exemption from registration as a DCO is based upon meeting certain requirements.  One critical requirement is that

A memorandum of understanding or similar arrangement satisfactory to the Commission is in effect between the Commission and the [DCO’s] home country regulator, pursuant to which, among other things, the home country regulator agrees to provide to the Commission any information that the Commission deems necessary to evaluate the initial and continued eligibility of the [DCO] for exemption from registration or to review its compliance with any conditions of such exemption.[1]

The CFTC does not currently have a memorandum of understanding with the PBOC.  Nor did the CFTC have such a memorandum of understanding in 2016, when SHCH first received relief, or at any time since then.  Nevertheless, this relief to SHCH has been extended time and time again, and it is now being extended for a seventh year.

I appreciate the global nature of the markets we regulate and the need for the CFTC to work in coordination with our counterparts in other jurisdictions.  Indeed, the CFTC has been a leader in international regulatory cooperation, and this coordination is memorialized in memoranda of understanding between the CFTC and many other regulators.  But six years after SHCH first sought an exemption from the Commission’s DCO registration requirement, we are still unable to arrive at an adequate memorandum of understanding with the PBOC.  Six years’ worth of relief is beyond what should be considered a reasonable amount of flexibility and international diplomacy.

The PBOC, SHCH, and SHCH’s clearing members that are U.S. persons or affiliates of U.S. persons should not be able to avoid Commission requirements through perpetual extensions of no-action relief.