    [Senate Hearing 106-922]
    [From the U.S. Government Publishing Office]

                                                            S. Hrg. 106-922

            S. 2697--THE COMMODITY FUTURES MODERNIZATION ACT OF 2000

    =======================================================================

                                 JOINT HEARING

                                   before the

                           COMMITTEE ON AGRICULTURE,
                            NUTRITION, AND FORESTRY
                              UNITED STATES SENATE

                                    and the

                COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS

                           ONE HUNDRED SIXTH CONGRESS

                                 SECOND SESSION

                                       ON

            S. 2697--THE COMMODITY FUTURES MODERNIZATION ACT OF 2000

                                   __________

                                 JUNE 21, 2000

                                   __________

                           Printed for the use of the
               Committee on Agriculture, Nutrition, and Forestry

                       U.S. GOVERNMENT PRINTING OFFICE
    69-533                     WASHINGTON : 2001

    _______________________________________________________________________
                For sale by the U.S. Government Printing Office
    Superintendent of Documents, Congressional Sales Office, Washington, DC
                                     20402

               COMMITTEE ON AGRICULTURE, NUTRITION, AND FORESTRY

                      RICHARD G. LUGAR, Indiana, Chairman

    JESSE HELMS, North Carolina          TOM HARKIN, Iowa
    THAD COCHRAN, Mississippi            PATRICK J. LEAHY, Vermont
    MITCH McCONNELL, Kentucky            KENT CONRAD, North Dakota
    PAUL COVERDELL, Georgia              THOMAS A. DASCHLE, South Dakota
    PAT ROBERTS, Kansas                  MAX BAUCUS, Montana
    PETER G. FITZGERALD, Illinois        J. ROBERT KERREY, Nebraska
    CHARLES E. GRASSLEY, Iowa            TIM JOHNSON, South Dakota
    LARRY E. CRAIG, Idaho                BLANCHE L. LINCOLN, Arkansas
    RICK SANTORUM, Pennsylvania

                           Keith Luse, Staff Director

                        David L. Johnson, Chief Counsel

                          Robert E. Sturm, Chief Clerk

                Mark Halverson, Staff Director for the Minority

                                   __________

    ?

                COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS

                          PHIL GRAMM, Texas, Chairman

    RICHARD C. SHELBY, Alabama           PAUL S. SARBANES, Maryland
    CONNIE MACK, Florida                 CHRISTOPHER J. DODD, Connecticut
    ROBERT F. BENNETT, Utah              JOHN F. KERRY, Massachusetts
    ROD GRAMS, Minnesota                 RICHARD H. BRYAN, Nevada
    WAYNE ALLARD, Colorado               TIM JOHNSON, South Dakota
    MICHAEL B. ENZI, Wyoming             JACK REED, Rhode Island
    CHUCK HAGEL, Nebraska                CHARLES E. SCHUMER, New York
    RICK SANTORUM, Pennsylvania          EVAN BAYH, Indiana
    JIM BUNNING, Kentucky                JOHN EDWARDS, North Carolina
    MIKE CRAPO, Idaho

                       Wayne A. Abernathy, Staff Director

         Steven B. Harris, Democratic Staff Director and Chief Counsel

                                      (ii)

                                C O N T E N T S

                                  ----------
                                                                       Page

    Hearing:

    Wednesday, June 21, 2000, S. 2697--The Commodity Futures
      Modernization Act of 2000......................................     1

    Appendix:
    Wednesday, June 21, 2000.........................................    47
    Document(s) submitted for the record:
    Wednesday, June 21, 2000.........................................    93

                                  ----------

                            Wednesday, June 21, 2000
                        STATEMENTS PRESENTED BY SENATORS

    Lugar, Hon. Richard G., a U.S. Senator from Indiana, Chairman,
      Committee on Agriculture, Nutrition, and Forestry..............     1
    Gramm, Hon. Phil, a U.S. Senator from Texas, Chairman, Committee
      on Banking, Housing, and Urban Affairs.........................     3
    Bennett, Hon. Robert F., a U.S. Senator from Utah................    25
    Fitzgerald, Hon. Peter G., a U.S. Senator from Illinois..........    21
    Grams, Hon. Rod, a U.S. Senator from Minnesota...................    30
    Harkin, Hon. Tom, a U.S. Senator from Iowa, Ranking Member,
      Committee on Agriculture, Nutrition, and Forestry..............     5
    Sarbanes, Hon. Paul S., a U.S. Senator from Maryland, Ranking
      Member, Committee on Banking, Housing, and Urban Affairs.......    11
    Kerrey, Hon. J. Robert, a U.S. Senator from Nebraska.............    23
    Schumer, Hon. Charles E., a U.S. Senator from New York...........    27
                                  ----------

                                   WITNESSES
                                    PANEL I

    Greenspan, Hon. Alan, Chairman of the Board of Governors of the
      Federal Reserve System, Washington, DC.........................     9
    Summers, Hon. Lawrence, Secretary of the U.S. Department of the
      Treasury, Washington, DC.......................................     6

                                    PANEL II

    Levitt, Hon. Arthur, Chairman of the Securities and Exchange
      Commission, Washington, DC.....................................    32
    Rainer, Hon. William, Chairman of the Commodity Futures Trading
      Commission, Washington, DC.....................................    34
                                  ----------

                                    APPENDIX

    Prepared Statements:
        Lugar, Hon. Richard G........................................    48
        Fitzgerald, Hon. Peter G.....................................    50
        Santorum, Hon. Rick..........................................    56
        Edwards, Hon. John...........................................    57
        Craig, Hon. Larry E..........................................    59
        Greenspan, Alan..............................................    66
        Levitt, Arthur...............................................    73
        Rainer, William..............................................    85
        Summers, Lawrence............................................    60
    Document(s) submitted for the record:
        Position statement of the Bond Market Association, submitted
          by Frank R. Hampton, Vice President Legislative Affairs....    94

      HEARING ON S. 2697--THE COMMODITY FUTURES MODERNIZATION ACT OF 2000

                                  ----------

                            WEDNESDAY, JUNE 21, 2000

                                           U.S. Senate,
    Committee on Agriculture, Nutrition, and Forestry, and the
               Committee on Banking, Housing and Urban Affairs,
                                                        Washington, DC.
        The Committees met jointly, pursuant to notice, at 10:07
    a.m., in room 106, Dirksen Senate Office Building, Hon. Richard
    G. Lugar, (Chairman of the Committee on Agriculture, Nutrition
    and Forestry,) presiding.
        Present or submitting a statement: Senators Lugar, Gramm,
    Bennett, Fitzgerald, Santorum, Grams, Harkin, Sarbanes, Dodd,
    Kerrey, Conrad, Johnson, and Schumer.

    OPENING STATEMENT OF HON. RICHARD G. LUGAR, A U.S. SENATOR FROM
      INDIANA, CHAIRMAN, COMMITTEE ON AGRICULTURE, NUTRITION, AND
                                FORESTRY

        The Chairman. This hearing of the Senate Agriculture
    Committee and the Senate Banking Committee, held jointly, is
    open for business. Today I would simply point out the
    Agriculture Committee and the Banking Committees will hear
    testimony from members of the President's Working Group in
    regard to Senate Bill 2697, legislation to provide legal
    certainty to the over-the-counter derivatives market and to
    reauthorize and to reform the Commodity Exchange Act. The
    Commodity Exchange Act expires on September 30 of this year and
    the Senate Agriculture Committee is charged with reauthorizing
    this statute.
        However, we cannot accomplish this endeavor without the
    strong assistance and cooperation of members of the Senate
    Banking Committee. I am very pleased to have the distinguished
    Chairman of the Senate Banking Committee, Senator Phil Gramm of
    Texas, joining me as a cosponsor of this important legislation.
    We look forward to working with the Banking Committee as the
    legislation proceeds.
        Our legislation has been several years in the making. The
    Senate Agriculture Committee held a two-day roundtable of 19
    industry experts in February 1999 to discuss the policies
    surrounding CFTC reauthorization. Asked to prioritize the
    issues of importance, most panelists thought legal certainty to
    be the most pressing issue. Others suggested repeal of the
    Shad-Johnson Accord and that testimony included Phil Johnson,
    former CFTC chairman and one-half of the accord's namesake, and
    several mentioned regulatory relief for the futures exchanges
    as an important priority.
        Today's hearing representing our committee's fifth public
    forum on CFTC reauthorization in the last 18-months will hear
    testimony regarding how all of these issues are addressed in
    our legislation.
        Signed into law in 1974, the modern Commodity Exchange Act
    requires that futures contracts be traded on a regulated
    exchange. As a result, a futures contract that is traded off an
    exchange is illegal and unenforceable in a court of law. When
    Congress enacted this act, the meaning of the terms ``future''
    and ``exchange'' were relatively apparent and the over-the-
    counter derivatives business was in its in infancy.
        In the 26-years since the statute's creation, however, the
    definitions of a swap and a future began to blur. In 1998 the
    CFTC released its concept release on over-the-counter
    derivatives, which was perceived by many as a precursor to
    regulating those instruments as futures. Just the possibility
    of reaching this conclusion threatened to move significant
    portions of the business overseas. This led the Treasury
    Department, the Federal Reserve and the SEC to ask Congress to
    enact a moratorium on the CFTC's ability to regulate these
    instruments until after the President's Working Group could
    complete a study of the issue.
        As a result, Congress passed a 6-month moratorium and in
    November 1999 the President's Working Group completed its
    unanimous recommendations on derivatives and presented Congress
    with those findings. This legislation adopts many of the
    unanimous recommendations of the Working Group's report,
    including an exclusion for over-the-counter derivatives
    transacted on an electronic exchange and a clarification of the
    so-called Treasury Amendment.
        Another important recommendation of the Working Group was
    to authorize futures clearing facilities to clear over-the-
    counter derivatives in an effort to lessen systemic risk. This
    bill incorporates that finding.
        The second major section of this legislation addresses
    regulatory relief for the futures market. In February, the
    CFTC, under the leadership of Chairman Bill Rainer, issued a
    thoughtful proposal that would provide relief to futures
    exchanges and their customers. Instead of listing specific
    requirements for complying with the act, the proposal would
    require exchanges to meet internationally agreed upon core
    principles. The CFTC proposal tailors regulation for exchanges
    based on whether the underlying commodity can be manipulated or
    whether the users of the exchange are institutional. Our
    legislation incorporates this framework.
        The bill's last major section addresses the Shad-Johnson
    Jurisdictional Accord, which banned single-stock futures in
    1982. The Working Group unanimously agreed that the accord can
    be repealed if regulatory disparities are resolved between
    futures and securities. In December Senator Gramm and I sent a
    letter requesting that the CFTC and the SEC make
    recommendations on reforming the Shad-Johnson Accord. The SEC
    and the CFTC responded that although progress had been made,
    the agencies could not resolve these issues before October of
    this year.
        Disappointment with this answer led Senator Gramm and me to
    once again ask the agencies to attempt to resolve the problems
    surrounding lifting the ban. Unfortunately, an agreement within
    our legislative timeframe was not reached and we have decided
    to move forward with our legislation.
        This legislation would repeal the prohibition on single-
    stock users and allow these products to trade on either a CFTC-
    regulated futures exchange or an SEC-regulated securities
    exchange. Our bill also would provide for joint jurisdiction
    with each agency maintaining its core authorities over the
    trading of single-stock users. The legislation would further
    require that margin levels on these products be harmonized with
    the options market.
        The goal of the legislation is to ensure that the United
    States remains a global leader in the derivatives marketplace.
    Already the United States has lost much of its leadership role
    in the exchange-traded futures markets in Europe and the over-
    the-counter market may not be far behind. Congress has a good
    opportunity at this point to reverse this tide by enacting
    sound legislation this year.
        For my own part, I am hopeful that the Agriculture
    Committee can mark up this legislation prior to the July 4
    recess, namely, next week.
        The importance of this legislation is reflected by the
    witnesses assembled before us today and we are grateful for
    each one of them. Our first panel consists of the head of to
    President's Working Group, the Honorable Lawrence Summers,
    Secretary of the United States Department of the Treasury, and
    the Honorable Alan Greenspan, Chairman of the Federal Reserve
    System. Our second panel will consist of the Honorable Arthur
    Levitt, Chairman of the SEC, and the Honorable Bill Rainer,
    Chairman of the CFTC. We look forward to their insights
    regarding their agencies' discussions on the Shad-Johnson
    accord, as well as on all of the other issues.
        [The prepared statement of Senator Lugar can be found in
    the appendix on page 48.]
        It is now a privilege to turn to my distinguished
    colleague, Senator Gramm, for his opening remarks.

       OPENING STATEMENT OF HON. PHIL GRAMM, A U.S. SENATOR FROM
       TEXAS, CHAIRMAN, COMMITTEE ON BANKING, HOUSING, AND URBAN
                                AFFAIRS

        Senator Gramm. Mr. Chairman, let me first thank you for
    your leadership on this issue. Let me say for the record that
    it has been a great privilege to work with you and the
    excellent staff of the Agriculturee on this bill.
        This is an effort that has been undertaken by the
    Agriculture and Bamking Commmittees to do something that is
    both important and, obviously, very difficult.
        Whenever we work in areas that are cross-jurisdictional in
    Congress, those differences sometimes become barriers to
    legislative action, and I want to congratulate you for your
    leadership in seeing that, that has not happened in this
    important area.
        As I see this bill, we are trying to do three simple things
    that may not create great excitement among American consumers,
    but they are very important and affect the well-being,
    prosperity and financial security of everybody who works,
    saves, invests and benefits from living and working in the
    greatest economy in the history of the world.
        We want legal certainty for swaps. Most people do not know
    what swaps are. I am almost incapable of fathoming the volume
    of swaps in dollar value. When I heard the number as we first
    started discussing this issue, I was convinced that an error
    had been made and that someone had mistakenly said trillions
    instead of billions; I was wrong. This is a huge, critically
    important markets, and we cannot allow uncertainty about the
    enforceability of these contracts to stand.
        We are all aware that uncertainty occurs because of the
    off-exchange trading prohibition in the Commodities Exchange
    Act. If the Commodities Futures Trading Commission deemed these
    swaps to be futures, that would create this legal uncertainty.
        I believe that a similar uncertainty could be created if
    the SEC deemed them securities and then argued that they were
    being traded without fulfilling the reporting requirements of
    the Securities and Exchang4e Commission statute.
        Also, it is important for us to note that while two of the
    most enlightened people who have ever served now head the CFTC
    and SEC, we have no guarantee that, that leadership is going to
    remain in the future and regulation doth abhor a vacuum. So, I
    think it is very important that we have legal certainty as it
    relates to both CFTC and the SEC
        Let me also say that we had hoped, Mr. Chairman, and I know
    you had hoped, that we could get the CFTC and the SEC to work
    out an agreement as to how they were going to regulate the new
    instruments that would be created futures on individual stocks.
    The SEC and CFTC made a legitimate effort, but they were unable
    to reach a conclusion as to how to share this regulatory
    authority.
        Ultimately, I have not given up hope that this can be
    worked out. It is important that it be worked out so that these
    two important regulatory entities can do what they do best. We
    need the SEC in all areas to exercise its authority on anti-
    fraud and insider trading. We need the CFTC doing the things it
    can do. I think an agreement as to how they can share
    regulatory responsibility on individual futures could also
    affect areas where there are still legitimate regulatory
    concerns concerning swaps.
        Second, this bill does provide a new financial instrument
    that in my opinion is long overdue. There are problems in
    providing it in that we have to harmonize margins, we have tax
    differences between options and futures, but none of these
    problems is insurmountable. We try to deal with them in this
    bill, and I am sure we will refine the bill as we go along.
        And finally, this bill does begin regulatory relief. I am
    hopeful that by the end of the bill, we can go further. I do
    not believe that we have done what we should do in providing
    regulatory relief. The world is very different today than it
    was in 1934, when we were willing to trade tremendous
    regulatory burden for transparency. It was the right decision
    to make at the time, but with modern technology, with the
    evolution of markets, we have transparency at levels that never
    existed before.
        We have competition from all over the world that would very
    much like to see this goose that lays the golden egg, these
    financial markets, roosting in their coop. They are trying to
    do things to attract it. They are unifying markets. They are
    reducing regulatory burden. I believe that we need to do it. No
    one can convince me that the regulations necessary to protect
    my parents are the same regulations that are necessary to
    protect my children in today's financial markets.
        We would do well, Mr. Chairman, to remember the Lincoln's
    adage that to ask a society to live under old and out-moded
    laws, and I think you could say the same about regulation, is
    like asking a man to wear the same clothes he wore when he was
    a boy.
        We need a comprehensive review of the regulatory burden in
    financial markets. We need to challenge every regulation and
    every law as to benefits versus costs, and when the costs
    exceed the benefits, we either need to change, overturn or
    repeal that regulation as law.
        Mr. Chairman, you have made an important start here. I want
    to congratulate you for it. We face a difficult challenge in an
    election year and the waning days of this Congress, but this is
    an important issue and, Mr. Chairman, I want to commit to you
    that I intend to work hard to try to help you be successful.
        The Chairman. Well, thank you very much, Chairman Gramm. I
    appreciate those comments and your testimony.
        Let me try to lay out a format that I hope will be
    agreeable. I am going to call now upon the distinguished
    Ranking Member of the Agriculture Committee for an opening
    statement and upon his appearance, Senator Sarbanes as the
    Ranking Democratic member on the Banking Committee.
        I will ask other members, if I may, to forego opening
    statements so that we may hear the witnesses. We will have a
    round of questioning with no more than 5-minutes per Senator
    because we do have two distinguished panels and we have two
    committees.
        So unless there are strong objections to that format, we
    will try to proceed on that basis and I will call now upon
    Senator Harkin for his testimony, his opening statement.

      STATEMENT OF THE HON. TOM HARKIN, A U.S. SENATOR FROM IOWA,
       RANKING MEMBER, COMMITTEE ON AGRICULTURE, NUTRITION, AND
                                FORESTRY

        Senator Harkin. Thank you very much, Chairman Lugar and
    Chairman Gramm. And we welcome Senator Sarbanes and other
    members of the Committee on Banking, Housing and Urban Affairs.
        I appreciate this opportunity to hear the views of the
    Members of the President's Working Group on Financial Markets
    concerning the legislation introduced by Senators Lugar, Gramm
    and Fitzgerald. I especially want to commend you and thank you,
    Chairman Lugar, for your conscientious work in crafting this
    important legislation.
        I have said before that when it comes to derivatives and
    everything else that we are dealing with here in terms of
    complexity, the subject matter of this legislation surely
    rivals anything that ever comes before our committee, with the
    possible exception of dairy policy. That may be more
    convoluted.
        The issues are indeed complicated. Their resolution has
    tremendous ramifications in the markets. The bill that has been
    introduced clearly reflects the hard work that Chairman Lugar
    and his staff has put into it. And, for the most part, it
    carefully follows the recommendations of the President's
    Working Group, provides legal certainty for over-the-counter
    derivatives, ensures regulatory relief for futures exchanges
    and brings clarity to the Treasury Amendment, finally, in the
    treatment of certain hybrid instruments, generally modernizes
    the Commodity Exchange Act to take into account the rapid pace
    of change in the financial markets and in technology. It seeks
    to maintain and strengthen the protection of investors in the
    public interest.
        To be sure, there are a number of issues that require
    further attention. I look forward to working with the Chairman,
    the Regulatory agencies and other parties to resolve the
    remaining issues.
        As we continue to work on this legislation, we, in essence,
    have a balancing act to perform. To be sure, there is a real
    need for legal certainty, for modernizing and reforming
    regulations. I just Chairman Gramm saying about the old
    Jeffersonian quote about--in fact, it is engraved in the
    Jefferson Monument down here, about expecting the adult to wear
    the clothes of childhood would be the same as expecting the
    Nation to live by the laws of its ancestors.
        But, at the same time, we must ensure that investors are
    protected and that we do not create disparities in regulation
    and in competitive positions of the various types of financial
    markets.
        Without a doubt, we now have a truly global financial
    market. The regulatory climate should not hinder; should
    enhance the competitive position of U.S. markets and firms.
    However, when it comes to international competitiveness, there
    is also a tremendous value to the integrity, safety and
    soundness of markets, an area where the U.S. has excelled. The
    cost of transactions is important but over time, money will
    flow to markets where integrity, safety and soundness are
    adequately protected. To me, that is the bottom line. Thank you
    very much, Mr. Chairman.
        The Chairman. Well, thank you very much, Senator Harkin. I
    commend you again for your thoughtfulness in working with us.
    Members of the Democratic staff, in a bipartisan way, have been
    working on this legislation and we appreciate that.
        At this point it is my privilege to recognize in the order
    that I have introduced the witnesses, the distinguished
    Secretary of the Treasury. He has been a good friend of our
    committee, coming before us not in each of these five
    iterations of the CFTC but in many of them, and in his role
    with the Working Group has already made a contribution, I
    believe, to American financial security.
        Secretary Summers.
        Senator Dodd. Mr. Chairman, before you do that, I presume
    that opening statements in which we lavish praise on you and
    Senator Gramm are appropriate?
        The Chairman. Oh, they would be welcome, published in full.
    Thank you.
        Mr. Summers.

     STATEMENT OF THE HON. LAWRENCE SUMMERS, SECRETARY OF THE U.S.
              DEPARTMENT OF THE TREASURY, WASHINGTON, DC.

        Secretary Summers. Chairman Lugar, Chairman Gramm, Ranking
    Members Harkin and Sarbanes, members of these Committees, thank
    you for giving me the opportunity to testify before you once
    again on the Commodities Futures Modernization Act.
        This is, as your opening statements recognized, an issue
    that the President's Working Group has grappled with for some
    time and it is an issue that these committees have been
    grappling with for some time.
        I believe it is a matter of great importance to the future
    of our financial system and to the future of our economy to
    move ahead with legislation that provides legal certainty for
    swaps and OTC derivatives transactions. And I believe that such
    legislation is now within our grasp, with the unanimous
    agreement of the President's Working Group and the very
    substantial consensus that has formed in the central area of
    legal certainty for OTC derivatives among members of these
    committees, members of the House of Representatives and the
    various constituencies.
        I believe that if anything, the events of the last year, as
    we have seen dramatic increases in competition in the financial
    services area across countries, only go to emphasize the
    importance of the United States moving to provide legal
    certainty.
        So it is our very great hope that it will be possible to
    move this year on legislation that, in a suitable way, goes to
    create legal certainty for OTC derivatives while, at the same
    time, reducing systemic risk, protecting retail customers, and
    maintaining U.S. competitiveness.
        And it is our belief that the central provisions contained
    in this bill with respect to OTC derivatives make great
    progress in achieving these goals and are provisions that we
    can support as they follow very largely the recommendations of
    the President's Working Group.
        I want to address, however, three remaining issues: the
    securities question, certain technical questions with respect
    to regulatory relief for futures exchanges, and Shad-Johnson.
        With respect to securities, the bill provides a broad
    exclusion from the securities laws for swaps, including in
    particular, swaps based on securities. As a general matter, we
    do not believe that swaps should be regulated as securities.
    However, it is important to preserve prohibitions against
    insider trading, fraud, manipulation, and also to preserve
    other measures which are demonstrably necessary to protect
    retail customers.
        We are concerned that the provisions as currently drafted
    could have the unintended consequence of interfering with these
    vital protections that are now in place for the securities
    markets. Because the provisions as currently drafted have the
    potential to impact the underlying securities markets, we
    believe that it is imperative that they be amended to address
    these concerns with respect to insider trading, fraud,
    manipulation, and retail consumer protection.
        I would hasten to point out that this is very much
    consistent with the valid objective of removing unnecessary
    regulation. I think it is worth emphasizing, however, that
    there is one important distinction between the securities laws
    and the commodities laws in that the application of securities
    laws does not in any context create the kind of legal certainty
    issues that can arise under the CEA.
        The second concern we have is with respect to the
    regulatory relief section that permits exempt boards of trade.
    Let me first say that we have looked very carefully at the
    recommendations that the CFTC has made and while we will be
    making a formal comment down the road, I can say that we are
    very much supportive in general of the changes that Chairman
    Rainer has recommended and believe that they represent a
    landmark achievement.
        And we recognize the importance of competitive parity
    between the exchange and off-exchange markets, particularly as
    the status of off-exchange markets is clarified.
        Our concern is with certain provisions that, as drafted,
    could have the perverse consequence of creating a situation
    where protections that are present with respect to off-exchange
    trades could actually not be present with respect to
    transactions that took place on an exchange. These matters are
    particularly important with respect to the integrity of the
    Government securities market, as any reduction in the integrity
    of the Government securities market could lead to higher
    financing costs for the Treasury and an increased burden on
    American taxpayers.
        Let me turn finally to the question of the Shad-Johnson
    Accord. We believe that as the Working Group report states, the
    current prohibition on single-stock futures can and should be
    repealed if issues about the integrity of the underlying
    securities market and regulatory arbitrage are resolved. There
    are a number of concerns, however, that the regulatory agencies
    consider important that have not been resolved in the
    legislation. While we have no objection to the introduction of
    single-stock futures, it is vitally important that the
    integrity of the underlying markets be preserved and that these
    instruments not be used as a means to avoid the regulation of
    the cash market.
        But let me be very clear on one point. We believe that this
    issue should not be allowed to be an impediment to clarifying
    legal certainty with respect to OTC derivatives. It is our very
    great hope that it can be resolved in a mutually satisfactory
    way but we do not believe that it should be allowed to defer
    OTC derivatives legal certainty, given the overwhelming
    importance of that issue.
        Let me just take this opportunity to comment on an issue
    that is not part of the bill before you today, and that is the
    question of the treatment of OTC derivatives in instances of
    bankruptcy and insolvency.
        I would like to take the opportunity to strongly urge the
    Congress to adopt the President's Working Group's
    recommendations regarding the treatment of certain financial
    contracts, including OTC derivatives, in cases of bankruptcy or
    insolvency. This is a step that could have a meaningful impact
    on the mitigation of systemic risk.
        Mr. Chairman, let me conclude where I began. The
    achievement of legal certainty and a modern legal and
    regulatory framework for OTC derivatives is an issue of great
    importance to our financial system, the competitiveness of our
    markets and businesses and our economy. With this legislation,
    it appears that, that goal is within our grasp. I urge this
    committee to rapidly address the remaining concerns so that we
    can move forward on much-needed legal certainty in the OTC
    derivatives market. Thank you.
        [The prepared statement of Secretary Summers can be found
    in the appendix on page 60.]
        The Chairman. Well, thank you very much, Secretary Summers,
    for your comments and for your endorsement with the caveats
    that you have given and we will take those seriously.
        When I visited with you and with Chairman Greenspan
    earlier, the Chairman noted a very, very large audience here
    today for something that is very difficult to understand. I
    would say the audience is a tribute to the two of you. You are
    persons that are listened to. You make a difference in our
    thoughtfulness and I call now upon Chairman Greenspan for his
    testimony.

    STATEMENT OF THE HON. ALAN GREENSPAN, CHAIRMAN OF THE BOARD OF
        GOVERNORS OF THE FEDERAL RESERVE SYSTEM, WASHINGTON, DC.

        Mr. Greenspan. Thank you very much, Mr. Chairman. I should
    say chairmen and Ranking Members. This, incidentally, is the
    first time in all of my years testifying before the Senate that
    I recall, appearing before a joint committee of this nature,
    and I must say that considering the nature and presumed
    complexity and obscurity of this type of legislation, it is a
    clear testament of how important this issue is to the financial
    system of the United States, its integrity, and essentially the
    underlying prosperity which it has been so important in
    contributing to.
        I am especially pleased to be here to present the Federal
    Reserve Board's views on the Commodity Futures Modernization
    Act of the Year 2000. My testimony today will be largely
    identical to the testimony of my colleague Patrick Parkinson
    delivered on behalf of the Federal Reserve Board last week to
    the House Subcommittee on Risk Management, Research, and
    Specialty Crops.
        Let me say first that I wish to associate myself with all
    of the remarks of Secretary Summers and will endeavor not to
    repeat and go over similar grounds.
        The Federal Reserve Board continues to believe that the
    Commodity Futures Modernization Act of 2000, modernizing the
    Commodity Exchange Act, is essential. To be sure, the CFTC has
    recently proposed issuing regulatory exemptions that would
    reduce legal uncertainty about the enforceability of OTC
    derivatives transactions and would conform the regulation of
    futures exchanges to the realities of today's marketplace.
    These administrative actions by no means obviate the need for
    legislation, however.
        In my remarks today I shall focus on three of the areas
    that the legislation covers: first, legal certainty for OTC
    derivatives; second, regulatory relief for U.S. futures
    exchanges; and third, of course, repeal of Shad-Johnson
    restrictions on the trading of single-stock futures.
        In its November 1999 report, the President's Working Group
    concluded that OTC derivatives transactions should be subject
    to the CEA only if necessary to achieve the public policy
    objectives of the act, deterring market manipulation and
    protecting investors against fraud and other unfair practices.
    In the case of financial derivatives transactions involving
    professional counterparties, the Working Group concluded that
    regulation was unnecessary for these purposes because financial
    derivatives generally are not readily susceptible to
    manipulation and because professional counterparties can
    protect themselves against fraud and unfair practices.
    Consequently, the Working Group recommended that financial OTC
    derivatives transactions between professional counterparties be
    excluded from coverage of the CEA.
        The Federal Reserve Board continues to support the Working
    Group's conclusions and recommendations. Thus, it supports the
    exclusions of OTC derivatives from CEA that are included in S.
    2697 because with a few exceptions that appear readily
    resolvable, they are consistent with the Working Group's
    report.
        The Working Group did not make specific recommendations
    about the regulation of traditional exchange-traded futures
    markets that use open outcry trading or that allow trading by
    retail investors. Nevertheless, it called for the CFTC to
    review the existing regulatory structures, particularly those
    applicable to financial futures, to ensure that they remain
    appropriate in light of the objectives of the CEA.
        The Federal Reserve Board supports the general approach to
    regulation that was outlined in the CFTC's recent proposals.
    For some time the Board has been arguing that the regulatory
    framework for futures trading, which was designed for the
    trading of grain futures by the general public, is not
    appropriate for the trading of financial futures by large
    institutions. The CFTC's proposals recognize that the current
    ''one-size-fits-all'' approach to regulation of futures
    exchanges is inappropriate, and they generally incorporate
    sound judgments regarding the degree of regulation needed to
    achieve the CEA's purposes.
        Furthermore, the Board generally supports codification of
    the CFTC's proposal so as to provide the exchanges with greater
    certainty regarding future regulation. However, the Treasury
    Department is concerned that the exempt board of trade
    provisions might have unintended consequences that could reduce
    the effectiveness of the existing regulatory framework for the
    trading of government securities. To facilitate expeditious
    passage of legislation, it thus may be prudent to limit the
    codification of the exempt board of trade provisions, at least
    so that markets currently regulated under the Government
    Securities Act of 1986 are not affected. In such a scenario,
    the CFTC could address any unintended consequences for the
    regulation of government securities by changing the terms of
    its exemptions.
        The Working Group concluded that the current prohibition on
    single-stock futures, part of the Shad-Johnson Accord, can be
    repealed if issues about the integrity of the underlyng
    securities markets and regulatory arbitrage are resolved. The
    Board believes that S. 2697 provides an appropriate framework
    for resolving these issues. Such instruments should be allowed
    to trade on futures exchanges or on securities exchanges with
    primary regulatory authority assigned to the CFTC or the SEC,
    respectively. However, the bill recognizes that the SEC should
    have authority over some aspects of trading of these products
    on futures exchanges. The scope of the SEC's authority can and
    should be resolved in negotiations between the CFTC and the
    SEC. The Congress should continue to urge the two agencies to
    settle their remaining differences so that investors have the
    opportunity to trade single-stock futures.
        If it would facilitate repeal of the prohibition, the
    Federal Reserve Board is willing to accept regulatory authority
    over levels of margins on single-stock futures, as provided in
    the bill, so long as the Board can delegate that authority to
    the CFTC, the SEC, or an Intermarket Margin Board consisting of
    representatives of the three agencies.
        The Federal Reserve Board understands that the purpose of
    such authority would be to preserve the financial integrity of
    the contract market and thereby prevent systemic risk and to
    ensure that levels of margins on single-stock futures and
    options are consistent. The Board would note that for purposes
    of preserving financial integrity and preventing systemic risk,
    margin levels on futures and options should be considered
    consistent, even if they are not identical, if they provide
    similar levels of protection against defaults by
    counterparties.
        This bill reflects a remarkable consensus on the need for
    legal certainty for OTC derivatives and regulatory relief for
    U.S. futures exchanges, issues that have long eluded
    resolution. These provisions are vitally important to the
    soundness and competitiveness of our derivatives markets in
    what is an increasingly integrated and intensely competitive
    global economy. The Federal Reserve Board trusts that remaining
    differences regarding single-stock futures and the potential
    application of the securities laws to OTC derivatives can be
    resolved quickly and this important piece of legislation can be
    expedited through this Congress.
        Thank you very much, Mr. Chairman.
        [The prepared statement of Mr. Greenspan can be found in
    the appendix on page 66.]
        The Chairman. Thank you very much, Chairman Greenspan.
        We have been joined by Senator Sarbanes, the Ranking Member
    of the Banking Committee. As the Chair announced earlier, the
    Ranking Member will be recognized for an opening statement and
    then we will proceed with a round of questions for the
    witnesses.
        Senator Sarbanes.

        STATEMENT OF HON. PAUL S. SARBANES, A U.S. SENATOR FROM
     MARYLAND, RANKING MEMBER, COMMITTEE ON BANKING, HOUSING, AND
                             URBAN AFFAIRS

        Senator Sarbanes. Mr. Chairman, thank you very much.
        I will really forego an opening statement except simply to
    observe that this is a very complex issue and I think we have
    to proceed with considerable caution and when I have my
    question period, I will have an opportunity, I think, to pose
    some questions to the secretary and the Chairman in this
    regard.
        I think we have to work extra hard at trying to get the
    regulators, who are, after all, the experts in this area upon
    whom we rely, to see if they can reach a consensus on how they
    would recommend proceeding with respect to these important
    questions.
        Thank you very much.
        The Chairman. Thank you very much, Senator Sarbanes.
        We will have questions now. I will ask that Senators stay
    within a 5-minute limit. I will ask questions. I will then
    defer to Chairman Gramm, then to the distinguished Ranking
    Members--Mr. Harkin, Sarbanes--and then we will alternate back
    and forth, republican and Democratic Senators as they have
    appeared.
        Secretary Summers and to some extent Chairman Greenspan has
    reflected this, in a comment that you make on page 5 of your
    statement you say, ``To be clear, there are provisions of the
    bill as currently drafted which could have the perverse
    consequences of creating the situation where protections that
    are present with respect to off-exchange trades would not be
    present with respect to transactions that took place on the
    exchange. These matters have particular importance with respect
    to the integrity of government securities markets.''
        Could you amplify that somewhat more? That general point of
    view of the Treasury, which has been fairly well known in the
    securities markets for the past week or so, has brought
    considerable consternation and I would like for you to explore
    that more in your testimony.
        Secretary Summers. Let me just say that I think this is an
    important but somewhat limited issue in the following sense. We
    are supportive of the broad program that Chairman Rainer has
    laid out for deregulation. We are supportive of the pillar of
    that broad program, which is the idea of exemption for boards
    of trade.
        Our difficulty comes from what is almost a drafting
    question. In the way the legislation is drafted, it appears to
    us to allow participants in the exempt boards of trade to avoid
    the kinds of rules that we have had in place with respect to
    the Government securities market.
        You will recall that there was a major episode a decade ago
    in which one major firm was involved with an excessive share of
    a number of different Treasury auctions, subjecting the market
    to possible manipulation. It is our intent and our desire only
    that nothing in this legislation preclude the effective
    enforcement of those provisions with respect to the Government
    securities markets.
        And my understanding is that there has been considerable
    discussion among the affected parties and I think there is a
    feeling that it is possible to find language that would address
    our particular and quite narrowly focused concern, which does
    not go to the desirability of regulatory relief for futures
    trading, but only goes to the question of whether or not it
    would be possible to avoid restrictions that are in place with
    respect to cornering and the like in the Government securities
    markets by trading on one of these exempt boards of trade.
        The Chairman. I thank you for that response and I raise the
    question knowing that there have been considerable efforts on
    the department's behalf with exchanges with other parties to
    try to clarify this language. I think Senator Gramm and I share
    the thought that the greatest hope we have with this
    legislation is that you and Chairman Greenspan and others are
    still working with us. This is a work in process because these
    clarifications are important.
        This legislation might last for a long while and it would
    be difficult to get everybody concentrated again, so we want to
    do it right. But we appreciate the flexibility that you have
    already demonstrated and I simply wanted to offer that thought.
        Mr. Greenspan. Mr. Chairman, if I may, I think it is
    important to emphasize, as the Secretary has just done, that
    this is a very narrow technical amendment. It is not
    questioning the usefulness, the potential usefulness of the new
    board of trade vehicle. There are many different types of
    usefulness of that vehicle and we certainly at the Federal
    Reserve Board see advantages in it.
        This is a very narrow issue which we fully subscribe to the
    Treasury's position on and would like to see some amendment to
    this particular provision to take care of the Treasury's
    concerns.
        The Chairman. Well, we look forward to working with you on
    that language and your proposal would be welcome.
        Let me just initiate a subject I suspect that Chairman
    Gramm will get into further. With regard to legal certainty, we
    have talked about legal certainty that arose from the so-called
    Concept Paper on Swaps that the CFTC was responsible for, so we
    have tried to settle that over there.
        Now Chairman Gramm has raised the question, ``Well, what
    about legal certainty with regard to the SEC in this sort of
    situation?'' This seems to have kicked off tremors in various
    directions.
        Let me just say that what is sauce for the goose is sauce
    for the gander. I share Chairman Gramm's thought that we need
    to explore really where we are headed with regard to legal
    certainty. It may have started in one agency but has picked up
    other problems somewhere else.
        Why has this become an element of such consternation?
    Because obviously it is and your testimony, you mention this,
    Secretary Summers, as a point of considerable concern.
        Secretary Summers. Let me make three points, if I could. I
    will preface them by saying that having spoken with Chairman
    Gramm about this, my impression is that there are not
    fundamental differences that cannot be bridged on this
    question.
        The Chairman. Well, that is reassuring.
        Secretary Summers. Having said that, let me make three
    points.
        First, there is, I think, an asymmetry that we need to be
    clear about between the securities law issues and the
    commodities law issues and that is that were these to be
    subject to the commodities law, there is the possibility that
    past contracts that have been entered into would be unwound and
    would not be legally binding. That is why we speak about legal
    certainty.
        There is no parallel feature of the Securities Act that
    would enable or create any possibility or nexus for past
    contracts to be unwound and that is why those who have been
    concerned with the legal certainty question have, until it was
    recently introduced into the discussion, been focused on the
    commodities issue and not focussed on the securities issue.
        Second, there is nonetheless, in our judgment, a valid
    objective of responding to some of the kinds of concerns that
    Chairman Gramm articulated in his earlier statement that we
    cannot be assured that the prudent forbearance that the SEC has
    exercised with respect to these issues in recent years will be
    a permanent state of affairs.
        And therefore it may be appropriate for there to be
    legislative clarification that the intent of the OTC legal
    certainty is not to shift jurisdiction from one agency to
    another but, for the reasons that the Chairman articulated in
    his testimony, involving the fact that it is professional
    counterparties who are involved with one another, to provide
    for a structure in which these transactions would not be
    subject to extensive regulation. We recognize that as a
    legitimate and appropriate legislative purpose, even if one
    that is not perfectly parallel with the commodities case.
        The third point though, and the point that I must say, Mr.
    Chairman, we feel strongly about is that there are a number of
    types of issues that the securities law provides that are not
    issues that are covered by the commodities law where we believe
    it is very important to continue to maintain protection.
        To take what may be the easiest example to explain:
    functionally, through a total return swap, one can do something
    that is the equivalent of purchasing a share of stock. It would
    not, in my judgment, be an acceptable outcome for an individual
    who had benefitted from insider information and who would be
    legally prohibited from buying a stock or buying an option to
    be able to engage in a total return swap that was the
    functional equivalent of buying that stock.
        Insider trading, fraud, manipulation, and possibly where
    there is a demonstrable link, questions of retail protection,
    it seems to us need to continue to be subject to regulation,
    not so as to extend some net of regulation to OTC derivatives
    in a way that they are not now subject to regulation, but only
    to assure that the basic protections we provide in our cash
    markets do not become circumvented through this legislation.
        And it seems to us that the valid and important objective
    of clarifying with respect to the future the limits of
    regulation in this area can be achieved while, at the same
    time, respecting the very necessary functions the regulation
    has to perform.
        The Chairman. Thank you very much.
        Senator Gramm.
        Senator Gramm. Thank you, Mr. Chairman.
        Let me first say, Mr. Secretary and Mr. Chairman, I do not
    think there are substantive differences as to what we want to
    do and what you are concerned about.
        The best thing you could do about the Government securities
    is write the language you need and give it to us so that we can
    put it in the bill and solve that problem. If it creates other
    problems, obviously we can work them out. But we are in a happy
    time when government borrowing is diminishing, we do not know
    how long that is going to last, and we want the Government to
    be able to borrow when it needs to do so.
        Our whole focus to this point on legal certainty has been
    related to the CFTC and its jurisdiction because it was always
    believed that if someone was going to claim jurisdiction over
    swaps, it would be the CFTC. If they asserted jurisdiction, as
    we all know from that very unhappy period when they were trying
    to do so, then the potential existed of contracts on swaps
    being deemed unenforceable because they were traded off the
    exchange.
        But what I am concerned about is the totally different
    environment where the CFTC has been banned from exercising any
    jurisdiction, in essence, creating what some regulation
    innovator would see as a no-man's land, and I would see as
    freedom but some regulator would see as a no-man's land. An
    innovative SEC might step in and say, ``well, swaps are
    securities and therefore this swap is illegal because the
    security was not registered with the SEC, because the security
    did not meet our disclosure requirements.''
        We can deal with the anti-fraud concern and the insider
    trading concern, but we need this dual protection. I agree with
    the Chairman that we need to work together because in an
    election year, the only way anything can or should become law
    is if it is bipartisan and is supported by the administration
    and Congress.
        So if we want to do this, we have to work it out, and I do
    not see any insurmountable differences. I would like to ask
    both of your staffs to look at this concern about potential SEC
    action in the future.
        Let me just ask one question that is not related to this,
    but I ask because it is a simple yes or no answer, but you can
    elaborate in the time I have left if you want to.
        Recently there has been a proposal by the FDIC and a lot of
    clamoring in the banking industry to raise the FDIC insurance
    from $100,000 to $200,000 per account. Having lived through the
    S&L debacle and having seen it first-hand in my state, I have
    been very reluctant to support this because it represents to me
    a shifting of risk from the investor to the Government and
    ultimately to the taxpayer. And I remember that era of brokered
    deposits, and knowing now that we have Internet banking, this
    is something that I am concerned about.
        I know that you all have looked at it and I just wanted, in
    a simple, straightforward way, to see what you think about the
    proposal to raise the insurance limit to $200,000.
        Secretary Summers. The Chairman and I have discussed this
    and I believe we have similar views but I guess we will soon
    see.
        We believe that such an increase would be ill advised and
    would represent a serious public policy error that would
    potentially increase systemic risk by eroding market discipline
    and it is not, in our judgment, necessary in order to protect
    small savers. So it is not a change that we would support.
        Mr. Greenspan. I agree with that, Mr. Chairman. Let me just
    say that there is no question arithmetically that if one looks
    at the change in consumer prices since 1980 when the original
    $100,000 ceiling was instituted that for purchasing power
    parity with the original $100,000 change, it would require a
    very significant increase.
        However, I think that most economists would look back at
    that $100,000 number and say it was a mistake, probably a bad
    mistake.
        If you go back to the $40,000 change when, in the fall or
    late part of the year 1974, the ceiling was raised from $20,000
    to $40,000, and then ask what is the purchasing power of that
    as of today, it is just a little more than $100,000. So in that
    regard, one can very readily see that the problem really gets
    back to a judgment as to whether the move from $40,000 to
    $100,000 was the correct move and I think, in retrospect, that
    the evidence very strongly indicates that it was a mistake and
    for very much the reasons that Secretary Summers argues.
        We are in the process now, driven largely by technology, of
    very dramatically expanding the domestic and international
    financial system and it is very important that our market
    processes are sound and that they are not distorted
    inordinately by a subsidized structure in the financial system.
        And, as a consequence of that, I think it is quite
    important for all of us to be certain that if we want the
    really quite extraordinary developments in the financial
    system, which is what we are discussing today, to effectively
    assist in what is a change in the world economy and
    specifically in the United States, where standards of living
    are rising in a way which we have not seen for a very long
    period of time, and where we have had an economy which is being
    supported by a very increasingly sophisticated financial
    system, we want to be certain that, the market safeguards of
    that system are not undercut.
        And it has been the experience of the Federal Reserve and,
    I believe, all the remaining banking regulators, and I presume
    the Treasury Department, as well, that the necessity of having
    a fully functioning market pricing structure as a means for
    containing risk is crucial to the system.
        We regulators cannot conceivably substitute for the
    effectiveness of containing risk that counterparty judgments
    within the market create. It is not even a close call. Anything
    that we can do to sustain and enhance the viability of
    counterparty surveillance and the accordingly important
    strengthening of the financial structure that ensues as a
    consequence of that, we should endeavor to do.
        Increasing that is, doubling--deposit insurance--which
    essentially would be giving increased subsidies to upper income
    individuals almost by definition, is, in my judgment, a
    mistake.
        There is a problem, however, which is associated with this
    issue, which is discussed mainly with regard to the clear
    difficulties that our community banks are having with regard to
    maintaining core deposits as a consequence of a very dramatic
    increase in mutual funds, money market mutual funds, and the
    capital markets expansion itself. And they understandably are
    looking for means by which they can get an increased degree of
    liability support, if I may put it that way.
        I certainly sympathize with their concerns and the
    community banking system is a very important vehicle in this
    country and I think something which is crucial to the dual
    banking system, which I, as you have known before, very
    strongly support.
        I do think, however, that other means to solve that
    particular problem must be found. To employ a major change in
    the underlying financial structure creating weakness in that
    underlying financial structure for the purpose of resolving a
    real problem, but a different type of problem, in my judgment,
    would be a major policy mistake.
        Senator Gramm. Thank you, Mr. Chairman.
        The Chairman. Thank you very much, Senator Gramm.
        Senator Harkin.
        Senator Harkin. Thank you, Mr. Chairman.
        I would like to focus my remarks and questions on this idea
    of a level playing field and what this legislation might do to
    that. Early on, the futures exchanges, as we started this
    process several years ago, were concerned that regulatory
    relief for the swaps would put them at a disadvantage. So the
    futures exchanges sought relief and that is basically what this
    bill provides in that regard.
        Summarily, Shad-Johnson, if relief is provided for single-
    stock futures trading, raises questions about the level playing
    field for other market participants, namely the stock options
    markets. So again it raises the general question, I think, of
    the levelness of the regulatory playing field and I think that
    is an important question for us and overall to the functioning
    of our U.S. markets.
        So I would ask both Chairman Greenspan and Secretary
    Summers again to once again enlighten us on approaching these
    questions of a level playing field, whether on Shad-Johnson or
    in other areas, like swaps versus on-exchange transactions, or
    electronic versus the traditional exchange markets.
        Most of the input that I have had from people in these
    fields has been along those lines. They are concerned that what
    we do is going to skew it one way or the other. One will be
    advantaged and one will be disadvantaged. And I just need some
    enlightenment on that.
        Secretary Summers. We have sought in the President's
    Working Group recommendations and commenting on this
    legislation to achieve exactly the principle that you stressed,
    Senator Harkin, of a level playing field.
        The original rationale, as you know, was legal certainty in
    the OTC area. In my judgment, the suggestion that if one was to
    provide legal certainty that a level playing field required
    certain changes in the regulations regarding the exchanges was
    valid and appropriate. And, as I indicated, the suggestions
    that Chairman Rainer and his colleagues at the CFTC have put
    forward seem to us to be very much broadly in the right
    direction and to be leveling the playing field and subject to
    the relatively minor concern around the board of trade--minor
    but crucial, I hasten to say--concern that I highlighted. They
    seem to us to be broadly appropriate, and I think there is a
    good case for them being embodied in law and not just in
    regulations.
        So I think we are doing a good job on the level playing
    field area in that dimension.
        I think that if I might, the playing field slopes in many
    different dimensions in the single-stock futures area and so
    far, a universally agreed definition of a level playing field
    has been illusive, precisely because you have the consideration
    of the cash market, you have the consideration of the single-
    stock futures market, you have the consideration of the options
    market, you have the reality that much of this is going to be
    traded overseas in any event.
        So I cannot tell you that a formal agreement has been
    achieved in the Shad-Johnson area that is universally
    recognized to represent a level playing field.
        What I would suggest to you, however, is that it is, I
    think, very unfortunate for the financial system if the
    continuing debate over the precise definition of a level
    playing field with respect to Shad-Johnson is to preclude us or
    delay us from achieving legal certainty with respect to OTC
    derivatives. And any of a variety of possible resolutions of
    the Shad-Johnson issues, in conjunction with legal certainty,
    would be in the Nation's interest relative to no movement
    forward on legal certainty because of the outstanding Shad-
    Johnson issue.
        That is why I very much would join the Chairman's support
    for the Congress's encouraging the parties to reach a mutually
    satisfactory resolution, but in any event----
        Senator Harkin. We have been trying that for a long time.
        Secretary Summers. But in any event, not holding legal
    certainty hostage to the resolution of the Shad-Johnson issue.
        Mr. Greenspan. Senator, obviously I think the issues you
    are raising are crucial and they are very simple to state and
    very difficult to implement. Level playing fields,
    unfortunately, are too often in the eyes of the beholder and
    with one tilt in an Einsteinian way, it looks like another tilt
    if you are coming from another direction.
        There are a number of practical issues here which really
    get down to, for example, margins. Margin requirements in
    commodity exchanges are markedly lower than they are in general
    for stocks and here I think there is a legitimate concern about
    the issue of competitiveness, but it is very important to
    distinguish between consistent margins and the same level of
    margins.
        Margins basically should be constructed in a manner to
    protect counterparties against default or nonpayment. And in
    the commodities business or in the commodities markets, where
    there is a far more rapid payment of cash when prices move--
    more exactly, when margins are readjusted very much more
    quickly in the commodities markets in general and obviously
    under those conditions, if you have a number of margin calls
    during the day, which you generally do have on many occasions,
    and they get paid, that clearly is an issue of having lower
    margins than would necessarily be the case in securities
    markets.
        And how things are cleared and how things are basically
    managed can differ quite significantly from one system to
    another and yet competitively, they can turn out to be very
    close to being identical.
        I think at the end of the day we will only be able to tell
    whether there are real playing field differences if we, for
    example, see actual differences in markets as, for example, we
    have seen a significant shift from exchange-traded derivatives
    to over-the-counter derivatives and that is suggestive of the
    fact that clearly there is far more regulatory burden imposed
    on the exchanges because that is the reason that is often given
    as to why a goodly part of businesses that could go in either
    direction would tend to go over the counter.
        In that case, you can see what the problems are and you can
    address them as indeed they are addressed in this bill. But to
    make ex ante judgments about levels of margins, merely looking
    at the absolute percentages, is insufficient to make a judgment
    as to whether they are consistent and indeed competitive.
        Senator Harkin. I see my time is up but it just seems to me
    that in the futures exchanges, where we have always had to
    clear our margins on a daily basis, and if you have another one
    on the option where you do not, then it skews it one way or the
    other, it seems to me.
        Mr. Greenspan. And it can be adjusted, however, by having
    different levels of margins, and that is indeed what does
    happen.
        Senator Harkin. That may be true, yes. That is what you are
    suggesting we do, perhaps?
        Mr. Greenspan. Senator, that is actually what they do. And
    the question I think we have to make a judgment on, is whether
    the margins that are imposed by securities firms and/or
    exchanges and commodity firms and/or exchanges are consistent.
    And all I am saying is that is not the same statement as they
    are identical.
        Senator Harkin. Thank you, Mr. Chairman.
        The Chairman. Thank you very much, Senator Harkin.
        Senator Sarbanes. Thank you very much, Mr. Chairman.
        Chairman Greenspan, in his statement, Secretary Summers
    observes that the bill provides a broad exclusion from the
    securities laws for swaps, including, in particular, swaps
    based on securities. He then goes on to say, ``As a general
    matter, we do not believe that swaps should be regulated as
    securities. However, it is important to preserve prohibitions
    against insider trading, fraud, and manipulation and also to
    preserve other measures which are demonstrably necessary to
    protect retail customers.''
        I take it you agree with that position?
        Mr. Greenspan. I do indeed, Senator.
        Senator Sarbanes. I would like to ask both of you, what are
    the risks of implementing the language as currently drafted in
    the legislation?
        Secretary Summers. I think this is an issue that is easily
    remediable but nonetheless needs to be remedied because I think
    the language as currently drafted would at least raise the
    prospect of substantial evasion of existing predications with
    respect to insider trading, with respect to fraud and with
    respect to market manipulation and thereby could undermine the
    integrity not just of the OTC derivatives markets but also of
    the underlying markets with which they are arbitraged.
        So as drafted, we would have very great concerns about the
    language.
        We do believe that the objective which we believe was
    sought in drafting the legislation, which is to clarify that
    the objective here is deregulation rather than a shift of
    regulatory jurisdiction, is an objective that can be achieved
    without compromising these critical objectives.
        As we suggested earlier, I think we can all work together
    on language that would achieve that objective, but the bill as
    we understand it in its current form would, without amendment,
    potentially pose a real risk to the integrity of financial
    markets.
        Senator Sarbanes. Mr. Chairman, do you want to add to that?
        Mr. Greenspan. I would only like to say, Senator, that this
    problem of the definition of swaps and securities I think is
    getting us tangled up in verbose language.
        I had a chance to read the legal definition of a security
    that is in the 1933 and 1934 acts and I will tell you I
    appreciate the difficulties that lawyers have in this world. I
    defy anybody to read it and come up with a reasonably good
    judgment of what it says.
        Swaps are even worse. Not only are they difficult to define
    but after you have defined them, you will find that everyone
    has a different view of what constitutes a swap.
        I think that what is important here is for the Congress to
    look at the fundamental structures of the markets with which we
    are dealing, try to make a judgment of what the appropriate
    regulatory structure is, one, as Senator Harkin has said, that
    creates a level playing field and also, as he talked in terms
    of the integrity, safety and soundness of markets, which I
    think is a very important issue with respect to the
    competitiveness of the United States in the world markets.
        I think that we should do that in trying to make judgments
    of what is appropriate and try to eliminate this particular
    detailed discussion of whether something is a swap or it is a
    security, and therefore if it is a security, something should
    happen; if it is a swap, something should happen. I think this
    is a very difficult type of issue to get involved in and I am
    afraid we are getting tangled up in language, and the issues
    are very difficult as they are. If we are going to have those
    types of problems, we are not going to get an effective
    resolution of this issue.
        Senator Sarbanes. That would suggest, in view of your
    previous answer, that we should focus on insider trading,
    fraud, manipulation, and make sure that any possibility for
    those practices to take place is precluded under the regulatory
    scheme. Would that be correct?
        Mr. Greenspan. Exactly, Senator.
        Senator Sarbanes. I think the President's Working Group on
    Financial Markets was an important initiative and I know the
    legislation contains a number of the recommendations that came
    forward from the group, which represented a consensus judgment
    by the group, unanimous, as I understand it.
        My question is, what do you see as the prospects on those
    remaining outstanding issues on which a consensus has not yet
    been reached within the Working Group but which are resolved
    one way or another in the legislation? If we continue to press
    the Working Group to continue its discussions and
    consultations, would they be able to come up with a consensus
    position?
        You have been involved in that byplay back and forth. What
    are the prospects?
        Secretary Summers. With the exception of Shad-Johnson and
    possibly with the exception of the securities question that we
    have been discussing, I believe the Working Group has
    essentially agreed on all important aspects of this legislation
    and that you could have full agreement on this legislation.
        I believe with respect to the securities question, I would
    not want to be in the position of speaking for the SEC and the
    CFTC but I think you have seen the Chairman and I have
    essentially identical positions with respect to that question.
        With respect to Shad-Johnson, I would not want to
    confidently predict that there would be a conclusion. It is an
    issue, unlike some of the other issues, that is a very crucial
    issue for two members of the Working Group--the SEC and the
    CFTC. And my understanding is that they have worked in very
    good faith to try to reach common ground and have not yet
    succeeded.
        I suspect that I speak for the Chairman in saying that we
    are very much prepared to do anything we can do to facilitate
    reaching an agreement and I thought that the Chairman's offer
    in his testimony that the Federal Reserve would be prepared in
    a variety of different formulations to become involved with
    margin requirements for single-stock futures, if that would be
    facilitating of an agreement, was a constructive and valuable
    step. But I do not think I can honestly predict for you with
    great optimism that an agreement will be reached in the near
    future.
        I would repeat the judgment that the Chairman and I both
    expressed earlier that any of a variety of possible resolutions
    that pave the way to the passage of this legislation would be
    better than no resolution and a continuing risk to legal
    certainty.
        Mr. Greenspan. I might just add that in a certain sense, if
    Shad-Johnson is not revised in a manner which is to the
    interests of the American regulatory structure, it is going to
    get revised for us because there is just little question in my
    judgment that we are not all that far away from single-stock
    futures on U.S. stocks trading in other countries. And if we do
    not resolve this issue, Shad-Johnson will get resolved but not
    in a manner which I think would be desirable for any of us.
        I have worked with many SEC and CFTC Chairmen. I have never
    had the pleasure of, as some of you have mentioned, working
    with two committed individuals of the types we now have in
    those chairmanships. If they are having trouble with this
    issue, it is because it is a very difficult issue to meld very
    complex regulatory structures.
        My concern is that if they cannot get it resolved and we
    cannot get it in a legislative vehicle, that the issue is going
    to get resolved for us but not in the way that we would like it
    to happen.
        Senator Sarbanes. Mr. Chairman, I just make the observation
    that not too long ago we were working in the Banking Committee
    on an important piece of legislation and they said, ``Well, you
    will never get the Treasury and the Federal Reserve to reach an
    understanding on that issue.'' And in the last analysis, they
    did reach an understanding, which was an important breakthrough
    in moving that legislation forward. So, if we keep working at
    this, maybe we can get it resolved. Thank you very much.
        The Chairman. I thank you, Senator Sarbanes, for your
    question and likewise both of you for your response. I will
    just editorialize before I recognize my colleague that we
    really are at the heart of the matter.
        Without being chauvinistic, we are Americans talking about
    United States markets and it is inconceivable that however
    learned people are in various agencies, they cannot come to
    some agreement.
        Now, we are attempting to facilitate that, I think calmly.
    Senator Gramm and I are not hysterical about the issue but we
    are determined. This is very, very important for our country
    and both of you have testified amply to that this morning in a
    very technical way.

      STATEMENT OF HON. PETER G. FITZGERALD, A U.S. SENATOR FROM
                                ILLINOIS

        Senator Fitzgerald. Thank you very much, Mr. Chairman, and
    I thank both of you for testifying today.
        Mr. Greenspan, I appreciate your comments about Shad-
    Johnson and I wholeheartedly agree with you. If we do not
    repeal Shad-Johnson, we are going to be confronted with foreign
    nations that are offering individual stock futures on our
    American companies. I think if we can put a man on the moon, we
    can repeal Shad-Johnson and get an agreement between the SEC
    and the CFTC.
        Mr. Greenspan, maybe you could elaborate on how the
    regulators cooperate in the banking industry. We actually have
    many more regulators in the banking industry than just the two
    we are talking about here--the CFTC and the SEC. You have state
    banking examiners examining state banks. Across the street from
    a state bank in Main Street, U.S.A. there is typically a
    national bank that is regulated by the OCC. Both of them, if
    they offer FDIC insurance, are subject to the regulation of the
    FDIC. If they have holding companies, they are monitored by
    you.
        Now, I notice in Mr. Levitt's testimony, reading ahead,
    that he objects to provisions in this bill that require the
    SEC, before taking enforcement action, to ask permission of the
    CFTC. Now I do not know if any of the banking regulators, such
    as the FDIC or the OCC, would have to ask permission of other
    regulators if they wanted to take an enforcement action.
    However, I do think that they commonly notify other regulators
    as a matter of course. I do not get the impression that, that
    slows down the enforcement very much.
        Would you care to comment on that?
        Mr. Greenspan. Yes, Senator, I think that is quite correct.
    One of the vehicles that we have is an organization of all of
    the regulators in which we work together in a fairly formal
    systematic way. And over the years we have recognized the
    various problems that inevitably arise when you have a dual
    banking system, multiple regulators, and the system will either
    work or it will not work. And if it will not work, what is
    going to happen inevitably is clearly the Congress is going to
    decide to run a single regulator bill through both houses of
    the Congress and it will get passed very readily and the issue
    will be resolved, frankly, to the detriment of the system.
        I think that to have different regulators effectively
    competing in many respects and jointly endeavoring to come up
    with new ideas as to how to integrate regulation into the
    market structure to get maximum efficiency has been a very
    effective tool of the American regulatory system.
        And I think that, despite the fact that there are
    inevitable significant disagreements, and there are
    unquestionably unbelievable delays in getting agreements on
    certain issues, nonetheless, at the end of the day, it works.
        Senator Fitzgerald. What is your super regulatory body
    called?
        Mr. Greenspan. It is the Federal--my problem is I have so
    many acronyms in my head, I cannot unleash----
        Senator Fitzgerald. Did that come in after the FIRREA
    legislation or after the S&L?
        Mr. Mattingly. Senator, it is Federal Financial
    Institutions Examination Council and it goes back to about
    1978.
        Senator Fitzgerald. 1978, okay.
        Mr. Greenspan. That is Virgil Mattingly, our General
    Counsel, and you can see why we find him a significant source
    of insight.
        Senator Fitzgerald. Well, maybe the SEC and the CFTC could
    just jointly put some task force together with members from
    both regulatory bodies just so that they have ongoing
    communication. That would seem to make sense to me.
        Well, in the interest of time, I will yield to some of my
    colleagues for further questions.I thank you for that positive
    encouragement about how it works in banking.
        [The prepared statement of Senator Fitzgerald can be found
    in the appendix on page 50.]
        The Chairman. Thank you very much, Senator Fitzgerald.
        Senator Kerrey.

        STATEMENT OF HON. J. ROBERT KERREY, A U.S. SENATOR FROM
                                NEBRASKA

        Senator Kerrey. Mr. Chairman, first of all, I want to thank
    both you and Chairman Gramm for holding this hearing and I hope
    it leads to a mark-up of the bill.
        It seems to me the challenge of the Committee, and I put
    this to both Secretary Summers and Chairman Greenspan, the
    challenge for both of the Committees is that we have to
    separate out those concerns raised by individuals who simply do
    not want to compete because, at the end of the day, this is
    about money and that is why this room is full of people; this
    is about money and it is about jurisdiction that controls who
    gets to regulate.
        And you can see it in the pattern of lawsuits over the last
    25-years, initiated in the early 1970s. In fact, there has been
    a pattern. It starts with a lawsuit filed in 1975, resolved in
    favor of the CFTC. That led to Shad-Johnson. Another lawsuit
    filed in 1992. That leads to another piece of legislation.
        And then the most recent lawsuit filed after the SEC
    objected under 2(A)(1)(b) of the CEA, to an instrument that was
    being traded on the Chicago futures in a Dow-Jones utility and
    transportation index. So they have objected. That is in court
    and still not settled. So I do not know; maybe there is a case
    to be made that we should wait until this lawsuit gets settled.
        I would not, Mr. Chairman, because I think we have to
    separate, and I put it to you gentleman, it seems to me we have
    to separate out those concerns that are just about money and
    control from those legitimate concerns having to do with what
    has been raised on several occasions--risk to investors, and so
    forth, including, by the way, one additional risk that was
    raised after the stock market crash. The SEC claimed that one
    of the reasons the stock market crashed in 1987 and perhaps
    again as a consequence of concerns for making a case so they
    could continue to control, that it was stock market indexes
    that caused the crash. Trading and speculating in stock market
    indexes, the SEC argued in 1987, caused that crash.
        So I would ask you, it seems to me that we did that. This
    committee heard concerns that there was regulatory uncertainty
    having to do with swaps and other instruments. They were being
    offered, derivative instruments, offered OTC. And we listened.
    We had hearings on it and we listened to all the concerns. It
    was a hot issue and I think the Agriculture Committee did a
    pretty good job of sorting out and coming up with a
    recommendation that would create regulatory certainty, as well
    as the other piece of our legislation that codifies a lot of
    the regulatory changes that CFTC has put in place.
        And it seems to me that we ought to do the final thing with
    these stock indexes, the stock future instruments that are
    being proposed. They were proposed first by the CFTC,
    challenged now in court. A, we have to decide, do we want to
    wait for the court to make a decision, or do we sort of take it
    into our own hands and try to decide on our own? And I would
    argue the latter, frankly, that we ought to try to separate out
    where we think a case is being made in a legitimate way and
    where a case is being made in an illegitimate way that these
    instruments should not be allowed to be traded.
        So I would just ask--seek your advice on this. Do you think
    we should wait for the court to make a decision or do you think
    we should, in our best judgment, now that the two chairmen have
    gotten us together, and some have argued that it is about money
    on our side, as well, that we are concerned about losing
    jurisdiction between the Agriculture and Banking Committee. I
    have personally never seen any evidence of that but maybe it
    exists, in fact, back in the old days.
        Would you recommend that this committee take action to try
    to resolve this most recent conflict that is being raised over
    individual stock futures?
        Secretary Summers. I basically share the impulses behind
    your question, Senator Kerrey. I do not think that waiting
    until particular lawsuits have wended their way through the
    courts is a good way to make public policy in this area. I
    think case-by-case litigation is probably, as a general
    proposition, a poor way to make public policy in this type of
    issue, first. And second, as both the Chairman and I have
    stressed, we think that it is important that the legal
    certainty issue not be delayed with respect to the Shad-Johnson
    issue.
        So, as I have said several times now and just to make the
    point clear, any of a number of possible approaches that this
    bill could take to Shad-Johnson in conjunction with legal
    certainty would be better than this bill not moving forward
    because of Shad-Johnson.
        To be sure, one of those approaches would be simply not
    treating the Shad-Johnson issue within this legislation and
    leaving it to other legislation. Another possibility would be a
    number of different possible resolutions of this issue. But I
    think the point on which, if I can speak for him, also, the
    Chairman and I feel most strongly is that it would be terribly
    unfortunate if the debate over Shad-Johnson were just to
    continue in a way that delayed resolution of the Shad-Johnson
    question----
        Senator Kerrey. I must respectfully disagree. We resolved
    the one conflict and this is basically the CFTC and the SEC
    fighting this thing out. That is what is going on here. We are
    concerned about risk about insider trading, fraud,
    manipulation, leverage and risk and potential temptation of
    stock manipulation. We will factor all that into consideration
    but at the end of the day, the SEC and the CFTC, they are going
    to go into court and fight this thing out.
        So we figured the one out, the derivative issue, the Ag
    Committee figured that out, but now we have another issue that
    is being raised on behalf of the SEC filing a lawsuit against
    the CFTC. So on behalf of the Ag Committee and the CFTC, I have
    to say that we have to do both of them together.
        And if we were able to sort out and figure out what is best
    for the consumer and what is best for financial risk, it seems
    to me we ought to be able to do it on this issue, as well, and
    we should before we move a piece of legislation.
        Secretary Summers. It would certainly be very desirable to
    achieve. It would certainly be very desirable----
        Senator Kerrey. All the issues having to do with insider
    trading, fraud, manipulation, leverage and risk and the issues
    that Senator Gramm raised about having differentials in
    margins, the insider trader issues that are different between
    the SEC and the CFTC, all these, the tax problems, we have high
    enough IQs to figure this out and it seem to me that we ought
    to figure it out and we ought to include it in the legislation.
        Mr. Greenspan. Senator, I think, without commenting on the
    particular suit that you are raising, in this type of issue it
    is a mistake to leave it to the courts to decide. The reason
    basically is that what we are dealing with at this point is a
    changing economy and the changing necessary regulatory
    structure that would be required with it.
        The courts, of necessity, are required to reach judgment on
    existing statute and on existing precedent and indeed, what
    they are effectively measuring is the judgments that the
    Congress made in an earlier period. And it strikes me that it
    is terribly important when dealing with an issue such as this
    in a rapidly evolving financial industry that the Congress
    should address it from scratch in a sense, to take a look at it
    de novo and make judgments of an appropriate type to determine
    what is the structure because there is no way that the courts
    can do that; nor should they. They are there for a
    fundamentally different purpose and to abandon a decision of
    this nature to legal issues, in my judgment, is a mistake.
        Senator Kerrey. I agree. Or to wait until we have put
    another man on the moon. The last time we put a man on the moon
    was before Shad-Johnson. That is the other thing we could do.
    We could wait for another man to arrive on the moon and do this
    thing.
        I agree with you, Mr. Chairman. It seems to me that we have
    enough information, we have good enough judgment that we ought
    to be able to figure this thing out and we should. And I
    personally would object to saying well, we will do the
    derivatives, along with codifying the changes that the CFTC has
    made in the regulation, but we are not going to resolve the
    single-stock issue. We can do that, as well, and I think we
    should.
        The Chairman. Thank you very much, Senator Kerrey.
        Let me just comment that Senator Kerrey deserves
    congratulations, along with our colleague, Senator Roberts.
    They were major proponents of a crop insurance risk management
    bill that this committee worked on--tremendously complex
    issues. And with our House components, the president signed the
    legislation yesterday. It was not well heralded but it should
    have been because it is a genuine achievement in a year in
    which not much legislation is occurring that is complex and
    that crosses a lot of boundaries.
        So when the Senator from Nebraska speaks, we all listen and
    he is energized this morning. I am grateful that, that is so.

        STATEMENT OF ROBERT F. BENNETT, A U.S. SENATOR FROM UTAH

        Senator Bennett. Thank you, Mr. Chairman.
        I do not have the technical background to challenge any of
    the discussion that has gone on. Let me ask a potentially
    stupid but hopefully big picture question.
        This situation is fraught with turf battles between the
    CFTC and the SEC and we are going to hear from both of those
    gentlemen in just a moment and each one will be very articulate
    and eloquent in defending his own agency and his own position.
        Do either of you have a big picture kind of sense as to
    where this regulation, the center of gravity ought to come
    down? Is this really an SEC kind of thing or is this really a
    CFTC kind of thing? And should most of it be on one or most of
    it be on the other?
        Mr. Greenspan. I have just gotten laryngitis.
        [Laughter.]
        Senator Bennett. It is either a really dumb question or a
    very good one.
        Secretary Summers. It is a very good question.
        Mr. Greenspan. Senator, I may just say whenever you make
    those remarks I zip up my pockets and run.
        Secretary Summers. It is a very good question and I am
    seeking to draw on what I have learned from watching Chairman
    Greenspan over the years to formulate a suitably vague, a
    suitably extensively analytical but yet nondecisive answer.
        Senator Sarbanes. In other words, you just got laryngitis,
    as well.
        Secretary Summers. I think the difficulty involves, and the
    two chairmen will speak in a much more learned way to this than
    I can, that what you are discussing is a future, which
    naturally falls within the ambit of the CFTC. And the issues
    that are of concern having to do with insider trading, having
    to do certain kinds of market integrity, are issues that go
    to--having to do with consumer protection--are issues that
    really go to core SEC, what have been core SEC concerns for
    many years. I think it is that dichotomy between where the
    instrument would tend to naturally fall and where the concerns
    would tend to naturally fall that creates the difficulty.
        But it does, to borrow on the kind of analogies that have
    been used before, it does strike me that a Nation that has been
    as successful as ours has been at mediating conflicts in a
    range of settings internationally ought to be able to find a
    way of mediating the tensions that exist here. But I suspect
    the right answers will not be ones that are heavily tilted to
    either end of the spectrum.
        Senator Bennett. Does that mean then that both regulators
    will stay fully involved and anybody who is in this business is
    going to be wondering from day to day which regulator is going
    to come down hardest? Don't we want some degree of--you talk
    about certainty; we talk about predictability--don't we want
    some degree of unity here where you deal with one set of
    regulations and you know that another regulator will not come
    in and penalize you for having done that? Or can we really
    split the baby and say they both still are in the arena?
        Secretary Summers. At least in my judgment, Senator
    Bennett, any formula that resolves this will be just as the
    agreement that Chairman Greenspan and I reached with respect to
    the operating subsidiary issue was one of very substantial
    complexity and I think in some ways in that complexity lay its
    strength. It was neither fully satisfactory nor fully
    unsatisfactory to either of us and it enabled us both to feel
    that our core concerns had been expressed.
        I do think that a resolution which subjects these
    transactions to the full weight of regulation of both agencies
    would, for the reasons you suggest, be an unfortunate outcome.
    I also think a resolution which subjects them to whichever was
    the least regulation of the two agencies might well apply
    substantial pressure in a negative direction.
        So I think some more complex formula involving certain
    kinds of joint rule-making might prove to be most effective.
    But I think this is a question that is really better addressed
    to the two agencies.
        Senator Bennett. Thank you, Mr. Chairman.
        The Chairman. Thank you very much, Senator Bennett.
        Senator Schumer.

     STATEMENT OF HON. CHARLES E. SCHUMER, A U.S. SENATOR FROM NEW
                                  YORK

        Senator Schumer. Well, thank you, Mr. Chairmen. I very much
    appreciate this hearing on an issue that I am very interested
    in. It obviously affects New York in a great many ways.
        I think this proposal has potentially profound and dramatic
    effects on our securities and future markets and I am
    disappointed, frankly, with the bill's treatment of Shad-
    Johnson and giving the CFTC sole jurisdiction over single-stock
    futures. I am not opposed to single-stock futures. If we do not
    allow U.S. exchanges to offer them we could see them offered in
    London or Tokyo. And in general, when the market comes up with
    new types of products, my general view is let it rip. But the
    regulatory framework has to be right and the President's
    Working Group recommended that Shad-Johnson be repealed and
    that single-stock futures be allowed to be traded if and only
    if could achieve regulatory parity for futures and their
    underlying equities.
        There is no way with the SEC regulating one and the CFTC
    regulating the other that we will have regulatory parity. They
    are different types of regulators. They have a different
    regulatory structure. And this bill creates regulatory
    disparity by substantially different regulatory frameworks for
    regulation.
        We know why we are doing this. It is always a turf war, as
    you gentlemen are very familiar with from last year's
    discussion of financial futures, and neither side wants to give
    us their turf. And, at the end, we come up with this topsy-
    turvy gyro gearless solution that satisfies turf needs and does
    not make any sense from a regulatory point of view.
        The SEC has always been charged with protecting investors
    and providing full and fair disclosure of corporate market
    information and preventing fraud and manipulation. The CFTC
    regulates commercial and professional hedging and speculation
    in an institutional framework. CFTC cannot regulate insider
    trading. Margin requirements are different. I hate to see
    investors shopping as to which instrument to use or to buy for
    that reason. So neither regulation nor the lack of it should
    pick winners and losers among products or exchanges and fair
    competition should.
        Simply put, to me, the SEC cannot fulfill its legal
    obligation to oversee the securities markets if single-stock
    futures, which will likely have significant effect on the
    securities markets, are solely regulated by the CFTC.
        And today I am going to introduce legislation that would
    provide for joint jurisdiction of single-stock futures by the
    SEC and the CFTC, that will create a fair framework for trading
    these products while minimizing the regulatory burden on the
    exchanges. Specifically, it would only apply to core securities
    laws--anti-fraud sales practice requirements and harmonize
    margin levels to single-stock futures. I think this represents
    a fair compromise and I would like to work with the Chairmen of
    both committees, as well as you gentlemen, to deal with that
    issue.
        So having stated my views somewhat strongly, because I feel
    strongly about the issue, I would like to ask both Chairman
    Greenspan and Secretary Summers your view of whether the
    present bill provides a fair and even regulatory framework,
    specifically whether the President's Working Group
    recommendations, that we repeal it only if we could achieve
    regulatory parity for futures and their underlying equities--
    that is the President's own Working Group statement--is met in
    the bill that was introduced by my two men I greatly respect
    and work with, Chairman Gramm and Chairman Lugar.
        So since it is the President's Working Group, I will call
    on Secretary Summers first.
        Secretary Summers. Thank you. As I have said a number of
    times, Senator Schumer, we think there are a range of possible
    outcomes that would be consistent with this bill advancing the
    national interest, first.
        Second, if I might just refer back to the analogy that you
    had used of the issues that the Chairman and I worked through
    successfully last year, I think it is tempting for those
    looking on to these issues to see only concerns of turf, but in
    that issue there were real concerns on both sides having to do
    with spreading safety nets on the Fed side, having to do with
    business choice on our side. And similarly with respect to this
    issue, I think we are not fair to our colleagues in the two
    agencies if we do not recognize that there were real issues of
    principle that the agencies feel strongly about that go totally
    behind and are outside of any question of turf that are
    involved in these issues.
        I have not studied as fully as I could the provisions, the
    precise provisions of the bill as currently written but I think
    I speak for all of us in saying that we would be more
    comfortable with a resolution in which the SEC could feel that
    its core interests with respect to insider trading and consumer
    protection were addressed, and my understanding is that they do
    not have that feeling about this legislation as it currently
    stands.
        On the other hand, I would hasten to stress I think it is
    very important that there be an outcome here and that this
    issue be resolved in a mutually satisfactory way and I would
    not want to see us adopt a posture of handing the ability to
    hold this issue hostage to multiple different parties and
    therefore delaying forward movement on the OTC certainty
    portion.
        Mr. Greenspan. I agree with what the Secretary said and I
    think that as you said, Senator, time is crucial here because
    if the two agencies cannot work it out or if the Congress
    cannot work it out, foreigners will. It is not a question of
    whether or not there will be single-stock futures out there it
    is only: traded where? And unless this issue is resolved, if it
    is continuously debated endlessly, the issue will get resolved
    but not to our advantage.
        I think that Secretary Summers and I have recognized that
    the Chairmen of the SEC and the CFTC are far more knowledgeable
    than either of us on the technical details and the
    ramifications and the unintended consequences of various
    different types of stipulated regulatory structures and there
    are certain types of issues which that type of expertise is
    just not substitutable by just people's off-the-top-of-their
    head opinions which, in my case, it would be the case.
        So I sort of am looking to the two of them to get the issue
    resolved because if they resolve it, in my judgment, I will
    feel comfortable that there are no latent secondary
    consequences that the less informed on these issues would
    endeavor to miss.
        Senator Schumer. I would just say, and I could not agree
    with you more, that they ought to be resolved between the two
    agencies. I will not ask you this but it seems to me that the
    legislation introduced does not really attempt to resolve those
    issues but rather, just goes to one side.
        And I would ask both of you to use your good offices. You
    do not have the expertise that the two agencies have. On the
    other hand, you are both very bright people who understand
    financial markets and who do not have, because maybe not all of
    this is turf--clearly it is not--but it not that none of it is
    turf. And we can argue about whether it is 50/50, 80/20, 20/80,
    but I think you are both going to be needed to come up with
    some kind of compromise that allows us to go forward with
    single-stock futures which is, as I said, something I support,
    but do it and avoid regulatory arbitrage.
        I mean for instance, just on margins, almost inevitably you
    will have people go to the less regulated market if you have
    such disparities between the regulation between the one and the
    other, and that may be a desirable outcome, it may not, but we
    ought not to come to that conclusion by default.
        We need your help. Both of you are reluctant to mix in but
    my guess is we are not going to come up with a proposal that
    both sides can work unless some folks like yourselves mix in. I
    am gloomy about passage for this year unless some outside
    forces help work out a compromise.
        The Chairman. Let me just thank you very much, Senator, and
    commend you for that request of our two witnesses. I would
    share that desire for counsel and likewise, your own counsel
    with regard to this.
        I am not so gloomy. I think we need to proceed and before
    introducing Senator Grams, I just want to mention I just
    received word that the House Subcommittee on Risk Management
    and Specialty, perhaps stimulated by our hearing this morning,
    has announced a mark-up for tomorrow on their bill.
        Senator Gramm. They have obviously solved all these
    problems.
        The Chairman. The full committee, Agriculture Committee of
    the House, will mark up their work next Tuesday, so that offers
    at least some incentive for us to move ahead.
        Senator Grams.

       STATEMENT OF HON. ROD GRAMS, A U.S. SENATOR FROM MINNESOTA

        Senator Grams. Thank you very much, Mr. Chairman.
        Gentlemen, thank you for being here, of course. Just a
    couple of brief questions. I know you have been at the panel
    for a long time this morning.
        Chairman Greenspan, you indicated in your statement that
    over-the-counter derivatives could remain free from regulation
    so long as the transaction involved professional
    counterparties. How do you define professional counterparties?
        Mr. Greenspan. There are legal definitions of that but
    essentially, somebody who is in the business of dealing with
    securities and has sufficient net worth to segregate them from
    what we would want to determine are retail customers whose
    basic activities do not give them the level of knowledge which
    people who are in the business have. By professional, we mean
    somebody who is a professional securities or commodities
    person.
        Of necessity, it is clearly a somewhat arbitrary legal
    definition, but indeed in legislation and in regulation, we do
    make those distinctions and we make them in a very rigid form.
    We do not always get it exact, but for 98-percent of the
    problem that we would have with respect to making that
    division, I suspect we are successful.
        Senator Grams. And second, we go to some length to try to
    assure that stock futures have a similar type of oversight as
    do the stock options. This gets to the heart of the Shad-
    Johnson debate. When we turn our attention to legal certainty
    for OTC derivatives, do we need to have the same level of
    oversight for the over-the-counter swaps involving stocks or
    other forms of equity?
        Mr. Greenspan. Well, I think that if the basic purpose is
    to have a sound market, the first judgment you have to make is
    does the market structure itself have in it the means for
    stabilization? In other words, as the issue I raised before, it
    has been our experience that having effective counterparties in
    transactions, people who understand the financial statement of
    the people with whom they are dealing is unquestionably the
    most important aspect which keeps risk at a minimum level in
    the system.
        Regulation can only substitute at the margins and oversee,
    so far as over-the-counter securities are concerned, in a
    professional manner very broad notions of guarding against
    systemic risk. When you get to questions of retail markets, it
    is a wholly different issue and I think there is general
    agreement amongst all of us about how that should be handled.
        Our major concern is to make certain that these very
    effective over-the-counter derivatives markets which have been
    so important to the financial development of this country can
    operate in the most effective manner. In our judgment, that is
    best maintained with a minimum of regulation, largely because
    any regulation which is imposed, which would undercut
    counterparty surveillance does, far more damage than good.
        Senator Grams. Thank you, Mr. Chairman.
        Secretary Summers, we have heard this morning about losing
    derivative markets to Europe. If this bill passed, the legal
    environment for derivatives?
        Secretary Summers. I should give you a detailed answer, a
    more detailed answer than I can give you right now to that
    question in writing. But the core of that answer would be that
    the failure to pass this bill would create a situation where
    derivatives contracts entered into in the United States would
    be subject to more risk, to be sure, an extremely remote risk,
    but more risk of being arbitrarily unwound because of a
    regulatory action than in Europe.
        And in a world where it is easy to change the location at
    which contracts are booked, that residual uncertainty could
    become an important feature of competitive disadvantage. So the
    core of the answer would be greater residual uncertainty
    associated with OTC swaps in the United States.
        Senator Grams. Maybe if you can provide a more detailed
    written answer.
        And just one final quick question. In your concern,
    Secretary Summers, about exempting swaps from securities laws,
    are you suggesting that all swaps be given the same treatment,
    regardless of the underlying financial instrument involved?
        Secretary Summers. No. I am suggesting that one craft the
    set of provisions that are necessary to assure that--I think
    the most prominent examples of this will be those that involve
    individual equities--that one craft the minimal set of
    provisions that assures that there will not be circumvention of
    the existing regulatory protections with respect to the factors
    that we have enumerated--insider trading, manipulation, fraud,
    and protection of retail investors.
        There are also, and this is not something we have commented
    on so far, there are also certain questions having to do with
    the technical definition of a swap in portions of this
    legislation which on some readings could lead it to be called a
    swap if a transaction took place in what we today regard as
    ordinary financial instruments on an off-exchange basis and
    would therefore nullify the regulation that would apply to
    that. That is a concern that we believe should also be
    addressed in clarifying the language that is contained in these
    provisions.
        It is not my impression that, that is anyone's intent and
    so we do not believe that should be a difficult clarification
    to accomplish.
        Senator Grams. Thank you very much, Mr. Chairman.
        The Chairman. Thank you very much, Senator Grams.
        Secretary Summers, Chairman Greenspan, we are grateful to
    you for your testimony, for your forthcoming responses to our
    questions, and we look forward especially in these next few
    days to working with you and your associates very carefully.
    Thank you very much for coming.
        The Chair would like to call now the Chairman of the SEC,
    Mr. Arthur Levitt, and the Chairman of the CFTC, Mr. William
    Rainer.
        We are grateful that the two Chairmen are with us. We
    appreciate your being here to hear the testimony that has
    preceded yours, but we look especially to your thoughts this
    morning and I would like to call upon now Chairman Levitt for
    his testimony.

    STATEMENT OF HON. ARTHUR LEVITT, CHAIRMAN OF THE SECURITIES AND
                  EXCHANGE COMMISSION, WASHINGTON, DC.

        Mr. Levitt. Chairman Gramm, Chairman Lugar and members of
    the Committees, thank you for the opportunity to address the
    Committees concerning Senate Bill 2697. This bill would provide
    important legal certainty for over-the-counter derivatives and
    would lift the ban on single-stock futures. As you know, the
    Commission fully supports both of these objectives. In other
    important respects, however, I believe that the bill presents a
    number of serious risks to the investing public and to our
    securities markets.
        As we consider the implications of the bill, it serves us
    well to remember both the wisdom embodied in our securities
    regulatory framework and the extraordinary prosperity it has
    fostered. Its wisdom, I think, is simple--a recognition that
    protecting investors is not just the right thing to do, but the
    smart thing to do; that it is investor confidence that
    ultimately fuels competition, that vibrant markets rest on a
    foundation of integrity. I strongly believe that the
    unequivocal commitment to protecting investors made by your
    predecessors and mine has been critical to the success our
    securities markets have enjoyed for more than half a century.
        The bill before you, consistent with the Working Group's
    recommendations, goes a long way towards providing greater
    legal certainty for over-the-counter derivatives by excluding
    certain products from the Commodity Exchange Act.
        The bill, however, goes well beyond this objective. Indeed,
    it would place all swap agreements beyond the reach of the
    securities laws. In doing so, it might result in a wholesale
    removal of SEC oversight of a wide array of securities
    products.
        For example, one could potentially avoid long-established
    investor and market integrity protections applicable to equity
    securities by merely documenting an equity transaction as a
    ``swap.'' In my judgment, the risk of this regulatory approach
    is simply unacceptable for America's investors. Moreover, I
    think there is no apparent public policy justification for this
    far-reaching provision.
        The bill also lifts the ban on single-stock futures
    contained in the Shad-Johnson Accord. I certainly have no
    interest in justifying the historical origins of that ban here
    today. I have made clear my view that market demand--and not
    regulatory fiat--should determine the availability of
    investment vehicles. But I would hope we face squarely the fact
    that single-stock futures are an economic substitute for the
    underlying security. We should not ignore the fabric of
    protections that retail securities investors rely upon and the
    confidence that these protections engender.
        Some may dismiss this concern as a guise for protection of
    turf. I assure you, the questions surrounding how best to
    ensure that regulatory disparities do not erode investor
    confidence are profoundly serious and substantive to me.
        Chairman Rainer and I, and our staffs, have spent a great
    deal of time exploring how single-stock futures might trade.
    Although we did not reach agreement on all aspects of a
    regulatory framework, we did agree that we should jointly
    regulate these products. Building upon that recognition, my
    staff has crafted a plan under which these products could
    trade. In my judgment, an enduring regulatory framework must
    have the following elements.
        First, single-stock futures are undeniably a substitute for
    stocks and stock options. Thus, the framework must recognize
    the legitimate interests of both the SEC and the CFTC in
    regulating these products.
        Second, the framework must encourage fair competition among
    markets by, for example, including mechanisms to harmonize the
    regulatory requirements across the securities and commodities
    markets, particularly those related to margin. Competitive
    market forces, rather than government regulation, should pick
    winners and losers.
        Legislation also should facilitate the listing of the same
    single-stock futures on multiple exchanges. This avoids any one
    market having an exclusive franchise by forcing all markets to
    compete for investors' business. The history of our securities
    markets makes it crystal clear that vibrant competition between
    markets is the surest path to protecting investors as well as
    the guardian of our global competitive edge.
        Third, the framework must acknowledge that single-stock
    futures will be retail products. While extremely complex
    derivative products might not attract retail customers, a
    simple future on a share of a blue chip stock is the type of
    product that is sure to do so. Investor protection is therefore
    essential, as is clear and direct SEC authority over market
    participants that trade single-stock futures.
        The alternative is neither workable nor wise. Consider for
    a moment a corporate insider who learns that his company is
    about to receive an unsolicited bid to be taken over. The
    insider buys a substantial amount of single-stock futures on a
    futures exchange and earns huge profits on the transaction,
    which he plans to send to an off-shore bank.
        Without direct authority over the futures exchange and
    direct access to the information we need to detect insider
    trading, the SEC might learn of the futures purchase by the
    insider either late or never. Even if the SEC was notified of
    the suspicious futures transactions, our enforcement staff
    would be forced, under the current bill, to seek CFTC
    permission to proceed. Needless to say, enforcement is an area
    where dispatch is essential and delays are fatal to the cause
    of securing relief.
        Or consider the disparity in obligations that would apply
    to a broker authorized to sell both stocks and single-stock
    futures to clients. If he sells the future, he need provide no
    more than a one-time risk disclosure document that, in effect,
    tells customers that futures are risky. If he sells the stock,
    on the other hand, he takes on a duty to tailor the
    recommendation to the specific needs of the client. One does
    not have to be a cynic to spot his incentive to sell the
    product offering less protection and it is hardly apocalyptic
    to recognize the danger. Should the protections given a
    brokerage client really depend on which product the broker
    chooses to sell? Ignoring these obvious questions today, it
    seems to me, will almost certainly result in disillusioned
    investors tomorrow.
        Finally, the framework must avoid any harm to existing
    capital markets. In lifting the ban on single-stock futures and
    reopening jurisdictional issues, legislative changes should not
    take away existing SEC authority over financial products. The
    Shad-Johnson Accord clarified the SEC's jurisdiction over
    securities options, and that jurisdiction should not be
    diminished in any way. Nor should legislation eliminate the
    SEC's existing role in evaluating products such as stock
    indices.
        Achieving these four principles will leave U.S. markets for
    these products better positioned to compete against their
    foreign counterparts. As markets around the world compete for
    customers and capital, one overriding principle will serve as
    our competitive advantage: the quality of our markets.
    Unfortunately, as written, the bill ultimately does not
    vindicate those principles.
        I look forward to providing additional technical assistance
    to help you reach the right answer for our markets. Thank you.
        [The prepared statement of Mr. Levitt can be found in the
    appendix on page 73.]
        The Chairman. Thank you very much, Mr. Chairman.
        Chairman Rainer.

    STATEMENT OF THE HON. WILLIAM RAINER, CHAIRMAN OF THE COMMODITY
              FUTURES TRADING COMMISSION, WASHINGTON, DC.

        Mr. Rainer. Thank you, Chairman Lugar, Chairman Gramm,
    Senator Sarbanes, Senator Harkin and Members of the Committee.
    I am pleased to appear before you this morning and thank you
    for inviting me as I represent the CFTC.
        The Commission commends your efforts to modernize the
    Commodity Exchange Act and to provide legal certainty for over-
    the-counter derivatives, remove impediments to innovation, and
    to reduce systemic risk. This bill responds to the President's
    Working Group's request for urgent legislative action on its
    recommendations so that the U.S. may retain its leadership in
    these rapidly developing markets.
        The Commission welcomes your proposal to enhance legal
    certainty for over-the-counter derivatives by excluding from
    the CEA certain bilateral transactions enter into on a
    principal-to-principal basis by eligible parties.
        The market for derivatives has expanded dramatically over
    the past two decades as financial institutions rely
    increasingly on these transactions to manage interest rate and
    foreign exchange risk.
        The Commission has reservations, however, about the bill's
    exclusion of OTC energy derivatives from the CEA and I would
    like to take a moment to expand on that if I may. On this point
    the bill diverges from the recommendations of the President's
    Working Group, which limited the proposed exclusion to
    financial derivatives. The Commission believes the distinction
    drawn by the Working Group between financial and nonfinancial
    transactions was a sound one and respectfully urges the
    Committees to give weight to that distinction.
        Most dealers in the financial swaps market are either
    institutions subject to supervision by bank regulatory agencies
    or affiliates of broker-dealers regulated by the SEC or
    affiliates of FCMs subject to CFTC oversight. The same cannot
    be said of trading in energy derivatives. The decision to
    extend the exclusion in 2697 to energy derivatives would leave
    these OTC products in a regulatory gap neither directly
    regulated as financial products nor indirectly regulated by an
    agency with jurisdiction over commercial participants in the
    energy market.
        The Working Group's recommended exclusion from CEA for
    financial contracts focussed on the facts that such contracts
    are not susceptible to manipulation and do not serve a price
    discovery function. The consensus exists within the markets and
    among financial regulators that trading in financial OTC
    derivatives is not susceptible to manipulation. That case has
    not been made with energy products.
        The unanimous recommendation for an exclusion for financial
    products resulted from months of deliberation by Federal
    financial regulators. No comparable coordination has occurred
    between the CFTC and any of the other Federal entities and
    programs with jurisdiction over cash markets for energy. An
    exclusion for trading in energy contracts may create incentives
    for existing exchanges to convert to restricted, institutional
    markets or, more likely, may lead large traders to migrate to
    unregulated markets. Either event would threaten the important
    price discovery role played by regulated energy futures. A step
    of this magnitude should be preceded by public discussion.
        The CFTC therefore believes that there is insufficient
    evidence to support the bill's exclusion of energy products.
    Regulatory relief is more appropriately provided through the
    commission's exemptive authority. We have a substantial history
    of responsiveness in this area.
        For example, the commission's staff has issued two no-
    action letters within the past 6-months to electronic trading
    platforms, the sponsors of which include several of the largest
    participants in the energy markets. And, as the Committees are
    aware, bilateral OTC energy trading between commercials,
    dealing with each other on a principle-to-principle basis, has
    been exempted from all but anti-manipulation provisions of the
    CEA since 1993.
        As the discussion over the treatment of energy commodities
    progresses, the Commission will be pleased to continue working
    with the Chairmen and members of these committees to find an
    acceptable resolution of this issue.
        The Commission supports 2697's exclusion for electronic
    trading facilities for OTC financial derivatives which will
    promote an environment in which innovative systems can flourish
    without undue regulatory constraints. Electronic trading
    systems have the potential to foster efficiency and
    transparency and such systems should be permitted to develop
    unburdened by an anticipatory regulatory structure.
        The bill also permits clearing of OTC derivatives and
    authorizes a mechanism for the CFTC to regulate facilities that
    clear OTC derivative contracts. Again the President's Working
    Group specifically recommended removing the legal obstacles to
    the development of appropriately regulated clearing systems to
    reduce systemic risk, and we support this recommendation with
    the following reservation. The bill would allow securities
    clearinghouses to clear a broader range of contracts than
    futures clearinghouses. Futures clearinghouses would have to
    register in a dual capacity--as futures and as securities
    clearinghouses--to clear the same mix of contracts available to
    securities clearinghouses holding a single registration. By
    declining to grant futures clearinghouses equal opportunity to
    compete, the bill may put the Government in the position of
    determining winners and losers. We recombined that the
    Committees avoid placing futures clearinghouses at a
    competitive disadvantage.
        The Commission supports the bill's revision of the Treasury
    Amendment to make clear our jurisdiction over transactions
    entered into between retail customs and unregulated entities,
    including so-called bucket shops. We have long sought legal
    clarity in this area in order to protect fully the public from
    foreign currency fraud.
        Earlier this month the Commission approved for publication
    in the Federal Register its comprehensive regulatory reform
    package which alters fundamentally the Commission's regulation
    of futures and options markets. This bill attempts to codify
    much of the Commission's regulatory reform proposal and we
    welcome your support of the Commission's initiative.
        The CFTC staff is undertaking a comparative analysis of our
    proposed framework as released on June 8 and the relevant
    provisions of this legislation and we would be pleased to
    submit the results of that review to the Committees in the very
    near future.
        S. 2697 addresses the issue of equity futures contracts and
    reflects efforts to develop a plan to amend the Shad-Johnson
    Accord. The Working Group recommended, as we have heard a lot
    today, that the CFTC and SEC work together to determine how the
    accord should be amended. We agree in principle that equity
    futures should be available to the marketplace. Agency staffs
    have agreed on many specific areas related to lifting the ban,
    such as harmonizing margin requirements, restricting dual
    trading, testing for sales and supervisory personnel,
    establishment of uniform listing standards for single-stock
    futures, among others, such as notice registration for
    exchanges and intermediaries. We acknowledge, however, a
    fundamental disagreement concerning the appropriate legislative
    approach.
        The CFTC has sought to avoid creating a framework that
    potentially could result in overregulation of markets and
    intermediaries and therefore have advocated identifying those
    core principles from each regulatory regime necessary to ensure
    an appropriate level of oversight for trading these products.
    While the agencies agreed that duplicative regulation must be
    avoided, the CFTC staff expressed concern that an ``umbrella''
    approach, meaning the application of the panoply of both
    securities and commodities regulations to these products, could
    result in overburdensome regulation. The SEC staff insists that
    defining equity futures products as securities is essential to
    its regulatory functions. This fundamental difference in
    approach has led an impasse.
        With respect to this bill, S. 2697, we, the CFTC, have no
    objection to the Shad-Johnson provisions that bear on
    regulatory issues related to the CFTC's oversight of single-
    stock futures.
        Again we appreciate the opportunity to present our views
    and I will be happy to answer questions. Thank you.
        [The prepared statement of Mr. Rainer can be found in the
    appendix on page 85.]
        The Chairman. Well, thank you very much, Mr. Chairman.
        Let me just begin this round of questions. We will have a
    5-minute limit again for Senators to raise questions with
    witnesses.
        Chairman Levitt, you mention in your testimony that the
    Commission staff of the SEC has prepared a discussion draft
    that incorporates the legislative goals that you have
    enumerated in your testimony with regard to the single-stock
    option situation, Shad-Johnson Accord repeal.
        Unfortunately, given the pendency of this bill, as well as
    bills in the House, the CFTC has not apparently had a chance to
    review or comment on our draft in detail.
        Chairman Rainer indicates, not really to respond to that,
    that there appear to be some fundamental disagreements with
    regard to regulation or overregulation, a panoply or umbrella,
    as he discussed it.
        I am just simply curious really, to both of you. It is
    obvious this is important legislation. The Committee has been
    intent upon moving toward conclusions and we appreciate the
    discussions that you have held and cited the meeting of May 23
    with Chairman Gramm and myself in which you indicated you have
    been making headway but, as you stated last winter, I guess, it
    was going to be this winter before you could arrive at it.
        This is not meant, I am certain, to be disrespectful to the
    Committee or to show a casual approach but it should have been
    apparent to the two of you that we are intent upon passing a
    bill.
        Now, is the strategy you have in mind to stop the bill? Is
    really your intent simply to indicate to members of the
    Congress that whatever we have is unacceptable and therefore
    you are prepared to continue at your own pace, sort of in your
    own sweet time, to work it out--November, December, January,
    whenever you get around to it?
        In other words, I really cannot understand, given the
    gravity of this situation of markets in the United States and
    the intent of this committee to try to work with the Banking
    Committee, why the two of you and your commissions are not
    equally arduous, have not set a priority to get on with it and
    to come to agreement.
        Now obviously you have not, so we have. Now, you objected
    to that and indicated that you are still passing papers back
    and forth, but you are not listening to each other apparently
    or have no intent upon reaching an agreement.
        I just ask simply why not?
        Mr. Levitt. Mr. Chairman, I respect the effort you have put
    into this, and I certainly share your feeling about the
    importance of aspects of this bill. I think Chairman Rainer and
    I have worked very hard, as have our staffs, on dealing with an
    issue that most of the members of the Committee agree is
    terribly complex issues that we have not, of our own volition,
    raised, issues that we have inherited, that courts have dealt
    with and others have argued about for a quarter of a century.
        I think that had we a greater amount of time, we could move
    further toward a solution. But when, as you full well know, you
    have the political imperatives of the process that we have,
    together with constituent pressures, together with agency
    habits and traditions, that makes it difficult. But I honestly
    believe that, because of the nature of the relationship of the
    Chairs that sit before you, we certainly do not wish to
    frustrate the Congress or the bill. But I would say to you in
    fairness that I regard one portion of the bill with respect to
    certainty--legal certainty for derivatives--as being absolutely
    critical to the national interest.
        I place a lower priority with respect to Shad-Johnson, even
    though I firmly support giving up the prohibitions of Shad-
    Johnson. But one is a matter, in my judgment, of great national
    economic necessity; the other simply is not.
        The Chairman. Chairman Rainer, do you have a comment?
        Mr. Rainer. Yes, thank you.
        First of all, from the CFTC's perspective, your bill is one
    that we do not object to. We think that our interests, the
    CFTC's interests, are adequately covered by the bill.
        However, as you know, I have said several times that we
    recognize the legitimate interest of the SEC and we think that
    it would be very important for the structure that goes out the
    door to be one that both agencies can support.
        I guess that the longer story is that we have two wonderful
    industries--the securities industry, with its exchanges and
    associations, and the futures industry--and they have grown up
    in different regulatory environments. It would be one solution
    for the CFTC to walk away from what I consider its obligation
    and say well, just let the SEC do it. What happens there is you
    have opened up a potentially large--we've used the word unlevel
    playing field several times, but a large unlevel playing field
    because the apparatus, the costly regulatory apparatus in place
    with the futures industry is not organized to meet SEC issues.
        And I felt that the CFTC should do everything it could to
    analyze those issues that would be duplicative, that we they
    already do a good job meeting regulatory tests, and we simply
    have not had time using the SEC approach to make sure that any
    recommendation that the CFTC endorses for these committees is
    the recommendation that is the least cost approach and does not
    attach unnecessary costs.
        Now, if there are burdens that are necessary, so be it.
    That is just the way it is. But we have not been able to find
    that answer yet.
        The Chairman. Well, I thank both of you for those
    thoughtful responses.
        Chairman Levitt, I just disagree with you profoundly that
    there is one aspect of this bill that has national interest.
    That dismays me with regard to the thought about the markets in
    this country, the importance of this. That is, I think, a very
    narrow view, but it is an interesting one, one that you hold
    strongly, but it leads me to believe that we have a problem
    here.
        Now, there is going to be a presidential election, a
    congressional election. We may have a different president--
    probably will have, given the fact that there are two different
    candidates running, no incumbent. A lot of new cabinet people,
    a whole new working group, maybe some new appointees to
    regulatory commissions, a lot of new Senators, maybe new
    chairman.
        Senator Gramm. Now wait a minute. You have gone too far.
        The Chairman. Phil will still remain.
        But it is not a cavalier approach that somehow this can all
    be settled out in the fullness of time, given the agencies'
    ability, their staffs to get together, to shuffle the papers
    and think through the issues. I am confounded. This has gone on
    for months.
        We have had five different hearings here. We have had all
    sorts of sessions about emergencies. So we finally come to a
    meting and everybody is asking Chairman Greenspan, Secretary
    Summers, to get the two of you together and somehow mediate
    this dispute, to give their judgment. Chairman Greenspan gets
    laryngitis at the thought of trying to mediate what seems to
    have been an impossible predictable in Washington to do. So
    this committee is going to try.
        Now, you can try to stop us if you want to but by and
    large, I think the public interest is on our side, and I hope
    you get that picture.
        Mr. Levitt. Mr. Chairman, I have absolutely no interest in
    trying to frustrate the will of the Senate, but I think we must
    recognize that what is happening in this bill with respect to
    Shad-Johnson is taking basically an institutional product, a
    product that has been used by professional investors, and
    turning it into a retail vehicle.
        At this level of the market, with the amount of leverage in
    our system today, for me to look away from the responsibility
    of protecting a different segment of the market than is now
    available to these products would be irresponsible, in my
    judgment. That is not a political judgment; that is a
    conviction based upon my years in the securities industry and
    my firm belief that there are limits to regulation, but that
    protection of that individual investor is fundamental to the
    glorious success of our equities markets.
        And I must raise my hand if I feel that those interest are
    being jeopardized. I believe that a Shad-Johnson bill allowing
    investors to buy a leveraged product of that kind without the
    basic protections that the securities laws have provided
    through the years is just unacceptable.
        The Chairman. Thank you.
        Senator Gramm.
        Senator Gramm. Mr. Chairman, thank you. I will be brief.
        I want to thank each of you for appearing today and for
    your hard work as we try to put the bill together.
        Obviously, it is easy for us to ask ``why can't these two
    guys get together and work this thing out?'' Now, I can work
    out anything with anybody, but there are people who think they
    have trouble working things out with me, so I have some
    understanding of your problem.
        I also understand that you are representing institutions
    that have long and proud histories, and I also understand the
    basic fact that part of what your staff is doing, and they are
    going to be there long after you are gone, is protecting their
    jurisdiction, their turf, and their jobs. I never understood
    jurisdiction till I became the Chairman of a committee. I now
    understand it very, very well. And if I forgot it, my staff
    would remind me.
        The only point I want to make is that this is an important
    bill. It is easy for each of us to go down the list of items in
    the bill and identify what we think is the most important. I
    have my own set of priorities, but my guess is that if we are
    going to have any success, we have to move forward with the
    overall thrust of the bill.
        Now, the only plea I would make--a plea instead of a
    question--is that as we continue to move forward and work on
    this, both of you and your two agencies continue to work
    together. I would like to ask each of you formally to give us
    your review of the bill and your proposed changes so that we
    can go ahead and do the things we can agree on.
        And, as we go through the legislative process, if you would
    continue to pray over this thing, in an effort to work it out.
    Also please think about the possibility of a mandate, similar
    to the provision that we are now talking about in terms of
    harmonization of margins, where we give the Federal Reserve,
    working with your two agencies, the ability to set regulations
    that harmonize margins. It may very well be at some point that
    the best we can do--unless our prayers are answered and you
    work these things out in advance--is to establish a mechanism
    for you to work them out.
        My fear is double regulation. I think that in some areas,
    the SEC has expertise that ought to dominate in this market. I
    do believe futures on individual stocks are predominantly
    equities. What I would like to be able to do is work out a way
    of sharing jurisdiction in those areas where you have a
    legitimate legislated interest.
        So continue to work it out. Think about ways we might
    actually set a mandate in place that it be worked out in the
    future if, all else failing, that is the only way we can do it.
    It is not a terribly good way to legislate, but it is often
    better than not legislating when there are other major items.
        So Mr. Chairman, I want to thank you and the heads of our
    two agencies.
        The Chairman. Thank you, Senator Gramm.
        Senator Sarbanes.
        Senator Sarbanes. Mr. Chairman, I want to sort of sound
    some words of caution here. First of all, it seems to me that
    the quickest way to get to a solution may be to continue to
    push hard on the track of the two chairmen before us working
    out between themselves a resolution of this matter. That
    essentially is what, I think, both Chairman Greenspan and
    Secretary Summers suggested.
        I am mindful of what Senator Gramm said at the outset, that
    at this point in the legislative process, it is going to be
    very hard to move legislation through if it does not rise to
    the level of consensus.
        Now, I happen to think that this perspective that is being
    imposed on this difference that it is just a turf war, a fight
    over jurisdiction, misses the mark. I frankly do not attribute
    that basic motivation to either of these two chairmen that are
    now before us and they obviously have a public interest to
    serve that transcends any jurisdictional or tough turf
    considerations. I do not think this can be viewed as well, we
    have met the CFTC interests but we have not met the SEC
    interests, or vice versa. The question is have we met the
    public interest? And the premise, I think, with which most of
    us are approaching it is that if the two agencies can reach an
    agreement, that it is highly likely that the public interest
    has been met, although obviously we will review that. We do
    not, in the end, give away that judgment. But that
    significantly heightens the ability to conclude that the public
    interest has been met and I think investor protections are very
    important.
        It is all fine to talk about this thing prospectively but
    if we do something that, in the end, results in eroding or
    undermining the investor protections that have been at the
    heart of making the U.S. security market so attractive and the
    leaders worldwide, we have done real harm and real damage.
        Now, it seems to me it ought to be possible to move ahead
    on this issue without jeopardizing that important
    accomplishment, which has sustained not only our markets but, I
    think, been a tremendous boost to the functioning of our
    economy. And if we are now going to move off on a legislative
    path and, in effect, bring to a halt or sort of undercut the
    effort for the agencies to see if they cannot reach an
    understanding, and I gather they have made some progress; is
    that correct? I gather from what you have both said you have
    made progress from when you started out wrestling with this
    issue. Am I correct in that assertion?
        Mr. Rainer. That is a very safe assertion.
        Senator Sarbanes. All right.
        So I think that sometimes haste makes waste. Obviously if
    there is an agreement amongst the president's committee, all
    four of the people who appeared this morning, in the light of
    such an agreement, it ought to be possible to move pretty
    quickly here in the Congress.
        Now, how quickly you can move in the Congress if you do not
    have that agreement is another question, which I think we need
    to be very mindful of because the issues that are at stake
    here, in my perception, at least, are not simply some kind of
    turf fight and we ought to sort of dismiss one or the other or
    come down hard on both. They are issues that go to very
    important national and public interests and I think we need to
    be mindful of that every step of the way.
        Thank you very much.
        The Chairman. Well, thank you very much, Senator Sarbanes.
    Let me just comment that I agree with you. Very clearly the
    work of the Agriculture Committee and the Banking Committee,
    working with the SEC and CFTC, has been to not only protect the
    integrity of the markets, to offer protection to individuals
    and groups, but really to recognize that the integrity of those
    markets is our strength.
        Now the predicament I think we all have to weigh, and this
    is a judgment call, is that during the last year I visited the
    New York Stock Exchange; I have visited the NASDAQ people. I
    have been in the Chicago markets. There are a lot of changes
    going on in these markets. People who are making a living out
    there, tens of thousands of employees, face erosion of their
    job potential.
        We face competition in the world. There are other people
    who are doing all sorts of things. In the course of our
    hearings we had an electronic demonstration and transacted a
    trade right in front of us on his computer on a European market
    and demonstrated really, I suppose, the benefit of our
    regulation one way or another was irrelevant to all of that.
        So, on the one hand, we are trying to think through how do
    we offer these assurances and more of them and, at the same
    time, how do we retain at least the ability to see what is
    going on in the world and retain the strength and the vitality
    of our markets that have all these protections, and that is a
    difficult thing to do.
        Now one item that is unacceptable, it seems to me, is to do
    nothing. If we do that, the markets will run their course
    without regard to what the Congress has to say and there will
    be winners and losers but I think the American people will be
    the losers.
        Now, the case has been made that the American people will
    lose if somehow protections are taken away from them and that
    is a very good point and it is an important one. But again and
    again we have tried to come, I think, to a conclusion, are the
    kinds of persons who are involved in the markets, as Alan
    Greenspan said today, the countervailing market forces that
    eyeball each other, that bring transparency, that bring
    competition--he made the point that regulators are never a
    match for all of the competing forces in markets, that at best,
    they sort of have a safety net after really those who are
    competitors have had a go at it.
        So that is the problem.
        Senator Sarbanes. Well, the problem is if we are going to
    continue this dialogue, and I am quite happy to do it, the
    problem to some extent is a process problem.
        Now, we have this President's Working Group. I gather that
    the President's Working Group limited the proposed exclusion to
    financial derivatives. The bill before us now is going to
    exclude energy derivatives, if I am correct.
        Is that right, Mr. Rainer, as you read the bill?
        Mr. Rainer. Yes.
        Senator Sarbanes. You are opposed to that. Is that right? I
    mean that is counter to the recommendation of the Working
    Group.
        Mr. Rainer. My position is that the case has just not been
    made that is a good idea.
        Senator Sarbanes. Yes. And therefore it ought not to be
    done at this point.
        Now, we discussed earlier the swaps question and it is very
    clear from that conversation that significant changes have to
    be made in the swaps provision. Everyone acceded to that.
        Now, I understand that the CFTC put a proposal out on a
    regulatory framework for future markets and clearing
    organizations on June 8. Is that correct?
        Mr. Rainer. Yes.
        Senator Sarbanes. Now, that proposal is contained in this
    legislation; is that right?
        Mr. Rainer. In large part, yes.
        Senator Sarbanes. Well, it may be all right; it may not be
    all right. But you are putting the proposal out to have a
    comment period. Is that right?
        Mr. Rainer. Yes.
        Senator Sarbanes. And further hearings.
        Mr. Rainer. Yes.
        Senator Sarbanes. The premise of those further hearings and
    the comment proposal is the possibility that you would revise
    the proposal, correct?
        Mr. Rainer. Yes.
        Senator Sarbanes. That is why you do that.
        Mr. Rainer. Yes.
        Senator Sarbanes. And you approach it with an open mind so
    that people who make comments have confidence that they will be
    considered on the substance and a judgment will be made.
        Now, where does that leave you if this legislation passes
    that contains the proposal you have submitted but does not
    reflect the comment period and the hearings that subsequently
    take place in shaping that? I mean it renders it all sort of
    meaningless in a sense. Plus it then puts you in a
    straightjacket in the future if you want to revise the
    regulations because they have been statutorily codified. So at
    that point if you wanted to make changes, you would have to
    come back to the Congress and get a legislative change.
        Now, that is only to underscore the haste makes waste
    observation that I made earlier. But in the end, we are going
    to come back. I appreciate that the industry wants to move and
    I am not unsympathetic to that, but it ought to be possible to
    do that and, at the same time, assure ourselves that these very
    important protections for investors that have been at the
    heart, in my judgment, at the heart of these very successful
    markets are not lost. And to the extent we short-circuit this
    process and make it less likely we are going to reach this kind
    of consensus, I think the problem becomes more difficult, not
    less difficult.
        The Chairman. The Senator makes a good point. I would just
    simply say that everybody is struggling, given the amount of
    time that Senators, regulators, what have you have to give to
    these particular issues, to get our focus. We have comment from
    everybody today on language that might be incorporated. That is
    a serious proposal because we are in the process of heading
    toward a mark-up in which something is going to happen in the
    Committee, and then we hope to proceed.
        You have not had an opportunity to get into this round,
    Senator Schumer. Would you like to raise questions or make a
    comment?
        Senator Schumer. Thank you, Senator Lugar. Yes, I have some
    questions relating to my concern.
        I guess the first one is to Chairman Levitt. Do you worry
    about the effect that introducing single-stock futures will
    have on the underlying equity markets if it SEC has no
    jurisdiction over the product? What will be the worst case
    scenario?
        Mr. Levitt. I do worry about it. I worry a great deal about
    it. I think there are some irrationalities in this process, and
    I guess the very fact that we have two regulators regulating
    similar segments of the market provides us with some
    irrationalities to begin with. Then when you suggest in a bill
    that has something as nationally urgent as giving legal
    certainty to swaps and you combine that with creating a new
    vehicle for investors, you have to ask yourself what is the
    importance of that new vehicle? That new vehicle, has dramatic
    importance to the liquidity of our markets with respect to
    institutions that are used to trading highly leveraged
    products. You are now opening that market to the retail
    investor, who does not have the slightest idea about this.
        We found in surveys, in terms of an understanding of the
    risks of investment products, many do not understand the risks
    of products even that have been with us for many years. We are
    now opening up this new product, which essentially is leverage
    on leverage.
        Is this in the national interest to begin with? If you say
    it is, if this new product is offering America's investors
    something they can get no place else, which I absolutely
    categorically deny, then you have to say are we giving them the
    same protection that they would have when they buy IBM or
    General Motors or any other equity?
        And remember at what point in the market cycle we ask
    ourselves this question. Is this the time to introduce yet an
    even more highly leveraged product into a market which, in my
    judgment, has an abundance of leverage today?
        Senator Schumer. Well, there is a little ad that I would
    like to submit for the record from--I do not know who they
    are--Lynd Waldock. It says, ``There are lots of reasons you
    should consider on-line stock index futures trading''--this may
    be an example of what you are talking about for a broader-based
    product. ``At Lynd Waldock you get''--it says, ``Stocks are
    great for the long term but for short-term trading, try stock
    index futures. At Lynd Waldock you get a of bang for your
    commission buck. One stock's index future commission is
    equivalent to trading 2,000 to 3,000 shares of stock at $30 a
    stock at about half a penny a share.''
        And that will be nothing compared to what happens unless we
    have, as you say, a level regulatory field here. Does the
    Gramm-Lugar proposal, as written, provide that field? To me it
    certainly does not.
        Mr. Levitt. I think it leaves the retail investor with an
    absence of basic protections. I think, working closely with the
    Committees and with the CFTC, it is possible for us to develop
    such protections for investors from the things that I fear the
    most.
        Senator Schumer. What is the rationale for an option being
    governed by the SEC and a future being governed by the CFTC of
    an equity? Options are now governed by the SEC.
        Mr. Levitt. They should not be. You know, I hate to
    criticize a bill that has been sponsored by someone whom I
    admire so much, but, with respect to the kind of regulation
    that we are talking about, Senator, it is split regulation, and
    that is very different from shared regulation.
        Senator Schumer. Correct.
        Mr. Levitt. And if collectively we could work toward shared
    regulation, you would remove many of my feelings about this
    bill, which are not motivated by any issue other than the
    protection of investors.
        Senator Schumer. Would you agree with that, Chairman
    Rainer? Right now the bill has--Chairman Levitt put it right,
    at least as far as I can tell--split regulation. Would you
    agree that a shared regulation formula could work and would you
    be willing to entertain that?
        Mr. Rainer. Senator Schumer, I have been from the outset in
    favor of both joint regulation and the ability for both
    markets--the equity markets and the futures markets--to be able
    to offer these products.
        Senator Schumer. The issue is not who offers the products.
    The issue is who regulates the product. Would you be willing to
    say that shared regulation is, if not the best, certainly a
    good way to go, particularly if it can break the deadlock that
    we seem to have?
        Mr. Rainer. Senator, I think that when I say joint
    regulation, I mean shared regulation, but I am not 100-percent
    sure I know what you mean by a definition of shared versus
    split.
        My position, which I have mentioned, is that this bill,
    strictly from the perspective of the CFTC, adequately addresses
    our concerns. Having said that, I have said in other venues
    that I recognize the important and significant interests of the
    SEC and that I believe that any final regulatory structure
    should be one that both agencies can support.
        Senator Schumer. OK. So you would, if Chairman Levitt has
    in his delicate way--he is more delicate than I am--indicated
    he has real troubles with the bill as proposed, as much as he
    respects Chairman Lugar and Chairman Gramm, and let's put that
    in the record 10 times, would you then encourage that we wait
    and see if we can come up with something that you and he can
    agree upon, provided it can be done in a relatively short frame
    of time? Would you agree that we should not move forward with
    this bill, which seems to me is not a shared regulatory regime
    at all?
        Mr. Rainer. Senator, I am going to withhold that for right
    now. Let me get back to you on that.
        Senator Schumer. If you could submit that in writing.
        And one other thing I would ask that you submit in writing
    is your comments, your objections to the--you cannot know much
    about it yet but the proposal that I have put in today, which I
    think is a shared regulatory regime that I think would be fair
    and sort of go right down the middle, as opposed to this bill,
    which I think does not really do that.
        Mr. Rainer. Of course, Senator.
        Senator Schumer. Great.
        Thank you, Mr. Chairman.
        The Chairman. Well, thank you very much, Senator Schumer. I
    appreciate your comments likewise and will examine your
    legislation, too. It is an important factor. I just ask from
    you, as well as everyone else, some appreciation of the time
    frame that we all have to work in because the Senate session
    will be over soon, the window of opportunity to deal with this
    at all, whatever its merit.
        So my hope, and this is obvious in terms of trying to press
    this issue on this morning, is that there is a certain season
    for these things to happen. If we are not able to, why, we will
    all have a lot of time, but there will be maybe different
    players, a different situation and different position of our
    markets, for better or for worse.
        So it seems to me that this is an appropriate time for us
    to focus as our two committees have attempted to do so this
    morning and will be doing so in a concerted way in the next few
    days.
        Senator Schumer. The only thing I would say, Mr. Chairman,
    I agree with you but I would rather--if there were a choice and
    I agree with you I hope there is not a choice or a division,
    but I would rather do it right than do it quickly. I am sure
    you would agree with that.
        The Chairman. I do agree with that and we are most hopeful
    we can do both, always.
        Senator Schumer. Great.
        The Chairman. We thank both of the Chairmen for your
    patience. It has been an extended hearing this morning but you
    have been with us all the way and we appreciate that. Thank
    you.
        The hearing is adjourned.
        [Whereupon, at 1:03 p.m., the joint Committee hearing was
    adjourned.]

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                                A P P E N D I X

                                 June 21, 2000

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                                 June 21, 2000

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