[House Hearing, 110 Congress]
[From the U.S. Government Publishing Office]



 
   HEARING TO REVIEW LEGISLATION AMENDING THE COMMODITY EXCHANGE ACT

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



                                HEARINGS

                               BEFORE THE

                        COMMITTEE ON AGRICULTURE
                        HOUSE OF REPRESENTATIVES

                       ONE HUNDRED TENTH CONGRESS

                             SECOND SESSION

                               __________

                          JULY 9, 10, 11, 2008

                               __________

                           Serial No. 110-40


          Printed for the use of the Committee on Agriculture
                         agriculture.house.gov
   HEARING TO REVIEW LEGISLATION AMENDING THE COMMODITY EXCHANGE ACT




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                        COMMITTEE ON AGRICULTURE

                COLLIN C. PETERSON, Minnesota, Chairman

TIM HOLDEN, Pennsylvania,            BOB GOODLATTE, Virginia, Ranking 
    Vice Chairman                    Minority Member
MIKE McINTYRE, North Carolina        TERRY EVERETT, Alabama
BOB ETHERIDGE, North Carolina        FRANK D. LUCAS, Oklahoma
LEONARD L. BOSWELL, Iowa             JERRY MORAN, Kansas
JOE BACA, California                 ROBIN HAYES, North Carolina
DENNIS A. CARDOZA, California        TIMOTHY V. JOHNSON, Illinois
DAVID SCOTT, Georgia                 SAM GRAVES, Missouri
JIM MARSHALL, Georgia                MIKE ROGERS, Alabama
STEPHANIE HERSETH SANDLIN, South     STEVE KING, Iowa
Dakota                               MARILYN N. MUSGRAVE, Colorado
HENRY CUELLAR, Texas                 RANDY NEUGEBAUER, Texas
JIM COSTA, California                CHARLES W. BOUSTANY, Jr., 
JOHN T. SALAZAR, Colorado            Louisiana
BRAD ELLSWORTH, Indiana              JOHN R. ``RANDY'' KUHL, Jr., New 
NANCY E. BOYDA, Kansas               York
ZACHARY T. SPACE, Ohio               VIRGINIA FOXX, North Carolina
TIMOTHY J. WALZ, Minnesota           K. MICHAEL CONAWAY, Texas
KIRSTEN E. GILLIBRAND, New York      JEFF FORTENBERRY, Nebraska
STEVE KAGEN, Wisconsin               JEAN SCHMIDT, Ohio
EARL POMEROY, North Dakota           ADRIAN SMITH, Nebraska
LINCOLN DAVIS, Tennessee             TIM WALBERG, Michigan
JOHN BARROW, Georgia                 BOB LATTA, Ohio
NICK LAMPSON, Texas
JOE DONNELLY, Indiana
TIM MAHONEY, Florida
TRAVIS W. CHILDERS, Mississippi

                                 ______

                           Professional Staff

                    Robert L. Larew, Chief of Staff

                     Andrew W. Baker, Chief Counsel

                 April Slayton, Communications Director

           William E. O'Conner, Jr., Minority Staff Director

                                  (ii)


                             C O N T E N T S

                              ----------                              
                                                                   Page

                        Wednesday, July 9, 2008

Baca, Hon. Joe, a Representative in Congress From California, 
  prepared statement.............................................     5
Childers, Hon. Travis W., a Representative in Congress From 
  Mississippi, prepared statement................................     6
Goodlatte, Hon. Bob, a Representative in Congress From Virginia, 
  opening statement..............................................     4
Peterson, Hon. Collin C., a Representative in Congress From 
  Minnesota, opening statement...................................     1
    Prepared statement...........................................     3
Smith, Hon. Adrian, a Representative in Congress From Nebraska, 
  prepared statement.............................................     6

                               Witnesses

Matheson, Hon. Jim, a Representative in Congress From Utah.......     7
    Prepared statement...........................................     9
Van Hollen, Hon. Chris, a Representative in Congress From 
  Maryland.......................................................    11
    Prepared statement...........................................    13
DeLauro, Hon. Rosa L., a Representative in Congress From 
  Connecticut....................................................    15
    Prepared statement...........................................    17
Stupak, Hon. Bart, a Representative in Congress From Michigan....    18
    Prepared statement...........................................    22
Larson, Hon. John B., a Representative in Congress From 
  Connecticut....................................................    27
    Prepared statement...........................................    29
Welch, Hon. Peter, a Representative in Congress From Vermont.....    33
    Prepared statement...........................................    34

                           Submitted Material

American Soybean Association, submitted statement................    59
CoBank, submitted statement......................................    61
Hill, Hon. Baron P., a Representative in Congress From Indiana, 
  submitted statement............................................    57
Stupak, Hon. Bart, a Representative in Congress From Michigan, 
  submitted statement............................................    58
USA Rice Federation and U.S. Rice Producers Association, 
  submitted statement............................................    68
Woods, Eastland, President and CEO, Staplcotn; Member, Board of 
  Directors, Amcot, submitted statement..........................    64

                        Thursday, July 10, 2008

Goodlatte, Hon. Bob, a Representative in Congress From Virginia, 
  opening statement..............................................    72
Graves, Hon. Sam, a Representative in Congress From Missouri, 
  prepared statement.............................................    73
Peterson, Hon. Collin C., a Representative in Congress From 
  Minnesota, opening statement...................................    71
    Prepared statement...........................................    72

                               Witnesses

Zerzan, Greg, Counsel and Head of Global Public Policy, 
  International Swaps and Derivatives Association, Washington, 
  D.C............................................................    74
    Prepared statement...........................................    75
Vice, Charles A., President and COO, IntercontinentalExchange, 
  Inc., Atlanta, GA..............................................    81
    Prepared statement...........................................    83
Comstock, Michael, Acting Director, City of Mesa, Arizona Gas 
  System; Vice Chairman, Board of Directors, American Public Gas 
  Association, Mesa, AZ..........................................    87
    Prepared statement...........................................    89
Greenberger, J.D., Michael, Professor, University of Maryland 
  School of Law, Baltimore, MD...................................    98
    Prepared statement...........................................   100
Pirrong, Ph.D., Craig, Professor of Finance and Director, Global 
  Energy Management Institute, Bauer College of Business, 
  University of Houston, Houston, TX.............................   118
    Prepared statement...........................................   120
Diamonte, Robin L., Chairman, Subcommittee on Defined Benefits, 
  Committee on the Investment of Employee Benefit Assets; Chief 
  Investment Officer, United Technologies Corporation, Hartford, 
  CT.............................................................   158
    Prepared statement...........................................   159
Irwin, Ph.D., Scott H., Professor and Laurence J. Norton Chair of 
  Agricultural Marketing, Department of Agricultural and Consumer 
  Economics, University of Illinois at Urbana--Champaign, Urbana, 
  IL.............................................................   161
    Prepared statement...........................................   163
Cicio, Paul N., President, Industrial Energy Consumers of 
  America, Washington, D.C.......................................   169
    Prepared statement...........................................   170
    Bond, Richard L., President and CEO, Tyson Foods, Inc., 
      Springdale, AR, submitted statement........................   175
Korzenik, Jeffrey D., Chief Investment Officer, VC&C Capital 
  Advisers, LLC, Vitale, Caturano & Company, Ltd., Boston, MA....   179
    Prepared statement...........................................   181
Newsome, Ph.D., James E., President and CEO, New York Mercantile 
  Exchange, Inc., New York, NY; accompanied by Thomas LaSala, 
  Chief Regulatory Officer, NYMEX................................   199
    Prepared statement...........................................    20
Cochran, Christine M., Vice President, Government Relations, 
  Commodity Markets Council, Washington, D.C.....................   208
    Prepared statement...........................................   210
Nicosia, Joseph T., President, American Cotton Shippers 
  Association; CEO, Allenberg Cotton Co., Cordova, TN............   214
    Prepared statement...........................................   216
White, C.F.A., Adam K., Director of Research, White Knight 
  Research & Trading, Alpharetta, GA.............................   218
    Prepared statement...........................................   220

                           Submitted Material

Cicio, Paul N., President, Industrial Energy Consumers of 
  America, Washington, D.C., supplemental material...............   262
Prestage, William H., President and CEO, Prestage Farms, Clinton, 
  NC, submitted letter...........................................   261
Mortenson, Roger F., President and CEO, House-Autry Mills, Inc., 
  Four Oaks, NC, submitted letter................................   262
National Cotton Council, submitted statement.....................   267
United Egg Producers, submitted statement........................   268
Vice, Charles A., Vice President and COO, 
  IntercontinentalExchange, Inc., Atlanta, GA, supplemental 
  material.......................................................   251

                         Friday, July 11, 2008

Peterson, Hon. Collin C., a Representative in Congress From 
  Minnesota, opening statement...................................   271
    Prepared statement...........................................   272

                               Witnesses

Young, J.D., Mark D., Partner, Kirkland & Ellis LLP, Washington, 
  D.C.; on behalf of Futures Industry Association................   272
    Prepared statement...........................................   274
Peniket, David J., President and COO, ICE Futures Europe, London, 
  United Kingdom.................................................   282
    Prepared statement...........................................   283
Ramm, Gerry, Senior Executive, Inland Oil Company, Ephrata, WA; 
  on behalf of Petroleum Marketers Association of America; New 
  England Fuel Institute.........................................   289
    Prepared statement...........................................   290
Greenberger, J.D., Michael, Professor, University of Maryland 
  School of Law, Baltimore, MD...................................   294
    Prepared statement...........................................   100
Duffy, Terrence A., Executive Chairman, CME Group Inc., Chicago, 
  IL.............................................................   310
    Prepared statement...........................................   312
Keith, Kendell, President, National Grain and Feed Association, 
  Washington, D.C................................................   331
    Prepared statement...........................................   332
Johnston, John L., Independent Trader, IB and Precious Metals and 
  Energy Consultant, Morristown, NJ..............................   336
    Prepared statement...........................................   337
Lynch, Timothy P., Senior Vice President, American Trucking 
  Association, Arlington, VA.....................................   356
    Prepared statement...........................................   358
Roth, Daniel J., President and CEO, National Futures Association, 
  Chicago, IL....................................................   368
    Prepared statement...........................................   369
Slocum, Tyson, Director, Energy Program, Public Citizen, 
  Washington, D.C................................................   372
    Prepared statement...........................................   373
Prater, Capt. John, President, Air Line Pilots Association, 
  International, Washington, D.C.................................   380
    Prepared statement...........................................   382


   HEARING TO REVIEW LEGISLATION AMENDING THE COMMODITY EXCHANGE ACT

                              ----------                              


                        WEDNESDAY, JULY 9, 2008

                          House of Representatives,
                                  Committee on Agriculture,
                                                   Washington, D.C.
    The Committee met, pursuant to call, at 2:39 p.m., in Room 
1300 of the Longworth House Office Building, Hon. Collin C. 
Peterson [Chairman of the Committee] presiding.
    Members present: Representatives Peterson, Holden, 
McIntyre, Etheridge, Baca, Cardoza, Marshall, Herseth Sandlin, 
Cuellar, Costa, Salazar, Ellsworth, Boyda, Space, Kagen, 
Pomeroy, Barrow, Donnelly, Childers, Goodlatte, Lucas, Moran, 
Hayes, King, Neugebauer, Boustany, Conaway, Fortenberry, 
Schmidt, Smith, and Latta.
    Staff present: Adam Durand, Alejandra Gonzalez-Arias, Scott 
Kuschmider, Clark Ogilvie, John Riley, Kristin Sosanie, Bryan 
Dierlam, Alise Kowalski, Kevin Kramp, and Jamie Weyer.

OPENING STATEMENT OF HON. COLLIN C. PETERSON, A REPRESENTATIVE 
                   IN CONGRESS FROM MINNESOTA

    The Chairman. The Committee will come to order. First of 
all I want to welcome everybody to today's hearing. It is the 
first of three scheduled hearings that this Committee is going 
to hold this week on legislation that would amend the Commodity 
Exchange Act, and I want to make a couple of announcements.
    First of all, we are going to meet on Friday even though 
whether we are in session or not, and I don't know if that 
decision has been made, but even if we are not in session, we 
will meet. We need to get this work done, and initially we had 
talked about 10 o'clock, but my intention is to move that 
meeting to 9 o'clock on Friday morning. So we will see how long 
it takes, so maybe we might be out of here by noon or 
something. So that is kind of the schedule. Tomorrow we will 
meet at 10 o'clock.
    I want to begin by welcoming our six Members that are with 
us here today. We appreciate them being with us to discuss 
their legislative proposals that they have introduced that 
would affect the regulation of futures and the options markets. 
And they have agreed to be with us and not only present their 
bills but also to remain--to enter into a dialogue and question 
and answer session regarding their bills, as part of the 
process, to try to educate everybody about where everybody is 
coming from. So we appreciate that.
    There is some discussion that there might be votes about 3 
o'clock. I don't know if that is true or not, but we will have 
to work around that as best we can.
    So as I said, tomorrow we are going to, well, one other 
thing I should say. We are going to do things a little bit 
different today. We are going to give the Members that are here 
5 minutes to explain their proposals, but when we get to 
question and answers, we are not going to operate under a 5 
minute rule like we have other times. What we are going to try 
to do is go around and recognize Members that will open lines 
of questioning in specific areas, and then we are going to kind 
of stay on that area to answer the questions, to try to keep 
this more focused on the different specific areas. Because 
people get confused about all the different areas. I still get 
confused about it, so we are going to kind of try to keep that 
focus. Bob and I have talked about this. We are not sure if it 
will work, but we are going to try it. If it gets out of 
control, we will probably have to go back to the 5 minute rule, 
try to get it back under control again. So we will see how that 
works.
    Tomorrow we are going to have a wide variety of stakeholder 
groups, including exchanges, traders, hedgers, commodity 
producers, buyers, academic researchers, and more, and we are 
going to examine these bills that have been placed before us 
from all sides, and we are going to get all points of view.
    While many factors are putting pressure on the price of 
oil, a growing number of people are coming to the conclusion 
that a flood of speculative money into energy futures is behind 
the crude oil record high prices. Two weeks ago over 400 
Members of the House voted for legislation requiring that the 
CFTC utilize all of its authority to curb oil market 
speculation if it exists.
    As oil continues to climb, several bills have been 
introduced that would affect the regulation of the futures 
market that trade crude oil and other energy contracts. 
Speculation has been the boogey man for commodity markets since 
their inception. Whenever someone did not like the way the 
commodity prices were going, whether it was up or down, they 
would raise the specter of the dreaded speculator.
    Personally, I have yet to see very much hard data proving 
that increased speculation is responsible for the record 
increase in commodity prices that we have seen and have been 
experiencing. However, I am willing to examine this and be 
convinced.
    Given that charges against speculators have historically 
been more wrong than right, it is important that we have the 
facts, the data, the analysis that demonstrate the validity of 
this contention before we take action.
    Any legislative remedy that seeks to remove speculative 
interests from futures markets could result in more volatile 
markets, as the role of speculators has always been a vital 
price discovery and liquidity option. But as CFTC Commissioner 
Bart Chilton recently said, ``There are dollars that did not 
exist in these markets a few years ago,'' entering the markets. 
And the CFTC has testified on multiple occasions that their 
information on those trading in crude oil futures is 
incomplete. That is why it is important for this Committee to 
be thorough in examining these proposals in order to make the 
best-informed decisions possible.
    Some changes being proposed for energy future contracts may 
be good for those contracts but may have a negative effect on 
other sectors, including agriculture, and that is one of the 
big concerns of this Committee.
    Increasing margin requirements, for example, would be very 
problematic, as volatility in the futures prices of the grains 
that form the backbone of our food supply system has already 
made it tough for elevators in farm country to meet the margin 
calls. And we have had numerous calls from people around the 
country regarding that.
    We have seen and heard examples on this Committee of 
elevators having to double or triple their credit lines just to 
be able to afford the forward-pricing contracts to farmers. And 
such instability can have serious effects on the prices that we 
pay in the supermarket.
    I just left a meeting with some of my farmers where they 
were imparting me, and this isn't the first group, that they 
were unable to secure forward pricing for their crops because 
of the existing margin situation. And so if we make it worse, 
it is going to be an even bigger problem.
    The House Agriculture Committee has a proud tradition of 
bipartisan support. These hearings have not been scheduled so 
that we can gain answers and seek solutions and not engage in 
the same old partisan gas-price politics that we have seen 
sometimes in the past.
    As the Committee with jurisdiction over futures and option 
markets, we will be thoughtful and deliberate in examining all 
of these legislative proposals in order to develop a 
bipartisan, consensus bill that we can move to the House floor 
before the August recess. Since we are already in the second 
week of July, this means that time is short, and the Committee 
has a lot of work to do.
    With that said, I again welcome our colleagues on today's 
panel, and I would now yield to my friend and Ranking Member of 
the Committee, Mr. Goodlatte, for an opening statement.
    [The prepared statement of Mr. Peterson follows:]

  Prepared Statement of Hon. Collin C. Peterson, a Representative in 
                        Congress From Minnesota
    I want to welcome everyone to today's hearing.
    Today is the first of three scheduled hearings this Committee will 
hold this week on legislation that would amend the Commodity Exchange 
Act.
    I want to begin by welcoming six of our House colleagues to today's 
panel who are here to discuss legislative proposals they have 
introduced that would affect the regulation of futures and options 
markets.
    Tomorrow, we will discuss these and other legislative proposals 
with a wide variety of stakeholder groups, including exchanges, 
traders, hedgers, commodity producers and buyers, academic researchers, 
and more. We will examine these bills from all sides, and will get all 
points of view.
    While many factors are putting pressure on the price of oil, a 
growing number of people are coming to the conclusion that a flood of 
speculative money into energy futures is behind crude oil's record high 
prices. Two weeks ago, over 400 Members of the House voted for 
legislation requiring the Commodity Futures Trading Commission to 
utilize all its authority to curb oil market speculation.
    As oil continues to climb, several bills have been introduced that 
would affect the regulation of the futures markets that trade crude oil 
and other energy contracts.
    Speculation has been the boogey man for commodity markets since 
their inception. Whenever someone did not like the way commodity prices 
were going, whether it was up or down, they would raise the specter of 
the dreaded speculator. Personally, I have yet to see any hard data 
proving that increased speculation is responsible for the record 
increases in commodity prices we have been experiencing. Given that 
charges against speculators have historically been more wrong than 
right, it is important that we have the facts, data, and analysis that 
demonstrate the validity of this contention before we take action.
    Any legislative remedy that seeks to remove speculative interests 
from futures markets could result in more volatile markets, as the role 
of speculators has always been vital for price discovery and liquidity. 
But as CFTC Commissioner Bart Chilton recently said, ``there are 
dollars that did not exist in these markets a few years ago.'' And CFTC 
has testified on multiple occasions that their information on those 
trading in crude oil futures is incomplete. That is why it is important 
for this Committee to be thorough in examining these proposals in order 
to make the best-informed decisions possible.
    Some changes being proposed for energy futures contracts may be 
good for those contracts but may have a negative effect for other 
sectors, including agriculture.
    Increasing margin requirements, for example, would be very 
problematic, as volatility in the futures prices of the grains that 
form the backbone of our food supply has already made it tough for 
elevators in farm country to meet margin calls. We have seen and heard 
examples on this Committee of elevators having to double and triple 
their credit lines just to be able to offer forward-pricing contracts 
to farmers. Such instability can have serious effects on the prices we 
pay at the supermarket.
    The House Agriculture Committee has a proud tradition of bipartisan 
cooperation. These hearings have not been scheduled so that we can gain 
answers and seek solutions and not engage in the same old partisan gas-
price politics.
    As the Committee with jurisdiction over futures and options 
markets, we will be thoughtful and deliberate in examining all of these 
legislative proposals in order to develop a bipartisan, consensus bill 
that can move to the House floor before the August recess. Since we are 
already into the second week of July, that means time is short and this 
Committee has a lot of work to do.
    With that said, I welcome our colleagues on today's panel and I now 
yield to my friend and Ranking Member of the Committee, Mr. Goodlatte 
for an opening statement.

 OPENING STATEMENT OF HON. BOB GOODLATTE, A REPRESENTATIVE IN 
                     CONGRESS FROM VIRGINIA

    Mr. Goodlatte. Well, thank you, Mr. Chairman, and thank you 
for calling today's hearing, a continuation of a series of 
hearings to review the role of the CFTC in the futures market. 
I welcome all of my colleagues who will be testifying here 
today.
    I think that everyone here today would agree that America 
is in the midst of an energy crisis, and Americans everywhere 
are feeling the effects of high energy prices. It is important 
to look at all of the factors that would contribute to high 
energy prices, including supply and demand, global market 
conditions, weather, and production conditions as we try to 
develop a feasible solution to this problem.
    However, one thing is clear. We need to increase domestic 
energy production in this country. We need to be more self-
reliant, and we can't do that if we continue to rely on foreign 
energy sources. We must diversify our energy supplies by 
accessing our domestic sources of oil in Alaska, the Rockies, 
and offshore, continuing the development of alternative fuels, 
clean coal technologies, and encouraging the production of more 
nuclear sites which provide CO2 emission-free 
energy.
    While this Committee will look at all of the possible 
contributing factors under its jurisdiction that might be 
influencing higher energy prices, we have no reason to believe 
that there has been any nefarious activity in the futures 
market or on the part of speculators.
    Furthermore, as we heard from the CFTC's acting Director, 
Walt Lukken, 2 weeks ago. The Congress has provided the CFTC 
with all of the tools and regulatory authority it needs to 
operate. Of particular interest and as noted by the Speaker of 
the House, the recently-enacted farm bill reauthorization 
closed the so-called Enron Loophole. In fact, the CFTC 
announced recently--recently unveiled several initiatives 
utilizing their existing authority that will allow them to 
gather data from areas of the market that we previously had 
very little information about. These new efforts will bring 
greater transparency to the markets which benefit everyone.
    Americans are tired of paying big bucks for the energy they 
need to make it through the day, and frankly, I don't blame 
them. It can be easy to point fingers, but this is a complex 
and dynamic problem, and I urge caution in blaming only 
speculators. Speculators add liquidity to the markets and play 
a critical role in the market system that benefits traditional 
users of the market. Imposing artificial limits on speculation 
could cause speculators to dump their positions and create 
unintended consequences that would be devastating to everyone.
    We will hear from a diverse array of witnesses this week, 
and I appreciate them lending us their expertise. I am 
concerned, however, that these hearings won't do anything to 
address high energy prices, and that American consumers will 
continue to feel the impact of high prices at the pumps, in 
heating and cooling their homes, and higher costs to feed their 
families. We are living the consequences of Congressional 
inaction in creating productive and sustainable domestic energy 
policy, and it is imperative that the Congress acts now instead 
of punting this problem further down the road.
    Thank you, Mr. Chairman. I look forward to the testimony of 
our witnesses.
    The Chairman. Thank you, Bob, and I want to recognize Bob 
Etheridge as well. Bob is Chairman of the Subcommittee that has 
jurisdiction in this area, and he and the Ranking Member, Mr. 
Moran, have done yeoman's work in this regard and provided 
tremendous leadership along with all the Members of that 
Subcommittee. So I want to recognize them for the great work 
that they have done with the number of hearings that they have 
held over the last little while, and Mr. Etheridge has a bill 
as well.
    I would ask that all other Members submit their statements 
for the record.
    [The prepared statements of Messers. Baca, Smith and 
Childers follow:]

Prepared Statement of Hon. Joe Baca, a Representative in Congress From 
                               California
    Chairman Peterson and Ranking Member Goodlatte:

    I am pleased to be here today to hear from different Members of 
Congress, their various proposals for limiting speculation and 
manipulation in the commodity futures market.
    I thank the Chairman and Ranking Member for convening this hearing.
    I also want to thank our witnesses for taking time from their busy 
schedule to be here today--and for their proactive involvement in 
working to find solutions to high gas prices.
    In my home State of California--the average for a gallon of 
gasoline is now over $4.57. I repeat--the average price for a gallon of 
gasoline is $4.57!
    With gas prices at this level, too many of our families have been 
forced to sacrifice. Simple actions like driving the kids to school, or 
making the extra trip to the market--all have become financial burdens 
for too many Americans.
    It is important that we take a close examination of the commodity 
futures market--and especially the buying and trading of crude oil.
    Mr. Chairman, I think everyone in this room realizes the urgent 
need for real relief at the pump. American consumers are tired of 
paying high gas prices!
    While we will examine the merits of each initiative on their own, 
it is critical we continue to work together.
    We must create a long-term energy plan that is both 
environmentally-friendly and domestically based; and also look at bold, 
short range solutions in order to help the American people who are 
suffering at the pump--like selling off a portion of our nation's 
Strategic Petroleum Reserve.
    I look forward to hearing from our witnesses today and thank the 
Chairman and Ranking Member again for their leadership.
    Thank you.
                                 ______
                                 
 Prepared Statement of Hon. Adrian Smith, a Representative in Congress 
                             From Nebraska
    Good afternoon and thank you, Mr. Chairman.
    The Third District of Nebraska, which I have the privilege to 
represent, is a primarily rural district. High gas prices 
disproportionately affect those in rural areas. My constituents drive 
long distances to town or between towns as part of their day-to-day 
routine. Agriculture is one of the primary industries in my district. 
Increasing input costs for crop production and escalating feed costs 
for livestock have many producers worried. In short, the increasing 
costs of food, feed, and energy have greatly impacted my constituents.
    Historically, futures markets have played a key role in risk 
management for producers and consumers of a product, and for price 
discovery by the market. Speculators play an important role in the 
market by accepting the risk that producers and consumers hedge. The 
Commodity Futures Trading Commission has been granted the authority and 
given the charge by this body to oversee and regulate these markets to 
ensure transparency and prevent manipulation.
    As we examine the recent, and sometimes rapid, increases in 
commodity prices, we must be careful not to hastily assign blame to a 
convenient scapegoat. Certainly, we do not want the marketplace to be 
manipulated by speculators, but we must take care it is not manipulated 
by government regulation either. I hope these hearings over the next 
few days will allow us to objectively examine the evidence and that we 
will thoughtfully consider legislation which will ensure the markets 
remain transparent and open while letting the markets work as they were 
intended. Ultimately, the government should allow market signals to 
work to increase supplies without over-regulation.
    I appreciate the Committee holding these timely hearings. Mr. 
Chairman, I look forward to continuing to work with you, and I thank 
you for your time.
                                 ______
                                 
  Prepared Statement of Hon. Travis W. Childers, a Representative in 
                       Congress From Mississippi
    I am here today to better understand the cause of the exorbitant 
energy costs that Americans are now facing. I want to thank Chairman 
Peterson and the other Members of this Committee for holding this 
essential hearing.
    When I was elected, the price of gasoline was $3.61 per gallon. 
Barely, a month later the price of gasoline per gallon has jumped to 
over $4.00. Recently, I met with sweet potato farmers from my district 
who are facing increased production costs as the prices of diesel fuel, 
fertilizer, and gasoline all rise.
    These price spikes have placed a tremendous economic pressure on an 
industry that is vital to my district and is threatening the livelihood 
of many of the Mississippi working families I represent.
    We need a multi-pronged strategy to find our way out of this energy 
crisis. We need to reduce our dependence on foreign oil and we must 
invest in homegrown, alternative energy sources. Finally, we must 
investigate our energy commodities markets and ensure there is a level 
playing field when it comes to oil trading.
    I look forward to hearing the testimony of my distinguished 
colleagues and I believe the testimony over the next 2 days will help 
us to separate the facts from the rhetoric in regards to energy prices 
within the Commodities markets.
    It is my hope that this hearing will provide us with the 
information we need to provide bipartisan solutions to help stabilize 
the price of oil as quickly as possible.

    The Chairman. We now will welcome the Members that have 
legislation introduced. I just asked my staff how this order 
was determined, and this is apparently kind of like the futures 
market. We are not exactly sure, but we hope that you are all 
okay with it.
    And so first on the list here is the Honorable Jim Matheson 
from the Second Congressional District of Utah. We have many 
outstanding Members here from our leadership, Mr. Van Hollen, 
Mr. Larson, Ms. DeLauro, who worked with us so hard on the farm 
bill and has been a good ally of this Committee, her job as 
Appropriations Subcommittee Chairman, Mr. Stupak, who does 
great work for us in the Energy and Commerce Committee, and Mr. 
Welch, who has gotten to be a good friend of mine from Vermont, 
who has been a liaison with the freshman class for us, and we 
welcome you all here today.
    So, Mr. Matheson, we are going to give you 5 minutes each 
to summarize your statements. The full statements will be made 
part of the record. Welcome to the Committee, and we look 
forward to the process.

 STATEMENT OF HON. JIM MATHESON, A REPRESENTATIVE IN CONGRESS 
                           FROM UTAH

    Mr. Matheson. Well, Chairman Peterson and Ranking Member 
Goodlatte, I really appreciate the opportunity to testify 
today, and I am glad you are holding this series of hearing.
    It was just 2 weeks ago the House passed the Energy Markets 
Emergency Act of 2008, almost unanimously, and that called for 
the CFTC to exercise emergency powers to ``curb the role of 
excessive speculation in any contract market.'' I supported 
this bill, and I was pleased to work with you, Mr. Chairman, on 
that bill.
    Now, while that bill prompted the Administration's 
performance oversight duties, many in Congress still believe 
there is room to address the role of speculation in oil prices.
    While some had advocated for doing nothing and others 
believe that we should simply bar index investors and others 
from the energy commodity markets altogether, I believe what we 
really need is a level playing field that is transparent and 
accountable.
    Our goal as a Congress should be to make sure that the 
regulator, the CFTC, has the ability to ensure undue 
manipulation isn't taking place in the markets.
    This Committee has a very difficult problem to consider 
with no easy solutions. The energy commodity markets are 
complex. Simply laying blame on traders ignores the aggregate 
problems we are seeing in terms of speculation in these 
markets.
    I used to work in the energy business before I came to 
Congress. I managed a co-op of natural gas users. I was 
involved in arranging supply and transportation, and I also 
implemented hedging strategies using futures contracts for the 
members of that co-op. From my experience, I know that there is 
value in the presence of a viable, transparent futures market. 
These markets allow for greater efficiency in our economy and 
provide critical outlets for hedging against price risks.
    Futures markets work because they allow stakeholders to 
assess risks, to hedge and protect against losses, and to 
secure gains through speculation. There is a legitimate role 
for speculation, particularly in the futures market, this just 
isn't well understood. That is because the futures markets work 
best when liquidity exists to stabilize prices.
    By which I mean that if I am an airline CEO or a petroleum 
refiner, and I am looking to protect my business against future 
price increases or decreases, I want to have the option to 
hedge that risk. I want to be able to lock in a price today so 
that I have some kind of insurance and certainly against the 
future when higher or lower prices might affect my business.
    However, in order for a business owner to hedge his 
exposure to movement in oil prices, there must be someone in 
the marketplace who is willing to assume that risk. The entity 
that takes the risk is betting that the price will either rise 
or fall and that they will make money. They are speculating. 
For every contract, this may sound basic, but we all ought to 
remember this. For every contract, there is both a buyer and a 
seller. You can't have one without the other.
    The problem before us today is not black and white. It 
exists in many shades of gray, and that is why we need to be 
looking for solutions that force all the players to play by the 
same rules. That doesn't happen today.
    That is because current law allows people to trade on 
foreign exchanges under something called the foreign boards of 
trade provision under the Commodity Exchange Act.
    Current law allows the CFTC to determine if a foreign board 
of trade, such as ICE Futures based in London, is already 
regulated in its country of residence. If it is, current law 
says that the CFTC doesn't need to regulate it here in the U.S.
    That might work in theory, if every country had the same 
financial rules. The United Kingdom does have a regulatory 
system, and it does oversee ICE Futures, which is a good start.
    The problem is that the CFTC hasn't been getting all the 
data about trades occurring on the ICE exchange. The other 
problem is that ICE Futures does not have the same position 
limits on trades as domestic exchanges do, potentially leading 
to massive price-affecting holdings that would go undetected by 
U.S. regulators.
    So if I were a trader and I wanted to buy more energy 
commodities than NYMEX would allow, because it has limits, I 
could go over to ICE Futures via its electronic exchange in 
Atlanta, and buy as many futures as I wanted.
    That doesn't make sense. Everyone who wants to trade in the 
U.S. energy futures, especially in West Texas crude or natural 
gas, should be subject to the same rules.
    Now, there is good news to report on this. On June 17 the 
CFTC announced a new agreement with ICE Futures Europe to 
require ICE Futures to adopt ``equivalent U.S. position limits 
and accountability levels,'' on West Texas crude. CFTC has also 
reached an agreement with the Financial Services Authority, the 
U.K. regulatory counterpart, by which it will receive data on 
large positions. This data will be incorporated into the CFTC's 
weekly Commitments of Traders reports.
    Just this past Monday, the CFTC also amended its No Action 
letter to the Dubai Mercantile Exchange in almost exactly the 
same way. This is very encouraging, and I think we are on the 
right track.
    Now, Congress needs to ensure that these positive 
developments are enshrined in statute to ensure that the CFTC's 
new policy is consistently applied going forward.
    While the idea of creating appropriate regulation to stop 
excessive market manipulation is appealing, I do want to say we 
should approach this issue with caution. If legislation goes 
too far, it could drive a significant amount of business that 
is taking place today in the U.S., offshore.
    That is why I would caution against overreaching and why I 
think that we need to look at reasonable solutions. Congressman 
Charlie Melancon and I have introduced a bill which we think 
helps address this problem, H.R. 6284, the Close the London 
Loophole Act of 2008.
    This bill requires foreign boards of trade to comply with 
all U.S. registration and regulatory requirements if they offer 
contracts that can be settled by physical delivery within the 
United States. It provides the CFTC with full enforcement 
authority over traders within the U.S. who trade on an exchange 
outside the U.S.
    It also requires the CFTC to set up agreements with foreign 
exchanges with respect to comparable speculative limits and 
reporting requirements for any exchange that is trading U.S. 
energy commodities before the exchange is allowed to establish 
direct trading terminals in the U.S.
    Our bill would effectively codify the CFTC's recent actions 
to require such reporting and limits with ICE Futures, and it 
would apply this effort to future agreements. This is important 
because the CFTC agreement with ICE Futures does not apply to 
other markets. The CFTC has issued No Action letters granting 
regulatory waivers to other foreign markets, so it is important 
we address this issue to make it more comprehensive in nature.
    Unfortunately, Congressman Melancon could not be here today 
to testify as well, and I offer this testimony on the part of 
both of us. I would like to say that our bill has companion 
legislation in the U.S. Senate, authored by Senator Levin of 
Michigan.
    Mr. Chairman, I appreciate the opportunity to testify and 
look forward to answering your questions.
    [The prepared statement of Mr. Matheson follows:]

 Prepared Statement of Hon. Jim Matheson, a Representative in Congress 
                               From Utah
    Thank you, Chairman Peterson and Ranking Member Goodlatte for 
inviting me to testify before the Agriculture Committee today. I also 
thank you for holding a series of hearings on the issue of energy 
market manipulation.
    Just a couple weeks ago, the House passed the Energy Markets 
Emergency Act of 2008, almost unanimously. It called on the CFTC to 
exercise emergency powers to ``curb the role of excessive speculation 
in any contract market.'' I supported this bill and I was pleased to 
work with you, Mr. Chairman on this bill.
    While the Energy Markets Emergency Act of 2008 effectively prompts 
the administration to perform its oversight duties, many in Congress 
still believe there is room to address the role of speculation in oil 
prices.
    While some have advocated for doing nothing and others believe that 
we should simply bar index investors and others from the energy 
commodity markets altogether, I believe what we really need is a level 
playing field that is transparent and accountable.
    Our goal should be to make sure that the regulator--the CFTC--has 
the ability to ensure undue manipulation isn't taking place in the 
markets.
    This Committee has a very difficult problem to consider, with no 
easy solutions. The energy commodity markets are complex. Simply laying 
blame on traders ignores the aggregate problems we're seeing, in terms 
of speculation in these markets.
    I used to work in the energy business. I managed a co-op of natural 
gas users. I was involved in arranging supply, transportation, and 
implementing hedging strategies for members of the co-op. From my 
experience, I know that there is value in the presence of a viable, 
transparent futures market. These markets allow for greater efficiency 
in our economy, and provide critical outlets for hedging against price 
risks.
    Futures markets work because they allow investors to assess risk, 
to hedge and protect against losses, and to secure gains through 
speculation. There is a legitimate role for speculation, particularly 
in the futures market, that just isn't well understood. That's because 
the futures markets works best when liquidity exists to stabilize 
prices.
    By which I mean that if I am an airline CEO or a petroleum refiner, 
and I'm looking to protect my business against future price increases 
or decreases, I want to have the option to hedge. I want to be able to 
lock in today's price so that I have some kind of insurance against the 
future when a higher or lower price might damage my business.
    However, in order for a business owner to hedge his/her exposure to 
high oil prices, there must be someone in the marketplace who is 
willing to assume my risk. The entity that takes that risk is betting 
that the price will either rise or fall and that they will make money. 
They are speculating. For every contract, there is both a buyer and a 
seller. You cannot have one without the other.
    The problem before us today is not black and white. It exists in 
shades of grey. That's why we need to be looking for solutions that 
force all the players to play by the same rules. That does not happen 
today.
    That's because the current law allows people to trade on foreign 
exchanges, under something called the foreign boards of trade provision 
under the Commodity Exchange Act.
    Current law allows the CFTC to determine if a Foreign Board of 
Trade--such as ICE Futures, based in London--is already regulated in 
its country of residence. If it is, current law says that the CFTC 
doesn't need to regulate it here in the U.S.
    That might work in theory, if every nation had the same financial 
rules. The U.K. does have a regulatory system and it does oversee ICE 
Futures, which is a good start.
    However, the problem is that the CFTC hasn't been getting all the 
data about trades occurring on the ICE exchange. The other problem is 
that ICE Futures does not have the same position limits on trades as 
domestic exchanges do, potentially leading to massive, price-affecting 
holdings that would go undetected by U.S. regulators.
    So if I were a trader and I wanted to buy more energy commodities 
than NYMEX would allow, because it has limits, I could go over to ICE 
Futures, via its electronic exchange in Atlanta and buy as many futures 
as I wanted.
    This doesn't make sense. Everyone who wants to trade in U.S. energy 
futures, especially in West Texas crude oil or natural gas, should be 
subject to the same rules.
    Now, there is good news to report too. On June 17th, the CFTC 
announced a new agreement with ICE Futures Europe to require ICE 
Futures to adopt ``equivalent U.S. position limits and accountability 
levels'' on West Texas crude oil. CFTC has also reached an agreement 
with the Financial Services Authority, the UK regulatory counterpart, 
by which it will receive data on large positions. This data will be 
incorporated into the CFTC's weekly Commitments of Traders reports.
    Just this past Monday, the CFTC also amended its No Action letter 
to the Dubai Mercantile Exchange in almost exactly the same way. This 
is very encouraging and I think we're on the right track. Now, Congress 
needs to ensure that these positive developments are enshrined in 
statute to ensure that the CFTC's new policy is consistently applied 
going forward.
    While the idea of creating appropriate regulation to stop excessive 
market manipulation is appealing, we should approach this issue with 
caution. If legislation goes too far, it could drive a significant 
amount of business that is taking place in the U.S. today, offshore.
    That is why I would caution against overreaching and why I think 
that we need to look at reasonable solutions today. Congressman Charlie 
Melancon and I have introduced a bill that we think addresses the 
problem--H.R. 6284, the Close the London Loophole Act.
    The Matheson-Melancon bill requires foreign boards of trades to 
comply with all U.S. registration and regulatory requirements if they 
offer contracts that can be settled by physical delivery within the 
United States. It provides the CFTC with full enforcement authority 
over traders within the U.S. who trade on an exchange outside the U.S.
    It also requires the CFTC to set up agreements with foreign 
exchanges with respect to comparable speculative limits (they exist on 
NYMEX already) and reporting requirements for any exchange that is 
trading U.S. energy commodities before the exchange is allowed to 
establish direct trading terminals in the U.S.
    Our bill would effectively codify the CFTC's recent action to 
require such reporting and limits from ICE Futures and it would apply 
this effort to future agreements. This is important because the CFTC 
agreement with ICE Futures does not apply to other markets. The CFTC 
has also issued No Action letters granting regulatory waivers to 
foreign markets, including the Dubai Mercantile Exchange, so it is 
important that we address this issue as soon as possible.
    Unfortunately, Congressman Melancon could not be here today to 
testify as well and I offer my testimony for both of us. I'd also like 
to say that our bill has companion legislation in the Senate, authored 
by Senator Levin of Michigan.
    Thank you, Mr. Chairman.

    The Chairman. Thank you very much, and next we will move to 
Mr. Van Hollen from the Eighth District of Maryland, a Member 
of our leadership, and welcome to the Committee. We look 
forward to your testimony.

    STATEMENT OF HON. CHRIS VAN HOLLEN, A REPRESENTATIVE IN 
                     CONGRESS FROM MARYLAND

    Mr. Van Hollen. Thank you, Mr. Chairman. I would like to 
start by commending you, Chairman Peterson, and Ranking Member 
Goodlatte, as well as Subcommittee Chairman Etheridge and Mr. 
Moran, the Ranking Subcommittee Member, for your leadership and 
the substantial amount of work this Committee has already done 
looking into this issue and the legislation in connection with 
the farm bill.
    I would also like to recognize my colleagues here for their 
work; Bart Stupak, who has had a longstanding interest in this 
area and done a lot of work, Mr. Larson, Mr. Welch, Mr. 
Matheson, and my colleague Rosa DeLauro, with whom I have 
introduced legislation entitled, the Energy Markets Anti-
Manipulation and Integrity Restoration Act, which we will 
discuss today.
    And as you said, Mr. Chairman, at the outset, I hope that 
under the leadership of this Committee we can find common 
ground going forward in this area.
    I do think at the outset it is important to remember why 
futures markets exist in the first place, and I think the 
easiest thing to do is take the definition of the CFTC, which 
says, ``The futures markets serve the important function 
providing a means for price discovery and offsetting price 
risk.'' So long as the price discovered by the futures market 
accurately reflects the forces of supply and demand, producers 
and consumers of commodities can go to the futures market and 
hedge with confidence in order to offset their price risk.
    But when excessive speculation unhinged the futures markets 
from supply and demand fundamentals, hedgers begin to lose 
confidence in the price discovery function of futures markets, 
and the distorted futures prices transmitted to the spot market 
winds up overcharging consumers for the energy they rely on 
every day, our constituents.
    Let me say at the outset that I do not believe that 
excessive speculation is the sole cause or even the major cause 
of the recent surge in energy prices. Without question, other 
factors, such as increasing worldwide demand in countries like 
India and China, supply disruptions in Nigeria, and devaluation 
of the dollar, have all played a role.
    However, a growing chorus of Congressional testimony and 
market commentary from a wide range of credible and 
authoritative sources has concluded that the run-up in today's 
price of oil cannot be explained by the forces of supply and 
demand alone. They include the Senate Permanent Subcommittee on 
Investigations; the IMF; the Japanese Ministry of Economy, 
Trade and Industry; respected media outlets from The Washington 
Post to Fortune magazine; and stakeholders including large 
institutional investors, hedge fund managers, oil company 
executives, financial analysts, economists, consumer advocates, 
and academic experts. They increasingly point to a meaningful 
speculation premium in today's price of oil. A May, 2008, 
market report from the respected institutional financial 
consulting firm, Greenwich Associates, summed it up this way, 
``The entry of new financial or speculative investors into 
global commodities markets is feeling the dramatic run-up in 
prices.''
    There are some, including the Oppenheimer Managing Director 
and Senior Oil Analyst Fadel Gheit, who put the speculation 
premium as high as 50 percent. I don't think anybody knows for 
sure exactly how big this premium is. It is difficult to 
quantify. I do think it is above zero, and so long as it is 
above zero, so long as it is not based solely on the force of 
supply and demand, I think we should act to wring out that 
excessive speculation in the market.
    The legislation that Ms. DeLauro and I have introduced 
offers what we believe are three important steps Congress can 
take to address these issues.
    First, it would build upon the reform this Committee began 
in the most recent farm bill. By adding energy commodities to 
the definition of an exempt commodity under the Commodity 
Exchange Act, effectively treating energy commodities the same 
way this Committee has already decided to treat agriculture 
commodities under current law. This Committee has jurisdiction 
over those agriculture commodities. We are saying treat them 
under the law, treat energy commodities the same way as you 
have chosen to treat agricultural commodities.
    Taking this step would close the door even more firmly on 
the so-called Enron Loophole by requiring that energy futures 
contracts trade on Designated Commercial Markets or Designated 
Transaction Execution Facilities, unless the CFTC provides a 
specific exemption as it currently can do for agricultural 
commodities.
    Second, to ensure that swaps are not used to circumvent the 
regulation and CFTC oversight intended by adding energy 
commodities to the CEA's definition of an exempt commodity, we 
bring those swaps under the jurisdiction of the CFTC.
    Finally, H.R. 6341 would close what has become known, as my 
colleague, Mr. Matheson, referred to it as the, it is the 
London-Dubai Loophole, by amending the Commodity Exchange Act 
to forbid an exchange from being deemed an unregulated foreign 
entity if its trading affiliate or trading infrastructure is in 
the United States, and it offers a U.S. contract that 
significantly affects price discovery.
    In that regard, I believe that our constituents would 
probably assume that a market like ICE, the 
IntercontinentalExchange, operating inside the United States 
and facilitating an estimated 30 percent of the trade in our 
U.S. West Texas Intermediate futures contract would be fully 
subject to CFTC oversight and U.S. law.
    Like Members of this Committee, I have a long-term concern 
about the escalating worldwide demand for energy and the impact 
that it will have on the price of oil and fuels derived from 
oil as we move forward. While this concern makes me and many an 
ardent advocate for accelerating the development and deployment 
of the next generation of energy alternatives, it also causes 
me to conclude that we must make every effort to ensure that we 
do not exacerbate the current challenge for our constituents by 
layering on an additional speculation premium.
    Moreover, in light of the dramatically increased 
speculative inflows into the energy futures markets and the 
unprecedented re-composition of these markets' hedger-
speculated participation ratios over the past 10 years that 
coincide with a staggering 1,000 percent jump in the price of a 
barrel of oil over the same period of time, I believe the 
burden is on those who would argue for maintaining the status 
quo to convincingly establish that excessive speculation is not 
having an impact on today's energy prices.
    Furthermore, those who would maintain current law must 
demonstrate that the exceptions we have so far permitted to 
persist under the Commodity Exchange Act do, in fact, support 
rather than weaken the primary functions of price discovery and 
offsetting price risk necessary for a healthy energy futures 
marketplace.
    I appreciate the opportunity to testify today and look 
forward to working with you, Mr. Chairman, Ranking Member 
Goodlatte, and other Members of the Committee as we move 
forward.
    Thank you.
    [The prepared statement of Mr. Van Hollen follows:]

   Prepared Statement of Hon. Chris Van Hollen, a Representative in 
                         Congress From Maryland
    Chairman Peterson, Ranking Member Goodlatte, and Members of the 
Committee:

    First of all, I'd like to commend Chairman Peterson, Ranking Member 
Goodlatte, Subcommittee Chairman Etheridge and the rest of the 
Committee for the substantial amount of work that has already been done 
on this issue. I'd also like to recognize Rep. Bart Stupak (D-MI) for 
his longstanding interest in this area, Rep. John Larson (D-CT) for his 
diligent attention to this matter, Rep. Jim Matheson (D-UT) for the 
personal perspective he brings to this discussion, and of course, Rep. 
Rosa DeLauro (D-CT) with whom I have introduced the Energy Markets 
Anti-Manipulation and Integrity Restoration Act (H.R. 6341) I will be 
discussing today.
    At the outset, I think it's useful to remember why futures markets 
exist in the first place. According to the Commodity Futures Trading 
Commission (CFTC), ``the futures markets . . . serve the important 
function of providing a means for price discovery and offsetting price 
risk.'' So long as the price discovered by the futures markets 
accurately reflects the forces of supply and demand, producers and 
consumers of commodities can go to the futures markets and hedge with 
confidence in order to offset their price risk. But when excessive 
speculation unhinges the futures markets from supply and demand 
fundamentals, hedgers begin to lose confidence in the price discovery 
function of futures markets, and the distorted futures price 
transmitted to the spot market winds up overcharging consumers for the 
energy they rely on every day.
    Let me say at the outset that I do not believe excessive 
speculation is the sole cause of the recent surge in energy prices. 
Without question, other factors--such as increasing worldwide demand in 
countries like India and China, supply disruptions in Nigeria, and the 
devaluation of the dollar--have all played a role.
    However, a growing chorus of congressional testimony and market 
commentary from a wide range of credible and authoritative sources has 
concluded that the run-up in today's price of oil cannot be explained 
by the forces of supply and demand alone. Among those sources are the 
Senate Permanent Subcommittee on Investigations, the International 
Monetary Fund and the Japanese Ministry of Economy, Trade and Industry 
(METI). Respected media outlets from The Washington Post to Fortune 
magazine have voiced similar concerns. And stakeholders including large 
institutional investors, hedge fund managers, oil company executives, 
financial analysts, economists, consumer advocates and academic experts 
increasingly point to a meaningful speculation premium in today's price 
of oil. A May 2008 market report from the respected institutional 
financial consulting firm Greenwich Associates summed it up this way: 
``The entry of new financial or speculative investors into global 
commodities markets is fueling the dramatic run-up in prices.''
    Some experts--like Oppenheimer Managing Director and Senior Oil 
Analyst Fadel Gheit--put today's speculation premium in the oil markets 
in excess of 50%, arguing that true market fundamentals imply a price 
of approximately $65 a barrel. Since it is difficult to quantify the 
role of market speculation with mathematic precision, it is hard to 
know the exact magnitude of today's speculation premium. But I do not 
believe that it is zero. And that is why I believe we must act.
    The Energy Markets Anti-Manipulation and Integrity Restoration Act 
(H.R. 6341) that I have offered with my colleague Rosa DeLauro and 
others proposes what we believe represents the three most important 
steps Congress can take to eliminate the possibility of any outright 
manipulation occurring in unregulated markets and to wring excessive 
speculation out of today's energy marketplace.
    First, H.R. 6341 would build upon the reform this Committee began 
in the most recent farm bill by adding energy commodities to the 
definition of an exempt commodity under the Commodity Exchange Act 
(CEA), effectively treating energy commodities the same way we treat 
agricultural commodities under current law. Taking this step would 
close the door even more firmly on the so-called ``Enron Loophole'' by 
requiring that energy futures contracts trade on Designated Commercial 
Markets (DCMs) or Designated Transaction Execution Facilities (DTEFs), 
unless the CFTC provides a specific exemption.
    Second, to ensure that swaps are not used to circumvent the 
regulation and CFTC oversight intended by adding energy commodities to 
the CEA's definition of an exempt commodity, H.R. 6341 would also add 
energy commodities to the definition of excluded swap transactions 
under the Commodity Exchange Act.
    Finally, H.R. 6341 would close what has come to be known as the 
London-Dubai loophole by amending the Commodity Exchange Act to forbid 
an exchange from being deemed an unregulated foreign entity if its 
trading affiliate or trading infrastructure is in the United States, 
and it offers a U.S. contract that significantly affects price 
discovery.
    In that regard, I think most of our constituents would probably 
assume that a market like the Intercontinental Exchange (ICE Futures 
Europe) operating inside the United States and facilitating an 
estimated 30% of the trade in our U.S. West Texas Intermediate (WTI) 
futures contracts would be fully subject to CFTC oversight and U.S. 
law. But as all of us in this room understand, that is currently not 
the case. When it comes to the integrity and transparency of energy 
markets operating inside the United States, we simply cannot outsource 
the responsibility for policing those markets to foreign governments or 
regulatory authorities.
    Like Members of this Committee, I have a long term concern about 
the escalating worldwide demand for energy and the impact that it will 
have on the price of oil and fuels derived from oil going forward. 
While this concern makes me an ardent advocate for accelerating the 
development and deployment of next generation energy alternatives, it 
also causes me to conclude that we must make every effort to ensure 
that we do not exacerbate the current challenge for our constituents by 
layering an additional speculation premium on top of it. Moreover, in 
light of the dramatically increased speculative inflows into the energy 
futures markets, and the unprecedented re-composition of these markets' 
hedger-speculator participation ratios over the past 10 years 
coinciding with a staggering 1,000% jump in the price of a barrel of 
oil, I believe the burden is on those who would argue for maintaining 
the status quo to convincingly establish against the available evidence 
that excessive speculation is not having an impact on today's energy 
prices. Furthermore, proponents of maintaining current law must 
definitively demonstrate that the exceptions we have thus far permitted 
to persist in the Commodity Exchange Act do in fact support the primary 
functions of price discovery and offsetting price risk necessary for a 
healthy energy futures marketplace.
    I appreciate the opportunity to testify today, and I stand ready to 
work with Members of the Committee to fashion language that achieves 
our common goals on this important public policy issue.

    The Chairman. Thank you very much, Mr. Van Hollen. I 
appreciate your testimony.
    Now Chairwoman Rosa DeLauro, a good friend of this 
Committee. We worked with her a lot on the different issues 
that affect both of our Committees. We appreciate you being 
with us from the Third District of Connecticut. Rosa.

STATEMENT OF HON. ROSA L. DeLAURO, A REPRESENTATIVE IN CONGRESS 
                        FROM CONNECTICUT

    Ms. DeLauro. Thank you very much, Mr. Chairman, and if it 
is all right with you, maybe I can be ex officio on this 
Committee. We have spent a lot of time together and a lot of 
very productive time, and I am happy to join with you and 
Ranking Member Goodlatte and Mr. Etheridge, Mr. Moran, and the 
entire Committee. And I thank you for allowing me to submit 
testimony today.
    I also, as my colleagues have, want to recognize them, Mr. 
Matheson, Mr. Van Hollen, who I have introduced legislation 
with, Mr. Stupak, Mr. Larson, Mr. Welch, all who have a 
consuming interest in this area and the issue of excessive 
speculation and the energy futures market is critical and does 
have an impact on our entire economy.
    I want to say, Mr. Chairman, to be sure, and I understand 
this, that I am not an economist, nor do I profess to study 
this issue with an academic's eye. But I care about this 
subject deeply because it affects my constituents and our 
economy as a whole. We know that soaring gas prices are 
shattering everyone's budget, killing middle-class families 
trying to make ends meet, farmers harvesting their crops, 
truckers traveling our highways. High gas prices threaten to 
wipe out the holidays that families have been looking forward 
to all year. Families in Connecticut and across the country 
want to know what government is going to do and what the oil 
companies are going to do. With gas at a national average of 
$4.11 a gallon, $1.18 more than this time last year, and diesel 
hovering at around $5, energy prices are a suffocating tax on 
our entire economy.
    We are in a crisis, and as such, we need to look at every 
aspect that could potentially affect energy prices. Of course, 
we must take into account factors such as a weak dollar, strong 
demand from emerging economies, geopolitical tensions in oil-
producing regions, and supply disruptions. But we must also do 
everything in our power to protect consumers from unregulated 
market manipulation and excessive energy speculation.
    From the Senate Permanent Subcommittee on Investigations to 
the International Monetary Fund, experts refer to the mass 
migration of energy futures trading, off regulated exchanges 
onto exempt commercial markets as a possible factor distorting 
energy prices in a way that enriches speculators at the expense 
of the American consumer.
    That is why I have come to believe that such activity is 
responsible for a big part of the commodity price increases 
that we are experiencing. Doing nothing in this area in my view 
is not an option. We must continue to empower the Commodity 
Futures Trading Commission to do its regulatory job. As its 
mission reveals, the CFTC's primary function is, ``To protect 
market users and the public from fraud, manipulation, and 
abusive practices related to the sale of commodity and 
financial futures and options and to foster open, competitive, 
and financially-sound futures and option markets.''
    And as the Chair of the House Appropriations Subcommittee 
on Agriculture, I have worked to ensure that the CFTC has the 
resources that it needs to act and fulfill its mission. Yet, as 
the GAO's report, Trends in Energy Derivatives Market Raises 
Questions About CFTC's Oversight, they found last fall, and 
again, ``Trading in these markets, specifically electronic 
commercial markets and over-the-counter markets, is much less 
transparent than trading on futures exchanges and comprehensive 
data are not available because these energy markets are not 
regulated.'' Clearly we need a full market transparency, and we 
need to hold the CFTC's feet to the fire to do its job.
    With your leadership, Chairman Peterson, and a group of our 
colleagues, we made progress in this area when we passed 
legislation directing the CFTC to examine unregulated 
speculation in our futures markets and to use its emergency 
powers to stop market manipulations. And with the farm bill 
your Committee tackled the need to bring transparency to energy 
trading environments by creating a new regulatory regime for 
certain over-the-counter energy derivatives markets, subjecting 
them to a number of exchange-like regulations.
    But as I understand it, we have more to do to ensure 
excessive speculation is not distorting energy prices and the 
CFTC has access to over-the-counter markets and foreign boards 
of trade which still remain obscure. I believe we can bring 
further transparency to the futures markets if we fully close 
the so-called, Enron Loophole, and the Foreign Board of Trade 
Loophole.
    That is why Congressman Van Hollen and I have introduced 
H.R. 6314, the Energy Markets Anti-Manipulation and Integrity 
Restoration Act, which would do two simple things. First, close 
the so-called, Enron Loophole, by adding energy commodities and 
related swaps to the list of items that cannot be traded on 
unregulated exempt commercial markets. And second, close the 
London-Dubai Foreign Board of Trade Loophole by forbidding an 
exchange from being deemed an unregulated foreign entity if its 
trading affiliate or trading infrastructure is in the United 
States, and it trades a U.S. delivered contract that 
significantly affects price discovery.
    Our legislation would go a long way toward preventing 
improper speculation, ensuring real transparency, and bringing 
oversight and enforcement to our energy and agricultural 
futures markets. It would also restore the balance that has 
been missing since 2000, when the Commodity Futures 
Modernization Act placed large segments of the commodities 
futures market outside of CFTC jurisdiction and allowed for 
virtually unregulated, over-the-counter, and electronic trading 
of many commodities futures.
    Mr. Chairman, the fact is some will always argue against 
regulating market forces. But we have seen the consequences of 
that kind of approach over the last 8 years and even further 
back. From the savings and loans to the subprime mortgage 
crisis to the Federal Reserve backed bailout of Bear Sterns, 
speculative bubbles emerge. If regulators do nothing, consumers 
pay. It is a familiar cycle, and the same thing I am afraid may 
be happening with food prices.
    Mr. Chairman, it is time for us to act, change the way we 
oversee our futures markets, and restore balance to the energy 
marketplace. It is time to protect consumers.
    And I thank the Committee and look forward to working with 
you.
    [The prepared statement of Ms. DeLauro follows:]

    Prepared Statement of Hon. Rosa L. DeLauro, a Representative in 
                       Congress From Connecticut
    I want to thank Chairman Peterson, Ranking Member Goodlatte and 
Members of the Committee for having this important hearing and for 
allowing me to submit testimony today. The issue of excessive 
speculation in the energy futures markets is critical and has an impact 
on our entire economy.
    I also want to recognize my friend and colleague, Rep. Chris Van 
Hollen and thank him for allowing me to work with him on this important 
issue. Chris was one of the first to highlight the potential role of 
improper speculation in our energy markets and has been a real advocate 
pushing us all in the Congress to take decisive action.
    Mr. Chairman, to be sure, I am not an economist; nor do I profess 
to study this issue with an academic's eye. But care about this subject 
deeply because it affects my constituents and our economy as a whole. 
We know that soaring gas prices are shattering everyone's budget, 
killing middle class families trying to make ends meet, farmers 
harvesting their crops, truckers traveling our highways. High gas 
prices threaten to wipe out the holidays that families have been 
looking forward to all year. Families in Connecticut, and across the 
country, want to know what government is going to do and what the oil 
companies are going to do.
    With gas at a national average of $4.11 a gallon--$1.18 more than 
this time last year, and diesel hovering at $5 dollars--energy prices 
are a suffocating tax on our entire economy.
    We are in a crisis, and as such, we need to look at every aspect 
that could potentially affect energy prices. Of course, we must take 
into account factors such as a weak dollar, strong demand from emerging 
economies, geopolitical tensions in oil-producing regions and supply 
disruptions. But we must also do everything in our power to protect 
consumers from unregulated market manipulation and excessive energy 
speculation. Experts refer to trading energy futures off regulated 
exchanges onto less transparent exchanges as a possible factor 
distorting energy prices in a way that enriches speculators at the 
expense of the American consumer. I have come to believe that such 
activity is responsible for a big part of the commodity price increases 
we are experiencing. Doing nothing in this area is not an option.
    That is why we must continue to empower the Commodity Futures 
Trading Commission to do its regulatory job. As its mission reveals, 
the CFTC's primary function is ``to protect market users and the public 
from fraud, manipulation, and abusive practices related to the sale of 
commodity and financial futures and options, and to foster open, 
competitive, and financially sound futures and option markets.'' Yet, 
as the GAO's report ``Trends in Energy Derivatives Markets Raises 
Questions About CFTC'S Oversight'' [GAO-08-25, October 19, 2007] found 
last fall, ``trading in these markets-specifically electronic 
commercial markets and over-the-counter (OTC) markets--is much less 
transparent than trading on futures exchanges, and comprehensive data 
are not available because these energy markets are not regulated.'' 
Clearly we need full market transparency and we need to hold the CFTC's 
feet to the fire to do its job.
    With your leadership, Chairman Peterson, and a group of our 
colleagues, we made progress in this area when we passed legislation 
directing the CFTC to examine unregulated speculation in our futures 
markets and to use its emergency powers to stop market manipulation. 
And with the farm bill your Committee tackled the need to bring 
transparency to energy trading environments by creating a new 
regulatory regime for certain over-the-counter (OTC) energy derivatives 
markets, subjecting them to a number of exchange-like regulations.
    But as I understand it, we have more to do to ensure excessive 
speculation is not distorting energy prices and the CFTC has access to 
the over-the-counter markets and foreign boards of trade which still 
remain obscure. I believe, we can bring further transparency to the 
futures markets if we fully close the so-called ``Enron-loophole'' and 
the ``Foreign Board of Trade (FBOT) Loophole.''
    That is why, Congressman Van Hollen and I have introduced The 
Energy Markets Anti-Manipulation and Integrity Restoration Act--which 
would do two simple things: first, close the so-called ``Enron 
Loophole'' by adding energy commodities and related swaps to the list 
of items that cannot be traded on unregulated exempt commercial markets 
and second, close the London-Dubai ``Foreign Board of Trade (FBOT) 
Loophole'' by forbidding an exchange from being deemed an unregulated 
foreign entity if its trading affiliate or trading infrastructure is in 
the U.S., and it trades a U.S. contract that significantly affects 
price discovery.
    Our legislation would go a long way toward preventing improper 
speculation, ensuring real transparency, and bringing oversight and 
enforcement to our energy and agricultural futures markets. It would 
also restore the balance that has been missing since 2000 when The 
Commodity Futures Modernization Act (``CFMA'') placed large segments of 
the commodities futures market outside CFTC jurisdiction and allowed 
for virtually unregulated over-the-counter and electronic trading of 
many commodities futures.
    Mr. Chairman, the fact is some will always argue against regulating 
market forces. But we have seen the consequences of that kind of 
approach over the last 8 years. It is time to change the way we oversee 
our futures markets and restore balance to the energy marketplace.

    The Chairman. Thank you very much. We appreciate your 
testimony.
    Next we have Mr. Stupak from the First District of 
Michigan, esteemed Member of the Energy and Commerce Committee 
and very active on this issue. Welcome to the Committee.

  STATEMENT OF HON. BART STUPAK, A REPRESENTATIVE IN CONGRESS 
                         FROM MICHIGAN

    Mr. Stupak. Well, thank you, Mr. Chairman, and thank you 
Members of this Committee. I want to thank Mr. Etheridge and 
all the Members up here at this front table. In fact, all 
Members who put forth legislative proposals to address the run-
up in energy costs.
    The price of crude oil has doubled over the past year. It 
is now $136 a barrel. Gasoline prices have increased more than 
$1.14. It is now at $4.11. Diesel prices have increased $1.90 
to $4.73 per gallon.
    As a result, industries across the country are hurting. 
Airlines are eliminating service to more than 100 cities, 
laying off thousands of workers and projecting up to $13 
billion in losses this year due to jet fuel price increases 
that cannot be passed onto customers.
    Truck drivers are going out of business and many more are 
just parking their trucks because they actually end up losing 
money after paying so much for diesel. Farmers face increased 
costs in all stages of their operations, from planting and 
harvesting to transporting their product to market. As a 
result, high energy prices have caused significant increases in 
the cost of food.
    There is no way to justify the doubling of oil prices based 
on supply and demand.
    In October of 2007, the Government Accountability Office 
released its report on the ability of the Commodities Futures 
Trading Commission to properly monitor energy markets to 
prevent manipulation. The GAO found that the volume of trading 
in energy commodities has skyrocketed as our first chart shows 
right here. Specifically, after the Enron Loophole was enacted 
in 2000, the GAO also found that while trading has doubled 
since 2002, the number of CFTC staff monitoring these markets 
has declined.
    And the numbers back this up. If we look at Chart 2 between 
September 30, 2003, and May 6, 2008, traders holding crude oil 
contracts jumped from 714,000 contracts traded to more than 
three million contracts traded. From 714 contracts to more than 
three million contracts traded. This is a 425 percent increase 
in trading of oil futures in less than 5 years.
    Since 2003, commodity index speculation has increased 1,900 
percent, from an estimated $13 billion to $260 billion. Lehman 
Brothers recently estimated that crude oil prices go up about 
1.5 cents for every $100 million in commodity index 
investments.
    By the Lehman Brothers estimate, the 1,900 percent increase 
in commodity index speculation has inflated the price of crude 
oil by approximately $37 a barrel. Other experts estimate it 
could be even more.
    On June 23, 2008, the Oversight Investigation Subcommittee 
that I Chair held a hearing on the effect speculators have on 
our energy prices. This was the sixth hearing that the Energy 
and Commerce Committee has held on gas prices over the past 2 
years. Fadel Gheit, Managing Director and Senior Oil Analyst at 
Oppenheimer and Company, testified that, ``I firmly believe 
that the current record oil price in excess of $135 a barrel is 
inflated. I believe, based on supply and demand fundamentals, 
crude oil prices should not be above $60 per barrel.''
    If we take a look at Chart 3, in 2000, physical hedgers, 
businesses like airlines that need to hedge to ensure a stable 
price for fuel in future months, accounted for 63 percent of 
the oil futures market. Speculators accounted for 37 percent. 
By April of 2008, physical hedgers only controlled 29 percent 
of the market. What we now know is approximately 71 percent of 
the market has been taken over by swap dealers and speculators, 
a considerable majority of whom have no physical stake in the 
market. Over the past 8 years there has been a dramatic shift 
as physical hedgers continually represent a smaller and smaller 
portion of the market.
    The New York Mercantile Exchange has granted 117 hedging 
exemptions since 2006, for West Texas Intermediate crude 
contracts, many of which are for swap dealers without physical 
hedging positions. This excessive speculation is a significant 
factor in the price Americans are paying for gasoline, diesel, 
and home heating oil. Even the executives of the major U.S. oil 
companies recognize this.
    On April 1, 2008, testimony before the Select Committee on 
Global Warming, Mr. John Lowe, Executive Vice President of 
ConocoPhillips said, ``It is likely that the large inflow of 
capital into the commodity funds is temporarily exaggerating 
upward oil price movements.''
    At the same hearing Mr. Peter Robertson, Vice Chairman of 
Chevron noted, ``a flight to commodities,'' adding that an 
economist was quoted in The Wall Street Journal saying, ``Crude 
prices have decoupled from the forces controlling the 
underlying physical flows of the commodity.''
    And at the May 21, 2008, Senate Judiciary hearing, Shell 
President John Hofmeister agreed that the price of crude has 
been inflated, saying that the proper range for oil prices 
should be, ``somewhere between $35 and $65 a barrel.''
    Look at the next chart with the International Monetary 
Fund. In May of 2008, the IMF compared crude oil over the past 
30 years to the price of gold. Gold prices are not dependent on 
supply and demand and have been viewed as a highly speculative 
commodity. The IMF analysis shows crude oil prices track 
increases in gold prices.
    If we take a look at Chart 4, what this means is that oil 
has been transformed from an energy source into a financial 
asset like gold, where much of the buying and selling is driven 
by speculators instead of the producers and consumers. Oil is 
morphed from a commodity into a financial asset, traded for its 
speculative value instead of its energy value.
    Even the Saudi Oil Minister has argued that high oil prices 
are due to excessive speculation in the markets.
    As former Secretary of Labor Robert Reich noted on National 
Public Radio a few weeks ago, the problem is the government's 
failure to curb excessive speculation.
    The Commodity Exchange Act recognizes the dangers of 
excessive speculation. Section 4A of the Act states, 
``Excessive speculation in any commodity under contracts for 
sale of such commodity for future delivery made on or subject 
to the rules of contract markets or derivatives transaction 
execution facilities causing sudden or unreasonable 
fluctuations or unwarranted changes in the price of such 
commodity, is an undue and unnecessary burden on interstate 
commerce.''
    As a result, Section 4A provides the CFTC with the 
authority to set position limits or take other actions 
necessary to curb excessive speculation.
    However, there are significant loopholes that exempt energy 
trading from these protections against excessive speculation: 
the Enron Loophole, the foreign boards of trade No Action 
letters, the Swaps Loophole, and the Bona Fide Hedging 
Exemption. While the recently-passed farm bill addressed the 
Enron Loophole for electronic trading for natural gas, a 
significant portion of the energy trading continues to be 
exempt from CFTC action to curb excessive speculation.
    For 3 years I have looked into excessive speculation in the 
energy markets. My latest bill, the 2008, Prevent Unfair 
Manipulation of Prices, the PUMP Act, H.R. 6330, would end all 
of these exemptions, to ensure that excessive speculation is 
not driving these markets beyond the supply and demand 
fundamentals.
    The PUMP Act, the most comprehensive energy speculation 
bill in Congress would address bilateral trades and require 
that bilateral trades be subject to CFTC oversight of foreign 
boards of trade. To clarify, CFTC's jurisdiction over these 
foreign boards of trade, the PUMP Act would give the CFTC 
authority over these exchanges if they are using computer 
terminals in the United States or they are trading energy 
commodities that provide for a delivery point in the United 
States.
    Swaps Loophole: Swaps are currently excluded from 
requirements for position limited to prevent excessive 
speculation. Today, 85 percent of the futures purchases tied to 
commodity index speculation come through swap dealers.
    Bona Fide Hedging Exemption: Since 1991, 15 different 
investment banks have taken advantage of this exemption, even 
though they do not have legitimate anticipated business need. 
The PUMP Act would clarify that legitimate anticipated business 
needs does not mean energy speculators.
    Strong aggregate position limits: By setting strong 
aggregate position limits over all markets, CFTC would be able 
to curb excessive speculation by making sure traders aren't 
amassing huge positions in a commodity in an attempt to play 
one exchange off of another.
    By closing all of these loopholes and setting strong 
aggregate position limits, CFTC would be better able to monitor 
trades to prevent market manipulation and help eliminate the 
unreasonable inflation of energy prices caused by excessive 
speculation, helping to protect American consumers.
    I bring this balloon because it helps to explain. No matter 
what loophole you close here with the Commodity Futures Trading 
Commission, you squeeze the Enron Loophole, we will go to 
Swaps. You squeeze Swaps, we go back to Enron. You do hedging 
or the Bona Fide Exemption or the Foreign Boards of Trade, it 
squeezes. You have to do it all. Whatever you do to one side of 
the balloon, it just rushes to the other. You have to get all 
of the these in order to stop this excessive speculation we see 
in the energy market.
    If you don't believe excessive speculation is running up 
energy prices, keep this one thought in mind. On June 23 when I 
had my hearing, home heating oil was $3.98. Three days later 
the PUMP Act, my Act, was introduced in the Senate, and 3 days 
later home heating oil was $4.60. Yesterday to lock in or to 
hedge your home heating costs for this winter it will cost you 
$5.60 a gallon. That is more than a 20 percent increase in less 
than the last few days.
    This is excessive speculation gone wild. The PUMP Act has 
60 bipartisan cosponsors, been endorsed by several 
agricultural, airline, labor, and industry groups. The full 
list is part of my testimony. I have included a section-by-
section description of the PUMP Act with my testimony.
    I understand that there is essentially a war room that has 
been created by those on Wall Street who would like to continue 
to see energy trading remain in the dark. I am sure they are 
hiring a lot of lobbyists and are making every attempt they can 
to discredit those who are calling for reform.
    However, I urge the Members of this Committee and my 
colleagues in the House to look at the evidence for themselves. 
We can either continue the status quo and excessive speculation 
can continue to inflate energy prices beyond the underlying 
supply and demand fundamentals, or we can stand up for our 
constituents who are facing high prices at the pump and our 
nation's businesses who are struggling to cope with a weak 
economy and high production and transportation costs due to 
energy.
    Excessive speculation is having a devastating effect on 
energy prices, causing a significant hardship for our entire 
economy. I look forward to working with Chairman Peterson and 
the Members of this Agriculture Committee and send legislation 
to the President's desk to address excessive speculation in the 
energy markets, to offer consumers relief at the pump.
    Thank you, Mr. Chairman. I look forward to your questions 
and those of the Members of this Committee.
    [The prepared statement of Mr. Stupak follows:]

 Prepared Statement of Hon. Bart Stupak, a Representative in Congress 
                             From Michigan
    The price of crude oil has doubled over the past year, oil is now 
$73.90 more than it was at this time last year. This spike has caused 
gasoline prices to increase $1.14 a gallon more than last year's highs, 
a national average of $4.10 per gallon. Diesel prices are up $1.82 per 
gallon compared to last year, up to $4.65 per gallon.
    As a result, industries across the country are hurting. Airlines 
are eliminating service to 100 cities, laying off thousands of workers, 
and projecting up to $13 billion in losses this year due to jet fuel 
price increases that cannot be passed on to consumers.
    Truck drivers are going out of business, and many more are just 
parking their trucks because they actually end up losing money after 
paying so much for diesel. Farmers face increased costs in all stages 
of their operations, from planting and harvesting to transporting their 
product to market. As a result, high energy prices have caused 
significant increases in the cost of food.
    There is no way to justify the doubling of oil prices based on 
supply and demand.
    In October 2007, the Government Accountability Office (GAO) 
released its report on the ability of the Commodities Futures Trading 
Commission (CFTC) to properly monitor energy markets to prevent 
manipulation. The GAO found that the volume of trading in energy 
commodities has skyrocketed, specifically after the Enron Loophole was 
enacted in 2000. The GAO also found that while trading has doubled 
since 2002, the number of CFTC staff monitoring these markets has 
declined.
    And the numbers back this up. Between September 30, 2003 and May 6, 
2008, traders holding crude oil contracts jumped from 714,000 contracts 
traded to more than three million contracts. This is a 425 percent 
increase in trading of oil futures in less than 5 years.
    Since 2003, commodity index speculation has increased 1,900 
percent, from an estimated $13 billion to $260 billion. Lehman Brothers 
recently estimated that the crude oil price goes up about 1.5 percent 
for every $100 million in commodity index investments.
    By the Lehman Brothers estimate, the 1,900 percent increase in 
commodity index speculation has inflated the price of crude oil by 
approximately $37 a barrel. Other experts estimate it could be even 
more.
    On June 23, 2008, the Oversight and Investigations Subcommittee 
that I Chair held a hearing on the effect speculators have on energy 
prices. Fadel Gheit, Managing Director and Senior Oil Analyst at 
Oppenheimer & Co. Inc. testified that: ``I firmly believe that the 
current record oil price in excess of $135 per barrel is inflated. I 
believe, based on supply and demand fundamentals, crude oil prices 
should not be above $60 per barrel.''
    In 2000, physical hedgers--businesses like airlines that need to 
hedge to ensure a stable price for fuel in future months--accounted for 
63% of the oil futures market. Speculators accounted for 37%. By April 
2008, physical hedgers only controlled 29% of the market. What we now 
know is that approximately 71% of the market has been taken over by 
swap dealers and speculators, a considerable majority of whom have no 
physical stake in the market. Over the past 8 years, there has been a 
dramatic shift as physical hedgers continually represent a smaller and 
smaller portion of the market.
    The New York Mercantile Exchange (NYMEX) has granted 117 hedging 
exemptions since 2006 for West Texas Intermediate crude contracts, many 
of which are for swap dealers without physical hedging positions.
    This excessive speculation is a significant factor in the price 
Americans are paying for gasoline, diesel and all energy products. Even 
the executives of the major U.S. oil companies recognize this.
    On April 1, 2008, in testimony for the Select Committee on Global 
Warming, Mr. John Lowe, Executive Vice President of ConocoPhillips 
said, ``It is likely that the large inflow of capital into the 
commodity funds is temporarily exaggerating upward oil price 
movements.''
    At the same hearing, Mr. Peter Robertson, Vice Chairman of Chevron 
noted a ``flight to commodities'' adding that an economist was quoted 
in The Wall Street Journal saying: ``Crude futures prices have 
decoupled from the forces controlling the underlying physical flows of 
the commodity.''
    In the testimony of Mr. Robert A. Malone, Chairman and President of 
BP America, he pointed to a ``growing interest among financial 
investors in oil and other commodities.''
    And at a May 21, 2008, Senate Judiciary Committee hearing, Shell 
President John Hofmeister agreed that the price of crude oil has been 
inflated, saying that the proper range for oil prices should be 
``somewhere between $35 and $65 a barrel.''
    In May 2008, the International Monetary Fund (IMF), compared crude 
oil, over the past 30 years, to the price of gold. Gold prices are not 
dependent on supply and demand, and have been viewed as a highly 
speculative commodity. The IMF analysis shows that crude oil prices 
track increases in gold prices.
    What this means is that oil has been transformed from an energy 
source into a financial asset, like gold, where much of the buying and 
selling is driven by speculators instead of producers and consumers. 
Oil has morphed from a commodity into a financial asset, traded for its 
speculative value instead of its energy value.
    Even the Saudi Oil Minister has argued that high oil prices are due 
to excessive speculation in the markets.
    As former Secretary of Labor Robert Reich noted on National Public 
Radio a few weeks ago, the problem is the government's failure to curb 
excessive speculation.
    The Commodity Exchange Act recognizes the dangers of excessive 
speculation. Section 4a of the Act states, ``Excessive speculation in 
any commodity under contracts of sale of such commodity for future 
delivery made on or subject to the rules of contract markets or 
derivatives transaction execution facilities causing sudden or 
unreasonable fluctuations or unwarranted changes in the price of such 
commodity, is an undue and unnecessary burden on interstate commerce.'' 
(emphasis added) As a result, Section 4a provides the CFTC with the 
authority to set position limits or take other actions necessary to 
curb excessive speculation.
    However, there are significant loopholes that exempt energy trading 
from these protections against excessive speculation: the Enron 
Loophole, the Foreign Boards of Trade Loophole, the Swaps Loophole, and 
the Bona Fide Hedging Exemption. While the recently passed Farm bill 
addressed the Enron Loophole for electronic trading facilities here in 
the United States, a significant portion of the energy trading 
continues to be exempt from any CFTC action to curb excessive 
speculation.
    My bill, the 2008 Prevent the Unfair Manipulation of Prices Act 
(H.R. 6330), would end these exemptions, to ensure that excessive 
speculation is not driving these markets beyond supply and demand 
fundamentals.
    The 2008 PUMP Act, the most comprehensive energy speculation bill 
in Congress, would address:

   Bilateral Trades: These trades are made between two 
        individuals and are not negotiated on a trading market. Because 
        the farm bill only closed the Enron Loophole for trades on 
        electronic exchanges, these bilateral trades remain in the 
        dark.

        The PUMP Act would require that these bilateral trades are also 
        subject to CFTC oversight.

   Foreign Boards of Trade: Petroleum contracts offered through 
        the IntercontinentalExchange (ICE) on ICE Futures are cleared 
        on a foreign board of trade in London. On average, more than 60 
        percent of traders on ICE Futures are located in the United 
        States. They're trading West Texas Crude, with a delivery point 
        in the United States. That's a foreign board of trade in name 
        only.

        Recently, ICE Futures agreed to provide the CFTC with trader 
        information and to set position limits for their traders. 
        However, this step is not enough. ICE still has a revised ``No 
        Action'' letter, meaning that beyond information sharing and 
        position limits, CFTC still won't have any authority to enforce 
        U.S. laws.

        In addition, NYMEX is in the process of offering U.S. traders 
        access to the exchange in Dubai, raising similar questions for 
        that market.

        To clarify CFTC's jurisdiction over these ``foreign'' boards of 
        trade, the 2008 PUMP Act would give the CFTC authority over 
        these exchanges if they are using computer terminals in the 
        United States, or they are trading energy commodities that 
        provide for a delivery point in the United States.

   Swaps Loophole: Swaps are currently excluded from 
        requirements for position limits to prevent excessive 
        speculation. Today, 85 percent of the futures purchases tied to 
        commodity index speculation come through swap dealers.

        Because there are no requirements for position limits, these 
        swaps have grown exponentially, driving crude oil prices 
        higher. By eliminating this exemption, swaps would be subject 
        to position limits to prevent excessive speculation.

   Bona Fide Hedging Exemption: The Commodity Exchange Act 
        allows exemptions from position limits for businesses ``to 
        hedge their legitimate anticipated business needs.''

        However, in 1991, CFTC authorized the first ``bona fide 
        hedging'' exemption to a swap dealer (J. Aron and Company, 
        which is owned by Goldman Sachs) with no physical commodity 
        exposure, and therefore, no legitimate anticipated business 
        need.

        Since 1991, 15 different investment banks have taken advantage 
        of this exemption, even though they do not have a legitimate 
        anticipated business need.

        The 2008 PUMP Act would clarify that ``legitimate anticipated 
        business needs'' does not mean energy speculators.

   Strong aggregate position limits: Once all of these 
        loopholes are closed, we can then take effective steps to curb 
        excessive speculation.

        My bill would require the CFTC to set aggregate position limits 
        on energy contracts for a trader over all markets. Especially 
        with the growing number of markets, speculators can currently 
        comply with exchange specific position limits on several 
        exchanges, while still holding an excessive number of total 
        contracts in the aggregate.

        By setting strong aggregate position limits over all markets, 
        CFTC would be able to curb excessive speculation by making sure 
        traders aren't amassing huge positions in a commodity in an 
        attempt to play one exchange off of another.

    By closing all of these loopholes and setting strong aggregate 
position limits, CFTC would be better able to monitor trades to prevent 
market manipulation and help eliminate the unreasonable inflation of 
energy prices caused by excessive speculation, helping to protect 
American consumers.
    The 2008 PUMP Act has 60 bipartisan cosponsors, and has been 
endorsed by several agriculture, airline, labor, and industry groups, 
including the National Farmers Union, the Air Transport Association, 
the International Brotherhood of Teamsters, and the Industrial Energy 
Consumers of America, which is a coalition of more than 35 different 
companies such as Dow Corning, Goodyear, BASF, U.S. Steel, Tyson Foods, 
and International Paper, amongst others. The full list of groups 
endorsing the 2008 PUMP Act is listed on the endorsement letter that I 
have included with my testimony. I have also included a section by 
section description of the 2008 PUMP Act.
    I understand that there is literally a ``War Room'' that has been 
created by those on Wall Street who would like to continue to see 
energy trading remain in the dark. I'm sure they're hiring a lot of 
lobbyists and making every attempt they can to discredit those who are 
calling for reform.
    However, I urge the Members of this Committee and my colleagues in 
the House to look at the evidence for themselves. We can either 
continue with the status quo, and excessive energy speculation can 
continue to inflate energy prices beyond underlying supply and demand 
fundamentals. Or, we can stand up for our constituents, who facing high 
prices at the pump, and our nation's businesses, who are struggling to 
cope with a weak economy and high production and transportation costs 
due to energy prices.
    Excessive speculation is having a devastating effect on energy 
prices, causing significant hardship for our entire economy. I look 
forward to working with Chairman Peterson and the Members of the 
Agriculture Committee to send legislation to the President's desk to 
address excessive speculation in energy markets, to offer consumers 
some relief at the pump.
                              Attachment I
Section 1
Short Title: ``Prevent Unfair Manipulation of Prices Act of 2008''
Section 2
Energy Commodities No Longer Exempt from CFTC Oversight
   Eliminates the current exemption from CFTC regulation for 
        over-the-counter energy commodities by amending the definition 
        of an exempt commodity to no longer include energy.

   Defines an ``Energy Commodity'' to include: coal, crude oil, 
        gasoline, diesel fuel, jet fuel, heating oil, propane, 
        electricity, and natural gas.

   Stipulates that if an energy transaction provides for a 
        delivery point in the United States or is traded on a computer 
        terminal located in the United States, it is subject to the 
        rules that regulated markets (NYMEX) are already subject to, 
        including large trader reporting, record-keeping, and 
        prohibitions against fraud and market manipulation.

   This applies to: designated contract markets, energy trading 
        facilities here in the U.S., bilateral trades, and trades 
        transacted on a foreign board of trade.
Extension of Regulatory Authority to Swaps Involving Energy 
        Transactions; Section 2(g) of the Commodity Exchange Act (CEA):
   Closes the swaps loophole, no longer allowing energy 
        transactions to be excluded from the requirements of the 
        Commodity Exchange Act. This would require the CFTC to provide 
        greater oversight over these swap transactions.
Extension of Regulatory Authority to Energy Transactions on Foreign 
        Boards of Trade; Section 4 of CEA:
   Requires that traders of energy commodities on a foreign 
        board of trade be subject to the rules that regulated markets 
        are already subject to if they are using computer terminals in 
        the United States or they are trading energy commodities that 
        provide for a delivery point in the United States.

   Requires the CFTC to notify Congress and allow public 
        comment on any energy transaction that it intends to exempt 
        from regulation in the future.

   Nullifies all previously issued ``No Action'' letters for 
        foreign boards of trade for energy transactions and provides 
        180 days for exchanges to comply.
Requirement to Establish Uniform Position Limits on Energy Commodities; 
        Section 4a(a):
   Requires the CFTC to set aggregate position limits on energy 
        contracts for a trader over all markets. Especially with the 
        growing number of markets, speculators can currently comply 
        with exchange specific position limits on several exchanges 
        while still holding an excessive number of total contracts in 
        the aggregate. By setting aggregate position limits over all 
        markets, CFTC would be better able to make sure traders aren't 
        amassing huge positions in a commodity in an attempt to play 
        one exchange off of another.
Swaps No Longer Eligible for Exemption as Bona Fide Hedging for Energy 
        Transactions; Section 4a(c) of CEA:
   Closes the bona fide hedging exemption for energy swaps not 
        backed by a physical commodity. A growing number of speculators 
        have taken advantage of the bona fide hedging exemption to 
        avoid position limits and other CFTC action to limit excessive 
        speculation. While 4a(c) provides an exemption from position 
        limits for bona fide hedging to allow businesses ``to hedge 
        their legitimate anticipated business needs'', speculators have 
        exploited this provision, even though their trading is 
        speculative and, not for the legitimate business needs of a 
        user or producer.
Special Rules Applicable to Bilateral Included Energy Transactions; 
        Section 4(a) of the CEA:
   Requires reporting and record-keeping by bilateral traders. 
        This will allow CFTC to monitor for fraud and manipulation.
Public Disclosure of Index Funds; Section 8 of the CEA:
   Requires CFTC to make public information on the size of 
        positions invested in commodity index replication strategies 
        and disclose the total value of energy contracts traded by 
        commodity index speculators.
No Effect on FERC Authority; Section 2 of CEA:
   Protects the Federal Energy Regulatory Commission's (FERC) 
        authority provided in the 2005 Energy Policy Act to prosecute 
        market manipulation in natural gas and electricity markets.
Section 3
FERC Cease and Desist Authority; Section 20 of the Natural Gas Act, 
        Section 314 of the Federal Power Act:
   Provides FERC with Cease and Desist Authority to freeze the 
        assets of companies prosecuted under the anti-manipulation 
        authority given to FERC in the 2005 Energy Policy Act. FERC is 
        currently unable to freeze the assets of violators. As a 
        result, by the time FERC is ready to assess penalties, the 
        company could have liquidated and distributed their assets, 
        allowing them to avoid any monetary penalties. This legislation 
        will allow FERC to freeze these assets to ensure that once a 
        company is found guilty of manipulating natural gas or 
        electricity markets, the agency can secure a full recovery on 
        behalf of consumers and taxpayers.
                             Attachment II
June 20, 2008
Hon. Bart Stupak,
Chairman,
Subcommittee on Oversight and Investigation,
Committee on Energy and Commerce,
U.S. House of Representatives,
Washington, D.C.

    Dear Mr. Chairman:

    Ten days ago, a broad coalition of consumer, labor, and business 
organizations joined to advocate immediate reforms in the widely-
speculative energy commodity futures markets. While a long-term, 
rational energy policy including increased supply is our ultimate goal, 
bipartisan, near-term solutions to the market frenzy are absolutely 
critical. Experts agree that today's surging oil prices are beyond 
those warranted by supply-demand fundamentals and are due, in large 
part, to rampant speculation.
    In early June, speculators traded more than 1.9 billion barrels of 
crude oil--22 times the size of the physical oil market, including $150 
billion traded on the New York Mercantile Exchange alone. Sophisticated 
``paper'' speculators who never intend to use oil are driving up costs 
for consumers and making huge profits with little to no risk.
    With your leadership, we see an end to the current unwarranted 
escalation in oil prices. All coalition members are pleased to endorse 
and to pledge our full support for the prompt enactment of your 
proposed ``Prevent Unfair Manipulation of Prices Act of 2008.'' The 
PUMP Act will apply a much needed brake on rampant energy commodity 
speculation to drive down unprecedented, surging oil prices crippling 
the economy.
    The heart of PUMP is Section 2 that extends CFTC jurisdiction over 
energy commodities that now enjoy a host of trading loopholes. 
Specifically, we applaud your bill's focus onopening up the market to 
greater transparency and fairness to level the playing field for all 
traders. We fully support the bill, including strong provisions that:

   bring over-the-counter energy commodities within CFTC's 
        oversight responsibilities;

   close the ``swaps loophole'' by extending CFTC regulatory 
        authority to swaps involving energy transactions, another 
        important step towards needed transparency;

   extend CFTC regulatory authority to energy transactions on 
        foreign boards of trade that provide for delivery points in the 
        United States, a common sense measure as other products 
        delivered in the United States are subject to the full panoply 
        of United States regulation, save energy commodities; and

   require CFTC to set aggregate position limits on energy 
        contracts for a trader over all markets, ensuring that traders 
        do not corner markets by amassing huge positions and playing 
        one exchange off another.

    The undersigned strongly endorse the PUMP Act, urge Congress to act 
promptly, and pledge our full support for your efforts.

Air Carriers Association of America;

Air Line Pilots Association;

Airports Council International;

Air Transport Association;

Air Travelers Association;

American Association of Airport Executives;

American Society of Travel Agents;

Association of Professional Flight Attendants;

Industrial Energy Consumers of America;

International Association of Machinists;

International Brotherhood of Teamsters;

National Air Traffic Controllers Association;

National Business Travel Association;

National Farmers Union;

Regional Airline Association.


    The Chairman. I thank the gentleman for his testimony.
    Next we have Mr. Larson from the First District of 
Connecticut, Member of our leadership and somebody who has been 
very active as well on this issue.
    Mr. Larson, welcome.

STATEMENT OF HON. JOHN B. LARSON, A REPRESENTATIVE IN CONGRESS 
                        FROM CONNECTICUT

    Mr. Larson. Thank you, Chairman Peterson, and Ranking 
Member Goodlatte, Mr. Etheridge, and Mr. Moran for your 
outstanding work and service, distinguished Members of the 
Committee for your hard work, and I think the Chairman set the 
appropriate antenna at the start of the hearing when talking 
about the complexity of this issue and yet the need for us to 
get it right.
    And the historic position that has been played by the 
Agriculture Committee, especially in looking at the whole 
issues of commodities dating back to 1935, and the Act's 
inception, and the grave concerns that were laid out back then 
by President Roosevelt and the need for us to make sure that we 
looked very clearly and specifically into this issue of 
speculation.
    You are the heirs of a great tradition and one that I think 
the Chairmen jointly points out that you have to make sure you 
are weighing all sides of the issues and arguments but in the 
final analysis that you get it right.
    I am proud that, in the tradition of this Committee, I have 
introduced legislation ``bipartisanly'' with Mr. LoBiondo that 
is called the Consumer Oil Price Protection Act. There are more 
than 120 sponsors of this Act, and the genesis of it, I would 
like to take credit for it, but it comes from Main Street 
America. It comes from the Independent Connecticut Petroleum 
Association, it comes from your local gas station attendant, it 
comes from the diesel fuel owners, the home heating oil people, 
who have recognized that the whole issue of supply and demand 
has gone awry, something that in testimony by everyone from the 
former head of the CFTC to the President's EIA Commissioner, 
and also everyone down to the Secretary General of OPEC, 
indicating that speculation has played a role in this process.
    Very simply, my legislation says that if you intend to 
participate in the currently unregulated dark market 
established by Section 2(g) or 2(h) of the Commodity Exchange 
Act, then you must be capable of either producing or taking 
final delivery of the product. In other words, we are taking 
speculators out of the dark markets and shedding light on their 
activities.
    Speculators play an important role. They play an important 
role in a regulated market. Roosevelt recognized it. Your 
forbearer recognized it as well. What they also recognized was 
the need to limit those positions in terms of making sure that 
those that are actually the physical hedgers, those that are in 
the forefront of supply and demand and making sure that a 
market-based system prevails with the oversight of government, 
be allowed to go forth. That is the premise of this 
legislation.
    Mr. Stupak has gone into some of the statistics that--I 
think everybody should take notice when you see this 71 percent 
of the market is dominated now by speculators as opposed to 
physical hedgers, only account for 29 percent of that market, 
then something is awry.
    So what is it then that I and Mr. LoBiondo and other 
Members are asking of this Committee and what I believe the 
Chairman has laid out? You are the policymakers in the final 
analysis. Who do commodity markets serve? The producers and the 
consumers of the underlying commodity or the speculators? My 
grandfather Nolan had a great way of saying it, ``Trust 
everyone but cut the cards.'' And your responsibility is, which 
I don't have to inform you of, is to make sure that, not only 
that you cut the cards but you shuffle them. Make sure people 
are getting a fair deal with respect to this.
    So should oil be treated as a physical commodity with a 
finite supply as it was before 2000, or as a financial asset as 
it is being treated today? That is very important for this 
Committee. Treat it as a commodity or a financial asset or some 
kind of alchemy that has happened in-between in the dark 
market.
    What citizens in this country demand, given the 
complication of this issue, is straightforward answers and a 
Congress that will level with them about the plight that we are 
currently in.
    This Committee, as was pointed out by several of my 
colleagues here, established on March the 18th of 1935, two 
basic principles. They said, ``The fundamental purpose of the 
measure,'' that being the Commodity Exchange Act, ``is to 
ensure fair practice and honest dealing of the commodity 
exchanges and to provide a measure of control over those forms 
of speculative activity, which too often demoralized the 
markets to the injury of producers and consumers and the 
exchanges themselves.''
    The bill has another objective. The restoration of the 
primary function of the exchanges, which is to furnish a market 
for the commodities themselves. I believe that President 
Roosevelt had it right. I believe that the Committee back then 
had it right. I understand the awesome responsibility and 
challenge that you have, and this Committee has already taken 
bold steps as previous speakers have already indicated.
    But this is also an important step. It is not a panacea. 
There is no silver bullet in this, but this is in terms of the 
integrity of the laws of supply and demand, and I dare say the 
Congress in this Committee as it relates to restoring market 
principles, to be able as Leonard Boswell says very simply, to 
take delivery, makes common sense at a time when Americans are 
trying to conserve their cents and dollars.
    Last, I would like to say that I hope the Committee takes a 
look within the CFTC, and I realize it is not the domain of the 
Committee. I have a bill currently before Henry Waxman's 
Committee, to establish an independent Inspector General, one 
that is appointed by the President, ratified by the Senate, but 
has independent status on the CFTC. Not someone that is 
appointed by the CFTC and therefore, is under the stipulations 
of that person who has hired them, but someone who is truly 
independent. I hope the Committee takes that into 
consideration.
    In closing, I think that the bell has rung and that the 
historic evidence is here for the Committee to take action. 
Historically it has got away. How are we going to treat this 
issue? Are we treating the finite supply of oil as a commodity, 
or are we going to allow it to be treated as a financial asset 
or some kind of alchemy in-between? That is a difficult choice. 
Your forbearer made it by limiting the positions and 
understanding as Mr. Stupak has alluded to in his legislation 
and as others, Ms. DeLauro, Mr. Van Hollen, to limit that 
position so that we can provide a more democratic process and 
allow the Main Street participants to more fully participate in 
the benefits of a free market system.
    I thank you for the opportunity to speak before you today.
    [The prepared statement of Mr. Larson follows:]

Prepared Statement of Hon. John B. Larson, a Representative in Congress 
                            From Connecticut
    I want to thank Chairman Peterson and Ranking Member Goodlatte for 
myself, and for the 119 cosponsors of my legislation, H.R. 6264, which 
I call the Consumer Oil Price Protection Act, for holding this 
important hearing and providing the opportunity for me to speak here 
today. I'd also like to recognize and thank Congressman LoBiondo, the 
lead Republican cosponsor on this bipartisan legislation for his 
commitment to this issue.
    First let me recognize the hard work of the Chairman and this 
Committee on the 2008 Farm Bill over the last year, which took a first 
step towards regulating the ``dark'' energy markets. It has become 
clear to me, however, that these provisions, first put forward over a 
year ago, have already been overcome by the frenzied activity in our 
commodity markets. More direct and expedient action is now required.
    According to the American Petroleum Institute's July 1st U.S. Pump 
Price Update, the price of gasoline is up almost 30% from a year ago. 
Current prices for gasoline are at their highest levels over the last 
90 years when adjusted for inflation, and June set the record for the 
highest modern monthly average price for gasoline. The record high for 
the average price of gasoline changed fifteen times in the last 
seventeen weeks.
    My constituents, consumers and businesses alike, are desperate not 
just for relief--but for a fair deal. There is increasing evidence that 
the skyrocketing cost of a barrel of oil today, or a gallon of heating 
oil or gasoline at the pump no longer reflects actual consumer supply 
and demand for oil and gas.
    A myriad patchwork of loopholes in our commodities markets that 
have become apparent since the enactment of the Commodity Futures 
Modernization Act of 2000. These loopholes plague the perception that 
the market is functioning normally and impede the ability for the CFTC 
to conduct necessary oversight and data collection across the entire 
market.
    Today you will hear about legislation introduced by my colleagues 
to close and regulate the various loopholes that are commonly referred 
to as the `Enron Loophole', the `London' or `Foreign Board of Trade' 
Loophole, the `swaps loophole'. I strongly support these approaches.
    However, while closing those loopholes will finally bring 
transparency and oversight to the markets, it will not entirely address 
a more fundamental issue: the level of speculative participation in the 
markets. Which is why my legislation takes a different approach to this 
problem, one that can be considered as part of a comprehensive approach 
to reforming these markets.
    Very simply, my legislation says that if you intend to participate 
in the currently unregulated, or ``dark'' markets established by 
Section 2(g) or 2(h) of the Commodity Exchange Act, that you must be 
capable of either producing or taking final delivery of the product. In 
other words, we are taking the speculators out of the ``dark'' markets 
and shedding light on their activities.
    This approach is based on the premise that the commodity markets, 
as established by the Commodity Exchange Act of 1936, exists to serve 
the benefit of those dealing in the production and consumption of a 
physical, tangible, product with a finite supply.
    My legislation grew out of the concerns of the Independent 
Connecticut Petroleum Association, which represents fuel oil dealers 
and gasoline distributors across my state, many of which are small 
family owned businesses. These businesses are on the front lines of 
this issue, facing end use consumers on one end, some of whom have to 
turn over their entire Social Security check to pay for heating oil, 
and the oil markets on the other end. They are closest on the ground to 
the true pulse of supply and demand in these markets, and as the price 
continues to skyrocket, more and more companies are having trouble 
increasing their credit necessary to continue deliveries to their 
consumers.
    In 2005, I requested a GAO investigation into the CFTC and oil 
futures trading on NYMEX, specifically to determine the impact of the 
new trend of large noncommercial or institutional investors such as 
hedge funds speculating in the market.
    This report was completed in October 2007 and concluded ``in light 
of recent developments in derivatives markets and as part of CFTC's 
reauthorization process, Congress should consider further exploring 
whether the current regulatory structure for energy derivatives, in 
particular for those traded in exempt commercial markets, provides 
adequately for fair trading and accurate pricing of energy 
commodities.'' \1\
---------------------------------------------------------------------------
    \1\ GAO-08-25 Commodity Futures Trading Commission, Trends in 
Energy Derivatives Markets Raise Questions about CFTC's Oversight, 
October 2007, p. 58.
---------------------------------------------------------------------------
The Role of Physical Hedgers Versus Speculators
    In properly functioning markets, speculators play an important role 
in managing financial risk. The danger of combining unregulated 
speculation with commodities that have a finite supply like oil is that 
it can become excessive, causing artificial price distortions and 
volatility in the market. New CFTC data, discussed in a hearing in the 
Energy and Commerce Subcommittee on Oversight and Investigations last 
month show that in 2000, when the CMFA was enacted, 63 percent of the 
oil on the WTI futures market was held by physical hedgers, compared to 
37 percent held by speculators.
    By April of this year, that ratio had reversed itself, with 
speculators now dominating 71 percent of the market compared to 
physical hedgers at 29 percent. This dramatic shift begs this Committee 
to address the philosophical questions:

    (1) Who do the commodity markets exist to serve--The producers and 
        consumers of the underlying commodity, or the speculators?

    (2) Should oil be treated as a physical commodity with a finite 
        supply, as it was before 2000, or as a financial asset, as it 
        is being treated today?

    The historical record is quite clear that the commodity markets 
exist for what are referred to as physical hedgers. Physical hedgers 
are essentially the producers and consumers of the underlying product.
    Report Number 421 from the Committee on Agriculture in the 74th 
Congress, on the Commodity Exchange Act submitted on March 18, 1935 
stated the two basic tenants behind the Commodity Exchange Act:

    (1) ``the fundamental purpose of the measure is to insure fair 
        practice and honest dealing on the commodity exchanges and to 
        provide a measure of control over those forms of speculative 
        activity which too often demoralize the markets to the injury 
        of producers and consumers and the exchanges themselves.''

    (2) ``The bill has another objective the restoration of the primary 
        function of the exchanges which is to furnish a market for the 
        commodities themselves.''

    President Roosevelt said in his message to Congress on February 9, 
1934, ``It should be our national policy to restrict, as far as 
possible, the use of these exchanges for purely speculative 
operations.'' Given that since 2000 speculators have taken control of 
over 70 percent of the WTI futures market, on the one exchange that is 
currently regulated, we need to ask ourselves if the market has become 
exactly what President Roosevelt warned against.
Market Fundamentals No Longer Apply
    There are many parallels to what is happening today in our economy 
between investment in the commodity markets and Congress' grappling 
with the activities of speculators during consideration of the 
Commodity Exchange Act in 1935 and 1936. This Committee recognized in 
its report on the Commodity Exchange Act in 1935, that ``Since the 
passage of the Securities Exchange Act of 1934, there has been observed 
an increasing tendency on the part of professional speculators to 
transfer their activities from the security markets to the commodity 
markets, a tendency which makes the enactment of this bill without 
further delay of vital importance.''
    A similar shift in activity and capital has become evident since 
large portions of the commodity markets for oil were deregulated by the 
CFMA of 2000. Just as the equity markets face increasing scrutiny and 
potential regulation from the subprime mortgage fallout, we start to 
see more dramatic increases in capital suddenly flowing to the oil 
commodity markets. Additionally actions by new institutional investors 
not envisioned in the 2000 CFMA reforms have emerged, including those 
seeking to use the commodity markets as a hedge against the falling 
dollar and those applying long term equity portfolio growth strategies 
to commodities.
    The essential function of price discovery that futures markets play 
has become distorted in the current excessive speculative activity. As 
far back as 2005, Lee R. Raymond, the Chairman and CEO of Exxon Mobil 
said, ``We are in the mode where the fundamentals of supply and demand 
really don't drive the price.'' \2\ Earlier this year, Chip Hodge, a 
Managing director of MFC Global Investment Management's $4.5 billion 
energy portfolio said, ``Clearly, the fundamentals don't matter at this 
point.'' \3\ Guy Caruso, head of the Energy Information Agency 
testified to the Senate earlier this year that a speculative premium 
existed in the price of a barrel of oil.\4\ Even Abdalla al-Badri, OPEC 
Secretary General was widely quoted in the press in December 2007 
saying that ``The market is not controlled by supply and
demand . . . It is totally controlled by speculators who consider oil 
as a financial asset.''
---------------------------------------------------------------------------
    \2\ ``Some Wonder if the Surging Oil Market Is Ignoring Supply and 
Demand'' by Simon Romero, New York Times, March 15, 2005.
    \3\ ``Crude Oil Trades Near Record $108 as Returns Outpace 
Equities'' by Mark Shenk, Bloomberg.com, March 11, 2008.
    \4\ Senate Energy and Natural Resources Committee Oversight 
Hearing: EIA's Revised Energy Outlook, March 4, 2008.
---------------------------------------------------------------------------
    There seems to be general agreement between oil executives, 
investment managers, the Department of Energy, and consumers that the 
current price of oil is not entirely contributable to supply and 
demand.
Supply-Side Arguments Reinforce the Need for Re-Regulating Oil Markets
    Critics of legislation targeting speculators often cite increased 
demand from China and India, bottlenecks in the refining process, or 
other supply disruptions like natural disasters for rising prices.
    However, if it is limited access to supplies of oil that is 
increasing the price, not excessive speculation in the market, then 
clearly, oil is a tangible commodity with a finite supply, not an 
intangible financial instrument as defined by the CFMA of 2000. It 
should therefore minimally be subject to the same regulatory 
protections provided for agriculture products.
    These arguments only reinforce the need for the approach taken in 
H.R. 6264, that the markets should operate on the needs of the 
underlying physical producers and consumers.
Restoring Basic Fundamentals to the Market
    The approach H.R. 6264 takes to restore the fundamentals of supply 
and demand to the market and reestablish a reliable price discovery 
process is to focus on the activities of the physical hedgers, the 
producers and consumers, the market participants the commodity markets 
were established to serve.
    Michael Masters, in his testimony before the Energy and Commerce 
Subcommittee on Oversight and Investigations on June 23, 2008, summed 
up why this is effective very succinctly:

        ``Bona fide physical hedgers are motivated by one thing--risk 
        reduction. Physical commodity producers trade in order to hedge 
        their actual physical production. Physical commodity consumers 
        only trade in order to hedge their actual consumption. For this 
        reason, their trades are always based on the actual supply and 
        demand fundamentals that directly affect them in the underlying 
        physical markets. Their trading decisions strengthen the price 
        discovery function of the commodities futures markets.''

    To accomplish this, H.R. 6264 says that if you intend to 
participate in the currently unregulated, or ``dark'' markets 
established by Section 2(g) or 2(h) of the Commodity Exchange Act, that 
you must be capable of either producing or taking final delivery of the 
product. In its current form, it is written against current law, and 
assumes that sections 2(g) and 2(h) of the CEA are not modified as 
proposed by Mr. Stupak in H.R. 6330 or Mr. Van Hollen in H.R. 6341. 
Recognizing that responsible speculation provides the liquidity 
necessary for the commodity markets to function efficiently, H.R. 6264 
allows speculators to continue to participate in the existing regulated 
markets, where their activities can be conducted in the light of day 
and are fully disclosed, and subject to position limits and other 
oversight measures followed by regulated exchanges. By limiting the 
participation of speculators and focusing on the activities of the 
physical hedgers this legislation will ensure that prices will most 
accurately reflect the true supply and demand of the underlying 
physical commodity.
    Even if provisions of H.R. 6330 or H.R. 6341 are adopted that would 
change the current structure of Sections 2(g) or 2(h) of the CEA, this 
Committee will still need to look at solutions to address or determine 
the limits defining excessive speculation in the market. H.R. 6264 is 
adaptable to those changes. For example, one approach suggested by 
Michael Masters in his recent testimony would be to allow the physical 
commodity producers and consumers to determine what level of 
speculation, and thereby liquidity, is necessary for the proper 
functioning of their market.\5\
---------------------------------------------------------------------------
    \5\ Michael Masters, Managing Member/Portfolio Manager, Masters 
Capital Management, LLC, Testimony before the House Committee on Energy 
and Commerce Subcommittee on Oversight and Investigations, June 23, 
2008.
---------------------------------------------------------------------------
Establish an Independent Inspector General at the CFTC
    As Congress seeks to implement reforms of the oil commodity 
markets, it is imperative that the CFTC have an independent Inspector 
General office to ensure that the directives issued by Congress are 
implemented and adhered to by the CFTC. The current Inspector General 
sits under the office of the Chairman of the CFTC, who also hires the 
agency's IG. This relationship makes the IG dependent on the Chairman. 
However, an Inspector General appointed under Section 3 of the 
Inspector General Act of 1978 would be chosen by the President and 
confirmed by the Senate. They maintain an independent office. I have 
recently introduced legislation, H.R. 6406 that would establish an 
independent Inspector General's office at CFTC. While this legislation 
has been referred to the Government Reform Committee, it is 
nevertheless relevant to this discussion and important to this 
Committee's deliberations.
Closing
    This Committee must determine whether the underlying purpose of the 
Commodity Exchange Act is to provide a market for the commodities 
themselves and some control over speculative activities, or whether the 
markets exist purely for the use of speculators.
    The historical record to me is clear: commodity markets exist to 
match buyers and sellers of physical commodities, with finite supplies, 
with consumers or end-users. The data that continues to come forward in 
Congressional hearings and now even from the CFTC is clear. The ratios 
of speculative activities to physical activities in these markets are 
skewed. A mechanism must be set to determine or limit speculative 
positions across all markets and reduce the role noncommercial 
investors, who cannot and do not accept delivery of the physical 
product.
    H.R. 6264 provides a pathway to accomplish that. Together this bill 
and the proposals put forward by my colleagues today provide a 
framework for a comprehensive solution. I stand ready to work with you 
to craft the best possible policy to address the changes in the 
commodity markets that have evolved over the last several years.
    I thank the Chairman and Ranking Member for their consideration of 
these views, and would be happy to answer any questions.

    The Chairman. I thank the gentleman very much for his 
testimony, and we have enough time to get Mr. Welch in before 
we have to vote. I want to remind all the Members of the panel 
if you want to make sure your legislation has a good chance of 
getting passed or incorporated, that you come back and engage 
in a dialogue with us as we try to move through this, but I 
understand people are pulled different ways, but we would 
appreciate coming back.
    So we will hear Mr. Welch and then we will come back as 
soon as the votes are over.

  STATEMENT OF HON. PETER WELCH, A REPRESENTATIVE IN CONGRESS 
                          FROM VERMONT

    Mr. Welch. Thank you, Mr. Chairman, Mr. Goodlatte. Thank 
you, Committee Members. I really appreciate the opportunity to 
be here, and I will be brief with votes coming up.
    I introduced a bill on November 1, 2007, to close the Enron 
Loophole, and basically the question that this Committee has to 
provide guidance to the full Congress on is number one, should 
we regulate? Should we regulate the energy future markets?
    The 109th Congress came to a conclusion that we should not, 
and they passed into law the Enron Loophole that took away any 
regulatory oversight of those exchanges. This Congress with the 
leadership of this Committee, came to a different conclusion 
and said, we should regulate. And you passed regulatory 
provisions that started closing the Enron Loophole in the farm 
bill, and I thank you for that.
    The second question is, does speculation have adverse 
consequences? It has been stated by many, and it is well known 
by the Members of this Committee more than any others in 
Congress that it serves a very constructive function. But what 
we do know is that there are historic examples, recent historic 
examples where unregulated speculation has had very damaging 
effects on markets and on consumers. The most vivid and current 
example is what happened with the Enron Loophole, and Enron 
used that, of course, with its Enron On-Line to drive up the 
price of electricity in California by 300 percent.
    And all of us opposed that. So the question now is if we 
have made a different decision as a Congress, that there is a 
rule for proper, and I emphasize the word proper, and the 
burden is on this Committee to give us guidance on what that 
means, regulation or what should we do? My legislation did 
basically three things.
    First, it said we have to have transparency in the 
transactions. Plain and simple. Then all market players are 
aware of what is going on. Second, it required that there be 
real time information given to the CFTC so they would be able 
to do their job on a timely basis.
    And third, it said all traders, whether they are foreign or 
domestic, are subject to the same rules, and that is why many 
of my colleagues have introduced legislation to close the 
London Loophole or the Dubai Loophole. But basically it is 
common sense that if you have a regulatory scheme, it should 
apply to all who trade, whether they do it from a terminal in 
London, Dubai, or Washington D.C.
    Now, this Committee did pass and Congress adopted your 
provisions on closing the Enron Loophole, but my suggestion, 
Mr. Chairman, is that we need to go a bit farther, and the 
major reservation I have about what we did pass was that in 
order for the CFTC to enact regulation on some of these foreign 
exchanges, it required the CFTC to make a specific finding on a 
contract-by-contract basis of a significant price discovery 
event.
    And frankly, what that does is create an enormous 
regulatory and bureaucratic burden. What I believe is a better 
approach on regulation is to have a bottom line approach of 
what it is you want for information, transparency, timely 
disclosure, and then rules that everyone understands and can 
play by. And then the enforcement is ferreting out when there 
have been violations and take an appropriate enforcement 
action.
    So it is going to be the job, it is the job of this 
Committee. I really applaud you, Mr. Chairman, for asserting 
jurisdiction, because there is a lot of pressure out there on 
all of us to, ``do something,'' and we all want to do 
something, but it is imperative that the something that we do 
helps, and doesn't hurt.
    So thank you very much for allowing me to be part of this 
important hearing.
    [The prepared statement of Mr. Welch follows:]

 Prepared Statement of Hon. Peter Welch, a Representative in Congress 
                              From Vermont
    First, let me thank Chairman Peterson for convening this critically 
important hearing. I also need to thank Sean Cota, President of a great 
community-based fuel dealer in my State of Vermont for first bringing 
the issue of speculation in the fuel markets to me last fall.
    Vermonters and residents of other cold-weather states are facing 
the equivalent of a Category 5 storm. Our constituents are on the edge, 
and as they look forward to the cold, winter months, many of them are 
afraid of what they might find--home heating bills doubled, sometimes 
tripled from what they were last year.
    Each weekend I hear the same thing from Vermonters: increasing 
expenses for fuel, child care, health care, and education are making it 
harder and harder for working families to make ends meet. Energy costs 
are an enormous driver of this crisis and they are only escalating. The 
average U.S. heating oil bill is expected to be a record $3,500 for the 
upcoming winter, up 76% from two winters ago. This is not sustainable. 
Based on the current state of the market, speculation is a large 
contributing factor to the astronomical spikes we have had in just the 
past 12 to 18 months.
    I frequently hold ``Congress in Your Community'' events around my 
state in order to hear directly from Vermonters about the issues 
important to them, and to see if I can offer assistance. It was a 
Congress in Your Community last fall in Bellows Falls where Sean Cota 
approached me with a story that was truly hard to believe: in 2000, the 
109th Congress passed a loophole for Enron that is now inflating fuel 
prices for all of our constituents by an average of $800 to $1,000 a 
year. I then discovered that the non-partisan Government Accountability 
Office (GAO) had documented this consumer rip-off. A few days later, I 
introduced H.R. 4066, to close this egregious ``Enron Loophole.''
    In 2000, Enron and several large energy companies successfully 
lobbied the Republican-led Congress to exempt energy markets from 
government regulation. This lack of oversight has resulted in multi-
billion dollar price manipulation and excessive speculation by traders. 
This special interest loophole is allowing energy traders to rip off 
Vermonters and Americans who are already struggling every winter to 
heat their homes. The previous Congress sold us out to Enron, creating 
a Wild West in the energy markets at the public's expense. It's time to 
end this rip off.
    The ``Close the Enron Loophole'' bill calls into question the 
excessive speculation occurring in the marketplace. Are we going to 
allow the oil futures market to continue to profit from ripping-off our 
hardworking constituents, or are we to pass and enforce responsible 
regulations on energy futures trades. Families, who already struggle to 
pay fuel bills, should not be forced to choose between putting food on 
the table and keeping their house warm as energy traders continue to 
line their pockets.
    Several provisions of my bill were included in the farm bill 
recently signed into law. Unfortunately, it was not enough, and I 
believe the language was far too diluted. My bill if enacted will 
establish government oversight of the trading of unregulated energy 
commodities to prevent price manipulation and excessive speculation. 
The bill would give the Federal Commodity Futures Trading Commission 
much-needed monitoring and enforcement authority.
    This legislation simply introduces oversight to the energy market. 
It is an overdue fix to a grossly irresponsible loophole that never 
should have been created.
    Again, thank you Chairman Peterson for your attention and 
commitment to finding a solution to this problem. Speculators should 
not have free reign in the oil markets, reaping vast profits at the 
expense of American families. I am happy to answer any questions about 
my legislation.

    The Chairman. I thank the gentleman very much. I thank all 
of the panel Members. I would encourage all Members to come 
back because immediately after the votes we will proceed to 
questions and come to a conclusion.
    The Committee is in recess.
    [Recess.]
    The Chairman. The Committee will come back to order. As I 
expect, there are all kinds of other stuff going on, so I am 
not sure exactly who is going to be here how long, but we will 
move ahead here with whatever time we have available.
    So I am going to first recognize the gentleman from North 
Carolina, our Subcommittee Chairman in this area, Mr. Etheridge 
for a short statement and question.
    Mr. Etheridge. Mr. Chairman, thank you, and let me thank 
you and the Ranking Member for holding this meeting and my 
partner, Jerry Moran, for being here.
    I think since 2000, we all know the volume on the 
commodities market have increased six fold. However, during 
that same period of time, the staffing level for the CFTC has 
fallen to the lowest level in the agency's 33 year history. And 
there has been a growing concerning about energy trading and 
overseas futures market. Some worry that trading on these 
markets, particularly crude oil trading on the European 
markets, is affecting our own domestic energy markets by 
increasing volatility and raising prices.
    As you know, today, tomorrow, and Friday, hearings will 
examine these issues and determine if additional Congressional 
action is necessary. Like many of my colleagues here, I've 
introduced a piece of legislation, H.R. 6334 that addresses 
many of these issues and will do three very specific things, 
others, but I will just mention them here before I get to 
questions. It will ensure that foreign markets are not 
adversely affecting our markets. My bill directs the CFTC to 
ensure that these markets are comparable, required to publicize 
the trading information, position limits, accountability levels 
for speculators, as do domestic markets that trade U.S. energy 
products. My bill will also require the CFTC to change their 
reporting of traders in energy markets to more clearly show 
what positions and how much influence these funds have in 
energy markets.
    And finally, it would require an additional 100 full-time 
equivalents at the CFTC that are needed to effectively regulate 
the futures market, including our energy markets. And let me 
remind everyone that this was asked for by the Chairman of the 
CFTC that I think is important.
    Now, let me say that no one factor is responsible for the 
current energy prices. So it behooves us to examine the 
question of excessive speculation, deliberately and 
thoughtfully, and these hearings will allow us to do that. That 
being said, let me thank my colleagues for being here today for 
the work they put in this for studying, and let me ask the 
first question to my colleague, Mr. Stupak. In reading your 
testimony, you mention that 117 hedge exemptions were granted 
since 2006 for the West Texas crude oil contracts on NYMEX, 
many of them for swap dealers. Your bill addresses hedge 
exemptions by limiting the exemptions to bona fide hedges and 
denying exemptions to those seeking to hedge a swap 
transaction. Is that correct?
    Mr. Stupak. That is correct.
    Mr. Etheridge. With that, let me run a few numbers by you 
and get your response. On January 2, 2006, according to 
testimony, crude oil was trading at about $65. In January of 
2007, it was still in the low $60's. The number of hedge 
exemptions granted for traders hedging against a swap in 2006 
was 46. That is approximately 109,783 long contracts, and 
113,283 short contracts were held in excess of position limits 
over the course of the year.
    In January of 2008, oil has climbed to almost $100 
representing a 54 percent increase over the course of 2007. The 
number of hedge exemptions granted to traders for a swap 
declined in 2007 to 36, and the number of contracts held in 
excess of position limits for the whole year also declined to 
approximately 94,519 long contracts, and 90,253 short 
contracts. Today, crude oil is about $135 to $137 which is a 35 
to 37 percent increase over this year.
    The number of hedge exemptions granted to traders for swaps 
so far in 2008 has fallen to 11, and this represents 23,804 
long contracts, 23,709 short contracts so far this year. So as 
the price of oil has risen, use of the hedge exemption and the 
number of contracts given to hedge exemption has steadily 
declined. I raise that because since you worked in this area, I 
will get your answer. What does this say about your argument 
that swap dealers are using the hedge exemption to ramp up 
prices?
    Mr. Stupak. There, Mr. Chairman, because where are they 
settling at? The long and the short, where are they settling 
at? What is the price they are settling at? It is not the 
number of contracts that is out there, it is where are they 
settling.
    Mr. Etheridge. Yes, but if the numbers are reducing, the 
overall contracts and numbers, how does that indicate--cashing 
the exemption?
    Mr. Stupak. Look at your open interest on that one chart 
that I had. What was your open interest? What are they settling 
at when they settle? That is what it would be. I bet if you go 
back to 1979, when the Hunt brothers tried to take over the 
silver market, I bet you would find the same thing that 
exemptions and that given would probably settle out. What 
happened with the Hunt brothers? Until we cut off the 
exceptions that they were given, they netted out every day. The 
longs and short netted out each day. And therefore, the 
argument--the same thing was made. You have a long, you have a 
short. You have a short for every long. But what happened? It 
was $7. It went to $50. And then as soon as they told the Hunt 
brothers, enough is enough and we closed off that market to 
them, it went right back to $7. It wasn't the number of 
contracts, it is where does the contract settle?
    Mr. Etheridge. But in that case, they were actually taking 
possession of the silver.
    Mr. Stupak. No, they weren't. They were required to take 
possession of the silver. And therefore, that's when we brought 
it back down, the price of silver, when they tried to hoard the 
silver market in 1979.
    The Chairman. The gentleman from Kansas.
    Mr. Moran. Mr. Chairman, thank you very much. I appreciate 
the opportunity we are going to have this week to consider this 
issue of speculation. I appreciate my colleagues from across 
the country and their interest in being here today and trying 
to highlight some legislative options that we have in regard to 
speculation. I also would like to associate myself with the 
remarks of Mr. Peterson, the Chairman, and Mr. Goodlatte, the 
Ranking Member, in their opening statements. Very much what 
they said is compatible with my thought process on this.
    I am fearful that we have become confused in the difference 
between speculation and manipulation, and clearly we want to 
make certain that market manipulation is not occurring but 
excessive speculation, I need to understand why excessive 
speculation is actually something that manipulates the market.
    It is interesting to me that we are having these 
discussions for much of the time I have been in Congress. My 
farmers have complained to me about speculation, those who 
don't have to deliver a commodity. Their complaints have been 
based upon the reality that commodity prices are too low. And 
so today we hear that speculation causes high prices. In years 
past and on the agricultural side, we heard numerous times 
about how speculators caused low prices.
    This Subcommittee that Mr. Etheridge chairs that I serve as 
the Ranking Member has been very active in these topics, and I 
am pleased that we are re-engaged in this issue and continue to 
be engaged in this issue that now confronts us.
    I guess my question would be perhaps to you, Mr. Stupak. I 
watched part of your Subcommittee's hearing, and the slides 
that you showed, and maybe this is what you were suggesting to 
Mr. Etheridge, the slides showed that 71 percent of the long 
open interest crude was held by speculators, and then the 
Subcommittee had another slide showing that 68 percent of the 
short, open interest in crude was held by speculators. So 
roughly 7 in 10 speculators hold long positions. Those market 
participants would profit if the price went up, and almost the 
same number, almost 7 in 10, would profit if the markets went 
down. Is that fact significant as we look at the relationship 
between increased speculation, greater speculators, greater 
volume of speculation in the market as compared to rising crude 
prices?
    Mr. Stupak. Well, as you indicated, and that is the chart 
right there that we had at the Subcommittee, we refined it a 
little bit more based upon information from the CFTC. And in 
January, the commercial or the hedgers controlled 63 percent of 
the market. Look at the movement over the last 8 years. You are 
down to what, 30 percent of the market. The people who are 
legitimately hedging, the airline industry, the trucking 
industry, those would have to buy their fuel to hedge against 
future increases are getting squeezed out of the market. And as 
more money flows into this market, the more they are going to 
get squeezed. With the swap dealers, they have almost doubled 
their position, and the noncommercial entities, those are those 
who have no interest, but they are playing in this market. Too 
much liquidity, too much cash, drives the market up. And that 
is what you are seeing right here, this trend. The trend is 
rather disturbing. You go from what, what did I say in my 
opening statement? How many contracts where you are talking 
about there at one time, and now you are up to over three 
million? It was 114,000 to 3 million in a short period of time.
    The Chairman. Will the gentleman yield?
    Mr. Moran. I yield, Mr. Chairman.
    The Chairman. I don't pretend to be an expert in this but 
what I have been asking people is if you go into this swap 
market and you get a position, then they turn around and lay 
that risk off in the over-the-counter market. It is how it 
works and they net these things out, and there might be a 
situation where you have some small amount of long or short 
that you have to cover in the NYMEX and that happens at some 
level, whatever it is, four percent, ten percent, whatever it 
is. But it is a small amount, but that ends up over in the 
NYMEX. But the rest of this never gets into the system, I don't 
see how it affects anything because it is these two guys over 
here making this deal and whatever they settle at is not doing 
anything with price discovery, it is not affecting the futures 
market. The only part of it that is going into the marketplace 
that could have an effect is that difference that they have to 
go in and lay off in the NYMEX or wherever they are doing it, 
or the ICE.
    Mr. Stupak. And CFTC has been using this argument, long and 
shorts, they come in very close, there is very little 
difference as you indicated, basically a net zero. But what 
they are not telling you is when the buyer and seller, when 
they settle, when they cross, what is the price?
    The Chairman. What difference does it make because it is 
not being used for price discovery?
    Mr. Stupak. Because that contract is then sold and it is at 
a higher floor than what it was before. You don't know where it 
settled.
    The Chairman. So this is affecting the spot market?
    Mr. Stupak. Second, Mr. Chairman, you indicated yourself 
you don't know where the over-the-counter trades are going on. 
You are only seeing part of the picture. That is why 
transparency is so important.
    The Chairman. If the gentleman would yield, I would agree 
that we need to know what is going on here. I don't think many 
of us disagree with that, but I am still trying to understand, 
if you go out there and make this thing--some of these people 
are never buying oil.
    Mr. Stupak. True.
    The Chairman. So you have these index funds--so that that 
money goes some place. I guess it is in some Wall Street 
account or something. Then they go and hedge this with some 
other bank. But this never buys and oil, it never goes onto the 
NYMEX to have any affect. So what I am trying to get at is 
nobody can tell me and draw a line to show how this is working. 
It sounds like something devious, but I am a CPA and I need to 
follow the money and understand how this works and I still 
can't track this. It doesn't seem like this is having an affect 
on price discovery.
    Now, you may not like the fact that these people are doing 
this, and that is kind of a different issue. I am not sure 
pension funds should be in the commodity market at all given 
the volatility of it. So I just would like somebody to explain 
to me if these things never get over on the market, how they 
are affecting the price.
    Mr. Stupak. But when you take the hedge fund exceptions, 
they only cover the last 3 days of that trading. When you do a 
contract, you hold it and it is the last 3 days that are most 
critical. What happened the first 27 days, you have no idea. So 
there is a lot of movement in this market. If I don't hold mine 
for the 27th day, I sell mine on the 25th day, you have no idea 
what I did----
    The Chairman. I understand that.
    Mr. Stupak. You don't know what the cash settlement----
    The Chairman. The money is not going into the market, it is 
going into Goldman Sachs or whoever has this deal.
    Mr. Stupak. Correct.
    The Chairman. So what is it doing, affecting the price of 
their stock? I don't see how it affects the futures market if 
it doesn't go into the futures market. I mean, if somebody 
could explain that to me, it would make this job easier. I 
don't see how----
    Mr. Stupak. We don't know a lot of it because as you have 
indicated yourself, Mr. Chairman, half of it is on the over-
the-counter trading, the ICE market, the Dubai market. We don't 
know what is going on in those markets. We don't have any idea 
what is going on, but we know that they are selling West Texas 
crude. We know the Enron loophole for the London market, 64 
percent of the WTI, West Texas Intermediate, had been traded on 
that market which is running up that price of that crude. And 
the cash settlement, when you come to settle out, there is no 
substitute for oil. So you are stuck at that price. Even the 
spot market looks to the market, the NYMEX, for their price.
    The Chairman. The gentleman from Virginia. I think you had 
some questions in this area.
    Mr. Goodlatte. Yes, I do. I wanted to follow up on the 
questions that the gentleman from North Carolina was asking 
about, the hedging that the gentleman from Michigan mentioned 
in his testimony.
    Mr. Stupak, in your testimony you said that physical 
hedgers represent a smaller and smaller portion of the market 
and offer this as proof that increased speculation yields 
higher prices. However, we will hear testimony tomorrow from 
Dr. Jim Newsome who is the CEO of the New York Mercantile 
Exchange that data analysis indicates that the percentage of 
open interest held by speculators relative to commercial 
participants actually decreased over the last year, even at the 
same time that prices were increasing.
    He further states in his testimony that noncommercial long 
and shorts, in other words speculators, consistently have been 
in the range of 30 to 35 percent of the open interest. This 
would mean that hedgers make up the balance or 65 to 70 percent 
of the market. That is much different than the 29 percent that 
you cite in your testimony. And so I guess my question is how 
are we, the Committee of jurisdiction on this issue, supposed 
to interpret the disparities between the claims made by you and 
others and the data provided to us by the exchange that knows 
exactly what positions are on their exchange?
    Mr. Stupak. I would suggest you ask the gentleman if the 
noncommercial leaves out the swaps. The answer is noncommercial 
trades leave out the swaps. That is where you can see here on 
our chart, April 2008. We broke it out so you could see your 
noncommercial and you could also see the swaps. So I would ask 
them that question, does noncommercial include swaps or not?
    Mr. Goodlatte. Okay. I will ask him that. Let me ask you 
this. In addition to this data, Dr. Newsome will testify that 
noncommercials, speculators, are relatively balanced between 
being long and being short, and that has already been mentioned 
already by some of the others here. How do we reconcile that 
data with your testimony and some of the things we are seeing 
in the media?
    Mr. Stupak. The issue isn't how many are long, how many are 
short to get to a net position. Again, as I have tried to 
indicate, since there is a long for every short and a short for 
every long, the net positions don't tell you what price the 
buyer and seller actually crossed at. What is that floor that 
is being established? You don't know that. You know the number 
of contracts. Only on NYMEX, only on NYMEX. You don't know the 
number of contracts, long and short, on ICE. You don't know the 
number of contract on Dubai. And when you take a look at it, 
the experts we consulted with pointed out that the chart that 
the CFTC will show you tomorrow takes in all the contracts that 
could be for every month which takes in all months and lump 
them all together. And in the information that we have been 
providing you have been 30 day look-sees. When you put all 9 
years' worth and then you close it out, you can't pinpoint 
anything by lumping all these months together. The good news is 
the CFTC is going to ask these swap dealers for their 
information, and I look forward to seeing that data when it 
comes in.
    But remember, go back to silver, the Hunt brothers. Every 
day they had long and short. There was a zero there.
    Mr. Goodlatte. But remember, the Hunt brothers controlled a 
significant amount of the supply of silver, and we don't have 
that situation here with the type of speculators that you are 
talking about.
    Mr. Stupak. Well, if you see with the noncommercials and 
the swaps are controlling 70 percent of the market, I think 
that is a significant part of the market. The hedgers are only 
down to 30 percent. That is just like the Hunt brothers all 
over. Instead of calling them swaps and noncommercials, let us 
call them the Hunt brothers. They have moved from 30 percent of 
the market----
    Mr. Goodlatte. But I don't think----
    Mr. Stupak.--and now it is 70----
    Mr. Goodlatte. I don't think they own anything. I don't 
think they control the supply. And on that point----
    Mr. Stupak. They have these contracts, don't they?
    Mr. Goodlatte. Let me----
    Mr. Stupak. And there are only so many contracts given, 
right?
    Mr. Goodlatte. They don't control the supply of oil the way 
the Hunt brothers controlled the supply of silver. But let me 
ask you this on that very point.
    Mr. Stupak. Go ahead.
    Mr. Goodlatte. You and some others have cited hedge 
exemptions as a way for parties to increase their speculative 
positions. The CFTC has now made data available to us that 
allows us to analyze this. In 2006, for swap agreements, 19 
firms requested hedge exemptions. Thus far in 2008, only four 
firms have requested hedge exemptions. For combination hedge 
and swap agreements, 23 firms requested hedge exemptions in 
2006. In 2008, thus far only eight firms have requested hedge 
exemptions.
    During the time that crude oil had a large run-up in price, 
the request for hedge exemptions have fallen significantly. How 
do we reconcile that data with what we have been hearing here 
today?
    Mr. Stupak. If I have one of these exemptions, if I have my 
hedge exemption, and I said there are 117 of them, right, there 
is no need for me to go back next year to get another exemption 
from the CFTC because I already have it.
    Mr. Goodlatte. Why didn't it happen a lot sooner then?
    Mr. Stupak. Why didn't it?
    Mr. Goodlatte. Yes.
    Mr. Stupak. The first one started in 1991. It was J. Enron 
which is----
    Mr. Goodlatte. Well, I know----
    Mr. Stupak.--Goldman Sachs.
    Mr. Goodlatte. The price increases in oil which are a 
concern to all of us right now----
    Mr. Stupak. Sure.
    Mr. Goodlatte.--and we want to get to the bottom of it and 
if you or others are right, we certainly want to make sure that 
there is all the transparency in this market so that there 
isn't an artificial inflation here. But assuming that your 
observation is correct, and we will again ask our witnesses 
tomorrow about that, but assuming it is correct, why didn't it 
happen sooner than now, this year, the last few months? Why 
does it all of a sudden spike up now when these exemptions have 
been granted over a long period of time and very few of them 
are being additionally granted now? Presumably if this were the 
avenue toward creating the bubble you talk about, you would 
think there would be more people in there saying, ``Hey, I 
missed the boat, I want that exemption now.''
    Mr. Stupak. Well, I guess you would almost have to ask 
them, but as my testimony indicated, NYMEX granted 117 hedging 
exemptions since 2006 just for West Texas crude, 117 in less 
than 2 years for West Texas crude. Remember, these exemptions 
are usually permanent over the last 3 days of the contract.
    Mr. Goodlatte. Thank you. We will ask those questions of 
our witnesses tomorrow. Thank you, Mr. Chairman.
    The Chairman. Are there any other Members that have 
questions along this line? Mr. Conaway?
    Mr. Conaway. Thank you, Mr. Chairman, and I was excited to 
hear almost every one of the witnesses say they wanted to do 
everything possible to address these high prices. I am excited 
about the opportunity to address supply issues in maybe a 
different forum.
    If there is a huge premium in the market, why is this Fadel 
Gheit--has his firm shorted this market? In other words, if 
there is this giant bubble in there that we think is about to 
burst, have they shorted it and it was sold out? These guys are 
the professionals, the pros, that don't take delivery of crude 
oil. They are making money going both directions, so why are we 
not seeing a lot of pressure on the short side?
    Mr. Stupak. I guess you would have to ask him.
    Mr. Conaway. Yes, we will.
    Mr. Stupak. Oppenheimer, you know.
    Mr. Conaway. Yes.
    Mr. Stupak. That is who he is with.
    Mr. Conaway. But I mean, you testified, you used his 
testimony to support your position.
    Mr. Stupak. Yes.
    Mr. Conaway. And I am just saying, did you ask him that? If 
he is so firm on his position his conviction, has he actually 
shorted the market?
    Mr. Stupak. I did not ask him that question.
    Mr. Conaway. Okay. Mr. Van Hollen, you mentioned a zero 
speculative premium. How would we know that?
    Mr. Van Hollen. I am sorry?
    Mr. Conaway. You mentioned that you wanted to wring out all 
the speculative premium and get it to zero. How would we ever 
know that?
    Mr. Van Hollen. What I said was I thought that the changes 
that we are suggesting through this legislation in terms of 
greater transparency in the markets, both with the London 
loophole as well as other actions we could take, would help 
squeeze out what I believe is a speculative premium. And 
again----
    Mr. Conaway. But you mentioned getting to zero in your 
testimony, and I was just curious----
    Mr. Van Hollen. No, what----
    Mr. Conaway.--how would we know?
    Mr. Van Hollen. What I said was, there have been different 
testimonies given before different Committees as to exactly 
what the speculative premium is. All I was suggesting was based 
on all the testimony I have heard, I think it is above zero. I 
don't know what it is. Some people have said it is 50 percent, 
some people have said it is $30 per barrel. I think what I was 
saying was based on the testimony I have heard, it is above 
zero. The CFTC, as you know, has stated that it is in perfect 
balance, that their testimony so far I believe before Congress 
has been that there is no speculative component, that the price 
of oil is being set by the force of supply and demand. I just 
think that there is enough testimony out there to suggest that 
there is some premium there, and what we are proposing here are 
some different ways to get at it by giving the CFTC greater 
regulatory authority.
    If I might just quickly, because I know Dr. Newsome is 
going to be testifying before this Committee, he testified 
earlier, as you know, before the Congress, and I know you are 
going to get to the FBOT, the London loophole issue, but his 
testimony before this Congress was with respect to ICE, ``It 
was not anticipated that the no action process would be used in 
this manner which has effectively diminished the transparency 
to the CFTC of approximately \1/3\ of the West Texas 
Intermediate crude oil market and permitted an easy avenue to 
circumvent position limits designed to prevent excessive 
speculation.'' So the purpose of this legislation is to begin 
to get at some of these things which, according to Dr. Newsome 
and other experts, have created some speculation premium. I 
don't know what it is, but what I was saying is I think it is 
greater than zero.
    Mr. Goodlatte. Will the gentleman yield?
    Mr. Conaway. Yes, but I do have one more question.
    Mr. Goodlatte. I just wanted to make a note in the record 
on the issue that we have been discussing on hedge funds and 
hedge exemptions, we have here a report from the CFTC regarding 
the figures that I just cited. There are two types of hedge 
exemptions. One is an annual exemption valid for 1 year, and 
one is a temporary exemption valid for one trade. There are no 
permanent hedge exemptions to our knowledge. The four that I 
cited in 2008, three were temporary, in other words for one 
trade, and one was an annual exemption. Thank you, Mr. 
Chairman.
    Mr. Van Hollen. Mr. Chairman, I am sorry. I don't know if 
you are keeping track of time or if this is more----
    The Chairman. Well, we are in free flow here.
    Mr. Van Hollen. Unfortunately----
    The Chairman. So I recognize the gentleman from Maryland.
    Mr. Van Hollen. Thank you, because unfortunately, I have a 
4:30 meeting that I have to be at. I just want to mention one 
other thing in connection with the conversation with Mr. 
Stupak. Regardless of how much money at the end of the day is a 
result of swaps is going into the futures market, it seems to 
me there is also a legitimate question about whether or not 
when you have index funds making those investments in the 
futures market, whether they should get these hedge exemptions. 
As you know, you or I can go buy Goldman Sachs index funds, and 
Goldman Sachs can then go hedge that risk. They go into the 
futures market, and there is no reason that my investment in 
Goldman Sachs via their transfer into the futures should be 
treated as a hedger. I am a speculator. I am using this as an 
investment vehicle. And the fact of the matter is, there has 
been testimony, even from the CFTC, that that is an opaque area 
that they can't figure out and they have been granting these 
exceptions as if every dollar going in is a hedger. And that is 
just not the case.
    So I just want to make that point. Unfortunately, I have 
to----
    The Chairman. Yes, I understand that and that information 
is now being acquired as I understand it by the CFTC, and this 
has been one of the things we have discussed with them. They 
are acquiring it. I talked to them yesterday, and the 
information is coming in. Initially they were going to have 
this ready by the 15th of September. I told them I thought that 
was too late. And so they are moving this along as fast as they 
can, but we are apparently going to get that information, 
hopefully. But these index funds, from what I can understand, 
money is being put in there by a pension fund or whoever it is. 
They get some kind of an investment back, a piece of paper, I 
don't know what it is, that money never buys any oil. And 
generally, the money doesn't go into the futures market. What 
happens is whatever that position is, they go over-the-counter 
and hedge it with some bank or whoever will take the risk on 
the other side. No oil is ever bought. The only time this ever 
has any impact on price discovery or the futures market is when 
there is a difference that they can't lay off over-the-counter 
and net out, and then they will go over to the futures market 
and then it will be--it is in there and we can see what it is.
    So again, my question is that if this money is never going 
in there, and if it is not being used for price discovery, and 
they are over here doing whatever they are doing, I think 
somebody is going to lose a lot of money at some point. But 
that is not what this Committee's business is about. We are 
trying to make sure the futures markets are not being 
manipulated, and nobody is cornering the market on anything and 
so forth. So we are kind of getting mixed up. It is like these 
securitized mortgages that they trenched and sold to people. 
Somebody should have been watching that. There is no way they 
should have ever let them do that. But that is a different 
issue.
    Ms. DeLauro. But Mr. Chairman, if I might for a second. It 
may be a different issue except it is a part of what I said in 
my comments. This is a fact. We dealt with the lack of 
oversight, the lack of regulation, as it had to do with the 
subprime market. We have an agency which is coming before my 
Committee tomorrow, it is going to come up before this 
Committee tomorrow. Where were they, where have they been, what 
are they doing? They are charged with addressing this issue of 
potential manipulation or excessive speculation. And it was 
only recently, within the last few weeks, that they decided 
that they would need to have additional reports, additional 
transparency. This is not just the last couple of weeks. This 
is an agency that in fact has been in my view, and we are going 
to ask them the questions about this, they have been asleep at 
the switch while this is going on, and who pays the price.
    The Chairman. Well----
    Ms. DeLauro. It is the ordinary person. It is the ordinary 
individual who is getting killed out there with this.
    The Chairman. Well, I wouldn't disagree that they have been 
behind the curve on this, okay, and that we probably should 
have had more information. But in their judgment and what the 
testimony has been is that they are saying that they don't 
think that this swap situation is affecting the prices and so 
forth, and maybe they are wrong. And this is what we are trying 
to figure out here, but you have just as many people saying 
that this is not running up the prices as you have saying that 
it is. And that is what we are trying to get to the bottom of 
here.
    Ms. DeLauro. I understand, Mr. Chairman, except I would 
say, I don't know, I am not going to make a calculation of how 
many are saying that there is and how many not. I don't have a 
balance here, but there seems to be a predominance of 
information that this has some bearing.
    I will make this comment, and I hope it is not offensive to 
some folks is that these are agencies that are charged with 
addressing a serious crisis. The fact of the matter is, and I 
believe the right decision was made, that people spent day in 
and day out Treasury and others, looking at what was going on 
with Bear Stearns. And they said, ``We have to act quickly 
because we are going to see the financial markets collapse.'' 
So they worked day in and day out, overnight, behind closed 
doors, and they addressed the issue and came up with a 
solution. Whether you agree with it or not, I think they had to 
do what they had to do.
    We now have a very serious situation, very serious for 
consumers. We are now just saying, well, it is the market, this 
is the volatility of the market, that is that. And the agencies 
charged with addressing this issue again in my view are not 
doing their job in terms of sitting down and getting to the 
answers that we are talking about. I for one, and I said in my 
opening comments, I am not an economist, I am not an academic 
in this area. I look to the agencies that we charge with the 
responsibility to address these issues, and they have fallen 
short and they quite frankly pick and choose the areas in which 
they are going to bring relief in the marketplace.
    Mr. Conaway. Mr. Chairman----
    The Chairman. I thank the gentlelady.
    Mr. Stupak. Mr. Conaway, could I----
    Mr. Conaway. I just have one more question and that is back 
in June 23rd----
    Mr. Stupak. Right.
    Mr. Conaway.--there was a report in response to maybe your 
bill, Bart, I don't know, but the issue of American 
imperialism, in other words, the extra-territorial use of 
American laws will have a backlash among the folks in London 
and Dubai and other places where they think they may do a 
pretty good job of regulating. Would you address your attitude 
toward their responses on us telling them how to regulate their 
markets?
    Mr. Stupak. Sure. First, you asked about Mr. Gheit, Fadel 
Gheit, if he sold short, I pulled his testimony. He is the 
Managing Director and Senior Oil Analyst so he is not in the 
commodities so he wouldn't have been selling short or long.
    Mr. Conaway. He works for a firm that does that all day 
long.
    Mr. Stupak. Right. But not him. I thought you meant him 
personally.
    Mr. Conaway. Oh, heavens no. He doesn't make that much 
money.
    Mr. Stupak. So you have to check with him. For the London 
loophole, the ICE market, we have given our enforcement powers 
to London for an exchange that has its headquarters in Atlanta, 
has its trading engines in Chicago, Atlanta, which does, some 
estimate, 30 percent West Texas crude sold in here. They sell 
contracts that says for delivery in Cushing, Oklahoma, and they 
use terminals here in the United States. But because we have 
this No Action letter given by the CFTC, we rely upon London to 
enforce the laws because we say London laws are similar to 
ours. I respectfully say they are not.
    For instance, London does not require position limits or 
accountability levels to prevent excessive speculation or 
market manipulation. That is allowed in London and the same as 
Dubai. Unlike the CFTC, the FSA, Financial Services Authority, 
does not publish a Commitment of Traders Report which provides 
a public accounting of long and short futures positions held by 
large traders, plus there is far less transparency under the 
FSA regime. The FSA does not provide comparable emergency 
powers--to suspend trading or increase margins.
    So why would we outsource our enforcement in this field 
that affects all of us so much? Why don't we put the cop back 
on the beat here in the United States?
    Ms. DeLauro. Would the gentleman yield?
    Mr. Stupak. Sure.
    Ms. DeLauro. I just would add to the issue of the No Action 
letters, I think it is imperative to find out and it is one of 
the things I am going to try to ascertain in our hearing is I 
understand the current process to CFTC staff has issued these 
No Action letters. I have a series of questions that I am 
interested in. Who broadly defined requests in No Action 
letters? Who reviewed or effected the content and the timing of 
the No Action letters within CFTC and elsewhere? What legal and 
policy rationale was used to justify the letters? And why, 
given the enormous consequences and the controversial nature 
that the full Commission does not formally review and approve 
them? Or who is accountable for the issuance of these letters? 
And as my colleague, Mr. Stupak said, we are off-shoring, if 
you will, authority in these areas which doesn't seem to make 
sense.
    It is very, very interesting that with regard to some of 
these efforts, the primary financial beneficiaries are Goldman 
Sachs and Morgan Stanley. I also think that it is also 
important to note that their representatives, sit on the CFTC's 
Energy Advisory Committee. I think one has to take a look at 
that. Is this in fact a conflict of interest? How do we have 
two of the principal beneficiaries in this area who sit on one 
of the four or five committees that are the underpinnings of 
the Commission. You understand that these are serious 
questions, you want to get to the bottom of it as we do. And 
what we are trying to do is to propose legislation where we 
think we can bring back the issue of home-based enforcement 
before, as was the case before 2000.
    Mr. Larson. Will the gentlelady yield? To that point, Mr. 
Chairman, I do think that especially given the legislation that 
this Committee has already put forward and to the gentlelady's 
questions, and questions that were being developed by Mr. 
Stupak, that it does seem entirely logical that we would have 
an independent Inspector General within the CFTC. We currently 
do not. And in your considerations, I hope you will take that 
under advisement as I know the gentlelady will as her Committee 
looks at this and the importance of making sure--you know, 
there is a tendency to feel like Eddy Murphy in Trading Places 
here when you are talking about swaps and hedging and series. 
And I think Mr. Chairman, you have said this before that it 
takes a while to get your arms around all this stuff and 
demystify it for the general public. And yet, that is our 
responsibility and in part, this Committee's responsibility in 
the long run. It sure would help if you had an independent 
source appointed by the President, confirmed by the Senate, 
that you knew was assisting in looking out for the American 
consumer.
    The Chairman. I thank the gentleman. The gentleman from 
Georgia, Mr. Marshall.
    Mr. Marshall. Thank you, Mr. Chairman. I think we have some 
31 different pieces of legislation that have been introduced in 
order to try to address this problem. It may be more than that. 
The CRS report that covers this issue lists 31. I am one of 
them. I have a piece of legislation that is similar to Mr. 
Etheridge's that also provides for more independence for the 
auditor, Inspector General, within the CFTC.
    I think it is important for all of us to put into context 
the sort of heat that has been exchanged here. We are all 
interested in seeing lower prices for our consumers. There is 
nobody here that isn't interested in that. We all appreciate 
the extent to which people are suffering. Ordinary folks are 
suffering with this. It is certainly the case in a district 
like mine which is very rural, and people are very dependent 
upon gas prices. Just to get to work is a challenge for people, 
diesel and gas the way it is right now.
    And so we are all in the same boat. We are all trying to 
figure out what the problem is here and what can be done about 
it. Virtually everybody who has testified before this 
Committee, including virtually every expert I have talked to, 
acknowledges that a large part of the problem is the weak 
dollar. Estimates range from 25 percent to more. So let us not 
lose sight of that. We have a weak dollar policy at the moment. 
The weak dollar is part of the problem here.
    Everybody also concedes that there are market fundamentals 
that are involved in this, that worldwide demand has caught up 
with the world's ability to provide supply. Everybody concedes 
that. So let us not lose sight of that as we talk about what 
has been referred to here as ``excessive speculation.''
    And the final thing that we don't want to lose sight of, 
and many people don't want to hear this, is expert after expert 
after expert will tell us that if we overstep, if we make a 
mistake in the process of trying to address this issue, we will 
wind up pushing these markets to places where they will be less 
opaque and less regulated. They will have the same kind of 
impact on us because we are stuck with the world commodity 
market; that is every single expert virtually without 
exception.
    Now, obviously there are things we can do. Many of us have 
suggested that. We are trying to figure out what it is, and 
what I keep hearing today is excessive speculation, excessive 
speculation. I would like to explore that with some questions, 
if I could.
    The way the futures markets have evolved, and it is not 
just oil, it is all commodities, we initially were just looking 
to give people who were in business an opportunity to hedge 
risks, one way or the other. And it was difficult to pull them 
together. It was difficult to find somebody who was interested 
in buying that commodity that somebody wanted to make sure they 
could sell at some point in the future and vice versa.
    The way the markets evolve is actually over a period of 
time in a process that invited what you might call speculators 
to come in and provide liquidity to take opposite positions. It 
was something that was very important to commercial entities. 
They had to have that, and all responsible commercial entities 
recognized that. So we have traders today in these markets who 
never take delivery, they are basically playing the market, 
whatever you want to call it. They are making their financial 
bets but they are providing liquidity which makes available to 
hedges that are important to commercial ventures, and it also 
lessens the cost associated with getting your hedge. That is 
also very important to these commercial folks.
    So I am unsure. We are not talking about that as being 
excessive speculation. This is the sort of thing that is just 
part of the market. DRW, Inc., in Chicago, for example, its net 
delta is always zero, and it probably provides more liquidity 
for the oil market than any trader in the world.
    Now, we weren't talking about excessive speculation 2 or 3 
years ago. We are talking about it now. I don't think there was 
any legislation in the hopper to deal with excessive 
speculation 2 or 3 years ago. So something has happened in the 
last 2 or 3 years that sort of jumped up and has gotten our 
attention. I have to believe it is the recent interest by 
pension funds, sovereign wealth funds, and others in taking 
positions in the commodity markets. And so I guess my question 
is to my fellow Members here who are struggling just like I am 
trying to figure out a way to fix this for our folks; that is 
what excessive speculation is. Is anybody here suggesting we 
should not let pension funds or ordinary folks who otherwise 
wouldn't have access to the commodity markets or buying 
commodities, we ought not let them to have access to buying 
commodities to take positions where commodities are concerned?
    Mr. Stupak. I don't think anyone is saying that. Two years 
ago some of us were concerned about the excessive money and 
liquidity coming into the market. That is when I first did the 
PUMP Act, looking at certain aspects of it was 2005, 2006 when 
I introduced the legislation. There has to be some liquidity in 
the market. Speculators can and do play a role for significant 
price discovery, but when you go from a $13 billion to $260 
billion at the blink of an eye, there is too much in there. It 
is driving up these prices.
    If Congress does nothing, this market was already 
determined to become a foreign board of trade. Ask Mr. Newsome 
when he comes tomorrow when he is helping to set up the Dubai 
exchange, NYMEX. The regulated market can't beat ICE, the 
IntercontinentalExchange, so they might as well become them. So 
they are setting up this Dubai market and they will be asking 
for a No Action letter. So in other words, this market is 
moving more and more in the dark, not more transparency but 
less transparency.
    Mr. Marshall. I hate to interrupt my baseball buddy----
    Mr. Stupak. Sure.
    Mr. Marshall.--but you are just a witness here. You are a 
fellow Member, but you are a witness so I get to interrupt you.
    Mr. Stupak. Okay.
    Mr. Marshall. Would you get back to what excessive 
speculation is so I can understand that? Tell me how I figure 
out what speculation is and----
    Mr. Stupak. Well, go back to your definition----
    Mr. Marshall.--what speculation is not.
    Mr. Stupak.--Section 4(a) of the Commodity Exchange Act 
that I had in my testimony where they set forth what it means. 
And in a nutshell, when the market has a detrimental impact to 
your national economy as energy has right now, I hope we, as 
responsible legislators and good baseball players, will go take 
the bat to this and bring some control to this market because 
we are really hurting this whole economy----
    Mr. Marshall. Mr. Stupak----
    Mr. Stupak.--causing sudden or unreasonable fluctuations of 
unwarranted changes in the price of such commodities is an 
undue and unnecessary burden on interstate commerce.
    Mr. Marshall. Every one of us agrees. We are just trying to 
figure out what it is that is causing this to occur and how to 
stop the thing that is causing it. So are you saying figure out 
how not to let pension funds get involved in this or sovereign 
wealth funds or----
    Mr. Stupak. Why would a pension fund want a bona fide 
hedging exemption? They are not interested in oil, the Chairman 
said many times. Why does Harvard invest their endowment funds 
in the commodities market? Are they interested in taking 
control of any wheat, any corn, any oil?
    Mr. Marshall. Would----
    Mr. Stupak. But they use this exception----
    Mr. Marshall. May I interrupt? Would we prohibit hedge 
funds from--what you are talking about is the hedge exemption 
is being used in order to permit money flowing into Goldman 
Sachs, Morgan Stanley----
    Mr. Stupak. Yes, I'm Harvard. I go to Goldman Sachs and I 
say, ``Yes, I got this $2 billion----
    Mr. Marshall. I got that, but would you prohibit these 
folks from investing directly in the futures market?
    Mr. Stupak. No. No.
    Mr. Marshall. Taking long----
    Mr. Stupak. But how about some position limits? I can play 
one exchange off the other. When Dubai gets their exchange, if 
I ever did my position, I can play one exchange off the other, 
NYMEX, Dubai, ICE, and take my aggregate position and I can 
influence a market, especially one as small as----
    Mr. Marshall. Would it be position limits for each of the 
individual pension funds or the individuals who hold interest 
in those pension funds? How would that work?
    Mr. Stupak. Who is doing the hedging? Is it Goldman Sachs 
commodity index fund or is it really Harvard? It is really 
Goldman Sachs.
    Mr. Marshall. So if----
    Mr. Stupak. So Goldman Sachs should only be allowed to hold 
so much, right? So much position on NYMEX, so much position on 
ICE, so much position on Dubai. But take the aggregate, not the 
individual, not the individual. Take the aggregate of what they 
are holding. On NYMEX, it is supposed to be 20,000 contracts. 
Go look at it. You know how they enforce it? They call you up 
and say, ``Hey, Jim, you got too many. Dump a little.''
    Ms. DeLauro. You will recall with Enron and what happened 
with the pension funds, pension funds ought to be able to 
invest but also we have an obligation to make sure that there 
is some regulation around so that unlike the people at the top 
who took their pension and ran, a whole lot of folks at the 
bottom lost their pension and who is there with a safety net 
for them? I will just say to you that I think we are looking at 
similarities in what is happening, and this is not just one 
place, it is in a variety of places, and they should invest but 
I believe we have the obligation to make sure that they don't 
go belly-up and the people who rely on them don't go belly-up.
    Mr. Marshall. And I think the question concerning whether 
or not pension funds should be permitted to invest in things 
like this is a separate one from the question, what is the 
impact on the futures market, on the prices of commodities 
caused by all of these investors seemingly interested in 
getting into commodities and buying commodities.
    Mr. Matheson, you have sat here patiently----
    Mr. Matheson. Sure. Mr. Marshall, I appreciate the 
question. The Commodity Exchange Act has a definition of 
``excessive speculation.'' My concern is not specifically 
excessive speculation. My concern is the potential for market 
manipulation based on the loophole on foreign exchanges where 
the CFTC isn't getting the data, and we are not holding U.S.-
based traders to the same limitations that they are subject to 
today trading on NYMEX for example.
    So I think we do have over many years developed a process 
in this country. We have gotten comfortable about some of the 
boundaries we have developed for trading here in the U.S., and 
technology has taken us to a new place where now we have these 
new challenges. We are trying to figure out how we can adjust 
with those technological changes. I don't think you should 
limit people from being able to trade in the market. I don't 
think you can have too much liquidity in the market. I think 
liquidity is good. It creates greater price discovery and 
reduces margins. So I don't think we should be limiting who can 
trade in the market beyond the position limits for individuals 
that already exist on NYMEX now.
    I have to offer one other thought on this that points out a 
little bit of the confusion in this debate this discussion has 
been taking place right now. We have been bouncing around 
between futures and swaps like they are the same thing and they 
are not.
    Mr. Marshall. They are not.
    Mr. Matheson. And we have to be real careful as we parse 
these issues out that we address them in their appropriate way. 
Different pieces of legislation look at these from different 
angles. Quite frankly, my legislation only focuses on futures, 
it only focuses on trading on foreign exchanges and creating 
the transparency and disclosure of information, and the same 
position limits, and the same CFTC regulations that exist today 
for U.S. traders. And I think that it is probably an effort to 
try to get more information and not in an overt way that may 
drive business offshore. I think when you start trying to get 
into the over-the-counter market and the swap market, we have 
to be very, very careful because if we take action that creates 
undue burdens on that marketplace here in this country, based 
on technology today, this is today, this isn't 20, 30, 40 yeas 
ago, those servers can move offshore like that. And the 
business will still take place, and as you suggested in your 
opening statement, you will have a more opaque situation. You 
will have less certainty on what is going on, and that is the 
challenge for this Committee, to figure out how to address this 
issue.
    So for me, it is not a question of is there excessive 
speculation, the question is, is there market manipulation and 
does our regulator, the CFTC, have the capability with the 
information given to it and the tools at its disposal to assess 
whether that market manipulation is happening; and I still 
think that is the overall goal that this Congress ought to be 
looking at.
    Ms. DeLauro. Mr. Marshall, could I just use the CFTC's 
definition on ``excessive speculation?'' When the market price 
for a given commodity no longer accurately reflects the forces 
of supply and demand. This is their definition, and that is in 
essence what they are charged with policing under the Commodity 
Exchange Act.
    So I think we are not making up the definitions and the 
terminology. The terminology exists within the mission, if you 
will, of the agency that is charged with----
    Mr. Marshall. And I am aware of the definition. I am trying 
to figure out where is the excessive speculation in this kind 
of setting? What is actually causing this problem? We 
acknowledge that the problem has other aspects to it.
    Ms. DeLauro. Exactly.
    Mr. Marshall. It is hard to argue about that.
    Ms. DeLauro. Right.
    Mr. Marshall. So can we put our finger----
    Ms. DeLauro. Well, my hope would be----
    Mr. Marshall.--exactly what it is--if I could, Ms. DeLauro?
    Ms. DeLauro. Sure.
    Mr. Marshall. The CFTC, though I don't have the impression 
that they have an ax to grind here. I had the impression they 
are sincere, they are very informed, and they came before this 
Committee 2 weeks ago, the Chief Economist and the Chief of 
Enforcement, enormously experienced individuals. They said as 
far as they can tell, they can't find that the price is being 
manipulated inappropriately or that some sort of inappropriate 
forces in the form of excess speculation are causing this 
problem. That is what they said.
    Ms. DeLauro. Well, I----
    Mr. Marshall. I may be wrong----
    Ms. DeLauro. No, but it may be that I believe that that is 
what we have to be overseeing in our oversight capacity. This 
is the agency that is charged with figuring that out. I want 
the best and the brightest as I know you do and other Members 
of this Committee do to be able to pinpoint what the 
difficulties are here. They are charged with that, and I don't 
know if it is the current set of people, well-meaning and 
sincere, informed, and they can't get to the bottom of this, 
then we need to find folks who can. I don't have an ax to grind 
with them, either. I, like you, want answers to the issue 
because we have to come to some sort of a conclusion. Not a 
conclusion, we have to come to some understanding so that we 
can apply some potential solutions to it.
    Mr. Marshall. Mr. Chairman----
    The Chairman. The gentleman from Iowa.
    Mr. King. Thank you, Mr. Chairman. I want to thank all the 
witnesses, too. This is a long afternoon for Members to sit in 
one place, and I particularly appreciate Mr. Marshall's 
questioning line. It covered a lot of the questions that had 
arisen as I listened to your testimony, so I will try to focus 
this down to a couple of things and perhaps leave a minute or 
two for some of my colleagues who are still waiting patiently 
as well.
    A number of things go through my mind. As Mr. Marshall 
mentioned, the weak dollar and global demand. I would point out 
with global demand, I have a sheet here from Reuters that shows 
that Chinese imports of gasoline this year are up 2,000 
percent. So there is a global demand piece. We are looking at 
how to get out of excessive speculation, and Mr. Van Hollen 
says he doesn't know how much it is but he wants to wring it 
out, wants to wring the margins out that are excessive 
speculation. I am watching the focus of all the brain power you 
have put on this, and it is not just this year when gas got 
real high but it is an accumulation of effort over a period of 
time. And you know, I have turned my focus to drilling in ANWR, 
the Outer Continental Shelf, BLM land, more coal, more nuclear, 
more ethanol, more wind, more biodiesel, all of these 
alternatives that we have because I am a great believer of 
supply and demand. I hear you talk about supply and demand, but 
I am not convinced you all believe that supply and demand, at 
least in the core of this free market economy, should drive 
this and should set this price. Ms. DeLauro, you mentioned 
about excessive effects of speculation that upset supply and 
demand. And so do you all believe that the markets are set by 
supply and demand and all these commodities we are talking 
about? Does anybody disagree with that?
    Mr. Stupak. I think this should be the basis for it. I 
think we have lost that. When you see 119 percent from 2003 to 
now----
    Mr. King. Okay.
    Mr. Stupak.--and $13 billion to $260 billion, it is not 
supply and demand that is putting forth----
    Mr. King. I recognize that from your testimony, Mr. Stupak, 
and I appreciate that, but do we really believe? Does the panel 
believe that, and I guess what really caught my attention is--
well, I will put it back this way and dig back through those 
1,057 pages of Adam Smith's Wealth of Nations, not the one from 
Washington, the one that published that in 1776. And he was 
watching the price of gold at the time in the world, and gold 
was high. And he made the point that gold got a lot cheaper in 
the world because the price of everything is the sum total of 
the cost of the capital and the labor, that they had figured 
out how to take a lot of the labor costs out of gold by 
importing it from the New World which really was stealing it 
from the Native Americans, we recognize. But he showed how the 
gold prices had plummeted. And I look at your testimony and it 
says gold prices are not dependent upon supply and demand. I 
just have a little trouble getting past that to get to the next 
point, and I would ask you if you could support that statement 
a little more.
    Mr. Stupak. Sure. The IMF, if you take a look at it if you 
want to put that back up there, Scott, when was the last time 
we had a problem with oil? It was 1981, right? Look what 
happened to gold. It has nothing to do with oil, but look what 
happened to gold. It really spiked. So did oil. That is the 
last time we saw it up that high, and it has tracked perfect. 
Gold made in the New World in 1776, maybe we could take out the 
labor costs but now with this global economy, gold is basically 
not a supply and demand, it is a purely speculative, high-
priced metal as you indicated. And therefore, you don't see a 
supply and demand. But why is oil tracking it?
    Mr. King. Mr. Stupak, I heard you say that before but I 
still don't understand your answer. How is gold independent 
from supply and demand? Who demands gold? I mean, are you 
submitting that it isn't utilized in a way that there is a 
demand for it because I am thinking not only just for the 
jewelry but the industrial uses we have for gold. So I would 
say yes, that there is a demand out there and there is a 
supply.
    Mr. Stupak. What is gold used as? When is it hoarded? It is 
hoarded as a financial asset, sort of hedging against future 
problems within our economies, as it is right now. Well, isn't 
that sort of the same thing oil is doing?
    Mr. King. It is used as well for industrial purposes and 
also for jewelry purpose. I mean, there is a functional use for 
that. I didn't want to get into that particular debate, I would 
just point out that you have to believe in supply and demand or 
not. Ms. DeLauro?
    Ms. DeLauro. Well, I wanted to address the issue of supply 
and demand from not my perspective but from a small business 
owner in Connecticut who will come to testify tomorrow. His 
name is Tom Devine of Devine Brothers. He is a full-service 
biofuel heating fuel dealer. These are direct quotes. I am not 
in this business, he is. There are two quotes. ``We are no 
longer confident that the markets are doing their job of 
providing our industry and consumers with a benchmark for 
pricing product that is based on economic dynamics of supply 
and demand, and they no longer function as a risk-management 
tool.'' On the issue of supply and demand, he says, ``My 
customers often ask, are you guys running out of product?'' The 
answer is no. There is no supply shortage. There is no sudden 
upside demand shock. Simply put, we and our customers are being 
forced to ride the speculative roller coaster in the futures 
market. It is about time someone put some of the breaks on this 
runaway train and brought the markets back to reality. This is 
someone who is in the business. It is not me, and he is talking 
about supply and demand. What were are telling him----
    Mr. King. If I might, Ms. DeLauro----
    Ms. DeLauro.--is that the markets are fine, working 
properly, and we are doing everything that we can and that is 
not the fact of life for this man.
    Mr. King. Then just to make my concluding point and that is 
you have convinced me that you don't believe in supply and 
demand the way I believe in supply and demand. I think the 
approach to solving this problem then is going to be different 
than those of us who believe strongly in supply and demand. But 
I thank you for your testimony and I yield back to the 
Chairman.
    The Chairman. I thank the gentleman. The gentlelady from 
Ohio.
    Mrs. Schmidt. This is very quick. Whatever we do to answer 
the energy crisis, we have to do with complete understanding of 
the picture; and from what I am gathering today, from what I am 
trying to learn and glean on my own is that we really don't 
have a total answer of this speculative role. My husband is in 
the financial business, and I ask him all the time, are the 
speculators driving up the price? And I talk to him about what 
the CFTC mentioned 2 weeks ago in this Committee. And he said, 
``There are so many other things out there that you can't 
quantify. One is emotion, one is the attitude of the 
speculators that are in the market. If they perceive a Congress 
that isn't going to do anything, then they are going to drive 
up the price.'' But he also cautioned me with this. He said, 
``You can close the London loophole but you will just drive it 
further offshore. People that are in the business of making 
money will find ways to make money. If you take water, and we 
know that water tracks generally downstream, and you change it 
from one side of the street, it will go to the other side of 
the street. If we limit Goldman Sachs in their portfolio to go 
into this market, they are only going to create a subset of 
Goldman Sachs in order to accomplish it.''
    I, like you, want to stop the speculation. I, like you, 
believe that speculators have a role in this. I can't say that 
publicly because I can't prove it, but I have a feeling that if 
it walks like a duck and talks like a duck, it's probably a 
duck. And all I want to know is how are we going to find out 
exactly what is going on so that we can move whatever portion 
of your bill or another person's bill that is out there into 
the right place so we don't end up making a bigger problem than 
already exists.
    Mr. Larson. Make them take delivery.
    Mrs. Schmidt. Well, but you can't do that because they will 
go offshore.
    Mr. Larson. Why can't you?
    Mrs. Schmidt. Because they will----
    Mr. Larson. How will it go offshore?
    Mrs. Schmidt. Because financial----
    Mr. Larson. If you allow for the physical hedger to deal 
with this as the market was intended to do, then by limiting 
the positions as Mr. Stupak and others have said, that you find 
yourself in the situation where now all of a sudden the true 
price becomes established; and look, I believe there is a role 
for speculators in the marketplace as well, but why not, as the 
dealer that Rosa DeLauro just mentioned and Main Street 
consumers and come to me, gas station guys, truckers, are they 
all wrong? You know, I said it before jokingly, but it is true. 
You feel like Eddie Murphy in the Trading Places where you 
know, we are swapping this, we are hedging this. At Augie and 
Ray's, they want to know whether or not their government is 
going to level with them about what is going on with respect to 
that.
    Mrs. Schmidt. And I----
    The Chairman. The gentlelady----
    Mrs. Schmidt. What we want to do is find the bottom line of 
this and really what is going on in the marketplace.
    Mr. Larson. But your instincts are right.
    Mrs. Schmidt. And I don't have the complete answer.
    The Chairman. I thank the gentlelady. We have to get over 
and vote, and I get the sense that Members are kind of wrapped 
up here, so we appreciate the panel. I would just have one 
closing comment. This Congress made it illegal to have a 
futures market in onions in 1958. That is still the law. The 
most volatile, the biggest increase of any commodity in the 
United States, is in onions. Just as a word of caution.
    Mr. Stupak. That will bring us all to tears.
    [Whereupon, at 5:30 p.m., the Committee was adjourned.]
    [Material submitted for inclusion in the record follows:]
      
Submitted Statement of Hon. Baron P. Hill, a Representative in Congress 
                              From Indiana
    Good Morning. First off, I would like to thank Chairman Peterson 
and the rest of the Members of the Committee for their hard work in 
studying the impact speculators are having on gasoline prices in the 
United States. I appreciate the opportunity to present the Committee 
with information about the bill I recently introduced, H.R. 6372, the 
Commodity Futures Restoration Act, which addresses the lack of 
transparency in U.S. commodity futures markets.
    The rapid increase in gasoline prices here at home is having a 
profound impact on all Americans. This year the average cost of 
gasoline rose to $4 a gallon for the first time in history. When I 
return home to Indiana, the central issue on the mind of my 
constituents is how their families and businesses are suffering due to 
rising fuel costs. I am sure my colleagues have had similar discussions 
back home as well. I introduced this piece of legislation because I 
believe providing oversight to the U.S. commodities markets is the most 
surefire way to lower gas prices for American citizens.
    Let me be clear; I do not believe reigning in excessive speculation 
will solve our nation's energy crisis in the long term. Yet, after 
meeting and hearing testimony from investors on Wall Street, oil 
company CEO's, and economists, it is clear to me that supply and demand 
fundamentals cannot fully account for the extreme rise in gasoline 
prices. Instead, I believe the lack of oversight of the commodities 
markets coupled with incredible growth of institutional investors is 
artificially raising the price of gasoline for American consumers.
    Since 2000, energy commodity trading has been systematically 
deregulated and new loopholes have been created that have fostered 
excessive speculation in U.S. commodity futures markets. As a result, 
the CFTC's ability to detect market manipulation is currently being 
hurt by critical information gaps that exist because many traders are 
exempt from CFTC reporting requirements. Over the last 5 years, 
commodity-index investing has increased by 183%. Economists estimate 
excessive speculation is adding between $20 to $50 to the price of a 
barrel of oil. Reform is needed to prevent a price bubble similar to 
the one that caused the subprime housing crisis.
    The bill that I introduced would simply restore the standards that 
were in place prior to 2000 by closing the three harmful loopholes that 
have destabilized the U.S. commodity markets. H.R. 6372 would make the 
following changes:

    1. Close the ``Enron Loophole'': The Commodity Futures 
        Modernization Act of 2000 (CFMA) exempted energy commodities 
        traded on electronic exchanges from regulation by the Commodity 
        Futures Trading Commission (CFTC). My bill would ensure CFTC 
        oversight by reestablishing the CFTC's jurisdiction over energy 
        commodities and require the CFTC to regulate energy commodities 
        just as agricultural commodities are currently regulated.

    2. Close the ``Foreign Board of Trade/London Loophole'': This 
        loophole currently allows U.S. exchanges that are trading U.S.-
        delivered energy commodities to be regulated by foreign 
        entities. As a result, the reporting data gathered from these 
        transactions is often insufficient and leaves American 
        consumers inadequately protected from fraud and manipulation. 
        My bill would require exchanges that trade U.S.-delivered 
        futures contracts, or ones that significantly impact market 
        prices, to register with the CFTC. Put simply, markets trading 
        U.S. commodities would no longer be regulated by overseas 
        entities.

    3. Close the ``Swaps Loophole'': As of today, banks can hedge their 
        investors' positions without facing any position limits. The 
        swaps loophole permits institutional investors, who have no 
        regard for supply and demand fundamentals in the physical 
        commodity markets, to use banks to trade without facing 
        position limits. This is commonly referred to as the ``Swaps 
        Loophole'' because it has allowed unlimited speculation in the 
        commodities markets. My bill would reestablish the original 
        purpose of the Commodity Exchange Act which only allowed 
        purchasers, sellers, and legitimate users of commodities to 
        hedge on the market.

    Additionally, H.R. 6372 requires the CFTC issue a progress report 
within 90 on its ability to impose position limits on energy futures 
commodities and its capacity to implement changes set forth in the 
bill. The bill ensures the Federal Energy Regulatory Commission and 
Federal Trade Commission maintains authority over natural gas oversight 
and market manipulation respectively. The bill would take effect 6 
months after date of enactment to provide investors and the CFTC 
sufficient time to make the necessary changes.
    I recognize many individuals have savings invested in the commodity 
markets, which is why I believe it is so important this Congress 
carefully considers the potential impact of any market reform. This 
Committee's decision to hold hearings on the various pieces of 
legislation is an important step to ensure we get this issue right. Our 
economy cannot suffer through another crash like the one we saw after 
the .COM and housing booms. My bill would stabilize U.S. commodity 
markets before our economy suffers another financial shock. This will 
benefit all investors in the long term, and provide the most immediate 
relief to ease the pain of consumers at the pump in the short term.
    I believe in free market principles, but without open accounting of 
who is trading what, the U.S. commodity markets cannot function 
properly. My bill would provide the necessary changes to calm the 
instability in the markets and reestablish oversight to ensure that 
prices on the futures market reflect the laws of supply and demand 
rather than manipulative practices or excessive speculation. Hundreds 
of billions of investment dollars enter the futures markets. If no 
action is taken, gas and food prices will continue to rise.
                                 ______
                                 
  Submitted Letter By Bart Stupak, a Representative in Congress From 
                                Michigan
July 10, 2008

Hon. Collin C. Peterson,
Chairman,
Committee on Agriculture,
U.S. House of Representatives,
Washington, D.C.;

Hon. Bob Goodlatte,
Ranking Minority Member,
Committee on Agriculture,
U.S. House of Representatives,
Washington, D.C.

    Dear Chairman Peterson and Ranking Member Goodlatte:

    Thank you for the opportunity to testify on July 9, 2008, before 
the Agriculture Committee regarding reforms to the Commodity Exchange 
Act to prevent excessive speculation.
    I am writing to respond to questions raised at this hearing 
concerning the impact of 117 hedging exemptions on NYMEX. In 
particular, Members asked me to explain how the 48 exemptions granted 
to swap dealers and the 44 exemptions granted to those with combined 
swap/hedge positions could be relevant to rising oil prices, when the 
number of NYMEX-issued exemptions has decreased each year between 2006 
and 2008. Since this data was marked business confidential by the CFTC, 
I did not have it with me at the hearing and was unable to review it in 
responding to your questions.
    With respect to hedge exemptions for crude oil futures, the NYMEX 
sets a 3,000 contract position limit for the 3 days prior to 
settlement. NYMEX sets ``accountability levels'' of 10,000 contracts 
for 1 month and 20,000 contracts for all months outside of that 3 day 
window (20,000 contracts equals 20 million barrels of oil, or roughly 1 
day of U.S. demand). However, unlike speculative position limits for 
agricultural futures, accountability levels are not hard position 
limits.\1\
---------------------------------------------------------------------------
    \1\ According to CFTC data, there were nine entities with positions 
in excess of 20,000 crude oil contracts on June 6, 2008 (six had long 
positions totaling 198,547 contracts, and three had short positions 
totaling 87,753 contracts). This CITC data does not disclose whether 
these are commercial or non commercial speculative positions.
---------------------------------------------------------------------------
    The purpose of my raising questions about the 48 exemptions granted 
by NYMEX to noncommercial speculators was to question whether this is 
justified and valid in the sea of various loopholes. However, there are 
many causes of excessive speculation at this time, and I do not want to 
leave the impression that these 117 exemptions explain the price 
increase in oil by itself.
    For example, these NYMEX position limits do not apply to futures 
positions tied to commodity index investments. Indexers close out their 
current month positions between the 5th and 9th day of the month, and 
then roll these position over into the next month--long before the 
position limits in the last 3 days ever kick in. As a result, indexers 
do not encounter NYMEX position limits.
    Since the futures market serves as a price discovery market every 
day of the month, not just in the last 3 days prior to settlement, it 
is unclear why CFTC does not require that speculative position limits 
be set across the entire month.
    To remedy this problem, we recommend that legislation require CFTC 
to establish speculative position limits for all energy commodities, 
aggregate all positions and extend these across all markets (designated 
contract markets, exempt commercial markets, foreign boards of trade 
operating in this country, swaps, and the over-the-counter markets.) 
Hedge exemptions need to be limited to those with commercial interests 
in the commodity, and the practice of allowing such exemptions to 
noncommercial participants such as passive index speculators and their 
swap dealers should be ended.
    Please feel free to contact me if you have any further questions.
            Sincerely,
            
            
Bart Stupak,Member of Congress.

Cc:

Hon. Bob Etheridge, Chairman, Subcommittee on General Farm Commodities 
and Risk Management,

Hon. Jerry Moran, Ranking Minority Member, Subcommittee on General Farm 
Commodities and Risk Management; and

Agriculture Committee Members.
                                 ______
                                 
          Submitted Statement of American Soybean Association
    The American Soybean Association (ASA) appreciates the opportunity 
to provide comments on the futures markets issues before the Committee. 
ASA is the policy advocate and collective voice of soybean producers on 
domestic and international issues of importance to all U.S. soybean 
farmers.
    We support and believe that futures markets exist for the dual 
purposes of price discovery and risk management. The main concerns for 
everyone involved with using and/or regulating the commodity futures 
markets should be accurate price discovery for commodities and 
functional tools for price risk management. Many commodities are at 
historically high price levels. That does not mean these prices may not 
be accurate. We should not artificially hold down commodity prices nor 
should we try to artificially inflate prices or allow the markets to be 
manipulated. The current supply and demand situation, along with other 
market factors, such as institutional investments and the value of our 
dollar, should be considered when determining if the commodity markets 
are performing accurate price discovery. Caution and foresight are 
needed in view of our current agricultural commodity futures and cash 
markets. Legislation or other regulations affecting the agricultural 
markets must enhance price discovery and risk management for farmers.
    Soybean producers, like producers of other commodities, are 
concerned about changes in the way futures markets are operating and 
their impact on risk management needs. Increased price volatility, 
substantially higher margin requirements, lack of cash and futures 
price convergence, and the influence of billions of dollars of index 
fund investments have greatly altered traditional farmer hedge 
strategies. For example, many lenders and elevators no longer offer 
forward contracts more than 60 days out. When the ability to forward 
contract soybeans for delivery in deferred months was lost, it became 
clear that traditional risk management strategies were no longer 
available. The margin requirements for grain elevators and farmers 
using futures contracts to reduce price risk are so large they create a 
financial burden. Funds normally used for general operations or to buy 
inventory and supplies are consumed by margin calls. Lenders have been 
forced to extend more credit than normal so elevators and farmers can 
conduct their regular business transactions. This creates more 
financial risk for everyone involved.
    For the last 40 years, markets have operated in generally 
predictable ways: Chief among these was that futures and cash market 
prices would more or less converge at the end of a contract. The 
assumption that cash and futures prices for the same commodity tend to 
move in the same direction, during the same time period, and to 
approximately the same extent, has stood the test of time. Now, we see 
this assumption is not necessarily true. Lack of convergence, combined 
with high prices and, for some commodities, the absence of a cash 
market, have led to lack of confidence that accurate price discovery is 
taking place. Now lenders look at the lack of convergence and say they 
cannot accurately measure the collateral value of a hedge in the 
futures market.
    The unpredictability of convergence between the futures and cash 
markets makes hedging an unreliable pricing tool. All of these factors 
create a marketplace that severely limits farmers' abilities to manage 
price risk.
    Of course, there have been changes in the market that we support. 
Higher prices and more participants in the market work to the farmer's 
advantage. As we look toward 2009, we know we will continue to see 
increases in input costs. That makes the need to have effective and 
predictable risk management tools even more important. The challenge 
for producers, Congress, and the CFTC is to ensure that markets offer a 
way for all participants to share risk. It is not acceptable to expect 
individual producers to take futures positions in a market environment 
where the risk and capital requirements are so high that even large 
multinational grain companies don't want to participate.
    ASA expects the CFTC to continue open discussion of these issues 
with all interested parties and to take judicious action to restore 
confidence in the futures market. It is the CFTC's responsibility to 
ensure the markets provide accurate price discovery and hedging 
opportunities for farmers.
    ASA previously offered the following short-term recommendations to 
the CFTC and we were pleased to see the Commission adopt many of them:

   We agree with the CFTC's decision to delay revision of 
        speculative position limits. As we stated in our December 2007 
        comments on this subject, ``If the changes could exacerbate 
        lack of convergence, ASA would be opposed to increasing the 
        limits.'' We reiterate our request that the CFTC analyze 
        whether increasing speculative position limits would negatively 
        affect convergence of cash and futures markets, and not proceed 
        with the increase if it is determined that such increases would 
        have negative effects.

   We second the many calls for a moratorium on new hedge 
        exemptions, as well as a moratorium on expansion of the hedge 
        exemptions already approved. While markets are in such flux, 
        and while questions persist about whether index funds are 
        legitimate hedgers, placing a moratorium on further hedge 
        exemptions is the only reasonable course.

   We support the request of the National Grain and Feed 
        Association (NGFA) for more detailed reporting in the 
        Commitments of Traders report.

   We are greatly concerned that the extensive divergence in 
        the cotton futures/cash market in March that crippled the 
        industry could happen in soybeans and the other markets. We 
        strongly support an investigation into activities in the cotton 
        market during that time period.

   We agree that food producers and other market participants 
        need to work together, rather than relying on more regulation. 
        We encourage the CFTC's leadership in facilitating that 
        dialogue, and recommend the Agricultural Advisory Committee as 
        the forum where that dialogue can continue.

   We support analysis of whether the addition of more delivery 
        points would aid futures and cash price convergence, as well as 
        analysis of other changes in delivery terms that would 
        positively impact convergence.

   We encourage the CFTC to analyze and then educate market 
        users about the potential impacts of clearing of ag swaps by 
        the CME, as well as cash settlement contracts. Producers have 
        little information about these tools and their potential 
        impacts.

   Above all, we strongly encourage the CFTC to work 
        expeditiously with producers, the exchanges, and other market 
        participants to develop solutions and tools that allow 
        traditional hedgers to have greater confidence in futures 
        markets.

    ASA appreciates the oversight of Congress on these issues. The 
CFTC's role and responsibility should be to ensure the integrity of 
futures markets and to provide the price discovery and risk management 
functions needed by producers. We look forward to continuing a 
productive relationship with other market stakeholders that leads to 
renewed confidence in the market and marketing opportunities for all 
farmers.
                                 ______
                                 
                     Submitted Statement of CoBank
Introduction: CoBank and Agricultural Lending
    CoBank is a $59.2 billion cooperative bank that provides financing 
to rural cooperatives and critical lifeline businesses--food, 
agribusiness, water, electricity and communications--across the United 
States. Part of the $197 billion U.S. Farm Credit System, the bank also 
finances U.S. agricultural exports. CoBank is owned by its U.S. 
customer-owners, approximately 2,200 agricultural cooperatives, rural 
communications, energy and water systems, Farm Credit associations, and 
other businesses serving rural America. CoBank is governed by a 16 
member Board of Directors, the majority of which is elected by our 
customer-owners. CoBank returned $245 million in patronage refunds to 
its cooperative owners and paid $97 million in Federal income taxes in 
2007.
    We are pleased to have the opportunity to comment on the challenges 
that the unprecedented developments in the commodity markets are posing 
for country elevators * and other grain merchandisers, as well as the 
agricultural lenders on which they depend.
---------------------------------------------------------------------------
    * For the purposes of this discussion, the term ``country 
elevator'' refers to country elevators and other grain merchandisers as 
well as cotton cooperatives and private cotton merchandisers.
---------------------------------------------------------------------------
    The issue of credit availability is of vital importance not only 
for these businesses, but also for our agricultural economy and the 
entire U.S. economy. We concur with a number of industry stakeholders 
that a prudent and fiscally responsible official credit enhancement 
program could ease the financial stress that rising commodity prices 
are imposing on country elevators so that these businesses that are of 
critical importance to our nation's food security and economic well-
being can continue to operate successfully.
The Impact of Rising Commodity Prices on Country Elevators
    Country elevators play a vital role in the U.S. economy. 
Cooperative and privately owned country elevators provide essential 
services that allow farmers the ability to capitalize on market 
opportunities by serving as an important intermediary between producers 
and end-users. Country elevators provide farmers with storage, 
transportation, and the ability to retain ownership of harvested crops 
until they can be efficiently sold into the marketplace. The system of 
country elevators in the U.S. has functioned successfully for many 
decades and has assured fair and competitive pricing to farmers as well 
as access to growing international markets that otherwise would be 
unavailable.
    Many country elevators are experiencing financial stress as the 
result of rising and volatile commodity prices. This stress stems 
primarily from the dramatic increase in the volume of funds required 
for the ``hedging programs'' that country elevators have traditionally 
used to mitigate price risk for farmers. Farmers traditionally have 
been able to lock in a price for their crop by selling their future 
production to country elevators through what is known as a ``forward 
contract.'' Country elevators, in turn, protect themselves from the 
risk that prices may fall before the crop is delivered to them by the 
farmer by ``hedging'' on an exchange such as the Chicago Board of Trade 
or Minneapolis Grain Exchange via ``futures contracts.'' A futures 
contract essentially assures the country elevator a minimum future 
selling price--and, presumably, a profit--on the grain it has agreed to 
purchase from the farmer. If the actual price of grain (or cotton) 
increases above the price in the hedging contract, the commodity 
exchange requires the country elevator to post additional funds. This 
requirement is known as a ``margin call.'' Like any party to a futures 
contract, the country elevator must post the additional funds 
immediately or the exchange has the right to liquidate the country 
elevator's position in order to make up for any losses it may have 
incurred on the country elevator's behalf. This would likely result in 
a substantial and potentially serious financial loss for the country 
elevator.
    Such prudent hedging strategies have traditionally proven to be a 
highly cost-effective and successful risk mitigation tool. But in 
today's market, soaring grain prices are creating enormous margin call 
requirements, often on a daily basis. Margin call requirements of this 
magnitude have in turn caused hedging to become an extremely capital 
intensive activity. This means that country elevators have been forced 
to devote increasing volumes of funds to meeting margin call 
requirements, which in turn has driven up their borrowing needs at an 
unprecedented pace. Another factor driving the demand for credit is the 
rising cost of agricultural inputs--seed, fuel, fertilizer, etc. Many 
country elevators source these inputs in bulk and sell them at a price 
that is lower than what farmers would pay if they were to purchase them 
as individuals. Often, the country elevator sells these inputs to 
farmers on credit. When the price of these inputs increases, so do the 
borrowing needs of country elevators.
CoBank's Response to Our Customers' Credit Needs
    CoBank is committed to serving our traditional customers in the 
grain and cotton industries. We have taken extraordinary steps to 
ensure a steady flow of capital to these customers during these 
volatile market conditions. For example, in the last sixty days CoBank 
has raised some $700 million in (non-voting) capital from outside 
investors. This $700 million compares with $1.0 billion in outside 
capital raised over the previous 6 years. The additional capital will 
allow CoBank to increase its capacity to meet the borrowing needs of 
our customers. CoBank has also increased its capacity to accommodate 
new loans by working with other Farm Credit System institutions and 
with commercial banks to source the capital required for meeting our 
customers' credit needs through loan syndications (partial sales to 
other financial institutions of loans originated by CoBank).
    Reflecting the unprecedented demand for credit, CoBank's loans to 
our ``middle market'' agribusiness customers increased from just under 
$7 billion at the end of 2005 to nearly $18 billion at the end of March 
2008, an increase of 158 percent (refer to Figure A). ``Grain marketing 
and farm supply customers'' accounted for 72 percent, or nearly $13 
billion, of the total (refer to Figure B). In addition, loans to these 
customers increased by several billion dollars in the month of June 
2008 alone, due to the impact on prices of flooding in the grain belt 
and the need for country elevators and other farm supply cooperatives 
to prepay suppliers for their 2009 agricultural input supplies. In the 
past 6 months, CoBank has processed 649 ``rush'' requests for credit 
line increases from our customers. This represents 85 percent of the 
volume of such requests that were approved in all of 2007. In numerous 
cases, our credit lines to individual grain and farm supply customers 
have doubled or tripled--from $5 million to $15 million or $50 million 
to $150 million, for example--while the equity capital and the debt-
carrying capacity of these customers has remained essentially 
unchanged.
                                Figure A


Impact of the Credit Constraint on Country elevators and Producers
    Historically, a country elevator's ability to offer forward 
contracts to farmers has been constrained primarily by the availability 
of storage space and transportation. Because of the rapid escalation of 
commodity prices, credit availability has also become a limitation. 
Accordingly, a country elevator may have to limit forward contracting 
because it lacks the borrowing capacity to fund the margin calls that 
would be required if prices increase further. If the country elevator 
cannot fund margin calls, then it cannot hedge against a potential drop 
in prices. The country elevator would therefore be assuming all of the 
price risk associated with offering forward contracts to farmers. It is 
important to remember that by avoiding excessive risk a farmer-owned 
country elevator protects the investment of its farmer members in the 
cooperative business.
    For many months, country elevators and their lenders have 
shouldered the bulk of the risk stemming from volatile and rising 
commodity prices. For the reasons explained above, it is increasingly 
difficult and expensive for a country elevator to maintain ``short 
futures'' positions for multiple crop years, from the time it enters 
into a forward purchase contract with a producer until it physically 
delivers grain to an end-user. Even the major global grain 
merchandisers have found the cost and risk of maintaining such 
positions to be extremely difficult, in spite of their substantial 
financial resources.
    In principle, a farmer can himself lock in a future selling price 
by opening his own hedging account, rather than by forward contracting 
with a country elevator. This would subject the farmer, instead of the 
country elevator, to margin calls on short futures contracts, if grain 
prices increase. Farmers and their lenders have generally been 
unwilling to take this approach, due to the potentially unlimited 
funding requirements and in some cases due to a lack of information 
and/or expertise. Accordingly, as country elevators scale back their 
forward contracting practices due to the enormous burden of funding 
margin calls, farmers may be left without the ability to lock in future 
prices--a tool that traditionally has been crucial to their planting 
and risk management decisions.
A Proposal To Address the Credit Constraint
    CoBank remains committed to supporting the industry. There are, 
however, limits to the concentration of risk that CoBank or any 
financial institution can assume on a single borrower or industry 
segment, as explained above. In view of the credit constraint facing 
grain industry borrowers, we are concerned that some country elevators 
may find themselves unable to meet the dramatically increased liquidity 
demands that would result from another round of price increases in the 
grain markets. Such a liquidity crunch would likely have significant 
negative consequences for the grain industry and for U.S. agriculture. 
A widespread liquidity crunch in the industry could entail serious 
spill-over impacts on the commodity exchanges, the financial markets, 
and the U.S. economy as whole.
    CoBank is working with other concerned industry stakeholders to 
formulate a solution to reduce the risk of a liquidity crisis in the 
grain industry and to protect the ability of farmers to market their 
grain. Among the solutions we are considering is an official guarantee 
on loans to country elevators and other grain and cotton merchandising 
businesses. A guarantee of this type would enhance the availability of 
credit to grain merchandisers for margin calls and for other short-term 
financing requirements, thereby allowing them to continue to fulfill 
their traditional and vital role in the U.S. food production system. 
Because only a fraction of the amount of any guarantees issued would be 
``on-budget,'' this alternative would also be a cost-effective means of 
reducing the risk of a potentially serious and much more costly 
dislocation in the U.S. grain marketing system and of avoiding the 
industry consolidation that would likely result from such a 
dislocation.
    In considering such a guarantee, we believe that the following 
general parameters should guide any proposal:

   Guarantees should be available in a timely fashion (we note 
        that USDA's Commodity Credit Corporation may have the 
        flexibility under existing law to provide a guarantee program 
        for grain and cotton merchandisers);

   Guarantees should support only participants in the physical 
        markets;

   Guarantees would apply to payments due to lenders, not 
        lender losses, to ensure continued liquidity in this highly 
        volatile market; and

   Guarantees would be available regardless of the type of 
        regulated financial institution the grain merchandiser 
        utilizes.
Conclusion
    These parameters constitute what CoBank considers to be the general 
outlines of an effective official guarantee program. We welcome the 
opportunity to work with this Committee, the Department of Agriculture 
and other government agencies, industry trade associations and 
stakeholders, and the commercial banking industry to assure that the 
country elevator system in the U.S. can withstand the stresses that are 
being placed upon it today. A sound and reliable country elevator 
system is vital to the U.S. farmer's ability to continue to produce and 
market the ample supply of grains, oilseeds, cotton and other essential 
agricultural products from which the U.S. consumer has so greatly 
benefited.
                                 ______
                                 
 Submitted Statement of Woods Eastland, President and CEO, Staplcotn; 
                   Member, Board of Directors, Amcot
    Mr. Chairman and Members of the Committee, as President and CEO of 
Staplcotn and a Member of the board of Amcot, I am pleased to submit 
the following statement on behalf of Amcot, the trade association 
representing the four major cotton marketing cooperatives in the United 
States: Staple Cotton Cooperative Association (Staplcotn) of Greenwood, 
Mississippi; Calcot of Bakersfield, California; Plains Cotton 
Cooperative Association of Lubbock, Texas; and Carolinas Cotton Growers 
Cooperative of Raleigh, North Carolina.
    I appreciate the earlier opportunity to submit testimony to the 
Subcommittee on General Farm Commodities and Risk Management for its 
May 15, 2008, hearing regarding agricultural commodity futures markets. 
In addition to summarizing that statement, which offered an analysis of 
the outcomes and effects of the cotton futures markets events of late 
February and early March, 2008, I would like to offer some suggestions 
for the Committee's consideration for amending the Commodity Exchange 
Act.
    The public policy of the United States in regard to the practices 
of regulated commodity exchanges is embodied in section 3 of the 
Commodity Exchange Act (7 U.S.C. 5), which states:

      (a) Findings.--The transactions subject to this Act are entered 
        into regularly in interstate and international commerce and are 
        affected with a national public interest by providing a means 
        for managing and assuming price risks, discovering prices, or 
        disseminating pricing information through trading in liquid, 
        fair and financially secure trading facilities.

      (b) Purpose.--It is the purpose of this Act to serve the public 
        interests described in subsection (a) of this section through a 
        system of effective self-regulation of trading facilities, 
        clearing systems, market participants and market professionals 
        under the oversight of the Commission. To foster these public 
        interests, it is further the purpose of this chapter to deter 
        and prevent price manipulation or any other disruptions to 
        market integrity; . . .

    Section 4a(a) of the Act (7 U.S.C. 6a(a)), ``Excessive Speculation 
as Burden on Interstate Commerce'', further states, in pertinent part:

    (a) Excessive speculation in any commodity under contracts of sale 
        of such commodity for future delivery made on or subject to the 
        rules of contract markets or unreasonable fluctuations or 
        unwarranted changes in the price of such commodity, is an undue 
        and unnecessary burden on interstate commerce in such 
        commodity. For the purpose of diminishing, eliminating, or 
        preventing such burdens, the Commission shall, from time to 
        time, after due notice and opportunity for hearing, by rule, 
        regulation, or order, proclaim and fix such limits on the 
        amounts of trading which may be done or positions which may be 
        held by any person under contracts of sale of such commodity 
        for future delivery on or subject to the rules of any contract 
        market or derivatives transaction execution facility as the 
        Commission finds are necessary to diminish, eliminate, or 
        prevent such burden.

    The strongest evidence of whether a contract market satisfies its 
obligation to the public interest of managing and assuming price risks, 
discovering prices, or disseminating pricing information, and 
preventing excessive speculation or unwarranted changes in the price of 
such commodity so as to constitute an undue and unnecessary burden on 
interstate commerce, is the relationship between the futures price and 
the cash market price of the commodity. Not only is convergence during 
delivery expected, but also a normal range of the spread (or ``basis'') 
between the two markets during trading between delivery periods. A 
normal basis spread over time is readily observable and should be 
expected in a contract market meeting its obligations to the public. 
When divergence between cash and futures of an abnormal degree occurs, 
that contract market is failing to meet its responsibility to the 
public under the Act, and its Board and management, and the Commission, 
are statutorily bound to take immediate corrective action.
    What we have seen in cotton futures markets is a persistent 
divergence between the cash and futures market for cotton. This has led 
to disruption in the markets which jeopardize their statutory purpose 
and perhaps their fundamental existence.
Where Are We Today in Cotton?
    (1) The futures and options markets today are not reliable 
        discoverers of prices. When the futures price increases 
        21.15 cents per pound in absolute terms (as it did between 
        February 20 and March 4, 2008) and 30.87 cents in synthetic 
        value over the same period, while the cash market (as measured 
        by the Seam's Grower to Buyer market) increases by only 
        4.21 cents/lb, any semblance of a reliable relationship upon 
        which business decisions can be made is destroyed.

    (2) The futures and options markets are not reliable vehicles for 
        transferring risk. A buyer who bought physical cotton on the 
        Seam from a grower on February 20 at 63.38 cents/lb, hedged the 
        purchase at spot month futures of 72.19 cents, and then sold 
        the cotton on 3/04 at 63.40 cents and bought back his short 
        hedge would have lost 16.65 cents/lb, or 26.3% of the purchase 
        price. This certainly fits the Act's definition of an 
        unreasonable fluctuation or unwarranted change in the price of 
        the commodity that constitutes an unnecessary burden on 
        interstate commerce.

    (3) Fear of a repetition of these events prevents the middlemen 
        between producers and mill consumers from entering into forward 
        crop contracts, unduly burdening interstate commerce in the 
        commodity.

    (4) Fear of the repetition of these conditions and the potentially 
        ruinous margin calls inherent in such uncontrolled situations 
        prevents cooperatives from carrying out their customary risk 
        management practices for their members, wherein they would 
        normally sell futures contracts at target market levels.

    During and since these occurrences, the management and Board of ICE 
Futures U.S. failed to fulfill its self-regulation requirement under 
the Act to meet its statutory obligation to the public, and the 
Commodity Futures Trading Commission failed to fulfill its statutory 
obligation under the Act to force the management and Board of ICE 
Futures U.S., and other contract markets similarly impacted, to take 
such action. I understand that the situation is not unique to cotton. 
Thus we believe that amendments to the Act are necessary.
Why Do These Markets No Longer Serve As Acceptable Vehicles for Price 
        Discovery and Risk Transfer, and What Can Be Done To Restore 
        Them?
    In governing an agricultural futures market, every decision must 
recognize one salient fact--the number of true hedges of the physical 
agricultural commodity that can be placed in the contract market is 
finite because it is dependent on the size of the crop, and how much of 
that limited supply remains unconsumed. All futures or options 
positions in excess of that number are not true hedges of the 
physicals. This is recognized in the Act and has historically been 
recognized by placing limits on the size of the positions of every 
class of market participant. What was historically achieved was a 
careful balance between hedgers of the physical commodity and 
speculators that kept the relationship between the price of the futures 
contract and the cash commodity within a historically recognized range 
that was generally accepted by the trade in their cash contracts, thus 
not burdening interstate commerce. Achieving this balance was made 
easier in that many classes of pooled money, such as pension funds, 
chose not to trade in commodity markets under the belief that they were 
too speculative. The agricultural commodity markets thus were governed 
and regulated overwhelmingly in order to facilitate the flow of the 
physical agricultural commodity through the distribution chain. The 
fact that most of the approved contract markets were not organized for 
profit meant that the owners and the Board they elected were concerned 
most with achieving price discovery and risk transfer for themselves.
    All this changed and has thrown things out of balance. Currently 
there is an inherent conflict of interest between the management and 
Boards of for profit exchanges and their self-regulatory obligation. To 
limit market participants to achieve the requirements of the Act 
potentially costs them trading volume, which costs them money. In 
addition, there has been an exponential growth in the open interest 
position of speculators and of traders defined by the CFTC as 
``hedgers'', but who don't trade the physical commodity in interstate 
commerce. Consider for instance that the dollar volume of investor 
funds tied to the Standard & Poor's Goldman Sachs Commodity Index (S&P 
GSCI) has grown from $60 billion in 2006, to $85 billion in 2007, and 
is projected by some to reach $100 billion in 2008. (Source: Pastine, 
Alejandro S., ``Speculation and Cotton Prices,'' Cotton: Review of the 
World Situation, International Cotton Advisory Committee, Volume 61--
Number 4, March-April, 2008). This excellent analysis points out that 
even though the dollar value of index traders' funds has increased 
dramatically, in cotton at least, ``index traders have not been the 
main force behind the increase in open interest for cotton futures and 
options, but non-index traders speculators have.'' It includes the 
following table:


    Under current statute the CFTC must regulate these markets so that 
a means is provided for managing and assuming price risks, discovering 
prices, or disseminating pricing information through trading in liquid, 
fair, and financially secure trading facilities; to deter and prevent 
price manipulation or other disruptions to market integrity; and to 
prevent excessive speculation or unreasonable fluctuations or 
unwarranted changes in the price of the commodity. Failure to do so 
places an unnecessary burden on interstate commerce. Currently, in my 
opinion, the Boards and management of the agricultural commodity 
markets through self-regulation, and the CFTC through regulation, are 
failing in their statutory obligations to achieve these ends. Hopefully 
these hearings are part of a process by which Congress will ensure that 
the CFTC will meet its statutory obligations. Failure to do so will 
result in these markets being managed and regulated primarily for the 
purpose of providing investment vehicles to attract a flow of 
investment funds. . Although some may desire this, it does not comport 
with the Act's straightforward purposes for which the markets are to be 
regulated: namely, price discovery and risk transfer.
Recommendations
    At the CFTC's Agricultural Markets Forum held last month, the 
members of Amcot respectfully urged the Commission to implement or 
publicly respond to several specific recommendations by June 1, 2008. 
While the CFTC has taken modest steps with regard to these 
recommendations, in the main these concerns remain un-addressed. As 
such, we respectfully recommend that the Committee act on the following 
recommendations to protect our agricultural markets:

    (1) Adopt an amendment to the Commodity Exchange Act to define 
        transactions that qualify as a ``hedge'', and market 
        participants that qualify as a ``hedger'', for purposes of the 
        agricultural futures markets. We offer the following draft 
        amendment to the Act for your consideration in addressing this 
        critical issue:

    Amend section 1a of the Commodity Exchange Act (7 U.S.C. 1a) by 
        adding at the appropriate place the following definition:

                  ``(xx) agricultural market hedger.--The term `hedger' 
                means a person that, in connection with its business--

                          ``(A) can demonstrate that as a part of its 
                        normal business practice it makes or takes 
                        delivery of the underlying agricultural 
                        commodity as part of the commodity's 
                        production, distribution, or consumption; and

                          ``(B) incurs risk, in addition to price risk, 
                        related to the commodity''

    We are keenly aware that this is a very complex area of the law. As 
        such, we offer this suggested draft language in good faith, and 
        in the expectation that we might work with the Committee to 
        improve and perfect this language to help to achieve the 
        desired effect of restoring and protecting the integrity of our 
        agricultural futures markets.

    (2) Similarly, consideration should be given to whether the current 
        definition of ``speculator'' adequately and appropriately 
        captures the positions taken by the various speculative 
        participants in agricultural markets. We respectfully suggest 
        the Committee differentiate more than one type of speculator, 
        with appropriately differing position limits and margining 
        requirements for each.

    (3) In addition, our cooperatives and their farmer owners are also 
        consumers of substantial quantities of oil and energy based 
        products that are also subject to the effects of futures 
        trading in those commodities. We leave to the Committee 
        whether, and if so how, to define in statute which transactions 
        in energy-related futures and/or in other physically settled 
        commodities outside of agriculture are hedge transactions and 
        which traders may be hedgers. We are inclined to believe that a 
        similar hedge definition would be helpful in these markets. 
        However, our experience and expertise in futures trading is 
        concentrated in the cotton and other agricultural futures 
        markets, and we feel strongly that these definitional 
        clarifications should, at a minimum, be applied to these 
        agricultural markets as soon as possible.

    (4) Require that index funds be subject to the same speculative 
        position limits and speculative margin requirements as a 
        managed commodity fund, and that their positions be reported at 
        least weekly to the CFTC.

    (5) Initial margin required should be mandated so that true 
        agricultural hedgers, as defined in recommendation number (1), 
        above, have the lowest margin requirements, and speculators the 
        highest. The spread of initial margin between these true 
        hedgers and the various classes of speculators must be 
        significantly greater than the current spread between hedgers 
        and speculators.

    (6) Analyze what regulatory changes are necessary in order to 
        restore a balance in agricultural contract markets between the 
        positions of hedgers involved in production, distribution, or 
        consumption and all other categories of traders that will make 
        these markets meet the requirements of the Act as quoted above. 
        This would include, but not be limited to,

                (a) Establish the maximum size of speculative limits 
                that can be approved for a particular market on a 
                market by market basis, and not on a ``one size fits 
                all'' basis. This should result in a decrease in CFTC 
                allowed maximum position limits for smaller contract 
                markets.

                (b) Requiring market participants to report to the CFTC 
                weekly the positions held in the contract market that 
                are offsetting swap and OTC contracts, so that the CFTC 
                can have that information available to monitor possible 
                price disruptive behavior.

                (c) Require that daily trading range limits be 
                established in agricultural contract markets for 
                futures and options on futures.

    (7) Require that contract markets that are organized on a for 
        profit basis contract with an independent third party to 
        provide their market surveillance function and that all copies 
        of this independent third party's reports be forwarded to at 
        least two public members of the contract market's Board.

    (8) Investigate the events in the cotton futures market of February 
        20&March 20, 2008, which in the opinion of this writer 
        constituted an undue burden on interstate commerce under the 
        Act, to determine what caused the unreasonable fluctuations and 
        unwarranted changes in price. Since the board and management of 
        the contract market and the Commission are statutorily bound to 
        prevent such trading, such an investigation is necessary so 
        that appropriate safeguards can be developed to prevent its 
        repetition in this or some other contact market.

    (9) Finally, we renew our request that the Committee require the 
        Commodity Futures Trading Commission to report to Congress what 
        steps it has taken to require the management of contract 
        markets to operate their exchange in compliance with the Act.

    On behalf of Amcot and the thousands of producer-members of our 
cooperatives, we would like to sincerely thank the Committee for 
continuing to investigate these complicated issues. They are of 
critical importance to the immediate livelihood and the long-term 
stability of our cotton and other agricultural markets. We look forward 
to working with you to address these important issues.
                                 ______
                                 
  Submitted Statement of USA Rice Federation and U.S. Rice Producers 
                              Association
Introduction
    Mr. Chairman and Members of the Committee, the futures markets are 
intended to serve the primary roles of price discovery and risk 
management for producers and users of agricultural commodities. 
Unfortunately, for several months the markets have been volatile and 
unsettled, resulting in a divergence between cash and futures prices 
and significant increases in margin requirements. This has been 
observed across almost all agricultural commodity contracts on the 
various exchanges, but we will focus our comments on the rice market 
and the Chicago Board of Trade rice contract.
    Due to the critical importance of these markets to the marketing 
plans and livelihood of rice producers and all of U.S. agriculture, we 
appreciate the Committee conducting these hearings to review 
legislation to amend the Commodity Exchange Act. On behalf of the U.S. 
rice industry, we would like to take this opportunity to provide 
several recommendations for your consideration in this regard.
Background
    There are a number of fundamental factors in the market that are 
leading to higher rice prices including:

   tighter global supply based on lower production due to 
        weather events and acreage shifts to other crops and increased 
        demand;

   increased costs of production; and

   increased energy costs that lead to higher storage and 
        transportation costs.

    The presence of all these factors should lead to convergence of 
cash and futures prices, but we are experiencing a lack of convergence 
due in part to increased participation by speculators in the market. 
Speculator participation in these markets is important to provide 
liquidity to the market, but there must be limits on participation. 
There have been instances of funds owning more of some crops on paper 
than will be produced during that crop year. This level of 
participation has hampered the price discovery role of the market, has 
damaged the cash market for rice, and has diminished rice producers' 
profitability.
    We are concerned that this lack of convergence will continue as 
long as speculators and funds remain in the market to the current 
degree as unrestricted buyers. As a result, we will continue to see 
very few, if any, commercial marketers offering forward pricing 
opportunities. Many commercial market participants have exhausted their 
working capital and credit lines available for margin requirements and 
are therefore no longer in the market. This is particularly damaging to 
producers as they are no longer able to forward price their expected 
harvest, leaving them exposed to significant price risk. Producers are 
facing this price risk at a time of record high input costs. In fact, 
many producers are still unable to lock in sales prices through forward 
contracts for their expected crop production for 2009. Because of this, 
it is clear that the futures market is no longer performing one of its 
primary functions--hedging and price risk management.
    The on-line Glossary of futures terms of the Commodity Futures 
Trading Commission (CFTC) defines the term ``hedging'' as follows:

        ``Hedging: Taking a position in a futures market opposite to a 
        position held in the cash market to minimize the risk of 
        financial loss from an adverse price change; or a purchase or 
        sale of futures as a temporary substitute for a cash 
        transaction that will occur later. One can hedge either a long 
        cash market position (e.g., one owns the cash commodity) or a 
        short cash market position (e.g., one plans on buying the cash 
        commodity in the future).''

    On its face this appears to be a common sense definition for the 
hedging of agricultural commodities by commercial market participants. 
However, over time the ``hedgers'' have grown to include large numbers 
of entities other than commercial participants in the agricultural 
industry.
Recommendation #1: Clearer Definitions of Agriculture Market Hedgers 
        and Speculators
    For purposes of agricultural futures markets, hedgers should be 
defined as those physical market participants tied to the physical 
commodity. By contrast, those agricultural futures market participants 
not tied to the physical commodity should be defined as speculators. In 
addition, increased speculative margin requirements and tighter 
position limits for speculators could also help improve the situation.

    We believe an excessive level of participation by speculators is at 
least partially responsible for the current market situation. This 
includes entities other than commercial agricultural market 
participants that the CFTC may currently define as ``hedgers''. Without 
the improvements recommended above, we believe the market will continue 
to be lacking in its ability to perform its two primary functions of 
price discovery and hedging. This critical failure needs to be 
corrected as soon as possible. These necessary steps must be taken to 
ensure that commercials can reenter the market and perform their role 
as hedgers for the physical commodity.
Recommendation #2: Speculative Margin Requirements
    While it is important to insure there is adequate margin to cover 
any default, we urge the consideration of a requirement of consistently 
higher initial and maintenance margin requirements for speculators than 
for hedgers (redefined as described in Recommendation #1, above). 
Congress and the CFTC should consider more closely linking the margin 
requirement in rice and other agricultural futures markets to both the 
price level and the amount of market volatility in the market.

    We are of the opinion that the rice market has suffered from being 
``cornered'' in a non-traditional sense--not by one market 
participant--but by the fact that hedgers can no longer afford to take 
short positions (sell) in the market while speculators and funds 
continue to take long positions (buy), creating a ``demand'' market in 
rice that is self-fulfilling.
    We completely agree that margin requirements must be sufficient to 
insure performance, however we also suggest that Congress and the 
Commission consider that only those that deal in or are tied directly 
to the physical commodity--including producers, processors, merchants, 
marketers, and end-users--be considered hedgers for determining 
necessary margin requirements on this category of market participants. 
On the other hand, index, pension, and other funds not tied to the 
physical commodity should be considered speculators with different 
(higher) margin requirements (with respect to both initial and 
maintenance margin) and separate position limits.
    Again, due to the increasing margin requirements resulting from 
increased market volatility, more and more commercial agricultural 
market participants are exiting the market as their available capital 
and lines of credit are becoming increasingly stretched to the point 
they can no longer afford to hedge their price risks. The result is 
that the markets are failing in their ability to perform their two 
primary statutory functions of price discovery and hedging.
Recommendation #3: Rice Futures Delivery System; Increased Storage 
        Rates; Cash Settlement for Rice Futures
    We urge the Committee and the CFTC to review the delivery system 
for rice futures contracts, and also to consider raising rice storage 
rates. Some market participants believe that adding delivery points 
would help improve convergence in the rice futures markets. In 
addition, we would urge a review of whether the use of cash settlement 
of rice futures contracts would better serve producers, hedgers, and 
others using these vital markets.
Recommendation #4: Enhance Reporting and Transparency of Rice Futures 
        Trading and Markets
    Add rice to the weekly CFTC supplemental Commitment of Traders 
report, and provide reporting categories for speculators and funds that 
are separate from the traditional hedgers (consistent with 
Recommendation #1, above).

    In order to maintain the integrity of these markets, it is 
important to provide increased transparency of market activities. The 
above actions would help to provide a more comprehensive view of what 
is occurring in the rice futures market to the benefit of rice 
producers, processors, and marketers.
Conclusion
    In summary, we believe that the participation of speculators 
(funds) in the market is leading to increased volatility and negatively 
impacting the ability of the futures markets to perform its two primary 
statutory functions of providing price discovery and hedging. As the 
increased margin requirements, volatility, and lack of confidence cause 
more and more commercials to withdraw from the market, the divergence 
between cash and futures prices will only worsen. If and when the funds 
begin to withdraw from the market, we could be in store for a severe 
price correction that could lead to significant financial losses and 
instability, which could further prohibit participation by commercials 
and producers. Steps need to be taken to address this situation and to 
prevent its reoccurrence in the future.
    We appreciate the opportunity to share our views and 
recommendations with the Committee, and look forward to working with 
the Committee, the CFTC, and others in agriculture to help address the 
current market situation so that all in the rice industry can once 
again have confidence that the futures market will meet the industry's 
price discovery and risk management needs.
    Thank you again for convening these timely and important hearings. 
If you have any questions or would like any additional information, 
please contact Mr. Reece Langley at the USA Rice Federation at 
[Redacted] or [Redacted], or Mr. Fred Clark on behalf of the U.S. Rice 
Producers Association at [Redacted] or [Redacted].


   HEARING TO REVIEW LEGISLATION AMENDING THE COMMODITY EXCHANGE ACT

                              ----------                              


                        THURSDAY, JULY 10, 2008

                          House of Representatives,
                                  Committee on Agriculture,
                                                   Washington, D.C.
    The Committee met, pursuant to call, at 10:12 a.m., in Room 
1300, Longworth House Office Building, Hon. Collin C. Peterson 
[Chairman of the Committee] Presiding.
    Present: Representatives Peterson, Holden, Etheridge, Baca, 
Cardoza, Scott, Marshall, Herseth Sandlin, Cuellar, Costa, 
Salazar, Ellsworth, Boyda, Space, Walz, Gillibrand, Kagen, 
Pomeroy, Barrow, Lampson, Donnelly, Mahoney, Childers, 
Goodlatte, Moran, Hayes, Johnson, Graves, Rogers, King, 
Neugebauer, Boustany, Kuhl, Foxx, Conaway, Fortenberry, Smith, 
Walberg, and Latta.
    Staff Present: Adam Durand, Alejandra Gonzalez-Arias, Scott 
Kuschmider, John Riley, Kristin Sosanie, Bryan Dierlam, Alise 
Kowalski, Kevin Kramp, Josh Maxwell, and Jamie Weyer.

OPENING STATEMENT OF HON. COLLIN C. PETERSON, A REPRESENTATIVE 
                   IN CONGRESS FROM MINNESOTA

    The Chairman. The Committee will come to order. We welcome 
the witnesses. What we are doing here today is to try to focus 
in on the different areas that are under question that have 
been addressed in different bills that have been introduced. We 
tried to set these panels up to focus in on the specific areas 
that have been raised during this debate. And we are trying to 
do this in a way to focus in, not get off and mix up different 
parts of this.
    So the first panel here is dealing with swaps. All right. 
The swaps and over-the-counter market and so forth. And we want 
to welcome the panel: Mr. Greg Zerzan, Counsel and Head of 
Global Public Policy, International Swaps and Derivatives 
Association; Mr. Charles Vice, President and the COO, Chief 
Operating Officer, of the IntercontinentalExchange, ICE, of 
Atlanta, Georgia; Mr. Michael Comstock, the acting Director of 
the City of Mesa, Arizona, Gas System on behalf of the American 
Public Gas Association; Mr. Michael Greenberger, University of 
Maryland School of Law, who teaches a course in this area, as I 
understand it, and he has offered to maybe bring some of us in 
as his students and try to educate us a little bit, which at 
least I know I could use; Dr. Craig Pirrong, who is a Professor 
of Finance and Director of Global Energy Management Institute 
of Bauer College of Business, University of Houston, from 
Houston, Texas.
    So we welcome the panel, and I know at least this Member 
has a lot to learn, and there are a lot of differences of 
opinion. We are hoping that through this process we can sort 
through some of this.
    I spent 10 years or better trying to understand dairy 
policy in this country, and it is one of those things that 
whenever I would get to the point where I thought I understood 
it, then I would learn something that would completely 
undermine everything that I thought I knew. I am finding that 
this issue is very much the same as that. And so we are hoping 
that this exercise will help us to understand better the 
situation and get to the bottom line.
    [The prepared statement of Mr. Peterson follows:]

  Prepared Statement of Hon. Collin C. Peterson, a Representative in 
                        Congress From Minnesota
    Good morning and welcome to today's hearing.
    Today marks the second of three hearings this week to review 
legislative proposals to amend the Commodity Exchange Act.
    We have three full panels today and a lot of ground to cover, so I 
will keep this very brief and not repeat what I said yesterday about 
the purpose of these hearings.
    Yesterday we heard from six of our House colleagues who have 
introduced bills that would amend regulation of commodity futures 
markets. Today and tomorrow, we will hear from stakeholder groups about 
these and other legislative proposals, as well as the major issues 
currently surrounding commodity futures and options markets.
    What we intend to do over the next 2 days is have each panel 
examine one of these subjects in detail. Today's three panels will look 
at:

   The swaps and the over-the-counter market;

   Pension fund and index funds; and

   Hedge exemptions and speculation position limits.

    Today's witnesses will hopefully shed some light on these topics 
and how legislation that has been introduced would affect them. Some 
groups, of course, have vested interests in more than just one area, 
and that will be reflected in their broader written testimony submitted 
for the record. But with so much to get to today, we will try and keep 
this as focused as possible.
    At this time, I now yield to the Ranking Member of the Committee, 
Mr. Goodlatte for an opening statement.

    The Chairman. I recognize the gentleman from Virginia for a 
statement.

 OPENING STATEMENT OF HON. BOB GOODLATTE, A REPRESENTATIVE IN 
                     CONGRESS FROM VIRGINIA

    Mr. Goodlatte. Thank you, Mr. Chairman. I was just going to 
ask if you had now mastered dairy policy.
    The Chairman. No. But they say there are five people in the 
United States that really understand it, and those five people 
are lying.
    Mr. Goodlatte. Well, thank you, Mr. Chairman, I look 
forward to this testimony today. This is the second in a series 
of hearings to try to uncover the truth about futures trading 
and what impact it may be having on the price of energy, 
particularly oil. And I think it is very important that we 
learn from all of the witnesses that we have here today and 
attempt to determine just exactly how well the Commodity 
Futures Trading Commission and the laws they operate under are 
working. So I will approach this with an open mind.
    I will add, however, as I have at each of these hearings, 
that while this is an important topic for us and is the 
jurisdiction of our Committee, something that is not the 
jurisdiction of our Committee is the most important thing that 
we as a Congress can do to address the problem of the high cost 
of energy, and that is to enact policies that would enable an 
increase in the domestic supply of all sources of energy, be it 
oil, natural gas, clean-burning coal, nuclear power, new 
technologies, renewable fuels. All of these things could use 
the Congress clearing the way to drill on Federal lands in 
Alaska and the Rockies, offshore, to tap into what some believe 
is the largest natural gas reserve in the world in the Gulf of 
Mexico that is untapped. All of these things are the number one 
thing that this Congress needs to be doing.
    And I know I have a lot of agreement on that issue on both 
sides of the aisle in this Committee. I just wish that that 
would be reflected in the leadership of the House in allowing 
some of the many bills introduced by Members on both sides of 
the aisle to get to the floor of the House so that we could 
address them and truly address the problem with the shortage of 
energy that we have in this country. I think this is by far the 
number one cause of rapidly rising prices of not just oil, but 
other sources of energy as well. This is caused by the fact 
that supply simply has not kept up with growing demand around 
the world.
    Thank you, Mr. Chairman.
    The Chairman. I thank the gentleman.
    If anybody else has any statement, they will be made part 
of the record, without objection.
    [The prepared statement of Mr. Graves follows:]

  Prepared Statement of Hon. Sam Graves, a Representative in Congress 
                             From Missouri
    Thank you, Chairman Peterson and Ranking Member Goodlatte for 
holding this hearing on speculation in the marketplace and its impact 
on prices.
    As I have mentioned in the past there is no silver bullet solution 
to high energy costs, but rather a combination of things. Most 
importantly, we must domestically produce fuel that we have available, 
including in Alaska and in the Outer Continental Shelf. Opening 
domestic resources for production can be done in an environmentally 
safe way and can have a tremendous impact in reducing our reliance on 
foreign sources of fuel. I agree with the majority of Americans that 
this will help bring gas prices down.
    I also believe that alternative fuels including wind, ethanol, 
biodiesel, hydrogen, and others will help reduce our consumption of 
traditional fossil fuels. Alternative fuels are not only cleaner for 
our environment but their usage helps lower demand for crude oil and 
will help bring prices down.
    Today, we are looking at speculation in the market. I believe that 
speculation has a role to play in discovering the true price of a 
product. However, there are times when I feel that excessive 
speculation, misinformation, and a lack of transparency can drive 
prices up.
    I have played an active roll in ensuring that traders are not 
cheating the system. First by introducing legislation in the 109th 
Congress, H.R. 1638, the Commodities Exchange Improvements Act of 2005, 
then by co-authoring legislation in the 110th Congress, H.R. 3009, 
Market Transparency Reporting of United States Transactions Act of 
2007, and most recently by working with my colleagues in the farm bill 
to shed more light on all energy commodities and how they are traded.
    As you can see my record speaks for itself. I look forward to 
working with my colleagues to ensure the American public and the people 
of the 6th District are not being cheated by big traders in order to 
make a buck.
    Thank you.

    The Chairman. So we will move to the panel. Panel members, 
your statements will be made part of the record. We would 
encourage you to summarize and talk to us in a way that we may 
understand as best you can.
    And so we will start with Mr. Zerzan, and we appreciate you 
being with us today and taking the time to help educate us.

         STATEMENT OF GREG ZERZAN, COUNSEL AND HEAD OF
         GLOBAL PUBLIC POLICY, INTERNATIONAL SWAPS AND
           DERIVATIVES ASSOCIATION, WASHINGTON, D.C.

    Mr. Zerzan. Thank you, Mr. Chairman. And thank you, Members 
of the Committee.
    As this Committee knows, ISDA is the world's largest global 
financial services trade association. We represent members in 
the over-the-counter derivatives industry. We have over 830 
members in over 52 countries around the world, and we routinely 
deal with these types of issues in jurisdictions in Europe, 
Asia, Latin America, as well as the United States.
    As this Committee knows, over-the-counter derivatives are 
primarily risk-management products. They were developed in the 
United States in the early 1980s as a means of transferring 
risk via the use of individually negotiated bilateral 
contracts. Despite the fact that these contracts were first 
invented in the U.S., the primary source of over-the-counter 
derivatives business in the world now is the United Kingdom.
    This Committee knows, because we spent most of last year 
discussing one of the main topics that is of concern to ISDA in 
the current debate, and that is proposals which would seek to 
amend or repeal the protections from bilaterally negotiated 
contracts. These are primarily found in sections 2(g) and 2(h) 
of the Commodity Exchange Act. These provisions allow parties 
to enter into a contract with the assurance that it will be 
legally enforceable. And again, there is a long history of 
these contracts, including a long history of case law upholding 
the legal documentation which ISDA first developed.
    And I won't dwell on the provisions of 2(g) and 2(h) 
because this was the subject of multiple hearings and multiple 
discussions in this Committee over the last year. And some of 
the concerns regarding over-the-counter derivatives were, in 
fact, addressed by the passage of the farm bill. Under this 
Committee's leadership, greater transparency was extended to 
electronic exempt commercial markets. And that legislative 
provision was widely embraced both on a bipartisan basis, by 
industry, by consumer groups, by end-users and by regulators. 
And that achievement, which was less than 2 months ago, 
deserves to be roundly applauded. So thank you for that.
    The other provision which is of concern to ISDA are 
proposals which would remove the ability of swap dealers to use 
the futures markets to hedge their swap risk. And it is 
important to understand that swap dealers are indeed hedging a 
bona fide business risk. These are the risks that are passed on 
to the swap dealers from their customers. In many cases those 
risks are passed on to the swap dealers because the customers 
either can't obtain protection through the futures markets or 
are unwilling for a variety of operational issues to engage 
futures.
    And just a quick example of this is the case of airlines 
who seek to hedge the risk of fluctuations in the price of jet 
fuel, but there is no widely traded jet fuel futures contract, 
so typically an airline will enter into a jet fuel swap, and 
the swap dealer will then hedge its risk under that contract by 
entering into a basis swap in West Texas Intermediate crude. 
So, as you can see, the swap dealers are both performing a 
valuable function which helps end-users and commercial 
participants, and they are also hedging their own bona fide 
business risk. So we are very concerned about any proposals 
which would seek to prevent swap dealers from hedging these 
risks.
    Last, I would note that during the course of the debate 
over the provisions that were enacted into the farm bill, this 
Committee and this Congress showed great sensitivity to the 
competitive issues that are associated with regulation of 
financial markets. As you know, around the world there is 
tremendous competition to attract the jobs and the revenues 
that come with financial services, and there have been great 
concerns expressed about America potentially losing its 
competitive advantage in these areas. I am hopeful that 
Congress will continue to bear in mind the dangers that are 
posed to our country and our economy if we implement overly 
restrictive measures which make it more attractive to do 
business outside the United States.
    I thank the Committee again for your leadership, and I look 
forward to answering any questions.
    [The prepared statement of Mr. Zerzan follows:]

 Prepared Statement of Greg Zerzan, Counsel and Head of Global Public 
 Policy, International Swaps and Derivatives Association, Washington, 
                                  D.C.
Introduction
    Thank you very much for inviting ISDA to testify today regarding 
over-the-counter (OTC) derivatives, the Commodity Exchange Act and 
recent activity in the commodity markets.
The Purpose and Role of OTC Derivatives in the Economy
    As the Members of this Committee know, OTC derivatives are used for 
a variety of risk management purposes. Initially developed in the 
1980s, OTC derivatives have quickly become a core component of the risk 
management operations of financial institutions, manufacturers, 
producers, multinational corporations and investors both in the U.S. 
and around the world. OTC derivatives are privately negotiated 
contracts, with the material terms of a transaction worked out between 
the parties. In this respect they differ significantly from exchange 
traded futures and options, which are standardized and fungible 
instruments subject to offset through the purchase of a contract with 
the opposite exposure.
    In the energy commodity space OTC derivatives are used by a broad 
segment of market users looking to manage risks related to future price 
movements of energy. For instance, a large producer that is exposed to 
the price of oil through normal costs like fuel and the price of 
fertilizer can hedge its risks by entering into a swap agreement 
whereby it agrees to pay a fixed amount of money on a specified 
quantity, for instance $140 a barrel, over a specified period in 
exchange for receiving the floating price of crude over that same time. 
In this way the producer will guarantee that its economic exposure is 
no more than $140 a barrel and can budget its future operations on that 
basis. Likewise a utility company that relies on natural gas to power 
its generators can lock-in the future price of the commodity by 
entering into a swap agreement with a counterparty such as a bank or 
investment firm that is better equipped to deal with the risk of 
floating prices.
    OTC derivatives were invented to allow companies to mitigate price 
shocks by passing on those risks to others that have the opposite 
exposure, or are better suited to manage them. These risks can be 
managed through custom-tailored contracts exactly suited to the 
company's risk management needs.
    In some cases OTC derivatives are used to gain exposure to some 
underlying reference asset. For instance an institutional market 
participant such as a pension fund or university endowment might 
utilize an OTC derivative to benefit from the increase in the price of 
a basket of stocks or commodities. The reasons an institutional market 
participant might prefer to use an OTC derivative instead of futures or 
stocks can vary, but could include such factors as costs, the ease with 
which a swap agreement can provide diversification, legal constraints 
on its ability to invest directly in certain asset classes, or the need 
to custom tailor a transaction for portfolio management purposes. Cost 
benefits are an especially important consideration; an investor can use 
a total return swap to access exposure to an underlying commodity 
without having to purchase and mange a bundle of futures contracts with 
different delivery dates. Equally important is that OTC derivatives are 
cash-settled, meaning an investor need not avoid physical delivery by 
purchasing offsetting futures contracts (and incurring those 
transaction costs as well).
    OTC derivatives play a critical role in the global economy, and the 
markets are international in scope. However, despite the fact that OTC 
derivatives were first created in the United States, London has become 
the center of the global OTC derivatives business with roughly 43 
percent of the world's daily turnover occurring there.
Derivatives Are Not the Cause of Rising Commodity Prices
    Recently there have been widespread accusations that derivatives 
markets, and in particular speculators in derivatives markets, are 
responsible for rising commodity prices.\1\ Some accuse speculators of 
driving up the price of oil beyond levels justified by fundamental 
economic factors, as well as increasing volatility. Others point to the 
presence of investors in the market; it is asserted that even investors 
with a long-term perspective enter as buyers and put upward pressure on 
prices. And finally, because commodity derivatives, both exchange-
traded and over-the-counter, reduce the cost of transacting in 
commodity markets, some call for restrictions on derivatives activity 
as a way to reduce pressure on prices. Unfortunately these arguments 
misunderstand the role of derivatives in informing commodity prices. 
Putting tighter restrictions and further regulation on derivatives will 
not reduce the price of oil, and might even make it more volatile.
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    \1\&It is worth noting that prices for a wide range of commodities 
for which there are no active exchange markets have likewise seen 
tremendous price appreciation. Since 2001 cadmium and molybdenum prices 
are up over 1,000%; rice has appreciated over 500%; iron ore and steel 
have increased over 300%. Onions have increased over 300% this year 
alone as of April 2008.
---------------------------------------------------------------------------
    Commodity derivative market participants can be divided into three 
categories. The first category is ``commercial'' participants, which 
include oil producers along with oil consumers such as airlines and 
refineries. Commercial participants often, but not always, use 
derivatives to hedge their exposures to prices and thereby reduce 
risks. The second category is noncommercial participants, which 
includes hedge funds, pension funds, and commodity trading advisers. 
Noncommercials are often identified as speculators, that is, 
participants that seek to take on risk in order to benefit from price 
increases or decreases. The third category is intermediaries, also 
known as dealers, which consist of banks and other financial firms as 
well as energy trading subsidiaries of energy producers and utilities. 
Intermediaries stand between hedgers and speculators in order to make a 
market.
    All three types of participants act as both hedgers and speculators 
at different times, and all three types are necessary to an efficient 
and liquid market. For hedgers to be able to transfer unwanted risk 
there has to be someone to take on those risks. If dealers cannot find 
another hedger with the opposite, offsetting risk then dealers will 
look to speculators to take on those risks. In such a market, 
restricting and otherwise raising costs to speculators will ultimately 
raise costs to hedgers and make it more difficult to manage the 
volatility of the prices they seek to manage.
    A recent criticism of derivatives has been that prices are higher 
than economic fundamentals would justify because both speculators and 
investors place excessive upward pressure on prices. According to this 
argument, investors use derivatives to enter as buyers in order to 
enhance their returns and to hedge against inflation, while speculators 
buy in anticipation of prices going even higher.
    However, neither speculators, investors nor other derivative market 
participants are the cause of the level and volatility of oil prices. 
The reason is straightforward: physical possession of oil (or any other 
commodity) is necessary to drive up prices. Evidence appears to be 
lacking to support the necessary condition that speculators or 
investors have been taking physical possession of oil and withholding 
it from the global market.
    The mechanics of the market can be explained as follows: assume 
that a combination of speculators, hedgers, and investors all take long 
futures positions. In isolation, all of these could potentially exert 
upward pressure on prices were it not for the presence of two other 
factors. First, for every long position there has to be a short 
position (a seller) on the other side. Second, all speculators, 
hedgers, and investors with long positions will be obligated to take 
physical delivery of oil when the contract matures unless they exit out 
of the contract beforehand. By selling contracts to exit their position 
(and virtually all of these market participants will do so) downward 
pressure will be placed on the price of oil. If the price were simply 
high because of all the pressure from buyers, then the downward 
pressure from the selling would cause the price to fall. But if the 
price of oil were to remain high anyway (as has been the case 
recently), it must necessarily be because there are participants with 
long positions who are willing to buy and take possession of oil. And 
this in turn could be either because someone has bought up oil supplies 
so other buyers drive up the price--which is market manipulation and 
therefore illegal--or because demand for the physical commodity has 
increased relative to the supply available, thereby leading to a higher 
price.
    The above also applies with regard to over-the-counter markets such 
as swaps. OTC derivatives are bilateral agreements, the vast majority 
of which are cash-settled (and thus do not involve physical delivery). 
Additionally many OTC derivatives are hedged using futures contracts, 
which as explained above means the contracts are eventually sold prior 
to maturity and thus exert downward pressure on prices.
    Derivatives markets are price discovery markets; they reflect the 
willingness of buyers and sellers to agree to a price for any given 
commodity. While derivatives can help inform markets as to expectations 
of future prices they are naturally checked by the actual physical 
supply of the underlying commodity; in other words it is the market 
forces of supply and demand, not derivatives, which are the cause of 
rising commodity prices.
Recent Legal Developments and Legislative Proposals
(a) Recent Changes in U.S. Law
    Since passage of the Commodity Futures Modernization Act in 2000 
there have been efforts to amend the provisions of that law relating to 
OTC energy transactions. Indeed, Congress has been very active in 
increasing Federal oversight of the energy markets, such as the grants 
of anti-fraud authority to the Federal Energy Regulatory Commission 
over the natural gas and electricity markets (as part of the Energy 
Policy Act of 2005) and to the Federal Trade Commission with respect to 
the wholesale petroleum market (as part of the Energy Security and 
Independence Act of 2007). It is worth noting that the precise 
jurisdictional parameters of the FERC authority are still being 
decided; meanwhile the FTC has just begun its rulemaking process.
    Meanwhile less than 2 months ago Congress, lead by this Committee, 
undertook the most sweeping changes to the Commodity Exchange Act since 
the passage of the CFMA. As you are aware the amendments to the law 
made by the CFTC Reauthorization Act of 2008, contained as a title of 
the farm bill, occurred after a year of hearings, countless 
conversations among policy leaders and market participants, consumer 
groups and producers and manufacturers, and the consideration and 
detailed recommendations of the President's Working Group on Financial 
Markets. The amendments to the law were made within the context of a 
thorough and carefully deliberated analysis of the current market, 
changes in the industry since passage of the CFMA, and a careful 
balancing of the costs and benefits of increasing oversight of the 
energy derivatives business. Ultimately, led by this Committee, the 
Congress passed legislation that won nearly unanimous praise from the 
industry, consumer groups and the regulatory community.
    The provisions of the recently passed farm bill made important 
changes to how OTC markets are regulated, and are worth considering. 
For this discussion the most relevant provisions of the law are those 
relating to exempt commercial markets, which are markets among 
sophisticated commercial users that operate electronically. Under the 
new law those exempt OTC markets which list ``significant price 
discovery contracts'' are required to submit themselves to a new, 
principles-based regulatory regime that is modeled on those imposed on 
fully regulated markets. However, recognizing the unique nature of 
these markets and the fact they are limited to professional 
participants, Congress chose to create a modified structure that 
retains important regulatory measures such as monitoring for abusive 
behavior, the ability to stop trading and the imposition of 
accountability limits while at the same time permitting the maximum 
amount of flexibility in order to encourage trading and accommodate 
innovation. Congress also created large trader reporting for 
significant price discover contracts as well as for agreements which 
are treated as fungible with such contracts by a clearinghouse. These 
provisions require substantive new reporting requirements for OTC 
derivatives.
    Congress carefully balanced the desire for greater oversight of 
exempt commercial markets with a recognition of the global nature of 
these markets, the reality of international competition for the 
financial services business and an acknowledgement of the important 
role these markets play in allowing U.S. companies to manage risk.
    Over the last 3 years increased legal requirements have 
significantly expanded regulatory oversight and knowledge about the 
U.S. energy market. While some may feel these changes were overdue, 
there can be no question that the rapid changes in the legal and 
regulatory requirements for engaging in energy transactions have been 
challenging for market participants. Because the exact scope and 
requirements of these changes in the law are still being implemented by 
regulators (and the precise compliance requirements still being 
discovered by market users) it is not clear what effect these changes 
will have on the markets. Nevertheless policymakers may be concerned 
about the business cost of imposing too many changes too quickly; the 
worst possible outcome would be one in which the ability of the market 
to produce services useful to consumers is impeded by regulatory and 
compliance issues.
(b) Current Legislative Proposals
    A variety of approaches have been suggested for addressing rising 
commodity prices and the role of derivatives in commodity markets.\2\ 
Some of these focus on the role of particular classes of market 
participants such as institutional investors and speculators; others 
would adjust margin requirements; some address the regulation of 
foreign boards of trade; still others would modify or repeal existing 
protections for OTC energy derivatives. ISDA's testimony will focus on 
this last category.
---------------------------------------------------------------------------
    \2\&There are currently 23 proposed bills on this topic: Senate 
bills numbered 2991, 2995, 3044, 3122, 3129, 3130, 3131, 3185, 3202 and 
3205 and House bills numbered 6130, 6238, 6264, 6279, 6284, 6330, 6334, 
6341, 6346, 6349, 6372, 6377, and 6406.
---------------------------------------------------------------------------
    H.R. 6264 makes it unlawful to enter into a transaction in an 
energy commodity&\3\ in reliance on the 2(h) exemption or the 2(g) 
exclusion, unless the party entering into the transaction certifies 
that it has the capacity to take physical delivery of the energy 
commodity. H.R. 6330 requires that ``included energy transactions,'' 
which are transactions in energy commodities for future delivery that 
provide for a delivery point of the energy commodity in the U.S., be 
conducted on a designated contract market (DCM) or derivative 
transaction execution facility (DTEF); ``bilateral included energy 
transactions'' are subject to record-keeping and reporting 
requirements. The legislation would also curtail the CFTC's ability to 
use its exemptive authority with respect to included energy 
transactions. Separately, H.R. 6330 would expand the authority of the 
Federal Energy Regulatory Commission to issue cease-and-desist orders 
under the National Gas Act and the Federal Power Act; given the 
continued jurisdictional uncertainty regarding the division of CFTC and 
FERC authority one can envision a future in which market participants 
are uncertain as to which orders from which regulator they must seek to 
comply. H.R. 6341 would require all energy derivatives to be conducted 
on a registered futures exchange by removing energy transactions from 
the protections of the 2(h) exemption and the 2(g) exclusion. H.R. 6372 
would remove energy commodities from the 2(g) exclusion and impose 
position and transaction requirements on energy swaps.
---------------------------------------------------------------------------
    \3\&The proposed bills vary slightly in their definitions, but in 
general an energy commodity may include coal, crude oil, gasoline, 
diesel fuel, heating oil, propane, electricity, natural gas, any fuel 
derived from oil, any transportation fuel, uranium, and any other 
commodity as determined by the CFTC.
---------------------------------------------------------------------------
    These proposals are not new. Since passage of the CFMA bills have 
regularly been introduced that would amend the protections for 
bilateral, privately negotiated swap agreements contained in the law. 
The above proposals were considered and rejected by Congress earlier 
this year when it adopted the new oversight provisions contained in the 
farm bill. Nothing that has happened in the last 2 months should 
fundamentally alter the carefully considered judgment of this Committee 
and Congress. Suffice it to say that the same rationale which led 
Congress to reject calls to restrict the ability of American companies 
to manage their very real risk of rising energy prices just 2 months 
ago hold even more true today. The protections of 2(g) and 2(h) allow 
parties to privately negotiate custom tailored risk management 
contracts. The above proposals, which seek to remove American 
companies' ability to do so, remain misdirected and potentially 
harmful.
    Another area of interest to participants in the OTC derivatives 
markets are proposals to require separate disclosure or disaggregation 
of trading by index traders and ``swap dealers''. In considering such 
proposals it is important to remember that one of the benefits provided 
by regulated exchanges is the anonymity they provide to traders; 
futures markets reveal the prices market participants pay, not their 
motivations in making trades. Measures which seek to remove that 
anonymity could make traders seek markets which protect their ability 
to not reveal their motivations or individual market positions. 
Policymakers should carefully balance the legitimate desire of market 
participants to keep their market strategies and identities 
undisclosed. In any new reporting regime it should be ensured that no 
disclosure is required which would put any class of market participant 
at a disadvantage, including creating opportunities for other market 
participants to ``front-run''.
    One additional area of particular concern are proposals such as 
those in H.R. 6330 to restrict or otherwise limit swap dealers and 
other intermediaries access to the futures markets to hedge their 
exposures to their counterparties. As already described, dealers and 
intermediaries provide valuable hedging, risk management and customized 
product offerings to their counterparties. A key part of these 
undertakings is the ability of these dealers and intermediaries to 
access the futures markets to lay off their exposures either on a case-
by-case or on a portfolio basis. Without ready access to futures 
markets for hedging, these services would be more expensive and less 
efficient. At the same time, the futures markets would miss the 
important liquidity and pricing information these transactions provide. 
Forcing dealers and intermediaries to use non-U.S. markets or to create 
a network of bilateral hedging locations ill serves the dealers, their 
counterparties or the U.S. futures markets.
Competitive Considerations
    As noted previously, the OTC derivatives markets are global in 
scope. Throughout the world governments have come to appreciate the 
value a dynamic financial services industry provides to local 
companies, as well as the significant benefits they provide to the 
national economy. National governments throughout Europe and Asia are 
actively competing to attract business and become financial centers. 
Recent regulatory overhauls in the UK, the European Community, Japan 
and South Korea all were guided in part by the desire to attract 
international financial services while at the same time bolstering 
local markets.
    The U.S. has long been a world leader in financial services. 
Currently the financial services industry provides one in every 20 jobs 
in the U.S. while producing 8% of America's gross domestic product. The 
financial services sector is also a source of high tech innovation and 
a leading producer of ``new economy,'' knowledge-based jobs. A leading 
example is the Atlanta-based IntercontinentalExchange (ICE), which 
started in 2000 and now comprises one of the world's leading 
derivatives markets. ICE operates both OTC and regulated futures 
exchanges, and purchased the London-based International Petroleum 
Exchange to extend its presence into Europe. From its beginnings as a 
start-up company ICE is now a member of the S&P 500 and an employer of 
hundreds of Americans. Without the changes in U.S. law created by the 
CFMA it is fair to say that ICE would not have achieved such tremendous 
success.
    During discussion of the farm bill this Committee in particular was 
sensitive to issues of U.S. competitiveness and the desire to ensure 
America's position as a world-leading financial center was not harmed 
by inappropriate or unnecessary changes to U.S. law. The competitive 
threats to the U.S. have not disappeared since those deliberations. 
Although some nations have moved to restrict derivatives markets in 
response to rising commodity prices most of the U.S.'s immediate 
competitors have adopted a wait-and-see approach. In the European Union 
the European Commission has issued a white paper seeking to explore the 
causes of rising prices that has stopped well short of formal proposals 
to fundamentally alter the regulation of derivatives markets.\4\ In the 
UK the Treasury Committee of the House of Commons also plans to 
investigate recent increases in commodity prices. It is worth noting 
that in the U.S. the CFTC has began a comprehensive inquiry into rising 
commodity prices; whatever information the Commission receives will no 
doubt prove useful in considering public policy choices.
---------------------------------------------------------------------------
    \4\&See for example European Commission, Communication on Rising 
Food Prices, (May 20, 2008). The Commission continues its deliberations 
under the Markets in Financial Instruments Directive regarding the 
application of that law to various types of commodity businesses.
---------------------------------------------------------------------------
    Given the global nature of the OTC derivatives markets and the 
financial services industry in general, there is no question that the 
imposition of overly restrictive regulatory requirements will lead to 
the reallocation of financial services business from the U.S. to more 
friendly jurisdictions. As damaging as these prospects might be to the 
U.S. economy an even greater danger lies in the possibility that assets 
will be priced in currencies other than U.S. dollars.
    For example, currently the world price of crude is set in U.S. 
dollars, a currency which America obviously owns a monopoly in 
producing. There are many reasons the world prefers to price crude in 
dollars, including a favorable investment climate in the U.S.; the 
historic strength of the dollar relative to other currencies; the 
widespread confidence the world has in the continued vitality of the 
U.S. economy; and ultimately the faith market participants have that 
the U.S. will honor its obligations. One particularly important reason 
to price crude (and other assets) in U.S. dollars is the existence in 
the U.S. of liquid, efficient markets for pricing assets. Without this 
mechanism for establishing prices there would be inefficiencies in the 
markets that would cause problems for producers, refiners, consumers 
and financial market participants alike.
    Measures which would impair the ability of U.S. markets to price 
assets and attract investors would likewise remove a significant 
incentive for the rest of the world to use dollars as the preferred 
pricing currency. Such measures would need not include an outright ban 
on derivatives (though it is worth noting that such a ban is not 
without historical precedent);&\5\ measures which remove or limit 
certain market participants could likewise remove liquidity and harm 
the efficient functioning of the markets, thus forcing more market 
participants out, creating a downward spiral. It goes without saying 
that the pricing of assets in currencies other than U.S. dollars runs 
contrary to America's national interest.
---------------------------------------------------------------------------
    \5\&In 1958 Congress adopted an outright prohibition on the trading 
of onion futures in the United States, a ban which remains to this day. 
As noted above (ante fn. 1), onion prices have risen 300% as of April 
of this year. Fortune magazine recently ran an article quoting Bob 
Debruyn, a Michigan onion farmer whose father had worked hard to create 
the original onion-futures ban: ``I would think that a futures market 
for onions would make some sense today, even though my father was very 
much involved in getting rid of it.'' What Onions Teach Us About Oil 
Prices, Jon Birger, Fortune June 2008.
---------------------------------------------------------------------------
Conclusion
    Over the last year Congress and this Committee have carefully 
deliberated over the question as to what level of oversight is 
appropriate for OTC energy markets. After multiple hearings and 
considering the views of market participants, end-users, consumer 
advocates and regulators, Congress less than 2 months ago passed broad 
changes to the law which carefully balanced the needs of these groups 
as well as concerns about the continued attractiveness of the U.S. as a 
world financial center. These changes, which are still being 
implemented, should be given time to work. Furthermore, Congress should 
provide increased funding to the CFTC to ensure that the Commission has 
the resources necessary to execute upon its new authority and the 
numerous regulatory initiatives the Commission has recently announced.
    As noted above, increasing regulation on over-the-counter 
derivatives will not lower the price of energy or other commodities. 
However, doing so will create incentives for relocating markets to 
outside of the U.S., remove tools for producers and commercial users to 
manage their risks, and harm the U.S. economy. This Committee has 
historically been very sensitive to these dangers. ISDA thanks the 
Committee for your careful examination of these issues, and your 
continued leadership.

    The Chairman. Thank you very much. And I am sure there will 
be plenty of questions when we get to that point.
    We now will hear from Mr. Vice from ICE.

       STATEMENT OF CHARLES A. VICE, PRESIDENT AND COO, 
          IntercontinentalExchange, INC., ATLANTA, GA

    Mr. Vice. Thank you, Mr. Chairman. I am Chuck Vice, 
President of ICE. I appreciate the opportunity to appear before 
you today to give our views.
    As brief background, ICE operates several global 
marketplaces and futures and OTC derivatives across the range 
of product classes including agriculture and energy 
commodities, foreign exchange and equity indexes. The ICE 
holding company globally operates one OTC energy market and 
owns three futures exchanges in the U.S., U.K. and Canada; each 
was separately acquired over the last 7 years.
    In hearing after hearing over the last few months, self-
styled experts have offered personal, largely impromptu 
estimates of the contribution of speculation to the price of a 
barrel of crude oil. Many of these witnesses estimated $50 or 
$60 or more per barrel. Claims were made that additional 
regulation would immediately reduce oil prices by these 
amounts. None of these estimates, to my knowledge, were based 
upon or referenced any objectively published research backing 
such claims.
    In one of the more egregious examples, Professor Michael 
Greenberger, a fellow witness on this panel, testified before 
the Senate Commerce Committee in June that prohibiting trading 
on electronic OTC oil markets would bring down the price of 
crude oil by 25 percent overnight. Despite the fact that there 
is little to no electronic trading of OTC crude oil in the 
U.S.; this and 28 other statements by Professor Greenberger 
caused the U.S. Permanent Subcommittee on Investigations to 
find his testimony so inaccurate and inflammatory that it felt 
compelled to issue a joint analysis prepared by both Majority 
and Minority staffs rebuking 29 statements.
    In contrast to this rhetoric, thorough independent analyses 
of crude oil prices have been published by agencies such as the 
CFTC and the International Energy Administration. Neither found 
evidence pointing to excessive speculation or manipulation as 
the cause of high crude oil prices. Instead, the CFTC noted 
that long positions held by those often accused of excessive 
speculative buying, including noncommercials and swaps dealers, 
were actually flat to lower during the recent 12 month period 
in which the price of crude oil doubled. The recent IEA report 
concluded that there was little evidence that investment flows 
into futures markets were contributing to high oil prices, but 
rather the market was projecting that global demand would 
continue to outstrip global supply.
    With no quick answers to supply and demand problems, focus 
has shifted to closing perceived regulatory loopholes. First 
there was the Enron loophole, which was, in fact, closed for 
all energy commodities including crude oil in the recently 
enacted farm bill legislation. Prompted by natural gas trading 
on electronic OTC platforms like ICE, Congress now requires 
that any electronically OTC energy swap that serves a 
significant price discovery function be regulated like a 
future. ICE's substantial obligations in this regard include, 
among other things, requirements to monitor trading, prevent 
manipulation, and enforce position or accountability limits, 
including the liquidation of open positions and suspension of 
trading.
    The largest natural gas and electric power OTC markets on 
the ICE platform account for roughly 90 percent of our total 
electronic OTC volume. These key contracts are expected to be 
deemed significant price discovery contracts by the CFTC under 
the new law. We believe Congress and in particular this 
Committee showed great understanding in passing legislation 
that appropriately applied futures-style regulation on the 
small number of large OTC contracts and not the hundreds of 
illiquid OTC markets that constitute the last ten percent.
    Now there is a renewed cry to reclose the already closed 
Enron loophole in an effort to lower crude oil prices. 
Ironically, with virtually no OTC trading in U.S. crude oil 
occurring on ICE or any other electronic OTC platform, it would 
be as impossible for this loophole to cause high crude oil 
prices as it would be for increased regulation of the same to 
lower them. The truth is that OTC trading of U.S. crude oil and 
refined products remains the exclusive domain of voice brokers 
and direct negotiation where ICE has no role.
    A second loophole called the London loophole has been a 
more recent target for increased regulation. This debate 
focuses on ICE's wholly owned subsidiary, ICE Futures Europe. 
Founded in London 27 years ago as the International Petroleum 
Exchange and acquired by ICE in 2001, this market is a 
regulated exchange under the supervision of the U.K. Financial 
Services Authority, or FSA.
    As the home of the ICE Brent crude and gasoil futures 
contracts, ICE Futures Europe has since its inception been the 
leading energy futures exchange in Europe. To complement its 
Brent crude contract, the exchange, in 2006, added a future 
that settles on the settlement price of the NYMEX WTI crude oil 
contract. Offering Brent and WTI contracts on the same platform 
allows commercial participants to hedge price differences 
between these two. NYMEX has since listed a Brent crude oil 
contract settling on the ICE Brent settlement price for the 
very same reason.
    ICE Futures Europe provides access to traders in the U.S. 
as a foreign board of trade operating under a CFTC No Action 
letter issued in 1999 and amended several times since. In 
granting a No Action letter, the CFTC examines the foreign 
board of trade status in its home jurisdiction, and its rules 
and enforcement. Since Congress created this framework in 1982, 
the CFTC has granted no action relief to at least 20 foreign 
boards of trade. Other countries have reciprocal policies in 
place upon which U.S. exchanges like the CME, NYMEX and ICE 
Futures U.S. rely to offer access to their markets in over 50 
jurisdictions around the world. Disregard for this mutual 
recognition system would impair the competitiveness of U.S. 
exchanges abroad and represent a major step back for global 
cooperation.
    Consistent with this framework, ICE Futures Europe has 
shared WTI trader positions with the CFTC since the contract's 
launch. On June 17, the CFTC closed the so-called London 
loophole by modifying our No Action letter to require U.S. 
equivalent position limits and accountability levels as a 
reasoned condition for continued access to the ICE WTI contract 
by U.S. traders.
    Though politically popular, closure of this loophole is 
unlikely to have any effect on crude oil prices. Most of the 
recent growth in trading of WTI crude oil has been on the 
NYMEX, not the ICE market. As a result, ICE has a relatively 
small 15 percent share of total WTI open interests, while NYMEX 
retains the remaining 85 percent. Such a small and, in fact, 
declining market share hardly seems evidence of a meaningful 
loophole.
    In closing, we note that prices for virtually all 
agricultural and natural resource future contracts, as well as 
non-exchange-traded commodities such as iron ore and rice have 
surged at rates similar to crude oil and in some cases even 
more sharply and with greater volatility. Since none of these 
other commodities are known to feature electronic OTC platforms 
or foreign boards of trade offering cash-settled versions of 
U.S. contracts, it would seem that other more fundamental 
factors are to blame for all of these high commodity prices. 
Regardless, we look forward to working with Congress and the 
CFTC to ensure that all possible solutions to this crisis are 
explored.
    Mr. Chairman, thank you for the opportunity.
    [The prepared statement of Mr. Vice follows:]

       Prepared Statement of Charles A. Vice, President and COO, 
              IntercontinentalExchange, Inc., Atlanta, GA
    Chairman Peterson, Ranking Member Goodlatte, I am Chuck Vice, 
President and Chief Operating Officer of the IntercontinentalExchange, 
Inc., or ``ICE.'' We very much appreciate the opportunity to appear 
before you today to give our views on the over-the-counter (OTC) energy 
markets
Background
    ICE is a leading operator of global marketplaces with three 
regulated futures exchanges and an OTC marketplace offering a wide 
variety of contracts. As background, ICE was established in 2000 as an 
electronic OTC platform to serve the energy markets. ICE was 
established to bring transparency to OTC markets that were traded at 
that time through opaque OTC voice brokers or through the flawed ``one-
to-many'' Enron On-Line trading model. In the Enron model, Enron served 
as both the marketplace for trading and the counterparty to every trade 
occurring in the market. In stark contrast, ICE sought to develop a 
neutral ``many to many'' marketplace, in which we, the operator, take 
no position in the market while enforcing strict best bid/best offer 
trading protocols. Trading volume on ICE's OTC markets is almost solely 
related to contracts for natural gas and power. Our electronic OTC 
platform has a 0% share of trading in U.S. crude oil, heating oil, jet 
fuel, and gasoline. ICE's electronic OTC markets have provided cost 
savings and efficiencies to participants while delivering an 
unprecedented level of OTC market transparency to both the Commodity 
Futures Trading Commission (CFTC) and the Federal Energy Regulatory 
Commission (FERC).
    Since the launch of its electronic OTC energy marketplace in 2000, 
ICE has acquired and now operates three regulated futures exchanges 
through three separate subsidiaries, each with a separate governance 
and regulatory infrastructure. The International Petroleum Exchange 
(renamed ICE Futures Europe), was a 20 year old exchange specializing 
in energy futures when acquired by ICE in 2001. Located in London, it 
is a Recognized Investment Exchange, or RIE, operating under the 
supervision of the UK Financial Services Authority (FSA). In early 
2007, ICE acquired the 137 year old ``The Board of Trade of the City of 
New York'' (renamed ICE Futures U.S.), a CFTC-regulated Designated 
Contract Market (DCM) headquartered in New York specializing in 
agricultural, foreign exchange, and equity index futures. In late 2007, 
ICE acquired the Winnipeg Commodity Exchange (renamed ICE Futures 
Canada), a 120 year old exchange specializing in agricultural futures, 
regulated by the Manitoba Securities Commission, and headquartered in 
Winnipeg, Manitoba.
ICE Operates a Transparent OTC Marketplace
    Over-the-counter markets ranging from U.S. interest rate 
instruments to foreign exchange and debt securities are increasingly 
global and have migrated to electronic platforms due to their vast size 
and global nature As I mentioned, in 2000 ICE developed an electronic, 
many-to-many electronic marketplace for trading both physical energy 
commodities and financially-settled over-the-counter derivatives based 
on energy commodities. ICE in effect performs the same functions as 
``voice brokers'' in the OTC market, but does so through a transparent 
electronic trading platform with strict trading protocols. Voice 
brokers offer limited transparency and tend to transact with only the 
largest trading firms, and continue to serve as the primary venue for 
OTC oil trading today. ICE's OTC model, though not active in U.S. crude 
oil, provides equal access to high quality information to all market 
participants, whether the smallest utility or the largest investment 
bank, primarily for natural gas and power. ICE's marketplace offers 
faster and more efficient trade execution while providing regulators 
with a comprehensive audit trail with respect to orders entered and 
transactions executed in the markets, none of which is available from 
voice brokers.
    The development of ICE's OTC marketplace has also promoted 
competition and innovation in the energy derivatives market, to the 
benefit of both market participants and consumers. The increased 
liquidity offered by electronic trading has resulted in lower 
transaction costs and tighter bid/ask spreads, reducing the cost of 
hedging energy price risk and lowering operating costs for businesses. 
The reliability of ICE's markets has also resulted in an increasing 
preference for electronic trading in these markets. NYMEX, in its 
recent testimony before the Senate Permanent Subcommittee on 
Investigations (the ``Senate PSI''), noted that 80&85% of its futures 
volume is now traded electronically, a development driven largely by 
competition from ICE. The CFTC also pointed out, in its Senate PSI 
testimony, that ``the ability to manipulate prices on either [NYMEX or 
ICE] has likely been reduced, given that ICE has broadened 
participation in contracts for natural gas.''
    Like other electronic marketplaces, participants on ICE enter bids 
and offers electronically. Transactions are matched in accordance with 
an algorithm that executes transactions on the basis of time and price 
priority. Participants executing a transaction on our platform may 
settle the transaction in one of two ways--on a bilateral basis, 
settling the transaction directly between the two counterparties to the 
trade, or on a cleared basis through a clearinghouse using the services 
of a futures commission merchant that is a member of the clearinghouse.
    It is important to note that there are substantial differences 
between ICE's OTC market, other portions of the OTC market, and the 
NYMEX futures market. These differences necessarily inform and guide 
the appropriate level of oversight and regulation of our markets. 
First, ICE is only one of many global venues on which market 
participants can execute OTC trades. A significant portion of OTC 
trading in natural gas continues to be executed through voice brokers 
or through direct bilateral negotiation between market counterparties. 
Of the available forums, only ICE (and any other similarly-situated 
ECM) is subject to CFTC jurisdiction and the CFTC's regulations, and to 
limitations on the nature of its participants.
    Second, participants in a given futures market must become members 
of the relevant exchange or trade through a futures commission merchant 
that is a member. In contrast, ICE's OTC market, by law, is a 
``principals only'' market in which participants must execute trades in 
their own names on the system. This market is designed solely for 
sophisticated participants, and participation in ICE OTC markets, 
unlike most other OTC venues is fully documented.
    Third, the OTC market offers a substantially wider range of 
products than the futures markets, including, for example, hundreds of 
niche derivative contracts on natural gas and power at over 100 
different delivery points in North America. The availability of these 
niche markets on ICE has improved transparency and lowered transaction 
costs via tighter bid-ask spreads, but volume nonetheless remains very 
low at most points. The market reality, for most of these illiquid 
points, is that participation is limited to the very small number of 
marketers, utilities, and others that have some intrinsic supply or 
demand interest in specific delivery points. Below is a chart&\1\ that 
compares the relative size of NYMEX traded futures contracts and ICE's 
largest electronic OTC energy markets.
---------------------------------------------------------------------------
    \1\&From the testimony of Jeffrey Sprecher, 
IntercontinentalExchange, Inc. CEO before the U.S. Senate Permanent 
Subcommittee on Investigations, June 25, 2007. 


Greater Oversight Over Exempt Commercial Markets (ECMs)
    As the OTC markets have grown and developed since passage of the 
Commodity Futures Modernization Act, new regulatory challenges have 
emerged. In May, as part of the farm bill, Congress, with strong 
bipartisan support, passed legislation providing the CFTC with greater 
oversight of electronic OTC markets, or ECMs. As a result of that new 
law, ECMs are now obligated to apply market oversight principles 
equivalent to those employed by fully regulated futures exchanges for 
larger OTC contracts that, like futures contracts, serve a significant 
price discovery function.\2\
---------------------------------------------------------------------------
    \2\&This provision of the farm bill is commonly referred to as the 
``Closing the Enron Loophole Act.''
---------------------------------------------------------------------------
    As part of its new authority, the CFTC will determine whether 
contracts traded on ECMs serve a significant price discovery function, 
which broadly includes contracts that are linked to a futures 
exchange's contracts or which have independently been adopted by the 
marketplace as a price reference for the underlying energy commodity.
    If the CFTC determines that an ICE contract serves a significant 
price discovery function, ICE will thereafter have self-regulatory 
responsibilities with respect to such contract similar to those of a 
DCM, or futures exchange. As a self regulatory organization, ICE will 
be required to discharge seven core principles, which cover all of the 
core principles discharged by futures markets other than those 
applicable to brokers and intermediated trades, which by law cannot 
occur in an ECM's markets. Specifically, the core principles state that 
the ECM shall:

   List only significant price discovery contracts that are not 
        readily susceptible to market manipulation;

   Monitor trading in its significant price discovery contracts 
        to prevent market manipulation;

   Establish and enforce rules have the ability to obtain 
        information to comply with the core principles;

   Adopt position limits or accountability limits;

   Adopt rules to give it the authority to liquidate open 
        positions and suspend trading in significant price discovery 
        contracts;

   Monitor and enforce compliance with its rules; and

   Establish and enforce rules to minimize conflicts of 
        interest.

    Importantly, as I will explain further, the legislation provides 
equivalent regulation for ``futures like'' OTC contracts, while 
avoiding unintended the consequence of driving trading in illiquid OTC 
contracts to the opaque, voice brokered parts of the OTC market. The 
CFTC has virtually no visibility into these OTC markets because they 
are not traded on an electronic platform like ICE.
One Size of Regulation Does Not Fit All Markets or Contracts
    Even though Congress has increased the oversight and regulation of 
ECMs, some have argued that all contracts should be traded on a 
designated contract market. The problem with ``one size fits all'' 
regulation can best be illustrated by contrasting the historic nature 
of futures markets (limited number of actively traded benchmark 
contracts, all transactions executed through a broker who can trade for 
its own account or that of a retail customer) with the ECM OTC swaps 
markets (large number of niche products, many illiquid and thinly 
traded, principals only trading). Recognizing the importance of futures 
pricing benchmarks to the general public (a DCM is obligated to publish 
its prices to be used by the broader market), and in recognition of the 
potential for conflicts of interest due to members trading for their 
own accounts alongside business transacted on behalf of customers, some 
of whom were retail customers, DCM core principles were developed to 
facilitate regulation of the markets by the DCM, which acted as a self 
regulatory organization. The typical high level of liquidity in 
benchmark contracts make application of core principles such as market 
monitoring and position accountability and limits feasible and 
appropriate.
    Suggesting that these same DCM core principles, which were 
developed with the futures exchange model in mind, should apply to all 
OTC swap contracts traded on an ECM market is attempting to fit the 
proverbial square peg in a round hole. Most of the energy swaps 
available on ICE are niche OTC products that trade in illiquid markets 
that are simply not amenable to the application of DCM core principles. 
For example, does it make sense to publish a real-time price feed for a 
market in which real-time bids and offers are rare and days pass 
between trades? Also, how would an ECM actively monitor an illiquid 
swaps market in an attempt to ``prevent manipulation'' where there may 
be few or no trades due to the limited liquidity in the market? How 
would an ECM swaps market administer accountability limits in a market 
that has only a handful of market participants? Should the ECM question 
when a single market participant holds 50% of the liquidity in an 
illiquid market when the market participant is one of the only 
providers of liquidity in the market?
    It is important to analyze these questions not in isolation, but in 
the context of market participants having alternatives such as OTC 
voice brokers or overseas markets through which they can conduct their 
business. Importantly, such OTC voice brokers can even offer their 
customers the benefits of clearing through use of block clearing 
facilities offered by NYMEX and by ICE. Faced with constant inquiries 
or regular reporting by the ECM related to legitimate market activity, 
and facing no such monitoring when it transacts through a voice broker, 
market participants might choose to conduct their business where 
transparency and reporting requirements are non-existent. It is for 
these and other reasons that Congress and the Commission have developed 
the carefully calibrated three-tiered regulatory structure applicable 
to DCMs and ECMs. We believe that the judgments made by Congress and 
the CFTC thus far have been prudent and should be maintained.
Conclusion
    In conclusion, ICE remains a strong proponent of open and 
competitive OTC markets and of appropriate regulatory oversight of 
those markets. The recently passed farm bill places a significantly 
higher level of regulation on electronic OTC energy platforms. In doing 
so, Congress appropriately recognized the importance of focusing on the 
relatively small number of larger OTC contracts that perform a 
significant price discovery function, rather than the hundreds or even 
thousands of OTC contracts that are rarely traded.
    ICE recognizes the severe impact of high crude oil prices on the 
U.S. economy and understands the Congressional desire to ``leave no 
stone unturned.'' However, since our electronic OTC platform has a 0% 
share of trading in U.S. crude oil, heating oil, jet fuel, and 
gasoline, further regulation or even elimination of electronic OTC 
markets by Congress is certain to have no effect on oil prices. Such 
moves would, unfortunately, though, ensure that OTC oil trading 
continues to be executed by brokers over the telephone in a manner 
completely opaque to the marketplace and regulators.
    Mr. Chairman, thank you for the opportunity to share our views. I 
would be happy to answer any questions you may have.

    The Chairman. Thank you very much for making time to be 
with us.
    Mr. Comstock.

 STATEMENT OF MICHAEL COMSTOCK, ACTING DIRECTOR, CITY OF MESA, 
ARIZONA GAS SYSTEM; VICE CHAIRMAN, BOARD OF DIRECTORS, AMERICAN 
                           PUBLIC GAS
                     ASSOCIATION, MESA, AZ

    Mr. Comstock. Chairman Peterson, Ranking Member Goodlatte 
and Members of the Committee, I appreciate this opportunity to 
testify before you today, and I thank the Committee for calling 
this hearing on the important subject of trading in the over-
the-counter market.
    My name is Michael Comstock, and I am the acting Director 
for the City of Mesa, Arizona, Gas System, a not-for-profit 
municipal utility. I also serve as the Vice Chair of the Board 
of Directors for the American Public Gas Association.
    The City of Mesa provides natural gas, electric, water and 
wastewater service to its residents. We have provided gas 
service to our customers for over 90 years, and we currently 
serve approximately 53,000 homes and businesses.
    I testify today on behalf of the American Public Gas 
Association. APGA is the national association for publicly 
owned not-for-profit natural gas retail distribution systems. 
There are approximately 1,000 public gas systems in 36 states, 
and over 700 of these systems are APGA members. Every Member of 
the Committee, with the exception of Congressman Walberg of 
Michigan, has public gas systems in their state.
    There has understandably been a great deal of attention 
focused on the high price of gasoline during the summer driving 
season. APGA believes it is equally important to focus on the 
price of natural gas in advance of the winter heating season. 
This December, when natural gas customers open their heating 
bills, the commodity cost is expected to have doubled from last 
December. We, along with other consumer groups, have watched 
with alarm over the last several years certain pricing 
anomalies in the markets for natural gas. More recently we have 
noted record run-ups in the price of natural gas. If gasoline 
prices increased at the same rate as natural gas prices have 
increased over the last 10 years, drivers would now be paying 
more than $6.50 per gallon.
    APGA's number one priority is the safe and reliable 
delivery of affordable natural gas. To bring natural gas prices 
to a long-term affordable level, we ultimately need to increase 
the supply of natural gas; however, equally critical is to 
restore public confidence in the price of natural gas. This 
requires a level of transparency in natural gas markets which 
assures consumers that market prices are a result of 
fundamental supply and demand forces and not the result of 
manipulation, excessive speculative trading or other certain 
types of index trading strategies.
    APGA would like to commend the Committee for its work on 
the recently enacted farm bill and for including the language 
to increase market transparency. Title VIII of the farm bill 
reauthorizes the Commodity Futures Trading Commission and 
includes language to increase the regulatory reporting and 
self-regulatory provisions relating to the unregulated energy 
trading platforms.
    This language is a positive first step, but we also believe 
more needs to be done to increase transparency. For example, 
the over-the-counter market currently remains opaque to 
regulatory scrutiny. This lack of transparency is in a very 
large and rapidly growing segment of the natural gas market. It 
leaves open the potential for a participant to engage in 
manipulative or other abusive trading strategies with little 
risk of early detection and for problems of potential market 
congestion to go undetected by the CFTC until after the damage 
has been done to the market.
    Equally significant, even where the trading is not intended 
to be abusive, the lack of transparency for the overall energy 
market leaves regulators unable to answer questions regarding 
large speculators' possible impacts on the market.
    It is APGA's position that additional transparency measures 
with respect to the transactions in the OTC markets are needed 
to enable CFTC to assemble a full picture of the trader's 
position and thereby understand the large trader's potential on 
the market. Additional transparency will also enable the CFTC 
to better detect and deter other types of market abuses. 
Including, for example, a company providing false price 
reporting information or a company engaging in watch trading by 
taking large offsetting positions with the intent to send 
misleading signals of supply and demand to the market. Such 
activities are more likely to be detected or deterred when the 
government is receiving information with respect to a large 
trader's overall positions including their bilateral OTC 
transaction. It would also enable the CFTC to better understand 
the overall size and speculative positions in the market as 
well as the impact of certain speculative investor practices or 
strategies on prices.
    APGA commends this Committee for its focus on the possible 
impact the speculative investment has on the price of natural 
gas and other commodities. With energy prices at their current 
high levels, consumers certainly should not be forced to pay 
speculative premiums. To the extent that speculative investment 
may be increasing the price of natural gas or causing price 
aberrations; we strongly encourage Congress to take quick 
actions to expand market transparency in order to be able to 
responsibly address this issue and protect consumers from 
additional cost burdens.
    Ultimately, in order to bring natural gas prices back to a 
long-term affordable level, our energy policy must ensure that 
supply is adequate to meet demand. This will require that 
supply and demand for natural gas be unfettered by regulation. 
Yet current statutory and regulatory policy, first, prohibit 
the assessment of offshore reserves; second, restrict and limit 
access to production in known area reserves; and third, 
encourage the use of natural gas for new electric generation. 
It makes no sense to encourage greater use of natural gas on 
one hand while at the same time to impede the acquisition of 
data that could point to areas of abundant new resources and to 
obstruct production in areas of rich supplies. In light of 
these facts, it is a wonder that speculators find these markets 
attractive.
    In addition to increasing transparency, APGA fully supports 
immediate increased funding for the CFTC. We believe that CFTC 
plays a pivotal role in protecting the American consumers; 
however, its funding and staffing levels have not kept pace 
with the complexity or scope of its job. We believe that this 
needs to be addressed by Congress.
    Natural gas is the lifeblood of our economy, and millions 
of consumers depend on natural gas every day to meet their 
daily needs. It is critical that the price that those consumers 
are paying for natural gas comes through the operation of fair 
and orderly markets, through appropriate market mechanisms that 
establish a fair and transparent marketplace.
    APGA looks forward to working with the Committee to 
determine whether further enhancements are necessary to restore 
consumer confidence in the integrity of the markets price 
discovery mechanism.
    Thank you, Mr. Chairman.
    [The prepared statement of Mr. Comstock follows:]

Prepared Statement of Michael Comstock, Acting Director, City of Mesa, 
Arizona Gas System; Vice Chairman, Board of Directors, American Public 
                       Gas Association, Mesa, AZ
    Chairman Peterson, Ranking Member Goodlatte and Members of the 
Committee, I appreciate this opportunity to testify before you today 
and I thank the Committee for calling this hearing on the important 
subject of trading in the over-the-counter (OTC) market. My name is 
name is Michael Comstock and I am the Acting Director for the City of 
Mesa, Arizona Gas System. I also serve as Vice Chair of the Board of 
Directors for the American Public Gas Association (APGA).
    The City of Mesa provides natural gas, electric, water and 
wastewater service to its residents. We have provided gas service to 
our customers for over 90 years and we currently serve approximately 
53,000 homes and businesses throughout Mesa and portions of Pinal 
County. Strong growth in the region has made Mesa one of the fastest-
growing and respected municipal gas utilities in the United States.
    I testify today on behalf of the APGA. APGA is the national 
association for publicly-owned natural gas distribution systems. There 
are approximately 1,000 public gas systems in 36 states and over 700 of 
these systems are APGA members. Publicly-owned gas systems are not-for-
profit, retail distribution entities owned by, and accountable to, the 
citizens they serve. They include municipal gas distribution systems, 
public utility districts, county districts, and other public agencies 
that have natural gas distribution facilities. Every Member of the 
Committee, with the exception of Congressman Walberg of Michigan, has 
public gas systems in their state.
    APGA's number one priority is the safe and reliable delivery of 
affordable natural gas. To bring natural gas prices back to a long-term 
affordable level, we ultimately need to increase the supply of natural 
gas. However, equally critical is to restore public confidence in the 
pricing of natural gas. This requires a level of transparency in 
natural gas markets which assures consumers that market prices are a 
result of fundamental supply and demand forces and not the result of 
manipulation, other abusive market conduct or excessive speculation.
    We, along with other consumer groups, have watched with alarm over 
the last several years certain pricing anomalies in the markets for 
natural gas. More recently, we have noted a run-up in the price of 
energy and other physical commodities. APGA has strongly supported an 
increase in the level of transparency with respect to trading activity 
in these markets from that which currently exists. We believe that 
additional steps are needed in order to restore our current lack of 
confidence in the natural gas marketplace and to provide sufficient 
transparency to enable the CFTC, and market users, to form a reasoned 
response to the critically important questions that have been raised 
before this Committee during the course of these hearings.
    APGA believes that the increased regulatory, reporting and self-
regulatory provisions relating to the unregulated energy trading 
platforms contained in legislation that reauthorizes the Commodity 
Futures Trading Commission (``CFTC'') is a critically important step in 
addressing our concerns. Those provisions are contained in Title XIII 
of the farm bill which has become law. We commend this Committee for 
its work on the CFTC reauthorization bill. The market transparency 
language that was included in the farm bill will help shed light on 
whether market prices in significant price discovery energy contracts 
are responding to legitimate forces of supply and demand or to other, 
non-bona fide market forces. APGA believes that more can, and should, 
be done to further increase transparency of trading in the energy 
markets. Many of these steps would likely also be useful in better 
understanding the current pricing trends in the markets for other 
physical commodities as well.
    APGA believes that these additional steps, a number of which the 
CFTC has undertaken through administrative action, have the potential 
either directly to address the concerns APGA has raised with respect to 
lack of transparency in these markets, or to provide needed information 
so that a consensus can be reached on the additional statutory or 
regulatory steps, if any, that should be taken to responsibly and 
effectively address the questions that have been raised regarding the 
potentially adverse effects on these markets resulting from excessive 
speculative trading.
    Although the additional authorities which have been provided to the 
CFTC under Title XIII of the 2008 Farm Bill will provide the CFTC with 
significant additional tools to respond to the issues raised by this 
hearing (at least with respect to the energy markets), we nevertheless 
believe that it may be necessary for Congress to provide the CFTC with 
additional statutory authorities. We are doubtful that the initial 
steps taken by the reauthorization legislation are, or will be, 
sufficient to fully respond to the concerns that we have raised 
regarding the need for increased transparency. In this regard, we 
believe that additional transparency measures with respect to 
transactions in the over-the-counter markets are needed to enable the 
cop on the beat to assemble a full picture of a trader's position and 
thereby understand a large trader's potential impact on the market.
    We further believe, that in light of the critical importance of 
this issue to consumers, that this Committee should maintain active and 
vigilant oversight of the CFTC's market surveillance and enforcement 
efforts, that Congress should be prepared to take additional 
legislative action to further improve transparency with respect to 
trading in energy contracts and, should the case be made, to make 
additional amendments to the Commodity Exchange Act, 7 U.S.C. &1 et 
seq. (``Act''), to make changes in the administration of speculative 
position limits in order to ensure the integrity of the energy markets.
History of Regulation Under the Commodity Exchange Act
    Systemized trading in contracts for the future delivery of 
agricultural commodities developed in the United States in the mid to 
late 1800s from an economic need for risk shifting. Glaring abuses were 
attendant with the advantages of trading, these included price 
manipulations, market corners and extreme and sudden price fluctuations 
on the organized exchanges. These abuses stirred repeated demands for 
legislative action to prohibit or comprehensively regulate futures 
trading. Although the first regulation of the grain futures markets 
dates from the 1920's,\1\ the Commodity Exchange Act of 1936&\2\ was 
the first statute to comprehensively regulate the futures markets.
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    \1\&See, Grain Futures Act of 1922, Pub. L. No. 6&331, 42 Stat. 998 
(1922).
    \2\&Act of June 15, 1936, ch. 545 &5, 49 Stat 1494.
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    Section 3 of the Act as it existed before to the 2000 amendments 
explained the statute's purpose in relevant part as follows:

        Transactions in commodities involving the sale thereof for 
        future delivery as commonly conducted on boards of trade and 
        known as ``futures'' are affected with a national public 
        interest. Such futures transactions are carried on in large 
        volume by the public generally and by persons engaged in the 
        business of buying and selling commodities and the products and 
        byproducts thereof . . . The prices involved in such 
        transactions are generally quoted and disseminated through the 
        United States and in foreign countries as a basis for 
        determining the prices to the producer and the consumer . . . 
        The transactions and prices of commodities on such boards of 
        trade are susceptible to excessive speculation and can be 
        manipulated, controlled, cornered or squeezed, to the detriment 
        of the producer or the consumer . . .

    Section 4a(a) of the Act echoes the Congressional finding of former 
section 3, providing that, ``Excessive speculation in any commodity 
under contracts of sale of such commodity for future delivery made on 
or subject to the rules of contract mar
kets . . . causing sudden or unreasonable fluctuations or unwarranted 
changes in the price of such commodity, is an undue and unnecessary 
burden on interstate commerce in such commodity.'' 7 U.S.C. &6a.
    The CFTC in 1981 adopted a rule requiring all futures exchanges to 
impose speculative position limits for all commodities that were not 
subject to a Federal speculative position limit.\3\ In so doing, the 
Commission explained the danger that unchecked speculative positions 
can pose to the markets, saying:
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    \3\&The Commission subsequently modified this requirement, 
permitting contract markets to impose ``position accountability rules'' 
in lieu of speculative position limits for certain contracts, including 
the energy contracts.

        It appears that the capacity of any contract market to absorb 
        the establishment and liquidation of large speculative 
        positions in an orderly manner is related to the relative size 
        of such positions, i.e., the capacity of the market is not 
        unlimited. Recent events in the silver market would support a 
        finding that the capacity of a liquid futures market to absorb 
        large speculative positions is not unlimited, notwithstanding 
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        mitigating characteristics of the underlying cash market.

``Establishment of Speculative Position Limits,'' 46 Fed. Reg. 50938, 
509040 (October 16, 1981).

    The CFTC's conclusion in 1981 was that the ability of liquid 
markets to absorb excessively large speculative positions without 
suffering from artificial upward pressure on prices is not unlimited, 
and based on that reasoning, required exchanges to adopt speculative 
position limits for all contracts. That question, whether liquid 
markets have the ability to absorb excessively large speculative 
positions without suffering from artificial upward price pressure is 
the same question that is before this Committee today.
Speculators' Effect on the Natural Gas Market
    As hedgers that use both the regulated futures markets and the OTC 
energy markets, we value the role of speculators in the markets. We 
also value the different needs served by the regulated futures markets 
and the more tailored OTC markets. As hedgers, we depend upon liquid 
and deep markets in which to lay off our risk. Speculators are the 
grease that provides liquidity and depth to the markets.
    However, speculative trading strategies may not always have a 
benign effect on the markets. For example, the recent blow-up of 
Amaranth Advisors LLC and the impact it had upon prices exemplifies the 
impact that speculative trading interests can have on natural gas 
supply contracts for local distribution companies (``LDCs''). Amaranth 
Advisors LLC was a hedge fund based in Greenwich, Connecticut, with 
over $9.2 billion under management. Although Amaranth classified itself 
as a diversified multi-strategy fund, the majority of its market 
exposure and risk was held by a single Amaranth trader in the OTC 
derivatives market for natural gas.
    Amaranth reportedly accumulated excessively large long positions 
and complex spread strategies far into the future. Amaranth's 
speculative trading wagered that the relative relationship in the price 
of natural gas between summer and winter months would change as a 
result of shortages which might develop in the future and a limited 
amount of storage capacity. Because natural gas cannot be readily 
transported about the globe to offset local shortages, the way for 
example oil can be, the market for natural gas is particularly 
susceptible to localized supply and demand imbalances. Amaranth's 
strategy was reportedly based upon a presumption that hurricanes during 
the summer of 2006 would make natural gas more expensive in 2007, 
similar to the impact that Hurricanes Katrina and Rita had had on 
prices the previous year. As reported in the press, Amaranth held open 
positions to buy or sell tens of billions of dollars of natural gas.
    As the hurricane season proceeded with very little activity, the 
price of natural gas declined, and Amaranth lost approximately $6 
billion, most of it during a single week in September 2006. The 
unwinding of these excessively large positions and that of another 
previously failed $430 million hedge fund--MotherRock--further 
contributed to the extreme volatility in the price of natural gas. The 
Report by the Senate Permanent Committee on Investigations affirmed 
that ``Amaranth's massive trading distorted natural gas prices and 
increased price volatility.''&\4\
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    \4\&See ``Excessive Speculation in the Natural Gas Market,'' Report 
of the U.S. Senate Permanent Subcommittee on Investigations (June 25, 
2007) (``PSI Report'') at p. 119.
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    Many natural gas distributors locked-in prices prior to the period 
Amaranth collapsed at prices that were elevated due to the accumulation 
of Amaranth's positions. They did so because of their hedging 
procedures which require that they hedge part of their winter natural 
gas in the spring and summer. Accordingly, even though natural gas 
prices were high at that time, it would have been irresponsible (and 
contrary to their hedging policies) to not hedge a portion of their 
winter gas in the hope that prices would eventually drop. Thus, the 
elevated prices which were a result of the excess speculation in the 
market by Amaranth and others had a significant impact on the price 
these APGA members, and ultimately their customers, paid for natural 
gas. The lack of transparency with respect to this trading activity, 
much of which took place in the OTC markets, and the extreme price 
swings surrounding the collapse of Amaranth have caused bona fide 
hedgers to become reluctant to participate in the markets for fear of 
locking-in prices that may be artificial.
    Recently, additional concerns have been raised with respect to the 
size of positions related to, and the role of, passively managed long-
only index funds. In this instance, the concern is not whether the 
positions are being taken in order to intentionally drive the price 
higher, but rather whether the unintended effect of the cumulative size 
of these positions has been to push market prices higher than the 
fundamental supply and demand situation would justify.
    The additional concern has been raised that recent increased 
amounts of speculative investment in the futures markets generally have 
resulted in excessively large speculative positions being taken that 
due merely to their size, and not based on any intent of the traders, 
are putting upward pressure on prices. The argument made is that these 
additional inflows of speculative capital are creating greater demand 
then the market can absorb, thereby increasing buy-side pressure which 
results in advancing prices.
    Some have responded to these concerns by reasoning that new futures 
contracts are capable of being created without the limitation of having 
to have the commodity physically available for delivery. This explains 
why, although the open-interest of futures markets can exceed the size 
of the deliverable supply of the physical commodity underlying the 
contract, the price of the contract could nevertheless reflect the 
forces of supply and demand.
    APGA commends this Committee for its focus on the possible impact 
speculative investment has on the price of natural gas and other energy 
commodities and for asking these tough questions. With energy prices at 
their current high levels, consumers should not be forced to pay a 
``speculative premium.'' However, APGA is not in a position to 
determine which of the above two views is correct. More significantly 
and profoundly disturbing, because of limitations with respect to 
transparency of trading in these markets, the data and facts are 
unavailable that would enable market observers, including both the 
regulators and the public, to make a reasoned judgment about this 
issue.
    As we noted above, as hedgers we rely on speculative traders to 
provide liquidity and depth to the markets. Thus, we do not wish to see 
steps taken that would discourage speculators from participating in 
these markets using bona fide trading strategies. But more importantly, 
APGA's members rely upon the prices generated by the futures to 
accurately reflect the true value of natural gas. Accordingly, APGA 
would support additional regulatory controls, such as stronger 
speculative position limits, if a reasoned judgment can be made based 
on currently available, or additional forthcoming market data and 
facts, that such controls are necessary to address the unintended 
consequences arising from certain speculative trading strategies or to 
reign in excessively large speculative positions. To the extent that 
speculative investment may be increasing the price of natural gas or 
causing pricing aberrations, we strongly encourage Congress to take 
quick action to expand market transparency in order to be able to 
responsibly address this issue and protect consumers from additional 
cost burdens.
The Markets in Natural Gas Contracts
    The market for natural gas financial contracts is composed of a 
number of segments. Contracts for the future delivery of natural gas 
are traded on NYMEX, a designated contract market regulated by the 
CFTC. Contracts for natural gas are also traded in the OTC markets. OTC 
contracts may be traded on multi-lateral electronic trading facilities 
which are exempt from regulation as exchanges, such as the 
IntercontinentalExchange (``ICE''). ICE also operates an electronic 
trading platform for trading non-cleared (bilateral) OTC contracts. 
They may also be traded in direct, bilateral transactions between 
counterparties, through voice brokers or on electronic platforms. OTC 
contracts may be settled financially or through physical delivery. 
Financially-settled OTC contracts often are settled based upon NYMEX 
settlement prices and physically delivered OTC contracts may draw upon 
the same deliverable supplies as NYMEX contracts, thus linking the 
various financial natural gas market segments economically.
    Increasingly, the price of natural gas in many supply contracts 
between suppliers and local distribution companies, including APGA 
members, is determined based upon monthly price indexes closely tied to 
the monthly settlement of the NYMEX futures contract. Accordingly, the 
futures market serves as the centralized price discovery mechanism used 
in pricing these natural gas supply contracts.
    Generally, futures markets are recognized as providing an efficient 
and transparent means for discovering commodity prices.\5\ However, any 
failure of the futures price to reflect fundamental supply and demand 
conditions results in prices for natural gas that are distorted and 
which do not reflect its true value.\6\ This has a direct affect on 
consumers all over the U.S., who as a result of such price distortions, 
will not pay a price for the natural gas that reflects bona fide demand 
and supply conditions. If the futures price is manipulated or 
distorted, then the price consumers pay for the fuel needed to heat 
their homes and cook their meals will be similarly manipulated or 
distorted.
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    \5\&See the Congressional findings in Section 3 of the Commodity 
Exchange Act, 7 U.S.C. &1 et seq. (``Act''). Section 3 of the Act 
provides that, ``The transactions that are subject to this Act are 
entered into regularly in interstate and international commerce and are 
affected with a national public interest by providing a means for . . . 
discovering prices, or disseminating pricing information through 
trading in liquid, fair and financially secure trading facilities.'' A 
further question with respect to whether other speculative strategies, 
or excessively large speculative positions is also distorting market 
prices by pushing prices higher than they otherwise would be.
    \6\&The effect of Amarath's trading resulted in such price 
distortions. See generally PSI Report. The PSI Report on page 3 
concluded that ``Traders use the natural gas contract on NYMEX, called 
a futures contract, in the same way they use the natural gas contract 
on ICE, called a swap. . . . The data show that prices on one exchange 
affect the prices on the other.''
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    Today, the CFTC has effective oversight of futures exchanges, and 
the CFTC and the exchanges provide a significant level of transparency. 
And under the provisions of the Title XIII of the farm bill, the CFTC 
has been given additional regulatory authority with respect to 
significant price discovery contracts traded on exempt commercial 
markets, such as ICE. This is indeed a major step toward greater market 
transparency. However, even with this additional level of transparency, 
a large part of the market remains opaque to regulatory scrutiny. The 
OTC markets lack such price transparency. This lack of transparency in 
a very large and rapidly growing segment of the natural gas market 
leaves open the potential for a participant to engage in manipulative 
or other abusive trading strategies with little risk of early 
detection; and for problems of potential market congestion to go 
undetected by the CFTC until after the damage has been done to the 
market.
    Equally significant, even where the trading is not intended to be 
abusive, the lack of transparency for the over-all energy markets 
leaves regulators unable to answer questions regarding speculators' 
possible impacts on the market. For example, do we know who the largest 
traders are in the over-all market, looking at regulated futures 
contracts, significant price discovery contracts and bilateral OTC 
transactions? Without being able to see a large trader's entire 
position, it is possible that the effect of a large OTC trader on the 
regulated markets is masked, particularly when that trader is 
counterparty to a number of swaps dealers that in turn take positions 
in the futures market to hedge these OTC exposures as their own.
Regulatory Oversight
    NYMEX, as a designated contract market, is subject to oversight by 
the CFTC. The primary tool used by the CFTC to detect and deter 
possible manipulative activity in the regulated futures markets is its 
large trader reporting system. Using that regulatory framework, the 
CFTC collects information regarding the positions of large traders who 
buy, sell or clear natural gas contracts on NYMEX. The CFTC in turn 
makes available to the public aggregate information concerning the size 
of the market, the number of reportable positions, the composition of 
traders (commercial/noncommercial) and their concentration in the 
market, including the percentage of the total positions held by each 
category of trader (commercial/noncommercial).
    The CFTC also relies on the information from its large trader 
reporting system in its surveillance of the NYMEX market. In conducting 
surveillance of the NYMEX natural gas market, the CFTC considers 
whether the size of positions held by the largest contract purchasers 
are greater than deliverable supplies not already owned by the trader, 
the likelihood of long traders demanding delivery, the extent to which 
contract sellers are able to make delivery, whether the futures price 
is reflective of the cash market value of the commodity and whether the 
relationship between the expiring future and the next delivery month is 
reflective of the underlying supply and demand conditions in the cash 
market.\7\
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    \7\&See letter to the Honorable Jeff Bingaman from the Honorable 
Reuben Jeffery III, dated February 22, 2007.
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    Title XIII of the farm bill, recently empowered the CFTC to collect 
large trader information with respect to ``significant price discovery 
contracts'' traded on the ICE trading platform. However, there remain 
significant gaps in transparency with respect to trading of OTC energy 
contracts, including many forms of contracts traded on ICE. Despite the 
links between prices for the NYMEX futures contract and the OTC markets 
in natural gas contracts, this lack of transparency in a very large and 
rapidly growing segment of the natural gas market leaves open the 
potential for participants to engage in manipulative or other abusive 
trading strategies with little risk of early detection and for problems 
of potential market congestion to go undetected by the CFTC until after 
the damage has been done to the market, ultimately costing the 
consumers or producers of natural gas. More profoundly, it leaves the 
regulator unable to assemble a true picture of the over-all size of a 
speculator's position in a particular commodity.
Greater Transparency Needed
    Our members, and the customers served by them, believe that 
although Title XIII of the farm bill goes a long way to addressing the 
issue, there is not yet an adequate level of market transparency under 
the current system. This lack of transparency has led to a growing lack 
of confidence in the natural gas marketplace. Although the CFTC 
operates a large trader reporting system to enable it to conduct 
surveillance of the futures markets, it cannot effectively monitor 
trading if it receives information concerning positions taken in only 
one, or two, segments of the total market. Without comprehensive large 
trader position reporting, the government will remain handicapped in 
its ability to detect and deter market misconduct or to understand the 
ramifications for the market arising from unintended consequences 
associated with excessive large positions or with certain speculative 
strategies. If a large trader acting alone, or in concert with others, 
amasses a position in excess of deliverable supplies and demands 
delivery on its position and/or is in a position to control a high 
percentage of the deliverable supplies, the potential for market 
congestion and price manipulation exists. Similarly, we simply do not 
have the information to analyze the over-all effect on the markets from 
the current practices of speculative traders.
    Over the last several years, APGA has pushed for a level of market 
transparency in financial contracts in natural gas that would 
routinely, and prospectively, permit the CFTC to assemble a complete 
picture of the overall size and potential impact of a trader's position 
irrespective of whether the positions are entered into on NYMEX, on an 
OTC multi-lateral electronic trading facility which is exempt from 
regulation or through bilateral OTC transactions, which can be 
conducted over the telephone, through voice-brokers or via electronic 
platforms. APGA is optimistic that the enhanced authorities provided to 
the CFTC in the provisions of the CFTC reauthorization bill will help 
address the concerns that we have raised, but recognizes that more 
needs to be done to address this issue comprehensively.
Additional Potential Enhancements in Transparency
    In supporting the CFTC reauthorization bill, we previously noted 
that only a comprehensive large trader reporting system would enable 
the CFTC, while a scheme is unfolding, to determine whether a trader, 
such as Amaranth, is using the OTC natural gas markets to corner 
deliverable supplies and manipulate the price in the futures market.\8\ 
A comprehensive large trader reporting system would also enable the 
CFTC to better detect and deter other types of market abuses, including 
for example, a company making misleading statements to the public or 
providing false price reporting information designed to advantage its 
natural gas trading positions, or a company engaging in wash trading by 
taking large offsetting positions with the intent to send misleading 
signals of supply or demand to the market. Such activities are more 
likely to be detected or deterred when the government is receiving 
information with respect to a large trader's overall positions, and not 
just those taken in the regulated futures market. It would also enable 
the CFTC to better understand the overall size of speculative positions 
in the market as well as the impact of certain speculative investor 
practices or strategies on the future's markets ability to accurately 
reflect fundamental supply and demand conditions.
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    \8\&See e.g. U.S. Commodity Futures Trading Commission v. BP 
Products North America, Inc., Civil Action No. 06C 3503 (N.D. Ill.) 
filed June 28, 2006.
---------------------------------------------------------------------------
    Accordingly, APGA supports proposals to further increase and 
enhance transparency in the energy markets, generally, and in the 
markets for natural gas, specifically. APGA supports greater 
transparency with respect to positions in natural gas financial 
contracts acquired through bilateral transactions. Because bilateral 
trading can in fact be conducted on an all-electronic venue, and can 
impact prices on the exchanges even if conducted in a non-electronic 
environment, it is APGA's position that transparency in the bilateral 
markets is critical to ensure an appropriate level of consumer 
protection.
Electronic Ti-lateral trading
    One example of the conduct of bilateral trading on an all-
electronic trading platform was ``Enron On-line.'' Enron, using its 
popular electronic trading platform, offered to buy or sell contracts 
as the universal counterparty to all other traders using this 
electronic trading system. This one-to-many model constitutes a 
dealer's market and is a form of bilateral trading. This stands in 
contrast to a many-to-many model which is recognized as a multi-lateral 
trading venue. This understanding is reflected in section 1a(33) of the 
Commodity Exchange Act, which defines ``Trading Facility'' as a ``group 
of persons that . . . provides a physical or electronic facility or 
system in which multiple participants have the ability to execute or 
trade agreements, contracts or transactions by accepting bids and 
offers made by other participants that are open to multiple 
participants in the facility or system.'' On the Enron On-line trading 
platform, only one participant--Enron--had the ability to accept bids 
and offers of the multiple participants--its customers--on the trading 
platform.
    Section1a(3) continues by providing that, ``the term `trading 
facility' does not include (i) a person or group of persons solely 
because the person or group of persons constitutes, maintains, or 
provides an electronic facility or system that enables participants to 
negotiate the terms of and enter into bilateral transactions as a 
result of communications exchanged by the parties and not from 
interaction of multiple bids and multiple offers within a 
predetermined, nondiscretionary automated trade matching and execution 
algorithm . . . .'' This means that it is also possible to design an 
electronic platform for bilateral trading whereby multiple parties 
display their bids and offers which are open to acceptance by multiple 
parties, so long as the consummation of the transaction is not made 
automatically by a matching engine.
    Both of these examples of bilateral electronic trading platforms 
might very well qualify for exemption under the current language of 
sections 2(g) and 2(h)(1) of the Commodity Exchange Act. To the extent 
that these examples of electronic bilateral trading platforms were 
considered by traders to be a superior means of conducting bilateral 
trading over voice brokerage or the telephonic call-around markets, or 
will not fall within the significant price discovery contract 
requirements, their use as a substitute for a more-regulated exempt 
commercial market under section 2(h)(3) of the Act should not be 
readily discounted.
Non-Electronic Bilateral Trading
    Moreover, even if bilateral transactions are not effected on an 
electronic trading platform, it is nonetheless possible for such direct 
or voice-brokered trading to affect prices in the natural gas markets. 
For example, a large hedge fund may trade bilaterally with a number of 
counterparty/dealers using standard ISDA documentation. By using 
multiple counterparties over an extended period of time, it would be 
possible for the hedge fund to establish very large positions with each 
of the dealer/counterparties. Each dealer in turn would enter into 
transactions on NYMEX to offset the risk arising from the bilateral 
transactions into which it has entered with the hedge fund. In this 
way, the hedge fund's total position would come to be reflected in the 
futures market. Thus, a prolonged wave of buying by a hedge fund, even 
through bilateral direct or voice-brokered OTC transactions, can be 
translated into upward price pressure on the futures exchange.
    As NYMEX settlement approaches, the hedge fund's bilateral 
purchases with multiple dealer/counterparties would maintain or 
increase upward pressure on prices. By spreading its trading through 
multiple counterparties, the hedge fund's purchases would attract 
little attention and escape detection by either NYMEX or the CFTC. In 
the absence of routine large-trader reporting of bilateral 
transactions, the CFTC will only see the various dealers' exchange 
positions and have no way of tying them back to purchases by a single 
hedge fund.
    Given that the various segments of the financial markets that price 
natural gas are linked economically, it is critical to achieving market 
transparency that traders holding large positions entered into through 
bilateral transactions be included in any large-trader reporting 
requirement. As explained above, by trading through multiple dealers, a 
large hedge fund would be able to exert pressure on exchange prices 
similar to the pressure that it could exert by holding those positions 
directly. Only a large-trader reporting system that includes positions 
entered into in the OTC bilateral markets would enable the CFTC to see 
the entire picture and trace such positions back to a single source.
    If large trader reporting requirements apply only to positions 
acquired on multi-lateral electronic trading platforms, traders in 
order to avoid those reporting requirements may very well move more 
transactions to electronic bilateral markets or increase their direct 
bilateral trading. This would certainly run counter to efforts by 
Congress to increase transparency. APGA remains convinced that all 
segments of the natural gas marketplace should be treated equally in 
terms of reporting requirements. To do otherwise leaves open the 
possibility that dark markets on which potential market abuses could go 
undetected would persist and that our current lack of sufficient 
information to fully understand the impact of large speculative traders 
and certain trading strategies on the markets will continue, thereby 
continuing to place consumers at risk.
Better Categorizing of Positions and Administration of Hedge Exemptions
    APGA also notes that it has advocated that the CFTC take additional 
steps within its existing authorities to increase transparency, 
particularly with respect to the categorization of trades as 
speculative or not.\9\ The CFTC uses the information derived from its 
large trader reporting system both for its internal analyses of the 
markets as well as providing the public with certain aggregated 
information in its weekly ``Commitments of Traders reports.'' For 
purposes of this report, it classifies traders as ``commercials'' or 
``noncommercials.'' It is assumed that commercial traders are hedging 
in the markets and that noncommercials are speculators.
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    \9\&For example, the CFTC recently amended its Rule 18.05 ``special 
call'' provision to make explicit that its special call authority to 
traders applies to OTC positions, including bilateral transactions and 
transactions executed on the unregulated electronic trading facilities 
where the trader has a reportable position on a designated contract 
market in the same commodity. This amendment made explicit authority 
that the CFTC has previously exercised under Rule 18.05 to require a 
trader with a reportable position on a regulated exchange, upon special 
call, to report related OTC positions.
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    The CFTC in 2007 made certain enhancements to its Commitment of 
Traders Reports by reporting separately the aggregate positions held by 
long-only, passively managed investment funds. The CFTC recently 
announced that it was extending this initiative to include information 
relating to the crude oil markets. APGA is encouraged that the CFTC has 
taken steps to expand these enhancements to their Commitment of Traders 
Reports to include the crude oil contracts.\10\ APGA believes that it 
is critical that this initiative include all physical commodities, and 
in particular, all energy-related commodities. Enhanced transparency 
with respect to large traders and the size, scope and composition of 
their aggregate positions will improve our understanding of the 
dynamics of the market at any particular time, potentially increasing 
hedger's confidence in the markets' price discovery function.
---------------------------------------------------------------------------
    \10\& See, ``Recent Energy Initiatives,'' CFTC Statement, http://
cftc.gov/stellent/groups/public/@newsroom/documents/file/
cftcenergyinitiatives061708.pdf.
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    The CFTC has also announced an initiative to examine the 
classification of swaps dealers under the large trader reporting 
system. The example discussed above of a speculative trader entering 
into a bilateral transaction with a swaps dealer that then covers its 
position in the regulated futures market illustrates why this 
reclassification initiative is important to a full understanding of the 
impact of speculators on the markets. Prior to the CFTC's initiative, 
positions that were assumed for speculative purposes in the OTC markets 
apparently could be reflected in the CFTC's futures market reporting 
system as the positions of a ``commercial.'' This happens because the 
swaps dealer may be covering its exposure in the futures market arising 
from its OTC position as counter-party to a bilateral OTC transaction. 
This was classified as a `hedge' of the OTC position by the 
`commercial' swaps dealer. However, the original OTC position may have 
been entered into for speculative purposes, by a hedge fund, for 
example. Accordingly, despite the economic linkage between the 
speculative OTC transaction and the regulated market, prior to the 
CFTC's recent re-classification initiative, speculative OTC positions 
have been reflected in the CFTC's COT futures market reports as non-
speculative, ``commercial'' positions. Similarly, when a long-only 
index fund enters into a speculative OTC position with a swaps dealer, 
the position of the swaps-dealer in the futures market has been 
classified by the CFTC as the non-speculative position of a 
``commercial.''
    Equally profound, speculative position limits do not apply to 
hedging activity by commercials. Thus, positions that would be subject 
to a speculative position limit if entered into directly on the 
regulated exchange are not so limited if the speculator enters into the 
transaction in the OTC market and the swaps dealer in turn covers its 
ensuing risk in the regulated market. In this way a speculator can 
amass a larger position indirectly than it could by trading directly on 
the exchange. The CFTC has also granted a number of staff No Action 
letters exempting from speculative position limits certain passively 
managed long-only index funds that have price exposure from their 
obligation to track a commodity index.\11\
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    \11\&See CFTC Letter 06&09 (April 19, 2006); CFTC Letter 06&19 
(September 6, 2006).
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    Part of the increased transparency that APGA has been seeking 
includes a more nuanced approach to classification of positions so that 
the impact of these OTC speculative positions on the regulated market 
can be better understood. As noted above, the CFTC has recently 
undertaken several initiatives to report more accurately the trading of 
index funds and to better classify trading by swaps dealers. APGA 
believes that these are important initiatives that will shed greater 
light and understanding on the possible effects on the oil market 
arising from speculative traders and from certain speculative trading 
strategies.
    It may be, however, that additional statutory changes would be 
helpful in ensuring that the CFTC has sufficient authority and 
direction to deepen and make permanent these steps and to apply them 
with respect to all physical commodities, including all energy-related 
products. APGA believes that although the issues discussed at this 
hearing arise most acutely in today's oil markets, the issues apply 
equally to all energy markets, including in particular natural gas. The 
problems that are being noted in relation to the oil markets have also 
been raised quite recently with respect to the natural gas markets and 
have been noted in respect to the market for propane. APGA believes 
that the problems that have been noted by this Committee are broader 
than the oil markets and that other energy markets, including natural 
gas, require continuing rigorous oversight and close attention.
CFTC Resources
    The CFTC plays a critical role in protecting consumers, and the 
market as a whole, from fraud, manipulation and market distortion. It 
is essential that the CFTC have the necessary resources to monitor 
markets and protect consumers from attempts to manipulate the market. 
This is critical given the additional oversight responsibilities the 
CFTC will have through the market transparency language included in the 
farm bill and the additional transparency requirements that APGA is 
proposing to the Committee.
    Over the last several years, trading volumes have doubled while 
CFTC staffing levels have, on average, decreased. In fact, while we are 
experiencing record trading volumes, employee levels at the CFTC are at 
their lowest since the agency was created. APGA is concerned that if 
funding for the CFTC is inadequate, so may be the level of protection. 
American consumers expect more than this form of regulatory triage.
Conclusion
    Our testimony today is not meant to imply that the CFTC has not 
been vigilant in pursuing wrongdoers. Experience tells us that there is 
never a shortage of individuals or interests who believe they can, and 
will attempt to, affect the market or manipulate price movements to 
favor their market position. The fact that the CFTC has assessed over 
$300 million in penalties, and has assessed over $2 billion overall in 
government settlements relating to abuse of these markets affirms this. 
These efforts to punish those that manipulate or abuse markets or to 
address those that might innocently distort markets are important. But 
it must be borne in mind that catching and punishing those that 
manipulate markets after a manipulation has occurred is not an 
indication that the system is working. To the contrary, by the time 
these cases are discovered using the tools currently available to 
government regulators, our members, and their customers, have already 
suffered the consequences of those abuses in terms of higher natural 
gas prices. Nor is it acceptable to be unable to make responsible 
public policy decisions because of a lack of transparency in the 
markets.
    Greater transparency with respect to traders' large positions, 
whether entered into on a regulated exchange or in the OTC markets in 
natural gas will provide the CFTC with the tools to answer that 
question and to detect and deter potential manipulative or market 
distorting activity before our members and their customers suffer harm.
    This hearing has raised issues that are vital to APGA's members and 
their customers. We do not yet have the tools in place to say with 
confidence the extent to which the pricing mechanisms in the natural 
gas market today are reflecting market fundamentals or the possible 
market effects of various speculative trading strategies. However, we 
know that the confidence that our members once had in the pricing 
integrity of the markets has been badly shaken.
    In order to protect consumers the CFTC must be able to (1) detect a 
problem before harm has been done to the public through market 
manipulation or price distortions; (2) protect the public interest; and 
(3) ensure the price integrity of the markets. Accordingly, APGA and 
its 704 public gas system members applaud your continued oversight of 
the CFTC's surveillance of the natural gas markets. We look forward to 
working with the Committee to determine the further enhancements that 
may be necessary to restore consumer confidence in the integrity of the 
price discovery mechanism.
    In addition to increasing market transparency, however, if we are 
to bring natural gas prices back to an affordable level, it is equally 
important that energy policy must ensure that supply is adequate to 
meet demand. In addition to greater transparency in market pricing, 
this will require that supply and demand for natural gas be unfettered 
by regulation. Yet, current statutory and regulatory policies (1) 
prohibit the assessment of offshore reserves; (2) restrict and limit 
access to production in areas of known reserves; and (3) encourage the 
use of natural gas for new electric generation.
    It makes no sense to encourage greater use of natural gas on the 
one hand while at the same time to impede the acquisition of data that 
could point to areas of abundant new resources and to obstruct 
production in areas with rich supplies. In light of these facts, is it 
a wonder that speculators find these markets attractive?
    Natural gas is a lifeblood of our economy and millions of consumers 
depend on natural gas every day to meet their daily needs. It is 
critical that the price those consumers are paying for natural gas 
comes about through the operation of fair, orderly and transparent 
markets. It is equally critical that regulatory policy support bringing 
demand and supply into balance. Every winter, more than 65 million 
residential and commercial homes and businesses are heated by natural 
gas. More than 20% of our nation's electricity is generated by natural 
gas, and that percentage will grow because America is unwilling to 
adopt 21st century nuclear technology and other alternatives to replace 
coal for electric generation. Increases in market transparency alone 
will not address this problem.


    The Chairman. Thank you, Mr. Comstock.
    Mr. Greenberger, welcome to the Committee.

 STATEMENT OF MICHAEL GREENBERGER, J.D., PROFESSOR, UNIVERSITY 
            OF MARYLAND SCHOOL OF LAW, BALTIMORE, MD

    Mr. Greenberger. Thank you, Mr. Chairman. It is a pleasure 
to be here. This testimony is my own personal view about, and 
when I say personal, I emphasize personal. I represent nobody. 
I am here on my own behalf. I have no clients that I am 
representing, as my disclosure form makes clear.
    I think the fundamental question this Committee has to 
answer is whether the purpose of the Commodity Exchange Act, 
which was established most clearly in 1936 to bar excessive 
speculation, is still an active purpose of the statute. In the 
1935 report of this Committee that brought forth the Commodity 
Exchange Act, it was said, ``The fundamental purpose of the 
measure is to ensure fair practice and honest dealing on the 
commodity exchanges and to provide a measure of control over 
those forms of speculative activity which too often demoralize 
the markets to the injury of producers and consumers and the 
exchanges themselves.''
    President Roosevelt, in a message to Congress urging the 
passage of what became the Commodity Exchange Act, said, ``It 
should be our national policy to restrict as far as possible 
the use of these exchanges for purely speculative operations.''
    This bill authorizes the Commission to fix limitations on 
purely speculative trades. There is a lot of talk in the air 
about the speculative impacts on the price of crude oil. I am 
not an economist. I have read a lot of economic studies about 
this and statements. What I will say is I think you cannot 
gainsay the fact that there is a dispute here of whether or not 
speculation is playing a role.
    When the Commodity Exchange Act was passed in 1936, it was 
in response to farmers who, looking out at their fields, said, 
``I don't really have any control over what I am growing. Those 
guys back in Chicago, the locals,'' that is what they were 
called, the speculators, ``control the price of what I am 
growing.'' And there is a 1892 report of this Committee that 
articulates a quote from a farmer with that very point. And the 
thesis was that those guys in Chicago, because that is where 
the trading was, could, by buying paper, paper trades, could 
raise and lower the price of this at their will.
    Now, did the Commodity Exchange Act bar speculation? No, it 
did not. It recognized that speculators are needed to make a 
liquid exchange. But it did bar excessive speculation, and that 
excessive speculation has been fought with many tools, the most 
clearest of which, especially today in the agricultural market, 
are hard and fixed limits on the participation of speculators. 
In the OTC market, or in the foreign board of trade market as 
it stands today, there are real issues about whether those 
limits on speculators are working or whether they are even in 
place.
    I don't believe it is the burden of the truckers, the 
airlines, the farmers, the automobile manufacturers to prove 
that there is no speculation. I believe that if it is in 
question, there needs to be the appropriate transparency to 
answer once and for all whether or not speculation is 
dominating these markets.
    If you try and trace the $260 billion which has entered 
into the index swaps market since 2004, you can't go and find 
where the money is. You can't trace that money. Why? Because 
these markets are opaque. The same problem in the housing 
meltdown. You have credit default swaps which were deregulated 
by the Commodity Futures Modernization Act of 2000. The 
Chairman of the Fed would love to know what the total scope of 
those credit default swaps are, but they are buried all over 
the economy, and they only come to light upon a bankruptcy or 
some other transaction where they have to be fixed. You will 
note that the Chairman of the Fed is now saying if a financial 
institution, another major financial institution, fails, he 
does not want it to go through a bankruptcy proceeding.
    My view is that the legislative proposals, and I am happy 
to talk about them in detail, would provide the transparency to 
answer, once and for all, is the price of oil supply and demand 
entirely, or, as many, many people have said, is there a 
speculative premium being added?
    I want to emphasize two final things. I do not argue that 
the entire run-up of the price of crude oil or other 
commodities including agricultural prices is entirely 
speculation. What I do argue is if there is any part of it that 
is due to excessive speculation, not manipulation, but 
excessive speculation, we should put a stop to it. If it 
reduces gas prices by four percent, five percent, whatever, the 
American consumer should not be paying that speculative tax. If 
there is no speculation, then we can all go and say the 
argument is over.
    One final point. Mr. Vice raised the analysis of my June 3 
testimony before the Senate Commerce Committee. That analysis 
is not on their website. I am perfectly prepared to answer, 
under oath, any of the comments that were made in that 
analysis, and the Chairman of this Committee has asked that I 
provide him a letter doing so, which I have done. I sense from 
the Senate side that this is not something that they want to 
make into a public debate, as evidenced by the fact it is not 
on their website. And I am prepared to tamp that down, but if I 
need to defend myself, I will defend myself. I have written a 
detailed letter to the Chairman on it point for point, and not 
only do I believe I have not said anything in error, I believe 
that that analysis is filled with errors.
    Thank you.
    [The prepared statement of Mr. Greenberger follows:]

  Prepared Statement for July 10 and 11 of Michael Greenberger, J.D., 
     Professor, University of Maryland School of Law, Baltimore, MD
Introduction
    My name is Michael Greenberger.
    I want to thank the Committee for inviting me to testify on the 
important issue that is the subject of today's hearings.
    After 25 years in private legal practice, I served as the Director 
of the Division of Trading and Markets (``T&M'') at the Commodity 
Futures Trading Commission (``CFTC'') from September 1997 to September 
1999. In that capacity, I supervised approximately 135 CFTC personnel 
in CFTC offices in DC, New York, Chicago, and Minneapolis, including 
lawyers and accountants who were engaged in overseeing the Nation's 
futures exchanges. During my tenure at the CFTC, I worked extensively 
on, inter alia, regulatory issues concerning exchange traded energy 
derivatives, the legal status of over-the-counter (``OTC'') energy 
derivatives, and the CFTC authorization of trading of foreign exchange 
derivative products on computer terminals in the United States.
    While at the CFTC, I also served on the Steering Committee of the 
President's Working Group on Financial Markets (``PWG''). In that 
capacity, I drafted, or oversaw the drafting of, portions of the April 
1999 PWG Report entitled ``Hedge Funds, Leverage, and the Lessons of 
Long-Term Capital Management,'' which recommended to Congress 
regulatory actions to be taken in the wake of the near collapse of the 
Long Term Capital Management (LTCM) hedge fund, including Appendix C to 
that report which outlined the CFTC's role in responding to that near 
collapse. As a member of the International Organization of Securities 
Commissions' (``IOSCO'') Hedge Fund Task Force, I also participated in 
the drafting of the November 1999 report of IOSCO's Technical Committee 
relating to the LTCM episode: ``Hedge Funds and Other Highly Leveraged 
Institutions.''
    After a 2 year stint between 1999 and 2001 as the Principal Deputy 
Associate Attorney General in the U.S. Department of Justice, I began 
service as a Professor at the University of Maryland School of Law. At 
the law school, I have, inter alia, focused my attention on futures and 
OTC derivatives trading, including academic writing and speaking on 
these subjects. I currently teach a course that I designed entitled 
``Futures, Options, and Derivatives.''
    The question whether there has been excessive speculation of U.S. 
energy futures markets in general, and futures based on U.S. delivered 
crude oil contracts specifically, has been the subject of many 
hearings. I have previously testified at six of those hearings, the 
most recent held on June 24, 2008 before the United States Senate 
Committee on Homeland Security & Government Affairs. To put the issue 
of this Committee's hearings in context, I summarize and update the 
points I made at that hearing immediately below.
Summary and Update of Prior Testimony
    One of the fundamental purposes of futures contracts is to provide 
price discovery in the ``cash'' or ``spot'' markets.\1\ Those selling 
or buying commodities in the ``spot'' markets rely on futures prices to 
judge amounts to charge or pay for the delivery of a commodity.\2\ 
Since their creation in the agricultural context decades ago, it has 
been widely understood that, unless properly regulated, futures markets 
are easily subject to distorting the economic fundamentals of price 
discovery (i.e., cause the paying of unnecessarily higher or lower 
prices) through excessive speculation, fraud, or manipulation.\3\
---------------------------------------------------------------------------
    \1\&The Economic Purpose of Futures Markets and How They Work, 
Commodity Futures Trading Commission, http://www.cftc.gov/
educationcenter/economicpurpose.html (last visited July 8, 2008).
    \2\&See Platts Oil Pricing and Market-on-Close Methodology 
Explained, Platts (July 2007) at 3, available at http://www.platts.com/
Resources/whitepapers/index.xml.
    \3\&See, e.g., Jonathan Ira Levy, Contemplating Delivery: Futures 
Trading and the Problem of Commodity Exchange in the United States, 
1875&1905, American Historical Review 307 (2006) (``&`[T]he man who 
managed or sold or owned those immense wheat fields has not as much to 
say with the regard to the price of the wheat that some young fellow 
who stands howling around the Chicago wheat pit could actually sell in 
a day'&''(quoting Fictitious Dealings in Agricultural Products: House 
Comm. on Agric. Committee Hearing Reports (1892)).
---------------------------------------------------------------------------
    As the 1935 Report of this Committee stated: ``The fundamental 
purpose of the measure [i.e., what was to become the Commodity Exchange 
Act of 1936 (`CEA')] is to insure fair practice and honest dealing on 
the commodity exchanges and to provide a measure of control over those 
forms of speculative activity which too often demoralize the markets to 
the injury of producers and consumers and the exchanges 
themselves.''&\4\
---------------------------------------------------------------------------
    \4\&Report No. 421, U.S. House of Representatives 74th Cong, 
Accompanying the Commodity Exchange Act, March 18, 1935.
---------------------------------------------------------------------------
    Indeed, President Roosevelt, when introducing what became the CEA 
said: ``[I]t should be our national policy to restrict, as far as 
possible, the use of these exchanges for purely speculative 
operations.''&\5\ In this regard, this Committee then stated: ``This 
bill authorizes the Commission . . . to fix limitations upon purely 
speculative trades . . .''&\6\
---------------------------------------------------------------------------
    \5\&President Franklin D. Roosevelt, Message to Congress, February 
9, 1934.
    \6\&Report No. 421, U.S. House of Representatives 74th Cong., 
Accompanying the Commodity Exchange Act, March 18, 1935.
---------------------------------------------------------------------------
    The CEA has long been judged to effectively prevent excessive 
speculation and manipulation. Accordingly, prior to the passage of the 
Commodity Futures Modernization Act of 2000 (``CFMA''), ``all futures 
activity [was] confined by law (and eventually to criminal activity) to 
[CFTC regulated] exchanges alone.''&\7\ At the behest of Enron, the 
CFMA authorized the ``stunning''&\8\ change to the CEA to allow the 
option of trading energy commodities on deregulated trading platforms, 
i.e., exchanges exempt from CFTC contract market registration 
requirements, thereby rejecting the contrary 1999 advice of the 
President's Working Group on Financial Markets, which included the 
Secretary of the Treasury, the Chairman of the Federal Reserve Board, 
and the Chairmen of the SEC and CFTC.\9\ This exemption from contract 
market regulation is called the ``Enron Loophole.''
---------------------------------------------------------------------------
    \7\&Philip McBride Johnson & Thomas Lee Hazen, Derivatives 
Regulation 28 (Cumm. Supp. 2008).
    \8\&Id. at &1.17.
    \9\&Id. at 28; see also President's Working Group on Financial 
Markets, Over-the-Counter Derivatives Markets and the Commodity 
Exchange Act 16 (1999), available at http://www.ustreas.gov/press/
releases/reports/otcact.pdf (last visited July 8, 2008) (``Due to the 
characteristics of markets for non-financial commodities with finite 
supplies, however, the Working Group is unanimously recommending that 
the exclusion [from regulation] not be extended to agreements involving 
such commodities.'').
---------------------------------------------------------------------------
    Two prominent and detailed bipartisan studies by the Permanent 
Subcommittee on Investigations' (``PSI'')&\10\ staff concluded that 
large financial institutions and wealthy investors had needlessly 
driven up the price of energy commodities over what economic 
fundamentals dictate, adding, for example, what the PSI estimated to be 
@ $20&$25 per barrel to the price of a barrel of crude oil.\11\ At the 
time of that estimate, the price of crude oil had reached a then record 
high of $77. The conclusion that excessive speculation has added a 
considerable premium to energy products has been corroborated by many 
experts on,\12\ and observers of, these markets.\13\
---------------------------------------------------------------------------
    \10\&Permanent Subcommittee on Investigations of the Committee on 
Homeland Security and Governmental Affairs, The Role of Market 
Speculation in Rising Oil and Gas Prices: A Need To Put the Cop Back On 
the Beat (June 27, 2006) [hereinafter June 2006 Report]; Permanent 
Subcommittee on Investigations of the Committee on Homeland Security 
and Governmental Affairs, Excessive Speculation in the Natural Gas 
Market (June 25, 2007) [hereinafter June 2007 Report].
    \11\&June 2006 Report, supra note 10, at 2, 23.
    \12\&See, e.g., Edmund Conway, George Soros: Rocketing Oil Price is 
a Bubble, Daily Telegraph (May 27, 2008), available at http://
www.telegraph.co.uk/money/main.jhtml?xml=/money/2008/05/26/
cnsoros126.xml (last visited July 8, 2008) (quoting Mr. George Soros as 
stating ``Speculation . . . is increasingly affecting the price''); 
Written Testimony of Michael Masters, Hearing Before the Committee on 
Homeland Security and Governmental Affairs, U.S. Senate 2 (May 20, 
2008), available at http://hsgac.senate.gov/public/_files/
052008Masters.pdf (last visited July 8, 2008) (quoting Michael W. 
Masters as stating ``Are Institutional Investors contributing to food 
and energy price inflation? And my unequivocal answer is YES''); Oral 
Testimony of Edward Krapels, Hearing Before the Committee on Energy and 
Commerce Subcommittee on Oversight and Investigations, U.S. House of 
Representatives, (June 23, 2008) (quoting Mr. Edward Krapels as stating 
``I think the amount of speculation is really substantial [within the 
crude oil market.]''); Oral Testimony of Roger Diwan, Hearing Before 
the Committee on Energy and Commerce Subcommittee on Oversight and 
Investigations, U.S. House of Representatives, (June 23, 2008) (quoting 
Mr. Roger Diwan, responding to Rep. Whitfield's question: So you're 
saying if we adopt these regulatory changes, we could almost cut the 
retail price of gas in half in a relatively short period of time? ``I 
don't know how quickly it takes to get prices down, but it's clear that 
prices will reflect closer the marginal cost of producing oil.''); 
Alejandro Lazo, Energy Stocks Haven't Caught Up With Oil Prices, Wash. 
Post (Mar. 23, 2008), available at http://www.washingtonpost.com/wp-
dyn/content/article/2008/03/21/AR2008032103825.html (last visited July 
8, 2008) (quoting Mr. Fadel Gheit as stating ``The largest speculators 
are the largest financial companies.''); Michelle Foss, United States 
Natural Gas Prices To 2015, 34 (2007), available at http://
www.oxfordenergy.org/pdfs/NG18.pdf (last visited July 8, 2008) 
(asserting ``The role of speculation in oil markets has been widely 
debated but could add upwards of $20 to the price per barrel.''); Tim 
Evans, Citi Futures Perspective: PM Energy News & Views, at 2 (July 3, 
2008) (quoting ``With the latest push to the upside, we see the crude 
oil market becoming even more completely divorced from any connection 
to fundamental factors and becoming even more obsessed with the simple 
question, How high can it go?''); Advantage Business Media, Economist 
Blames Subsidies for Oil Price Hike, Chem. Info  (2008), available at 
http://www.chem.info/ShowPR.aspx?PUBCODE=075&ACCT= 
0000100&ISSUE=0609&ORIGRELTYPE= DM&RELTYPE=PR&PRODCODE=00000&PRODLETT 
=M&CommonCount=0 (last visited July 8, 2008) (quoting Dr. Michelle Foss 
as stating ``We have an overpriced commodity, and this is going to be 
around for a while.''); Kenneth N. Gilpin, OPEC Agrees to Increase 
Output in July to Ease Oil Prices, N.Y. Times (June 3, 2004) available 
at http://www.nytimes.com/2004/06/03/business/03CND-
OIL.html?ex=1401681600&en=5dbd50c5b369795b&ei=5007&partner=USERLAND 
(last visited July 8, 2008) (quoting Mr. Kyle Cooper as stating ``There 
is not a crude shortage, which is why OPEC was so reluctant to raise 
production.''); Upstream, Speculators 'not to blame' for Oil Prices, 
Upstreamonline.com, (April 4, 2008), available at http://
www.upstreamonline.com/live/article151805.ece (last visited July 8, 
2008) (quoting Mr. Sean Cota as stating ``It has become apparent that 
excessive speculation on energy trading facilities is the fuel that is 
driving this runaway train in crude prices''); Mike Norman, The Danger 
of Speculation, FOXNews.com (Aug. 19, 2005), available at http://
www.foxnews.com/story/0,2933,166038,00.html (last visited July 8, 2008) 
(Mr. Norman stating ``Oil prices are high because of speculation, pure 
and simple. That's not an assertion, that's a fact. Yet rather than 
attack the speculation and rid ourselves of the problem, we flail away 
at the symptoms.'').
    \13\&International Monetary Fund, Regional Economic Outlook: Middle 
East and Central Asia 27&28 (2008) (``Producers and many analysts say 
it is speculative activity that is pushing up oil prices now. Producers 
in particular argue that fundamentals would yield an oil price of about 
U.S. $80 a barrel, with the rest being the result of speculative 
activity.''); see also Neil King Jr., Saudi Arabia's Leverage In Oil 
Market Is Sapped, Wall Street J. (June 16, 2008), available at http://
online.wsj.com/article/SB121355902769475555.html?mod=googlenews_wsj 
(last visited July 8, 2008) (quoting Saudi Oil Minister Ali Naimi as 
saying skyrocketing oil prices were ``unjustified by the fundamentals'' 
of supply and demand).
---------------------------------------------------------------------------
    The PSI staff and others have identified the Intercontinental 
Exchange (``ICE'') of Atlanta, Georgia, as an unregulated trading 
facility upon which a considerable amount of exempt U.S. energy futures 
trading is done.\14\ For purposes of facilitating exempt natural gas 
futures, ICE is deemed a U.S. ``exempt commercial market'' under the 
Enron Loophole.\15\ For purposes of its facilitating U.S. WTI crude oil 
futures on U.S. trading terminals, the CFTC, by informal staff action, 
considers ICE, because of its wholly owned subsidiary, ICE Futures 
Europe, to be a U.K. entity not subject to direct CFTC regulation even 
though ICE maintains U.S. headquarters and U.S. trading infrastructure 
(i.e., terminals and servers), facilitating, inter alia, @ 30% of 
trades in U.S. WTI futures trades.\16\
---------------------------------------------------------------------------
    \14\&See June 2007 Report, supra note 10, at 27.
    \15\&See id.
    \16\&See Written Testimony of Professor Michael Greenberger, Energy 
Market Manipulation and Federal Enforcement Regimes: Hearing before the 
S. Comm. on Commerce, Science, and Transportation, 3 (2008), available 
at http://digitalcommons.law.umaryland.edu/cgi/
viewcontent.cgi?article=1026&context=cong_test (last visited July 8, 
2008).
---------------------------------------------------------------------------
    The Dubai Mercantile Exchange, in affiliation with NYMEX, a U.S. 
exchange, has also been granted permission to trade the U.S. delivered 
WTI contract on U.S. terminals, but is, by virtue of a CFTC No Action 
letter, to be regulated directly by the Dubai Financial Service 
Authority (``DFSA'').\17\ NYMEX describes itself as ``a founder and has 
ownership share in [DME] and provides clearing services for that 
exchange.''&\18\
---------------------------------------------------------------------------
    \17\&Dubai Mercantile Exchange Ltd., CFTC No-Action Letter, 2007 
CFTC Ltr. LEXIS 6 (May 24, 2007).
    \18\&See Written Testimony of Jim Newsome, Hearing Before the 
Committee on Energy and Commerce Subcommittee on Oversight and 
Investigations, U.S. House of Representatives, at 6 (June 23, 2008) 
[hereinafter June 23, 2008 Testimony of Jim Newsome].
---------------------------------------------------------------------------
    NYMEX itself, the U.S. premier regulated energy futures contract 
market capturing the overwhelming share, e.g., of the U.S. delivered 
WTI futures market, has announced that it has applied to the United 
Kingdom's Financial Services Authority to have a NYMEX London trading 
platform registered with the that British agency,\19\ after which NYMEX 
will apply for the kind of foreign board of trade no action relief that 
has already been granted to ICE and DME. Providing NYMEX's London 
trading platform with this kind of no action relief might very well 
convert full U.S. regulation of the most important U.S. crude oil 
futures contracts to considerable U.K. oversight.\20\ These staff 
informal action letters, effectuating the exemptions for ``foreign'' 
owned U.S. trading terminals, by their own terms make it clear that 
they may be instantly revoked by the CFTC.\21\
---------------------------------------------------------------------------
    \19\&Id. Jeremy Grant, Nymex's Long Road to the Electronic Age, 
Financial Times (Feb. 17, 2006), at 39. (``Nymex has indicated that it 
might be forced to move its electronically traded WTI to London so that 
it can compete on a level playing field with ICE.'').
    \20\&See June 23, 2008 Testimony of Jim Newsome, supra note 18.
    \21\&See Written Testimony of Professor Michael Greenberger, Energy 
Speculation: Is Greater Regulation Necessary to Stop Price 
Manipulation?: Hearing Before the H. Subcomm. on Oversight and 
Investigations 11&12 (2007) (providing a complete discussion of the No 
Action letter process including termination), available at http://
digitalcommons.law.umaryland.edu/cgi/
viewcontent.cgi?article=1011&context=cong_test (last visited July 8, 
2008).
---------------------------------------------------------------------------
    One final gap in the oversight of excessive speculation in the U.S. 
crude oil (and agricultural) markets has been illuminated by the 
testimony of Michael W. Masters, Managing Member of Masters Capital 
Management, LLC, at recent May 20 and June 24 hearings before the 
Senate Committee on Homeland Security and Government Affairs.\22\ Mr. 
Masters demonstrated that large financial institutions, such as 
investment banks and hedge funds, which were ``hedging'' their off 
exchange futures transactions on energy and agricultural prices on U.S. 
regulated exchanges, were being treated by NYMEX, for example, and the 
CFTC as ``commercial interests,'' rather than as the speculators they 
clearly are.\23\ By lumping large financial institutions with 
traditional commercial oil dealers (or farmers)&\24\ even fully 
regulated U.S. exchanges are not applying traditional speculation 
limits to the transactions engaged in by these speculative 
interests.\25\ Mr. Masters has demonstrated that a significant 
percentage of the trades in WTI futures, for example, were controlled 
by noncommercial interests.\26\ These exemptions from speculation 
limits for large financial institutions hedging off-exchange ``swaps'' 
transactions emanate from a CFTC letter issued on October 8, 1991&\27\ 
and they have continued to present day.\28\
---------------------------------------------------------------------------
    \22\&Masters, supra note 12.
    \23\&Id. at 7&8.
    \24\&Gene Epstein, Commodities: Who's Behind The Boom?, Barron's 32 
(March 31, 2008) ( ``The speculators, now so bullish, are mainly the 
index funds. . . . By using the [swaps dealers] as a conduit, the index 
funds get an exemption from position limits that are normally imposed 
on any other speculator, including the $1 in every $10 of index-fund 
money that does not go through the swaps dealers.'').
    \25\&Masters, supra note 12, at 7.
    \26\&Id. at 8, 11.
    \27\&J. Aron & Co., CFTC Interpretive Letter, 1991 CFTC Ltr. LEXIS 
18 (Oct. 8, 1991).
    \28\&See Written Testimony of Michael Masters, Hearing Before 
Committee on Energy and Commerce Subcommittee on Oversight and 
Investigations, U.S. House of Representatives, at 5 (June 23, 2008) 
available at http://energycommerce.house.gov/cmte_mtgs/110-oi-
hrg.062308.Masters-testimony.pdf (quoting ``assets allocated to 
commodity index trading strategies have risen from $13 billion at the 
end of 2003 to $260 billion as of March 2008, and the prices of the 25 
commodities that compose these indices have risen by an average of 183% 
in those 5 years!'').
---------------------------------------------------------------------------
    Again, while the principal focus to date has been on skyrocketing 
energy prices, Mr. Masters' testimony, aided by a widely discussed 
cover story in the March 31, 2008 issue of Barron's,\29\ has made clear 
that the categorization of swaps dealers outside of speculative 
controls even on U.S. regulated contract markets has been a cause of 
great volatility in food prices, as well as in the energy markets.
---------------------------------------------------------------------------
    \29\&See Epstein, supra note 24.
---------------------------------------------------------------------------
    Many parties are now urging this Congress to close the Enron, 
London/Dubai, and Swaps Dealers Loopholes. On June 18, 2008, the Food 
Conservation and Energy Act of 2008&\30\ (the ``Farm Bill'') was 
enacted into law by a Congressional override of President Bush's veto. 
Title XIII of the farm bill is the CFTC Reauthorization Act of 2008, 
which, in turn, includes a provision that was intended to close the 
Enron Loophole.\31\ This provision, while a good start, did not return 
to the status quo prior to the passage of the Enron Loophole: i.e., it 
did not bring all energy futures contracts within the U.S. futures 
regulatory format. Rather, the farm bill amendment requires the CFTC 
``at its discretion'' to prove on a contract-by-contract basis through 
administrative proceedings governed by the notice and comment 
provisions of the Administrative Procedure Act&\32\ that an individual 
energy contract should be regulated if the CFTC can prove that the 
contract ``serve[s] a significant price discovery function'' in order 
to detect and prevent excessive speculation and manipulation.\33\ The 
farm bill Amendment affords the CFTC 15 months after enactment to 
implement that re-regulation process specified therein.\34\
---------------------------------------------------------------------------
    \30\&Food Conservation and Energy Act of 2008, Pub. L. No. 110&246, 
&13201; 122 Stat. 1651 (2008).
    \31\&Id.
    \32\&See Richard J. Prince, Jr., Administrative Law Treatise 
424&25, 441&43 (4th ed. 2002).
    \33\&Food Conservation and Energy Act of 2008, Pub. L. No. 110&246, 
&13201; 122 Stat. 1651 (2008).
    \34\&Id. at &13204.
---------------------------------------------------------------------------
    The CFTC has publicly stated that it intends to apply the new 
legislation to only one of ICE's many&\35\ unregulated ICE energy 
futures contract, i.e., only ICE's Henry Hub natural gas futures 
contract would be removed from the Enron Loophole protection and become 
fully regulated.\36\ Thus, by this CFTC pronouncement, it now seems 
that no crude oil, gasoline, and heating oil futures contracts will be 
covered by the new legislation--not even the multi-billion 
agricultural/commodity index futures funds premised upon the prices of 
U.S. energy and agricultural commodities about which, inter alia, 
Michael Masters has testified are destabilizing the economic 
fundamentals of the agriculture and energy markets.
---------------------------------------------------------------------------
    \35\&See Written Testimony of Jeffrey C. Sprecher, To Examine 
Trading Regulated Exchanges and Exempt Commercial Markets: Hearing of 
the Commodity Futures Trading Commission, (September 18, 2007), 
available at http://files.shareholder.com/downloads/ICE/
325023768x0x132117/53a6f61e-b72b-47ca-8f8e-f8282c21c12b/
CFTC%20Testimony%20091807.pdf (last visited July 8, 2008).
    \36\&See Written Testimony of Acting Chair Walter Lukken, Energy 
Speculation: Is Greater Regulation Necessary to Stop Price 
Manipulation?: Hearing Before the H. Subcomm. on Oversight and 
Investigations, 4 (Dec. 12, 2007) available at http://www.cftc.gov/
stellent/groups/public/@newsroom/documents/speechandtestimony/
opalukken-32.pdf (emphasis added) (last visited July 8, 2008).
---------------------------------------------------------------------------
    The CFTC has also made it clear that the farm bill amendment will 
not cover any U.S. futures contracts relating to the price of U.S. 
delivered commodities traded on the U.S. terminals of foreign exchanges 
operating pursuant to CFTC staff ``no action'' letters. As mentioned 
above, the Intercontinental Exchange (``ICE'') of Atlanta, Georgia, for 
purposes of facilitating U.S. delivered WTI crude oil futures, is 
considered by the CFTC, through an informal staff No Action letter, to 
be a U.K. entity not subject to direct CFTC regulation even though ICE 
maintains U.S. headquarters and trading infrastructure, facilitating, 
inter alia, @ 30% of trades in U.S. WTI futures of its wholly owned the 
London subsidiary on which the no action permission is based. Moreover, 
the Dubai Mercantile Exchange (``DME''), in affiliation with NYMEX, a 
U.S. exchange, has also been granted permission to trade the U.S. 
delivered WTI contract on U.S. terminals, but is, by virtue of a CFTC 
No Action letter, directly regulated by the Dubai Financial Service 
Authority (``DFSA''). Again, even though the plain language of the farm 
bill does not exempt contract markets engaged in the U.S. trading of 
futures premised upon U.S. delivered commodities, the CFTC will not use 
the farm bill amendment to close the ``London/Dubai'' Loophole.
Congress Should Insist Upon Full Market Transparency To Ensure That 
        Excessive Speculation Is Not Overwhelming Crude Oil Futures 
        Trading
    As the Committee knows, there is debate over whether the U.S. crude 
oil futures market is overrun by excessive speculation. As I have said, 
my own view is that those independent observers who understand those 
markets, by and large, concur that the markets have come unhinged from 
supply/demand fundamentals in a manner that makes them no longer 
useable by the physical hedgers who find prices to be ``locked in'' too 
volatile and distant from market fundamentals.\37\
---------------------------------------------------------------------------
    \37\&See the many opinions from those experts in note 12 supra.
---------------------------------------------------------------------------
    I would argue, however, that even if this Committee has doubts 
about whether excessive speculation or more serious malpractice are 
occurring in these markets and thereby unnecessarily driving up the 
price of crude oil, then those very doubts argue for legislation that 
makes these markets fully transparent. If all of these markets (e.g., 
OTC, foreign board of trade U.S. trading terminals for futures 
dependent on U.S. commodities, and swaps dealers) were required to 
execute trades on U.S. designated contract markets or designated 
transaction execution facilities, the real time and constant reporting 
to both the CFTC and to the market's own self regulatory observers, 
would make it indisputably clear whether the markets are functioning 
solely on economic fundamentals; or whether excessive speculation is 
placing an unnecessary financial burden on them and the American energy 
consuming public.
    As it is, those who reject transparency are those who ask the U.S. 
energy consumer to accept on blind faith (and I would argue in the face 
of substantial and reliable data pointing in the opposite direction) 
that these markets are functioning smoothly.
A Prompt Return to the Time Tested Futures Regulatory Format Predating 
        the Enron Loophole Will Create Much Needed Crude Oil Market 
        Transparency
    Whatever form legislation takes to increase transparency in all 
U.S. traded energy futures, I would urge that the following principles 
be embedded therein to reassure the American energy consuming public 
that the price of crude oil is tied to market fundamentals rather than 
excessive speculation.
    Completely Close the Enron Loophole. While the farm bill amendment 
was a good start, the radically rising price of crude oil even in the 
last few weeks now augurs for returning all U.S. energy futures trading 
to the safe harbor of fully transparent U.S. regulated contract 
markets. A simple amendment to existing law would redefine an ``exempt 
commodity'' as a commodity that does not include an agricultural or 
``energy commodity,'' thereby bringing all energy futures, including 
energy swaps based on the price of energy commodities, within the CEA's 
regulated contract market trading requirement. An energy commodity 
should include traditional energy products, inter alia, crude oil, 
gasoline, diesel fuel, heating oil, propane, electricity, and natural 
gas, as well as metals which have also seen a drastic run up in price. 
The result of this legislation would return U.S. energy futures trading 
to the same status as U.S. agricultural trading, which must be 
conducted on the U.S. registered contract market.
    U.S. Based Energy Futures Contracts Traded on U.S. Terminals Should 
Be Traded on U.S. Regulated Exchanges. To address the concerns about 
the ``London/Dubai'' Loophole, any futures contract premised on the 
price of U.S. delivered energy futures and traded on U.S. trading 
terminals should be required to be traded on U. S. registered contract 
markets. This requirement would not affect the overwhelming number of 
foreign exchanges now trading within the U.S. who have continued to 
limit their trading to foreign futures contracts.
    Grace Periods. Reasonable grace periods should be provided in this 
kind of legislation to accommodate conversion of energy futures trading 
not now under U.S. oversight. A grace period no longer than 6 months 
should accommodate this conversion.
    Aggregated Speculation Limits for Noncommercial Hedgers. 
Consideration should also be given to requiring the CFTC to establish 
uniform speculation limits for noncommercial futures transactions 
involving the U.S. trading of energy futures contracts premised upon 
the price of U.S. delivered energy commodities. This would require the 
CFTC to ``fix limits on the aggregate number of positions which may be 
held by any person'' for each month and in all markets under CFTC 
jurisdiction. Under the existing regulatory regime, speculation limits 
are only applied by each contract market, and ``aggregate positions'' 
are never imposed. These aggregated limits would prevent a trader from 
spreading speculation over a host of markets, thereby accumulating a 
disproportionately large share of an energy market while satisfying 
each exchange's separate limits. The aggregated limits should not be 
applied to ``bona fide hedging transactions'' involving the trading of 
energy futures contracts by those having a true commercial interest in 
buying or selling the underlying commodity.
    Legislation meeting most or all of the above listed criteria 
include H.R. 6341, introduced by Congressman Van Hollen and 
Congresswoman DeLauro, requiring all energy futures contracts executed 
in the U.S. to be traded on U.S. regulated contract markets, thereby 
building on the farm bill amendment's closure of the Enron Loophole by 
returning all energy futures trading, including the energy swaps 
market, to where it was immediately prior to that provision's passage, 
i.e., on regulated exchanges; and that legislation expressly requires 
the trading on U.S. terminals of futures contracts premised upon U.S. 
delivered energy commodities to be similarly subject to a U.S. 
regulated contract market. The latter provision would close the 
``London/Dubai'' Loophole.
    Congressman Stupak has introduced H.R. 6330, which mirrors in 
function the Van Hollen/DeLauro legislation, but, in what I refer to as 
a ``belt and suspenders'' approach, specifically brings energy swaps 
transactions into the regulated futures environment; nullifies after a 
grace period all foreign board of trade No Action letters; imposes CFTC 
imposed aggregated speculation limits on noncommercial interests for 
energy futures trading; requires speculation limits to be imposed on 
all traders except those who are hedging commercial interests related 
to the underlying commodity (thereby eliminating the hedge exemption 
from speculation limits for swaps dealers); and provides strict 
Congressional oversight of any exemptions provided to energy futures 
trading from the contract market requirements of the legislation.
    Senator Nelson of Florida, with Senator Obama as a cosponsor, has 
introduced S. 3134, which is similar to that portion of H.R. 6341 
requiring all energy futures contracts to be traded on regulated 
exchanges.\38\ Senators Cantwell and Snowe have introduced S. 3122, 
which mirrors that portion of H.R. 6341 directed to closing the London/
Dubai Loophole by requiring all trading of futures based on U.S. 
delivered energy commodity on U.S. platforms to be governed fully and 
directly by U.S. futures law.\39\ S. 3205, introduced by Senator 
Cantwell, is the Senate version of Congressman Stupak's H.R. 6330.
---------------------------------------------------------------------------
    \38\&S. 3134, 110th Cong. (2008), available at http://
frwebgate.access.gpo.gov/cgi-bin/
getdoc.cgi?dbname=110_cong_bills&docid=f:s3134is.txt.pdf (last visited 
July 8, 2008).
    \39\& Policing United States Oil Commodities Markets Act of 2008, 
S. 3122, 110th Cong. (2008), available at http://
frwebgate.access.gpo.gov/cgi-bin/
getdoc.cgi?dbname=110_cong_bills&docid=f:s3122is.txt.pdf (last visited 
July 8, 2008).
---------------------------------------------------------------------------
    Also worthy of consideration are Senators Lieberman and Collins 
legislative options designed to undercut excessive speculation in these 
markets through direct and aggregated controls on noncommercial futures 
traders. One of their proposals would require the CFTC to establish 
firm and aggregated speculation position limits on all U.S. speculative 
futures trading no matter where the platform on which the trading is 
geographically located.\40\
---------------------------------------------------------------------------
    \40\&Discussion Draft to establish aggregate speculative position 
limits (2008), available at
http://hsgac.senate.gov/public/_files/aggspeclimits.pdf (last visited 
July 8, 2008).
---------------------------------------------------------------------------
There Are No Legal Restraints to Barring the ``Foreign'' Impact of 
        Manipulation on U.S. Markets
    Arguments have been advanced that there are legal impediments to 
the CFTC applying U.S. regulatory protections on foreign boards of 
trade which bring their trading terminals to the U.S. If that argument 
were correct, it would be an impediment to much of the legislation 
cited above requiring the CFTC to do just that. These arguments are 
premised upon Section 4(b) of the Commodity Exchange Act (CEA). Section 
4(b) provides in part:

        No rule or regulation may be adopted by the Commission under 
        this subsection that (1) requires Commission approval of any 
        contract, rule, regulation, or action of any foreign board of 
        trade, exchange, or market, or clearinghouse for such board of 
        trade, exchange, or market, or (2) governs in any way any rule 
        or contract term or action of any foreign board of trade, 
        exchange, or market, or clearinghouse for such board of trade, 
        exchange, or market.\41\
---------------------------------------------------------------------------
    \41\&7 U.S.C. &6(b) (2008).

    However, this clause has been construed only to mean that the CFTC 
does not have jurisdiction over transactions conducted by foreign 
persons in a foreign country on a foreign board of trade.\42\ Kleinberg 
v. Bear Stearns,\43\ dealt with a situation where London traders were 
committing acts of fraud on a London exchange.\44\ In that case, the 
Court held that the CFTC did not have enforcement jurisdiction, but 
explained, ``It has been consistently held, at least implicitly, that 
CFTC may regulate and prosecute those who practice fraud in the United 
States in connection with commodities trading on foreign 
exchanges.''&\45\
---------------------------------------------------------------------------
    \42\&Philip McBride Johnson & Thomas Lee Hazen, Derivatives 
Regulation 988 (2004 ed.).
    \43\&1985 WL 1625 (1985).
    \44\&Id. at 1.
    \45\&Id. at 2 (internal citations omitted)
---------------------------------------------------------------------------
    To similar effect is the recent case of Mak v. Wocom 
Commodities,\46\ concerning a Hong Kong resident placing futures trades 
with the defendant commodity brokers, both of which are Hong Kong 
corporations (Wocom).\47\ The claims were denied because they were not 
sufficiently particularized.\48\ However, the court stated that 
jurisdiction would have been extended if it had been clearly shown that 
there was ``particularized harm to our domestic markets.''&\49\ With 
ICE we currently have trading by U.S. customers in U.S. denominated 
currency on U.S. terminals in the foremost benchmark U.S. crude oil 
futures contracts with substantial evidence demonstrating 
``particularized harm to our domestic markets.''
---------------------------------------------------------------------------
    \46\&112 F.3d 287 (7th Cir. 1997).
    \47\&Id. at 288.
    \48\&Id. at 290&91.
    \49\&Id. at 291.
---------------------------------------------------------------------------
    Indeed these cases are consistent with a fundamental tenet of 
Federal financial enforcement jurisprudence that Federal financial 
regulatory jurisdiction extends even to wholly foreign transactions 
when domestic financial markets suffer ``from the effects of [an] 
improper foreign transaction[.]''&\50\ The leading commentators on U.S. 
derivatives regulation have, accordingly stated: ``[E]ven without 
substantial activity in the United States, jurisdiction will exist when 
conduct abroad has a substantial affect upon U.S. markets and U.S. 
investors.''&\51\
---------------------------------------------------------------------------
    \50\&Des Brisay v. Goldfield Corp., 549 F.2d 133, 135 (9th Cir. 
1977) (citing Schoenbaum v. Firstbrook, 405 F.2d 200, 206 (2d Cir. 
1968), modified in other respects, 405 F.2d 215 (in banc), cert. 
denied, 395 U.S. 906, 89 S. Ct. 1747, 23 L. Ed. 2d 219 (1969)).
    \51\&Johnson & Hazen, supra note 42, at 984.
---------------------------------------------------------------------------
    Confirmation of this broad sweep of U.S. jurisdiction to address 
overseas malpractice significantly impacting U.S. markets is evidenced 
most clearly by the Sumitomo case.\52\ In that case, the CFTC's 
enforcement division reached a settlement agreement with a Japanese 
corporation upon determining that the Japanese head copper trader of 
the Sumitomo Corporation manipulated the price of U.S. copper almost 
exclusively through trading done in London on the London Metals 
Exchange.\53\ The CFTC imposed $150 million in fines and 
restitution.\54\ Only a small portion of the trading was done in the 
U.S. and the London Metals Exchange contact with the U.S. was limited 
to a U.S. warehouse.\55\ Despite these limited U.S. contacts, ``the 
penalty [assessed was then] the largest ever levied by a U.S. 
Government agency,'' and it was widely recognized that the settlement 
indicated that ``manipulation of any commodity traded in the [U.S.] 
could be the subject of a C.F.T.C. action, even if no acts were 
committed in this country.''&\56\
---------------------------------------------------------------------------
    \52\&In the Matter of Sumitomo Corporation, 1998 CFTC LEXIS 96 
(1998).
    \53\&Id. at 2&3.
    \54\&Id. at 24&25.
    \55\&Id. at 11&14.
    \56\&Floyd Norris, The Markets; A Record Penalty of Sumitomo, a 
Lesson on Market Volatility, N.Y. Times (May 12, 1998), at D13 
(emphasis added).
---------------------------------------------------------------------------
    Clearly, then, trading done on trading platforms within the U.S. 
would be subject to full CFTC regulatory authority. The fact that ICE 
is headquartered in Atlanta with its trade matching engines in Chicago 
and it controls through its U.S. terminals over 30% of the lead U.S.-
delivered petroleum contract only makes the jurisdictional question 
that much easier. The same is true of the Dubai exchange that partners 
with U.S.-based NYMEX to trade WTI contracts on U.S. terminals; and of 
the prospect of NYMEX opening a London trading platform for its energy 
futures products, but escaping U.S. regulation for that trading through 
a staff No Action letter treating NYMEX as if it were a U.K. entity.
    Even more important, Sumitomo and its progeny are an answer to 
those many threats levied by large U.S. financial institutions that 
assert, if their trading on ``foreign'' trading terminals located in 
the U.S. is regulated, they will simply move that trading abroad. To be 
clear, any trading done in the U.S. on foreign exchanges is a fortiori 
covered by the applicable U.S. commodity laws.\57\ So when the threat 
is made that the U.S. institutions will trade abroad, it means that it 
will be done completely outside of the sovereign U.S. However, the 
Sumitomo line of cases make clear that the CFTC, and for that matter, 
United States Department of Justice for purposes of related criminal 
prosecution,\58\ can enforce violations of U.S. laws abroad if U.S. 
markets are significantly impacted by the wrongdoing in foreign 
countries. In short, speculators cannot escape the reach of U.S. civil 
and criminal law if they cause price distortions in U.S. commodity 
markets.
---------------------------------------------------------------------------
    \57\&Johnson & Hazen, supra note 42, at 984.
    \58\&See Press Release, Department of Justice, U.S. Charges 47 
After Long-Term Undercover Investigation Involving Foreign Exchange 
Markets, (Nov. 19, 2003), available at http://www.fbi.gov/dojpressrel/
pressrel03/wooden111903.htm (last visited July 8, 2008).
---------------------------------------------------------------------------
    Moreover, as I have testified elsewhere, no exchange, wherever 
located, can develop liquidity in and maximize profits from trading 
U.S. delivered futures products without having a substantial U.S. 
presence.\59\ This is evidenced by the 18 CFTC staff No Action letters 
issued to foreign exchanges from all over the world allowing the 
placement of trading terminals in the U.S.\60\ In short, the threat 
that trading in U.S. delivered commodities will be done exclusively 
abroad is idle when confronted by both economic and legal realities.
---------------------------------------------------------------------------
    \59\&Written Testimony of Professor Michael Greenberger, Energy 
Market Manipulation and Federal Enforcement Regimes: Hearing Before the 
United States Senate Committee on Commerce, Science, and 
Transportation, 12 (2008), available at http://
digitalcommons.law.umaryland.edu/cgi/
viewcontent.cgi?article=1026&context=cong_test (last visited July 8, 
2008).
    \60\&U.S. Commodity Futures Trading Commission, Foreign Boards of 
Trade Receiving Staff No Action Letters Permitting Direct Access from 
the U.S., available at http://services.cftc.gov/sirt/
sirt.aspx?Topic=ForeignTerminalRelief (last visited July 8, 2008).
---------------------------------------------------------------------------
The IntercontinentalExchange Cannot Fairly Be Deemed British for 
        Purposes of Trading U.S. Petroleum Futures in U.S. Dollars on 
        U.S. Trading Terminals with U.S. Trading Engines
    Of course, all of the above jurisdictional analysis assumes that 
ICE (and DME) are ``foreign'' boards of trade. While ICE has a London 
wholly owned subsidiary, that office is controlled by ICE's 
headquarters in Atlanta; ICE's trading engines are in Chicago; it is 
trading over 30% of the U.S. premier crude oil futures contract in U.S. 
denominated currency. ICE's non-petroleum products, i.e., natural gas 
futures contracts, are clearly traded within U.S. jurisdiction and are 
subject to re-regulation under U.S. law by virtue of the farm bill's 
``End the Enron Loophole'' provision.\61\ ICE also owns a fully 
regulated U.S. exchange: formerly the New York Board of Trade (NYBOT); 
now ICE Futures U.S. It defies all logic that such an exchange can be 
called ``foreign'' based on the name given to its wholly owned 
subsidiary (ICE Futures Europe) and maintaining a London office that 
could as easily be operated out within the U.S.
---------------------------------------------------------------------------
    \61\&Food Conservation and Energy Act of 2008, Pub. L. No. 110&246, 
&13201; 122 Stat. 1651 (2008); Jessica Marron, House and Senate 
Lawmakers Move to Close `Enron Loophole' with Amendment to Farm Bill, 
Platts Global Power Report, (May 1, 2008) (stating that the ``initial 
target of the [the Farm's Bill End the Enron Loophole Provision] is 
ICE's financially settled Henry Hub swap contract'').
---------------------------------------------------------------------------
    The same is also true of the Dubai Mercantile Exchange. Its 
principal partner is the New York Mercantile Exchange (NYMEX), a U.S. 
regulated exchange and a U.S. entity. The President of NYMEX sits on 
DME's board. DME has authority to trade the U.S. delivered WTI contract 
on trading terminals in the U.S. Under these circumstances, DME is 
clearly a U.S. exchange.
    The illogic of the FBOT staff no action process is highlighted by 
NYMEX, a U.S. regulated exchange headquartered in the U.S., 
establishing a London futures trading platform under the United 
Kingdom's regulatory regime and then applying for an FBOT staff No 
Action letter to allow trading within the U.S. on its NYMEX London 
platform. NYMEX will then have converted itself from a U.S. entity into 
a British entity for purposes of U.S. trades on the platform with the 
principal regulation of those trades in the hands of the United 
Kingdom.
    And, why should NYMEX not do this? It is following precisely the 
ICE template. However, the proposal defies all good sense, and, even 
worse, it will add darkness to the trading markets that affect the 
price of crude oil, gasoline, and heating oil within the U.S.
    Under the ICE, DME and London/NYMEX scenarios, each of these 
exchanges are clearly U.S. exchanges and their trading terminals should 
be regulated as U.S. regulated contract markets. Moreover, as U.S. 
contract markets, they and the traders on those exchanges (no matter 
whether they trade in the U.S. or abroad) are fully subject to both 
CFTC civil jurisdiction and United States Federal criminal 
statutes.\62\ For example, in Tamari v. Bache&\63\ the Seventh Circuit 
held there was Federal jurisdiction to enforce the Commodity Exchange 
Act, even though the trader and the trader's broker accused of fraud 
were both situated in Lebanon,\64\ by stating: ``that Congress intended 
to proscribe fraudulent conduct associated with any commodity future 
transactions executed on a domestic exchange, regardless of the 
location of the agents that facilitate the trading'' and thus there was 
jurisdiction.\65\
---------------------------------------------------------------------------
    \62\&Johnson & Hazen, supra note 42, at 986 (citing In the Matter 
of Ralli Brothers Bankers, [1986&1987 Transfer Binder] Comm. Fut. L. 
Rep. (CCH) &23, 314 (1986)).
    \63\&730 F.2d 1103 (7th Cir. 1984).
    \64\&Id. at 1104&05.
    \65\&Id. at 1108; Johnson & Hazen, supra note 42, at 987.
---------------------------------------------------------------------------
The CFTC Has Consistently Viewed Foreign Exchanges Trading on U.S. 
        Terminals Subject to Full U.S. Regulation
    It has been shown immediately above, that as a legal matter there 
is no bar either within the CEA as now drafted nor within the case law 
that prevents the CFTC from gaining full regulatory control, over any 
futures trading done in the U.S. Even if one were to assume that ICE, 
for example, is truly a foreign board of trade, Section 4(b) only bars 
regulation of trading done by foreign citizens in foreign countries 
trading foreign commodities on foreign exchanges when such trading does 
not cause substantial dysfunctions to U.S. markets. Below it is shown 
that this well established law has governed the CFTC's FBOT staff no 
action process since its inception.
    The staff no action process initiated in 1999 was not developed 
under a view that, pursuant to Section 4(b), the CFTC could not 
regulate foreign exchanges who wished to put trading terminals in the 
U.S. To the contrary, the history is clear that those foreign exchanges 
themselves recognized that, in the absence of an exemption under 
Section 4(c) of the CEA,\66\ they would have to fully register as a 
U.S. contract market. As their plain language made clear when they were 
first issued in 1999, the FBOT No Action letters originated from a 
rulemaking proceeding that, by its very terms, indicated that 
permission to put terminals in the U.S. derived from Section 4(c)'s 
exemption from full regulation and not from Section 4(b)'s absolute bar 
against foreign regulation.\67\ It must be remembered that Section 4(b) 
does not countenance exceptions to its general restriction. The No 
Action letters include a myriad of regulatory conditions on the foreign 
boards of trade that are completely inconsistent with the absolute bar 
within Section 4(b).\68\
---------------------------------------------------------------------------
    \66\&Written Testimony of Professor Michael Greenberger, Energy 
Speculation: Is Greater Regulation Necessary to Stop Price 
Manipulation?: Hearing Before the H. Subcomm. On Oversight and 
Investigations, 14&15 (2007), available at http://
digitalcommons.law.umaryland.edu/cgi/
viewcontent.cgi?article=1011&context=cong_test (last visited July 8, 
2008).
    \67\&See, e.g., LIFFE Administration & Management, CFTC No-Action 
Letter, 1999 CFTC Ltr. LEXIS 38, 4&5 (July 23, 1999); Access to 
Automated Boards of Trade (proposed rules), 64 Fed. Reg. 14,159, 14,174 
(Mar. 24, 1999).
    As the proposed rules explained,

      Section 4(c) of the Act provides the Commission with authority 
``by rule, regulation, or
  order'' to exempt ``any agreement, contract or transaction'' from the 
requirements of Section
  4(a) of the Act if the Commission determines that the exemption would 
be consistent with
  the public interest, that the contracts would be entered into solely 
by appropriate persons and
  that the exemption would not have a material adverse effect on the 
ability of the Commission
  or any contract market to discharge its regulatory or self-regulatory 
duties under the Act. Id.
  (internal citations omitted).

    \68\&Among the conditions present in all of the No Action letters 
are the following: the exchange will satisfy the appropriate 
designation in its home jurisdiction, the exchange must work to ensure 
fair markets that prohibit fraud and other abuses by providing adequate 
supervision, continued adherence to IOSCO Principles for Oversight of 
Screen-Based Trading Systems for Derivative Products, members and 
guaranteed customers will only receive direct access if a clearing 
member guarantees and assumes all financial liability, there are 
sufficient safeguards to prevent unauthorized access or trading, at the 
Commission's request recipients will provide market information 
including access to books and records, and will submit all contracts to 
be made available through the no-action process, the volume of said 
trades and a list of names and addresses of all those using these 
exchanges. See, e.g., LIFFE Administration and Management, CFTC No-
Action Letter, 1999 CFTC Ltr. LEXIS 38, 65&72 (July 23, 1999); IPE, 
CFTC No-Action Letter, 1999 CFTC Ltr. LEXIS 152, 58&66 (Nov. 12, 1999); 
Dubai Mercantile Exchange Ltd., CFTC No-Action Letter, 2007 CFTC Ltr. 
LEXIS 6, 87&96 (May 24, 2007).
---------------------------------------------------------------------------
    If there were any doubt about the above analysis, it was belied by 
the actions of the CFTC on June 17, 2008 and July 8, 2008, when it 
added four new conditions to the existing ICE Futures Europe and Dubai 
Mercantile Exchange No Action letters.\69\ While these additional 
conditions have only been applied to ICE and DME, Acting Chairman 
Lukken's related comments show that the CFTC has the authority to 
incorporate them in the now outstanding 14 other FBOT staff No Action 
letters affecting every foreign board of trade with U.S. terminals, as 
well as any FBOT that seeks an exemption from U.S. direct regulation in 
the future.\70\
---------------------------------------------------------------------------
    \69\&Amendment to No-Action Letter Issued to the International 
Petroleum Exchange of London (now ICE Futures Europe), CFTC No-Action 
Letter, (June 17, 2008), available at http://www.cftc.gov/stellent/
groups/public/@lrlettergeneral/documents/letter/08-09.pdf (last visited 
July 8, 2008); Press Release, CFTC, CFTC Conditions Foreign Access on 
Adoption of Position Limits on London Crude Oil Contract (June 17, 
2008) available at http://www.cftc.gov/newsroom/generalpressreleases/
2008/pr5511-08.html (last visited July 8, 2008).
    \70\&Press Release, CFTC, CFTC Conditions Foreign Access on 
Adoption of Position Limits on London Crude Oil Contract (June 17, 
2008) available at http://www.cftc.gov/newsroom/generalpressreleases/
2008/pr5511-08.html (last visited July 8, 2008). As Acting Chairman 
Lukken stated,

      These new conditions for foreign access will provide the CFTC 
with additional oversight
  tools to monitor linked contracts. This powerful combination of 
enhanced trading data and ad
  ditional market controls will help the CFTC in its surveillance of 
regulated domestic ex-
  changes, while preserving the important benefits of our international 
recognition program
  that has enabled proper global oversight during the last decade. This 
raises the bar for all
  future foreign access requests and will ensure uniform oversight of 
linked contracts. Id.
      

    If Section 4(b)'s absolute prohibition were applicable to FBOTs 
with U.S. terminals, as some have argued as a predicate to limiting 
legislative or administrative action in this area, how could the CFTC 
add these new conditions to the outstanding No Action letters? Those 
new conditions, inter alia, require large trader reporting and the 
imposition of speculation limits.\71\ The failure of the FBOTs to 
comply could result in the revocation of the No Action letters, thereby 
requiring each FBOT to register as a fully regulated U.S. contract 
market.\72\
---------------------------------------------------------------------------
    \71\&Amendment to No-Action Letter Issued to the International 
Petroleum Exchange of London (now ICE Futures Europe), CFTC No-Action 
Letter, (June 17, 2008) available at http://www.cftc.gov/stellent/
groups/public/@lrlettergeneral/documents/letter/08-09.pdf (last visited 
July 8, 2008).
    \72\&See supra notes 68&70 and accompanying text.
---------------------------------------------------------------------------
    Those who would attempt to limit Congressional and regulatory 
controls on ICE, DME, and NYMEX/London have also relied upon a November 
2006 policy statement issued by the CFTC on the FBOT No Action letter 
process.\73\ Much is made about the fact that Section 4(b) is cited and 
quoted therein. Whatever the purpose of that 4(b) reference, the 
assertion that 4(b) presents an absolute bar is belied by the following 
within that policy statement:
---------------------------------------------------------------------------
    \73\&Boards of Trade Located Outside of the United States and No-
Action Relief from the Requirement to Become a Designated Contract 
Market or Derivatives Transaction Execution Facility, 71 Fed. Reg. 
64443 (Nov. 2, 2006).

        [i]n the absence of no-action relief, a board of trade, 
        exchange or market that permits direct access by U.S. persons 
        might be subject to Commission action for violation of, among 
        other provisions, section 4(a) of the CEA, if it were not found 
        to qualify for the exclusion from the DCM designation or DTEF 
        registration requirement.\74\
---------------------------------------------------------------------------
    \74\&Id. at 64,445 n. 23.

In short, the failure to gain no action relief would mean that, in the 
absence of registration as a fully regulated contract market, the FBOT 
would have to remove its U.S. terminals according to the CFTC's own 
analysis. As the CFTC expressly stated in its June17, 2008 letter to 
ICE imposing the new conditions on its no action status, if ICE 
satisfies the four new conditions, the CFTC ``will not recommend that 
the Commission institute enforcement action against [ICE] based upon 
[ICE's] failure to seek contract market designation or registration as 
a DTEF under Sections 5 and 5a of the Act.''
    Again, the action of the CFTC adding further conditions to the ICE 
No Action letter, including large trader reporting and speculation 
limits, upon pain of an enforcement proceeding based on the failure to 
register as a U.S. regulated contract market, clearly demonstrates that 
the CFTC meant what it said in the above quoted reference from its 2006 
policy statement, it has broad powers to require a ``foreign'' exchange 
to fully register in the U.S. or terminate its presence in this 
country.\75\ Section 4(b) provides no impediment to those powers.
---------------------------------------------------------------------------
    \75\&Amendment to No-Action Letter Issued to the International 
Petroleum Exchange of London (now ICE Futures Europe), CFTC No-Action 
Letter, (June 17, 2008) available at http://www.cftc.gov/stellent/
groups/public/@lrlettergeneral/documents/letter/08-09.pdf (last visited 
July 8, 2008).
---------------------------------------------------------------------------
Efforts Designed To Oversee and Improve the Foreign Regulation of U.S. 
        Delivered Futures on U.S. Terminals May Not Effectively Close 
        the ``London/Dubai'' Loophole
    Congressman Etheridge of this Committee&\76\ and Senators Durbin 
and Levin in the Senate have introduced legislation which ratchets up 
the existing CFTC oversight of foreign boards of trade energy futures 
trading on U.S. trading terminals (``FBOTs''). That legislation, while 
a major improvement over the present regulatory environment, still 
leaves primary and direct enforcement and oversight in the hands of the 
foreign regulator, e.g., the U.K.'s Financial Services Authority in the 
case of ICE; or the Dubai Financial Services Authority in the case of 
the DME.
---------------------------------------------------------------------------
    \76\&H.R. 6334.
---------------------------------------------------------------------------
    It is my understanding the this legislation deferring to the 
primacy of foreign regulators to oversee U.S. terminals operated by 
FBOTs derives from a concern that section 4(b) of the Act bars U.S. 
regulation of even those FBOTs in the U.S.\77\ As has been shown 
above,\78\ section 4(b), whatever it means, is an absolute bar to any 
U.S. regulation,\79\ whereas H. 6334 does ratchet up U.S. regulation of 
the foreign exchange. Moreover, as shown above,\80\ section 4(b)'s bar 
only applies to foreign trades on foreign exchanges of foreign 
commodities not having a significant impact on U.S. markets. Therefore, 
policy concerns about section 4(b) should not govern the regulation of 
FBOT terminals in the U.S., especially when those terminals trade U.S. 
delivered futures contracts; and even more so when the FBOTs 
institutional ties are so closely affiliated with the U.S. and U.S. 
institutions that the FBOT loses all claim to foreign status.
---------------------------------------------------------------------------
    \77\&See supra notes 41&42 and accompanying text.
    \78\&See supra notes 43&60 and accompanying text.
    \79\&See supra notes 43&60 and accompanying text.
    \80\&See supra note 42 and accompanying text.
---------------------------------------------------------------------------
    Again, legislation such as that proposed by Congressman Etheridge, 
is a major improvement of what had been the CFTC's oversight of FBOTs' 
U.S. terminals.
    This kind of legislation affords the CFTC the authority to enforce 
the prohibitions of section 9 of the Act, concerning criminal 
penalties, including anti-manipulation prohibitions therein, and ``to 
limit, reduce, or liquidate any position'' on the FBOT in aid of 
preventing, inter alia, manipulation and excessive speculation 
enforcement.\81\ Imposition of restrictions on the FBOT, however, must 
be preceded by consultation with the FBOTs foreign regulator.\82\
---------------------------------------------------------------------------
    \81\&See S. 3130 &7, 110th Cong. (2008), available at http://
frwebgate.access.gpo.gov/cgi-bin/
getdoc.cgi?dbname=110_cong_bills&docid=f:s3130is.txt.pdf (last visited 
July 8, 2008).
    \82\&See id.
---------------------------------------------------------------------------
    The CFTC ``may apply such record-keeping requirements [to the FBOT] 
as the Commission determines are necessary,''&\83\ and before the CFTC 
exempts an FBOT from full U.S. contract market regulatory requirements, 
it must ensure that the FBOT operating the U.S. terminals ``appl[y] 
comparable principles'' to those of the CFTC for ``daily publication of 
trading information and position limits or accountability levels for 
speculators'' and provides to the CFTC ``the information that the 
[CFTC] determines necessary to publish a Commitment of Traders report'' 
for U.S. regulated contract markets.\84\
---------------------------------------------------------------------------
    \83\&Id.
    \84\&Id. at &6.
---------------------------------------------------------------------------
    Legislation of the kind introduced by Congressman Etheridge also 
requires the CFTC to conduct a review of FBOT no action status for 
existing FBOTs between the first anniversary of the passage of S. 3130 
and 1\1/2\ years thereafter to ensure FBOT compliance with the new 
statutory requirements imposed by this legislation.\85\
---------------------------------------------------------------------------
    \85\&Id. at &11.
---------------------------------------------------------------------------
    In any event, recent actions taken by the CFTC to increase 
regulation of ICE and DME may place the requirements of Congressman 
Etheridge's bill in a new context.
CFTC's New Regulatory Requirements for Foreign Boards of Trade With 
        U.S. Terminals
    For at least 2 years prior to May 20, 2008, the CFTC had repeatedly 
assured Congress and market participants that the dramatic rise in 
crude oil, natural gas, gasoline, and heating oil was caused 
exclusively by supply/demand market fundamentals.\86\ The CFTC had 
based its conclusions on its ``exhaustive'' research of all relevant 
market data.\87\
---------------------------------------------------------------------------
    \86\&Walt Lukken, Acting Chairman, CFTC, Prepared Remarks: 
Compliance and Enforcement in Energy Markets--The CFTC Perspective 
(Jan. 18, 2008), available at http://www.cftc.gov/stellent/groups/
public/@newsroom/documents/speechandtestimony/opalukken-34.pdf (last 
visited June 21, 2008) (quoting Mr. Walter Lukken ``While speculators 
play a integral role in the futures markets, the report concludes that 
speculative buying, as a whole, does not appear to drive up price''); 
Tina Seeley, Energy Market Not Manipulated, U.S. Regulator Says 
(Update1), Bloomberg.com (May 7, 2008), available at http://
www.bloomberg.com/apps/news?pid=20601072&sid=aX0iaEd9bOMU&refer=energy 
(last visited June 21, 2008) (quoting Mr. Walter Lukken, ``We have not 
seen that speculators are a major factor in driving these prices''); 
Ian Talley & Stephen Power, Regulator Faults Energy-Futures Proposal, 
Wall St. J. (May 8, 2008) (stating that Mr. Walter Lukken commented 
that his agency hadn't seen evidence indicating that speculators are 
``a major factor'' in driving up oil prices); Oral Testimony of Walter 
L. Lukken, Commissioner, CFTC, Before the Committee on Agriculture, 
U.S. House of Representatives, (April 27, 2006) (quoting Mr. Walter 
Lukken ``[B]ased on our surveillance efforts to date, we believe that 
crude oil and gasoline futures markets have been accurately reflecting 
the underlying fundamentals of these markets''); Sharon Brown-Hruska, 
Chairman, CFTC, Address before the International Monetary Fund: Futures 
Markets in the Energy Sector (Jun. 15, 2006), available at http://
www.cftc.gov/newsroom/speechestestimony/opabrownhruska-46.html (last 
visited Jun. 21, 2008) (stating ``To date, the staff' findings have 
shown that these large speculators as a group tend to inject liquidity 
into the markets rather than having an undue impact on price 
movements''); Sharon Brown-Hruska, Chairman, CFTC, Keynote Address at 
the Managed Funds Association Annual Forum (Jun. 25, 2005), available 
at http://www.cftc.gov/opa/speeches05/opabrownhruska34.htm  (last 
visited June 21, 2008) (stating the CFTC's study of the role of managed 
funds in our markets, ``[C]ontradicts with force the anecdotal 
observations and conventional wisdom regarding hedge funds and 
speculators, in general.'').
    \87\&See, e.g., supra note 86 and accompanying text.
---------------------------------------------------------------------------
     Indeed, as recently as May 20, 2008, before the full Senate 
Homeland Security and Government Affairs Committee, the CFTC's Mr. 
Harris, testified: ``[A]ll the data modeling and analysis we have done 
to date indicates there is little economic evidence to demonstrate that 
prices are being systematically driven by speculators in these 
[agriculture and energy] markets. . . . [O]ur comprehensive analysis of 
the actual position data of these traders fails to support [the] 
contention'' that there is excessive speculation or manipulation.\88\ 
Rather, he said ``prices are being driven by powerful economic 
fundamental forces and the laws of supply demand.''&\89\
---------------------------------------------------------------------------
    \88\&Written Testimony of Jeffrey Harris, Chief Economist, CFTC, 
Before the Senate Committee on Homeland Security and Governmental 
Affairs, United States Senate 20 (2008), available at http://
www.cftc.gov/stellent/groups/public/@newsroom/documents/
speechandtestimony/oeajeffharristestimony052008.pdf (last visited June 
21, 2008).
    \89\&Id. see, e.g., Richard Hill, Lieberman Says He Will Consider 
Legislation to Address Commodity Prices, 40 Bureau of Nat'l. Aff. 21 
(May 26, 2008) (emphasis added), available at http://
corplawcenter.bna.com/pic2/clb.nsf/id/BNAP-7EVTDG?OpenDocument (last 
visited June 21, 2008).
---------------------------------------------------------------------------
    In a rather dramatic about face, the CFTC suddenly announced on May 
29, 2008 (or just 9 days after Mr. Harris testimony) that that agency 
is in the midst of an investigation into the crude oil energy 
markets&\90\ and it will now begin to collect substantial amounts of 
new data to determine what is undergirding high oil prices.\91\ This 
reversal in course is almost certainly the product of intense pressure 
placed on the CFTC by Congress to ensure that excessive speculative 
activity is not being conducted on the principal market over which the 
CFTC has declined primary responsibility, i.e., trading done on ICE and 
on ICE's U.S. terminals.\92\
---------------------------------------------------------------------------
    \90\&CFTC Commissioner Bart Chilton has acknowledged that the 
public announcement within the May 29 release raises the specter that 
``some people [will] head for the paper shredder [.]'' Tina Seeley, 
CFTC Targets Shipping, Storage in Oil Investigation (Update2), 
Bloomberg.com (May 30, 2008), available at http://www.bloomberg.com/
apps/news?pid=20601087&sid=aGzRMmD_b9MA&refer=home (last visited June 
21, 2008).
    \91\& Press Release, U.S. Commodity Futures Trading Commission, 
CFTC Announces Multiple Energy Market Initiatives (May 29, 2008), 
available at http://www.cftc.gov/newsroom/generalpressreleases/2008/
pr5503-08.html (last visited June 21, 2008).
    \92\&See Letter from Twenty-Two Senators to Walter Lukken, Acting 
Chairman, CFTC (May 23, 2008), available at http://cantwell.senate.gov/
news/record.cfm?id=298325 (last visited June 21, 2008) (insisting that 
CFTC require ICE to demonstrate why it should not be subject to the 
same regulation as other U.S.-based exchanges and warning, ``[a]bsent 
expeditious Commission action, Congress may need to step in to protect 
consumers and ensure that all markets trading U.S. delivered energy 
futures are transparent and free of fraud, manipulation, and excessive 
speculation''); Letter from Senator Jeff Bingaman to Walter Lukken, 
Acting Chairman, CFTC (May 27, 2008), available at http://
energy.senate.gov/public/
index.cfm?FuseAction=PressReleases.Detail&PressRelease_id=0fdd0eb4-
4b1d-49f0-a3a2-f89fd0e4b1d3&Month=5&Year=2008&Party=0 (last visited 
June 21, 2008) (expressing concern that that ``the Commission's 
assertions to date--discounting the potential role of speculation in 
driving up oil prices--have been based on a glaringly incomplete data 
set'' and demanding an explanation of many CFTC activities); Energy 
Speculation: Is Greater Regulation Necessary to Stop Price 
Manipulation?: Hearing Before the House Subcomm. on Oversight & 
Investigations, 110th Cong. (2007) (statement of Rep. Joe Barton, 
Member, House Subcomm. on Investigations) (informing Walter Lukken, 
Acting Chairman, CFTC, that Congress had empowered FERC to provide 
additional regulation in some energy markets because they were 
displeased with the CFTC's efforts).
---------------------------------------------------------------------------
    As crude oil and gas prices continued to spike even after the 
CFTC's May 29, 2008, announcement, the pressure on the CFTC did not let 
up. Thus, by June 17, 2008, the CFTC once again increased its pressure 
on ICE.
    In a dramatic June 17, 2008 letter to ICE, the CFTC Director of 
Market Oversight referenced the fact that ICE had moved its trading 
platform from London ``to the ICE Platform operated by [ICE] in 
Atlanta, Georgia,'' and that that U.S. platform was now trading three 
U.S. delivered energy futures products (WTI, heating oil, and gasoline) 
``each of which is cash-settled on the price of physically-settled 
contracts traded on NYMEX.''&\93\ Most importantly, the June 17 letter 
to ICE then stated:
---------------------------------------------------------------------------
    \93\& Amendment to No-Action Letter Issued to the International 
Petroleum Exchange of London (now ICE Futures Europe), CFTC No-Action 
Letter 2 (June 17, 2008), available at http://www.cftc.gov/stellent/
groups/public/@lrlettergeneral/documents/letter/08-09.pdf (last visited 
June 20, 2008).

        A foreign board of trade listing for trading a contract which 
        settles on the price of a contract traded on a CFTC-regulated 
        exchange raises very serious concerns for the Commission. . . . 
        In the absence of preventive measures at [ICE], this 
        circumstance could compromise the [CFTC's] ability to carry out 
        its market surveillance responsibilities, as well as the 
        integrity of prices established on CFTC-regulated exchanges . . 
        . [T]he division retains the authority to condition further, 
        modify, suspend, terminate, or otherwise restrict the terms of 
        the no-action relief provided herein, in its discretion.\94\
---------------------------------------------------------------------------
    \94\&Id.

    In order to address the CFTC's ``very serious concerns'' that it 
had ``compromise[d] [its own] ability to carry out its market 
surveillance responsibilities, as well as the integrity of the prices 
established'' thereon, the letter then outlined four new conditions 
that it imposed upon ICE: ``position limits or position accountability 
levels (including related hedge exemption provisions) as adopted by'' 
U.S. regulated contract markets; quarterly reports of any member 
exceeding those levels and limits; publication of daily trading 
information comparable to that required of U.S. contract markets; daily 
reporting of ``large trader positions'' as provided by U.S. regulated 
markets.\95\
---------------------------------------------------------------------------
    \95\&Id. at 3.
---------------------------------------------------------------------------
    ICE was given 120 days to come into compliance with the new CFTC 
conditions.\96\ The CFTC acknowledged that the new ICE rules would have 
to be approved by the FSA.\97\ The June 17 letter to ICE concludes by 
stating that only if ICE complies with the conditions outlined therein 
can ICE be assured that the CFTC will ``not recommend that the 
Commission institute enforcement action against [ICE] or its members'' 
based on ICE's failure to register as a U.S. regulated contract 
market.\98\
---------------------------------------------------------------------------
    \96\&Id.
    \97\&Id.
    \98\&Id.
---------------------------------------------------------------------------
    On June 17, 2008, the day that that letter to ICE was released, 
CFTC Acting Chairman Lukken is reported to have told the Senate 
oversight Committee: ``The CFTC will also require other foreign 
exchanges that seek such direct access to provide the CFTC with 
comparable large trader reports and to impose comparable position and 
accountability limits for any products linked with U.S. regulated 
futures contracts[.]''&\99\ On July 7, 2008, an identical CFTC staff 
letter was written to the DME.
---------------------------------------------------------------------------
    \99\&Nick Snow, US CFTC Unveils New Foreign Market Data Pact, Oil & 
Gas J., (June 18, 2008), available at http://www.mapsearch.com/news/
display.html?id=332086 (last visited June 21, 2008).
---------------------------------------------------------------------------
    It would seem that much of what the CFTC has done implements the 
data collection requirements included in Congressman Etheridge's bill. 
Indeed, the CFTC's threat of enforcement authority against ICE in its 
June 17, 2008 letter, while limited for these purposes to failing to 
register as a U.S. regulated contract market, would seem to make it 
clear that that agency could enforce all civil and criminal penalties 
asserted throughout the CEA against ICE and its members if appropriate, 
thereby possibly even exceeding the grant of section 9 enforcement 
powers afforded the CFTC with regard to FBOTs in S. 3130.
    As will be shown below, however, the present skyrocketing cost of 
crude oil and its derivative products, as well as the resulting 
destabilization of the U.S. economy, would seem to counsel the use of 
the full force of the CFTC's powers to bring ICE and similar 
``foreign'' exchanges with trading terminals in the U.S. trading 
futures premised on U.S. delivered energy commodities under complete, 
direct, and real time U.S. regulatory control.
Deference to Foreign Regulators over U.S. Energy Futures Trading 
        Deprives U.S. Energy Markets and U.S. Energy Consumers of the 
        Full Weight of CEA Protections
    The question arises whether the U.S. should continue to regulate 
FBOT trading of U.S. energy futures on U.S. terminals principally 
through foreign regulators while requiring more aggressive CFTC 
oversight of that process. Or, should trading of U.S. delivered energy 
products on U.S. terminals be deemed a sufficient nexus to the U.S. and 
the well being of its economy to require direct U.S. supervision. If 
Congress settles for the status quo as evidenced by the CFTC's most 
recent actions if forsakes a wealth of traditional regulatory tools 
that the CFTC has to ensure that U.S. energy markets and prices are 
rooted in economic fundamentals.
    The Lack of Emergency Authority to Intervene in Market Distortions. 
The most substantial risk in following the CFTC policy of leaving ICE 
and other similarly situated ``foreign'' exchanges under the principal 
supervision of foreign regulators while those exchanges have U.S. 
terminals trading critically important U.S. delivered energy products 
is that the CFTC cannot exercise its broad emergency authority to 
intervene immediately when confronted with emergencies and dysfunctions 
on U.S. regulated contract markets.\100\
---------------------------------------------------------------------------
    \100\&Johnson & Hazen, supra note 42, at 1218.
---------------------------------------------------------------------------
    Described as the CEA's ``most potent tool,'' section 8a(9) provides 
that ``whenever [the CFTC] has reason to believe that an emergency 
exists,'' it may take such actions ``including, but not limited to `the 
setting of temporary emergency margin levels on any futures contract 
[and] the fixing of limits that may apply to a market position.''&\101\ 
An ``emergency'' is defined:
---------------------------------------------------------------------------
    \101\&7 U.S.C. &2a(9) (2008) (emphasis added).

        ``to mean, in addition to threatened or actual market 
        manipulations and corners, any act of the United states or a 
        foreign government affecting a commodity or any other major 
        market disturbance which prevents the market from accurately 
        reflecting the forces of supply demand for such 
        commodity.''&\102\
---------------------------------------------------------------------------
    \102\&Id. (emphasis added).

It should be born in mind that these emergency powers afford the CFTC 
the immediate right to alter on a real time basis margin requirements 
and speculation and position limits to deal with crises as they arise 
``which prevent[] the market from accurately reflecting the forces of 
supply demand[.]'' While section 8a(9) affords direct judicial review 
of orders after they are issued in a Federal court of appeals, it does 
not by its terms require emergency orders to be preceded by notice and 
an opportunity to be heard, thereby ensuring speedy restoration of 
normal market processes.\103\
---------------------------------------------------------------------------
    \103\&Johnson & Hazen, supra note 42, at 1221&22.
---------------------------------------------------------------------------
    When one reads this broad power afforded to the CFTC, one could 
reasonably ask why it has not been used on days such as Friday, June 6, 
2008 when the WTI crude oil futures prices rose nearly $11 per barrel 
in a single day.\104\ That is best explained by the fact that the only 
real time market data in the hands of the CFTC on that day was from 
NYMEX--the fully regulated U.S. exchange with speculation limits in 
place; perhaps if the CFTC had meaningful and real time ICE data on 
that day, thereby seeing the entirety of the WTI crude oil market, it 
might have seen a need to intervene under its emergency authority to 
impose temporary position limits and margin requirements to cool down 
what was widely viewed as breathtaking volatility.
---------------------------------------------------------------------------
    \104\&See Simon Webb, OPEC hike unlikely at emergency oil talks, 
ReutersUK, (June 20, 2008), available at http://uk.reuters.com/article/
oilRpt/idUKL2058919720080620 (last visited July 8, 2008).
---------------------------------------------------------------------------
    Of course, even when it receives the ICE data within 120 days of 
its June 17, 2008 requirements, the CFTC will still not have the 
authority under the governing CFTC No Action letter to use its 
emergency intervention powers on ICE even though over 60% of ICE U.S. 
delivered WTI futures trading is done within our own country. Rather 
than exercising real time emergency authority, the CFTC will have to 
once again ``negotiate'' with the FSA to have that U.K. regulator 
intervene to deal with, inter alia, ICE WTI trade matching systems 
located in Chicago, Illinois.
    Moreover, relying upon the FSA to intervene on a real time basis 
for a ``major market disturbance'' on a U.S. delivered energy futures 
contract traded on U.S. terminals is as problematic as a matter of 
policy as it is as a matter of logistics. Unlike the robust emergency 
authority given by Congress to the CFTC under section 8a(9), the FSA 
emergency powers have been implemented in a quite lackluster fashion. 
While its governing statute affords intervention power,\105\ FSA makes 
clear on its website that the U.K. has translated any such authority 
when ``major operational disruptions'' are detected on ICE, to a 
``Tripartite Standing Committee'' that would convene the ``Cross Market 
Business Continuity Group'' (CMBCG) to:
---------------------------------------------------------------------------
    \105\&&313(A), Financial Services and Markets Act 2000).

         ``provide[] a forum for establishing senior-level practitioner 
        views . . . Its role is advisory: decisions will be for the 
        relevant official or market authorities or for firms themselves 
        either individually or collectively through the agency of the 
        CMBCG. The CMBCG may also have a role in pooling information to 
        help facilitate private sector decisions and workarounds to 
        alleviate pressures on the system.''&\106\
---------------------------------------------------------------------------
    \106\&Developments in financial sector crisis management, FSA 
Homepage, available at http://www.fsa.gov.uk/Pages/About/Teams/
Stability/crisis/index.shtml (last visited July 8, 2008).

    This U.K. guidance for sharing ``views'' and for ``pooling 
information'' in an ``advisory'' capacity to ``help facilitate private 
sector'' decisions in London is what the U.S. industrial consumers of 
crude oil and the U.S. gas consuming public are left to fall back upon 
when WTI crude oil soon skyrockets to $150 per barrel as has been 
predicted by Morgan Stanley, one of the founders of ICE.\107\ The 
CFTC's June 17 imposition of new conditions on ICE do not convert the 
U.K.'s lackluster emergency responses into the vigorous emergency 
responses called for by U.S. law.
---------------------------------------------------------------------------
    \107\&Tim Paradis, Stocks decline in jobs data, surge in oil 
prices, Associated Press (June 6, 2008), available at http://
ap.google.com/article/ALeqM5gHs5OM3gFG_DytQQZFbWfgPT08MAD914K0H80 (last 
visited July 8, 2008). Goldman Sachs, also one of the founders of ICE, 
has predicted that the price per barrel of crude oil will surpass $200 
by October of this year. Neil King Jr. and Spencer Swartz, U.S. News: 
Some See Oil at $150 This Year--Range of Factors May Sustain Surge; 
$4.50-a-Gallon Gas, Wall St. J. (May 7, 2008) at A3; Greenberger, supra 
note 21, at 7.
---------------------------------------------------------------------------
    Indeed, any effort by Congress to insist upon ``comparability'' on 
emergency powers is futile. As the Financial Times has so aptly 
commented on June 20, 2008, the U.K.'s futures regulator ``operates a . 
. . system of `credible deterrence' of wrongdoing by engaging in a 
dialogue with market participants. Since the FSA's creation in 1997, it 
has brought no civil or criminal cases in energy markets.''&\108\ In 
stark contrast, as Acting Chairman Lukken recently proudly reported to 
Congress: ``[s]ince December 2002 to the present time, the [CFTC] has 
filed a total of 39 enforcement actions charging a total of 64 
defendants with violations involving the energy markets,'' having 
referred ``35 criminal actions concerning energy market misconduct'' to 
the Department of Justice.\109\
---------------------------------------------------------------------------
    \108\&Jeremy Grant, ICE restrictions cold comfort for FSA, 
Financial Times (June 20, 2008) (emphasis added), available at http://
www.ft.com/cms/s/0/2ba33a0e-3e35-11dd-b16d-0000779fd2ac.html (last 
visited July 8, 2008).
    \109\&Written testimony of Acting Chairman Walter Lukken, Hearing 
Before the Senate Appropriations Subcommittee on Financial Services and 
General Government And The Senate Committee on Agriculture, Nutrition 
and Forestry 4 (2008), available at http://www.cftc.gov/stellent/
groups/public/@newsroom/documents/speechandtestimony/opalukken-41.pdf 
(last visited July 8, 2008).
---------------------------------------------------------------------------
    The contrast between FSA and CFTC enforcement activity in the 
energy futures markets under their control is quite remarkable, 
especially since ICE is responsible for nearly 50% of all crude oil 
futures contracts traded worldwide and since the CFTC has not had 
access to meaningful ICE data.\110\
---------------------------------------------------------------------------
    \110\&IntercontinentalExchange, Inc., Annual Report Form (10&K) at 
63 (Dec. 31, 2007) available at http://www.secinfo.com/dsVsf.tU7.htm 
(last visited July 8, 2008) (showing that ICE's total crude oil futures 
market share is 47.8%).
---------------------------------------------------------------------------
    The American gas consuming public's trust in the FSA might also be 
shaken by the U.K.'s response to the June 17, 2008 CFTC announcement of 
the imposition of new transparency requirements on ICE's use of U.S. 
terminals used as a critical part of ICE's control of over 30 % of the 
U.S. delivered WTI contract. Mr. Stuart Fraser, head of policy at the 
City of London Corporation, is reported in the Financial Times to have 
called the CFTC June 17 letter ``American imperialism,'' and adding for 
measure ``if a bunch of [S]enators want to get rude about the FSA, 
that's fine, but don't interfere in our market.''&\111\
---------------------------------------------------------------------------
    \111\&Jeremy Grant, Storm over push for regulatory reform on 
positions at ICE, Financial Times (June 20, 2008) (emphasis added), 
available at http://www.ft.com/cms/s/0/a00c6a00-3e62-11dd-b16d-
0000779fd2ac.html (last visited July 8, 2008).
---------------------------------------------------------------------------
    Of course, the UK is wrong to think trading on U.S. terminals of 
the U.S. WTI contract is ``their'' market. ICE is U.S. owned, operated 
in Atlanta with trading terminals and engines in the U.S. and trading 
over 30% of U.S. delivered crude oil futures market in U.S. dollar 
denominated currency.
    However, one could easily see how those officials in the U.K. might 
mistakenly view WTI trading on U.S. terminals as ``their'' market when 
the CFTC and ICE continue to refer to this self evidently ``U.S.'' 
market as being conducted on a ``foreign'' exchange. If the CFTC were 
to flatly state the obvious ( i.e., ICE Futures Europe is wholly owned 
by a U.S. concern, having brought the corpus of the old British 
International Petroleum Exchange, for all intents and purposes, to the 
U.S.). the UK might grasp the reality of the situation, rather than the 
ICE perpetuated ``London'' myth.
Deferring to Foreign Regulators Undercuts the Self Regulatory and 
        Surveillance Requirements of U.S. Law.
    Next to the inability to exercise the extraordinary emergency 
powers afforded the CFTC to oversee its markets by deferring to the 
foreign regulators to supervise U.S. energy futures products on U.S. 
trading terminals, the most serious problem with further CFTC or 
Congressional deference to FSA is the foregoing of the substantial self 
regulation and surveillance provided by U.S. regulated contract markets 
to assist U.S. regulators in policing futures markets.
    The ``core principles'' within the CEA that must be followed by an 
approved U.S. regulated contract market emphasize the importance having 
those markets serve as the first line of defense for the CFTC in 
detecting fraud, manipulation, excessive speculation, and other 
unlawful trading malpractice.\112\ Without aggressive self-policing of 
the entirety of the regulated U.S. futures markets, the CFTC simply 
cannot do its job.
---------------------------------------------------------------------------
    \112\&7 U.S.C. &7(d)(2)&(6) (2008); (2) (compliance with rules); 
(3) (contracts not readily subject to manipulation); (4) (monitoring of 
trading); (5) (position limits); (6) (emergency authority); 7 U.S.C. 
&7a(d)(2)&(3) (2008); (2) (compliance with rules); (3) (monitoring of 
trading).
---------------------------------------------------------------------------
    The seriousness with which U.S. regulated markets take their 
statutorily mandated self-policing and surveillance role is evidenced 
by NYMEX's ``standards and safeguards'' concerning trade and market 
surveillance. For example, NYMEX makes clear:

        Market surveillance is required under CFTC regulations. Each 
        day, the compliance staff compiles a profile of participants, 
        identifying members and their customers holding reportable 
        positions. In addition, daily surveillance is performed to 
        ensure that Exchange prices reflect cash market price 
        movements, that the futures market converges with the cash 
        market at contract expiration, and that there are no price 
        distortions and no market manipulation . . . .\113\
---------------------------------------------------------------------------
    \113\&NYMEX, Enforcement of Exchange Rules, available at http://
www.nymex.com/ss--main.aspx?pg=6 (last visited July 8, 2008) (emphasis 
added).

---------------------------------------------------------------------------
    As to trade surveillance, NYMEX provides:

        Compliance department analysts are trained to spot instances of 
        misconduct, including ``front running'' or trading ahead of a 
        customer; wash or accommodation trading (transactions creating 
        the appearance of trading activity, but which have no real 
        economic effect); prohibited cross trading (trading directly or 
        indirectly with a customer except under very limited 
        circumstances, or matching two customer orders without offering 
        them competitively); prearranged trading; and non-competitive 
        trading.\114\
---------------------------------------------------------------------------
    \114\&Id.

    NYMEX reports that is has @ $6.5 million budget for oversight 
market surveillance with an enforcement staff of @ 40 personnel.
    No detailed analysis of ICE's self-regulatory and surveillance 
system is required. Suffice it to say, that for all of ICE's worldwide 
markets which are accessible by the U.S. trading terminals, including 
the U.S. WTI contract, reports are that ICE employs no more than ten 
individuals on its surveillance staff, i.e., a staff that is \1/4\ the 
size of NYMEX. This staff monitors trading of a host of ICE contracts, 
including those contracts which control over 47% of the world crude oil 
futures.\115\ Of course, for those energy futures trades ICE executes 
under the Enron Loophole (because those trades do not derive from the 
old-IPE), such as the critical Henry Hub U.S. delivered natural gas 
futures contract, ICE, as of now, has no self-regulation or 
surveillance system.
---------------------------------------------------------------------------
    \115\&See supra note 109 and accompanying text.
---------------------------------------------------------------------------
    Moreover, leaving ICE's paltry surveillance resources to the side, 
the principal regulator to which the CFTC is deferring to oversee 
directly over 30% of U.S. delivered WTI contracts, the U.K.'s FSA, has 
only ``two full time supervisors,'' monitoring all of the ICE contracts 
under their jurisdiction.\116\ Again, this includes 47% of world's 
energy futures contracts.
---------------------------------------------------------------------------
    \116\&Grant, supra note 108.
---------------------------------------------------------------------------
    In sum, even though the CFTC has ratcheted up ICE's regulatory 
obligations by adding large trader reporting and speculation limits to 
the WTI trading, it defers to the FSA for the remainder of the 
oversight of ICE. In effect, this deference to the U.K. for U.S. 
trading of the critically important WTI contracts surrenders emergency 
authority to intervene when there are market dysfunctions to impose 
temporary margin requirements and position limits; and it sacrifices 
the real ``eyes and ears'' policing these markets (i.e., the regulated 
exchanges themselves) by depending upon ICE's meager surveillance 
systems.
    In a time of economic distress for American industry and the 
American consumer caused by skyrocketing energy prices, this country 
cannot afford to outsource authority to the UK to oversee trading on 
30% of our own U.S. delivered crude oil futures contracts, much of 
which is consummated on U.S. based trading terminals and all of which 
is trade matched in Chicago, Illinois.
    Finally, it bears repeating that during last summer's subprime 
mortgage crisis, Northern Rock PLC, one of the U.K.'s largest banks, 
was required to borrow billions of dollars from the U.K.'s central 
bank.\117\ After news of the bailout was released to the public, 
thousands of customers wary of losing their savings stood in long lines 
for several days outside of Northern Rock's branches to withdraw 
deposits.\118\ With Northern Rock on the brink of collapse, the FSA 
provided over $100 billion in loans to the bank and in February 2008, 
the British government finally was required to nationalize it.\119\ In 
March 2008, FSA published an internal report stating that its 
regulation of Northern Rock ``was not carried out to a standard that is 
acceptable,'' and highlighted its own failure to provide adequate 
supervision, oversight, and resources.\120\ In addition to FSA's self-
criticism, in April 2008, the European Union opened a formal 
investigation into FSA's restructuring of Northern Rock.\121\
---------------------------------------------------------------------------
    \117\&See Rock Expects 30bn Loan this Year, BBC News (Nov. 7, 
2007), available at http://news.bbc.co.uk/1/hi/business/7073556.stm 
(last visited July 8, 2008).
    \118\&See Crisis Deepens for Northern Rock, Reuters (Sep. 17, 
2007), available at http://www.iht.com/articles/2007/09/17/asia/
17northern.php (last visited July 8, 2008).
    \119\&See Stephen Castle, EU to Investigate Northern Rock 
Nationalization in Britain, International Herald Tribune (April 2, 
2008), available at http://www.iht.com/articles/2008/04/02/business/
rock.php (last visited July 8, 2008).
    \120\& See British Regulator Admits Failings in Oversight of 
Northern Rock, Announces New Procedures, Associated Press (March 26), 
2008, available at http://www1.wsvn.com/news/articles/world/MI81198/ 
(last visited July 8, 2008).
    \121\&See Castle, supra note 119.
---------------------------------------------------------------------------
    This episode, maybe more than any other, reveals that Congress 
cannot afford to leave direct oversight of trading on U.S. terminals of 
the most important futures contract in determining the price of oil, 
gasoline, and heating oil. As demonstrated above,\122\ Congress has the 
full authority to pass legislation placing those U.S. terminals under 
U.S. regulatory control.
---------------------------------------------------------------------------
    \122\&See supra notes 41&60 and accompanying text.
---------------------------------------------------------------------------
    Threats that the U.S. reassertion of regulatory control over 
trading within the U.S. will drive trading overseas are undercut by the 
reality of every major futures foreign exchange having set up shop in 
the U.S.; and by the well documented law described above that even a 
foreign trader in a foreign country who illegally disrupts U.S. markets 
is subject to the full force and effect of that law.
     Finally, contrary to the assertion of the City of London 
Corporation, this is not a ``British'' market; it is a U.S. market 
principally being traded in the U.S. by a trading entity controlled by 
a U.S. corporation. The economic distress now being suffered by 
Americans over high energy products cannot be placed in the hands of 
foreign governments when those products are traded here and have such a 
huge impact on our economy.

    The Chairman. Thank you, Mr. Greenberger.
    And I am in receipt of your response. And I, with your 
permission, will make this available to all the Members of the 
Committee. Is that okay? And we may have some questions about 
that. So thank you for being here and your testimony.
    Dr. Pirrong, you are on.

        STATEMENT OF CRAIG PIRRONG, Ph.D., PROFESSOR OF
FINANCE AND DIRECTOR, GLOBAL ENERGY MANAGEMENT INSTITUTE, BAUER 
    COLLEGE OF BUSINESS, UNIVERSITY OF HOUSTON, HOUSTON, TX

    Dr. Pirrong. Good morning. I am Craig Pirrong, Professor of 
Finance and Energy Markets Director of the Global Energy 
Management Institute at the Bauer College of Business at the 
University of Houston. I deeply appreciate the Committee's 
invitation to speak at this hearing, and hope that what I have 
to say will contribute to the formulation of a prudent 
legislative response to current conditions in the energy 
market.
    Before I begin, I should say that what I have to say is my 
opinion alone and does not necessarily reflect the views of 
UHGEMI or the University of Houston more generally.
    I should probably start by telling you a little bit about 
myself. I have been intimately involved in the commodity 
markets and the derivatives markets for over 22 years as an 
investment analyst, a teacher, a researcher, a consultant, an 
expert witness in commodity market litigation. I have 
particular expertise in the economics of market manipulation, 
having published what is probably more than any academic has on 
the subject over the past 15 years or so. In addition, I have 
extensive practical experience in studying manipulation in my 
roles as a forensic economist and a consultant to exchanges in 
the United States, Canada and Europe.
    Although I have studied commodity markets and especially 
energy markets as an academic researcher, my practical 
experience in one specific area is particularly germane to the 
issues before the Committee and the Congress, generally. 
Specifically, that is my experience in evaluating the delivery 
mechanisms at various commodity exchanges, and my participation 
in the design of contract delivery mechanisms for several 
exchanges, most notably the Chicago Board of Trade.
    Understanding the delivery process and its role in 
commodity markets is critical to understanding the key issues 
in the ongoing debate over the role of speculation and the role 
of OTC markets and energy. The most important lesson is that 
although it is commonplace to speak of the oil market or the 
corn market, there is, in fact, a web of closely related but 
distinct markets, each of which performs different functions or 
serves different customers. The most important distinction is 
between the market for a physical commodity and the market for 
derivatives on that economy. The delivery mechanism links these 
markets, but to understand how to design a delivery process, 
you need to understand how these markets perform, how they 
relate to one another and what very different functions they 
perform.
    They need to work together efficiently, but one market is 
not a perfect substitute for another. Moreover, there are 
multiple markets even within the broader category of 
derivatives. Exchange-traded and OTC instruments are 
substitutes in some respects, but imperfect ones in others, and 
serve different categories of users. Moreover, these markets 
are also complementary to some degree.
    When an American motorist digs into his or her pocket to 
pay for gasoline, the relevant market is the market for 
physical oil, and the price that is relevant is a spot price 
for a wet barrel. The price, or the role of these physical 
markets, is to facilitate the flow of physical oil from 
producer to refiner to consumer, and the role of prices in 
these markets is to provide the scarcity signals that guide 
these physical barrels to their most efficient use.
    Derivative markets, both exchange-traded and over-the-
counter, are primarily markets for transferring risk and 
discovering prices. The supplier of oil can hedge his price 
exposure by selling a futures contract. A buyer of oil, an 
airline for instance, can hedge against a price increase by 
buying an over-the-counter swap. Neither the oil producer nor 
the oil buyer is likely to use these future contracts or the 
swap to obtain ownership of physical barrels. Indeed, in the 
OTC contract this is usually impossible. Instead, these market 
participants use the traditional physical market to obtain or 
sell their physical energy and use the futures or swap markets 
to manage the price risks inherent in their activities as 
producers or consumers of energy.
    The risk that a producer or consumer sheds doesn't 
disappear. It must be transferred to somebody else. That 
somebody is often, for a time at least, a market participant 
who can be characterized as a speculator, someone who takes on 
price exposure with the intent of earning a profit, at least on 
average. This entity could be a dentist in Iowa, or it could be 
a large financial institution. Risk transfer is the very reason 
that derivatives markets exist, and since speculators play a 
vital role in the risk-transfer process, unnecessarily 
burdensome constraints on speculator participation undermines 
the ability of these markets to perform their role. And make no 
mistake about it, such restrictions will adversely affect, and 
detrimentally, the ultimate consumer of energy. Firms wish to 
reduce the cost of bearing risk. If you make it more difficult 
for them to hedge by restricting speculation, you will make it 
more costly for them to do so, and those higher costs will be 
passed on to consumers.
    The concern over the speculation in derivatives markets 
including the OTC markets is based on a belief that speculation 
somehow distorts the physical market for oil and the prices for 
physical energy that consumers pay. The basic argument is 
something like speculators are buying billions of dollars of 
oil derivatives. Their buying is equivalent, but not greater in 
volume, to the increase in demand from rapidly growing markets 
such as China. These purchases represent demand for oil; and 
hence they drive up prices.
    This argument ignores the very fundamental distinction that 
I just discussed, the distinction between the physical and the 
derivatives markets. By ignoring this distinction, those making 
this argument fail to answer the crucial question: What is the 
channel by which speculative buying in derivatives markets is 
communicated to the physical market?
    I think it is very important to note, and I think if there 
is one major takeaway from here, is that if excessive 
speculation or manipulation is distorting prices, that will 
become manifest in what goes on in the physical market. You 
will see distortions in the amount of inventories, or you will 
see distortions in the flows of oil in the interstate and in 
the international markets.
    To date, nobody, to my mind, has brought up any credible 
evidence that these distortions exist, and given such absence 
of evidence, there is really no firm basis to believe that 
there is anything in the order of excessive speculation or 
manipulation that is causing oil prices to be $140 or $130 or 
$135 per barrel.
    So I think that the key thing is, going forward we 
shouldn't just look at prices, we should look at the real 
market for oil. We should look at the physical market as well 
as the derivatives market, understand the linkages between 
these two markets, and proceed in a prudent and considered 
manner, because intemperate or ill-thought-out actions to 
constrain speculation could have very adverse effects on the 
operations of both the physical and the financial markets.
    Thank you.
    [The prepared statement of Dr. Pirrong follows:]

  Prepared Statement of Craig Pirrong, Ph.D., Professor of Finance and
     Director, Global Energy Management Institute, Bauer College of
              Business, University of Houston, Houston, TX
    I am Professor of Finance, and Energy Markets Director of the 
Global Energy Management Institute at the Bauer College of Business at 
the University of Houston. I have been actively involved in the 
commodity markets for the 22 years. I have published numerous articles 
and two books on commodity market issues; these include several 
articles on energy prices and energy trading. Moreover, I have taught 
courses in futures markets, financial markets, and energy markets at 
the graduate and undergraduate level. I currently teach a course in 
energy derivatives for a Global Energy MBA program in both Houston and 
Beijing. Furthermore, I am a member of the CFTC Energy Market Advisory 
Committee and the CFTC Technology Advisory Committee.\1\
---------------------------------------------------------------------------
    \1\&The opinions expressed herein are exclusively my own, and do 
not reflect the views of the Global Energy Management Institute, the 
Bauer College of Business, the University of Houston, or the CFTC.
---------------------------------------------------------------------------
    The subject of market manipulation is a special area of expertise. 
I have published seven articles and a book on the subject, and have 
testified as an expert in several high-profile manipulation cases. I 
have also given a 2 day seminar on manipulation to the staff of the 
Federal Energy Regulatory Commission.
    In addition to my academic research in commodity markets, I have 
served as a consultant to several exchanges. In this role, I have 
participated in the design of commodity futures contracts in the United 
States, Canada, Sweden, and Germany. I also was the primary 
investigator in a study (commissioned by a major energy consumer group) 
of the impact of increases in speculative position limits on the 
volatility of natural gas prices.
    Based on my extensive study of, and experience in, commodity and 
commodity derivatives markets and market manipulation, I offer this 
testimony on the role of speculation and manipulation in affecting 
energy markets, and the likely impact of restrictions on speculation in 
these markets.
    High prices for petroleum products impact American consumers in 
every aspect of their lives. The direct consequences--higher prices at 
the gas pump--are readily apparent, but oil prices affect the cost of 
manufacturing and/or transporting virtually everything one buys, so the 
indirect consequences of high prices are important too.
    Given the salience of this issue, it is appropriate for legislators 
and regulators to attempt to determine the causes of high prices for 
oil and other energy products, and to craft the appropriate policy 
responses. One factor--speculation in energy products--has received 
intense scrutiny as a potential cause of high prices. The widespread 
belief that speculation is causing oil prices to rise far above--some 
say as much as $70 dollars/barrel above--the appropriate level has led 
to numerous proposals in both the House and the Senate to reduce 
speculation in energy markets.
    Although I will touch on some pending and proposed legislation, I 
will focus my analysis on the role and impact of speculation generally. 
This analysis implies that anti-speculation efforts are misguided and 
should be avoided, rather than implemented.
    In my opinion, speculation is not the cause of high prices for 
energy products; the arguments advanced in support of this view are 
logically defective and at odds with an understanding of how the 
markets work. Most importantly, there is no evidence to support claims 
that speculation--or manipulation for that matter--is responsible for 
high energy prices.
    To the contrary, speculation plays a constructive and important 
role in price discovery and the efficient transfer of risk. As a 
result, restrictions on speculation like those proposed of late will 
not alleviate price pressures, but will reduce the efficiency of the 
energy marketing system. Such a move would set the stage for a raft of 
unintended consequences that may be not only damaging to consumers and 
businesses in the U.S., but to the global economy, in which oil, no 
longer just a ``U.S. commodity'', plays a significant role. New markets 
are forming across the globe&\2\ and capital will flow to where it is 
least constrained by counterproductive regulations. Today that is the 
U.S., but this is not guaranteed if Congress imposes unduly restrictive 
burdens on participants in U.S. markets. Therefore, Congress would be 
well-advised to avoid implementing rash measures to reduce speculation, 
and to focus instead on policies that encourage increases in output and 
efficient uses of energy.
---------------------------------------------------------------------------
    \2\&As a recent example, the Hong Kong Futures Exchange just 
announced its plans to launch energy futures trading.
---------------------------------------------------------------------------
    More specifically:

   In recent debates over energy prices, the word 
        ``manipulation'' has been thrown around with abandon. There are 
        numerous allegations that manipulation by speculators is what 
        is causing the current high prices. Indeed, one of the bills 
        currently under consideration is called ``The Prevent Unfair 
        Manipulation of Prices Act'' (``PUMP.'') However, price 
        behavior in the oil market during the recent period of dramatic 
        price increases is not consistent with manipulation.

   I base this conclusion on my extensive research on 
        derivatives market manipulation; indeed, I have published more 
        (numerous articles and a book) on this subject than any 
        academic economist. Moreover, I have designed futures contracts 
        with the specific objective of minimizing their vulnerability 
        to manipulation, and as a result, have extensive practical 
        experience in how manipulation works and how it can be 
        prevented and deterred.

   In my research, I have found that the term ``manipulation'' 
        is often used loosely. Indeed, this is true of discussions of 
        the energy market today, some of which remind me of what a 
        Texas cotton trader said during testimony before the Senate in 
        1923: ``The word `manipulation' . . . in its use is so broad as 
        to include any operation of the cotton market that does not 
        suit the gentleman who is speaking at the moment.''&\3\
---------------------------------------------------------------------------
    \3\&Cotton Prices: Hearings Before a Subcomm. of the Senate Comm. 
on Agriculture and Forestry, Pursuant to S. Res. 142, 70th Cong., 1st 
Sess. 154 (1928).

   Certainly there are forms of conduct-notably a ``squeeze'' 
        or ``corner''--that are properly considered manipulative. My 
        research demonstrates that such manipulative acts have distinct 
        effects on prices, price structures (e.g., the relation between 
        nearby and deferred futures prices), and the movements of 
        physical commodities in interstate and international trade. 
        These effects have not been observed in the oil market during 
        2007&2008. Moreover, existing regulatory and legislative 
        remedies, if employed vigorously and precisely, are sufficient 
        to address potential future manipulative attempts. Policymakers 
        would be well advised to utilize existing tools to fight 
        recognized forms of manipulation, rather than implement new 
        policies that will not appreciably reduce the frequency and 
        severity of real manipulations, but which will interfere with 
        the ability of the markets to discover prices and transfer 
---------------------------------------------------------------------------
        risks efficiently.

   Constraining the positions that market participants can hold 
        can reduce the frequency of market power manipulations, but 
        such position limits are an inefficient tool for achieving this 
        objective. They are inefficient because they limit the ability 
        of speculators to absorb risk from speculators and are 
        difficult to set at a level that is sufficient to make it 
        difficult to corner a market without unduly constraining the 
        ability of the markets to transfer risk efficiently.

   Based on long study and involvement in the derivatives 
        markets, I believe that corners and squeezes are a serious 
        concern--and not just in energy markets, but in financial and 
        other commodity markets as well. I further believe that corners 
        and squeezes should be punished severely, either through 
        criminal or civil penalties, or private litigation. That said, 
        I emphasize that: (a) there is no evidence that manipulation 
        properly understood explains the current high prices for energy 
        products, or (b) that position limits are not the most 
        efficient or effective means of reducing the frequency and 
        severity of manipulation.

   Moreover, there are more efficient tools than position 
        limits available to deter corners and squeezes. These kinds of 
        manipulation are already illegal in both the futures and OTC 
        markets. Moreover, these types of manipulations can be detected 
        with a high degree of precision; as Judge Frank Easterbrook 
        (5th Circuit Court of Appeals) has written, ``an undisclosed 
        manipulation is an unsuccessful manipulation.''&\4\ Since 
        corners and squeezes are detectable, and those that carry them 
        out are usually not judgment proof, it is more efficient to 
        deter manipulation by imposing penalties after the fact on 
        those that engage in this conduct (through criminal or civil 
        penalties, or private litigation) rather than by constraining 
        the activities of all market participants before the fact 
        through position limits.
---------------------------------------------------------------------------
    \4\&Frank Easterbrook, Monopoly, Manipulation, and Fraud, 59 J. of 
Business (1986), S107.

   Vigorous head-to-head competition between similar futures 
        contracts is a distinct rarity. The ongoing battle between 
        NYMEX and ICE WTI contracts is one of the very few examples of 
        such competition in the global futures markets. Competition 
        generally redounds to the benefit of market users, and should 
        be encouraged. Any regulatory or legislative change that would 
        impair the direct access of U.S. customers to ICE Futures 
        Europe would either be ineffectual because global financial 
        institutions would merely shift their business to London, or 
        counterproductive because it would reduce competition in the 
        WTI market. Though the London-based exchange has only a 15% 
        share in the WTI crude market, it represents a tool for global 
        energy producers and banks to manage risk using a cash-settled 
        instrument, rather than in a physical oil contract. Moreover, 
        such measures would not materially reduce the vulnerability of 
        the oil market to manipulation. Such measures would, therefore, 
---------------------------------------------------------------------------
        create costs without producing any corresponding benefit.

   Historically, major shocks to commodity markets have been 
        blamed on speculators, and speculative excess. The response to 
        the current oil price shock is no exception. Assertions that 
        speculation by financial institutions, including investment 
        banks, hedge funds, commodity funds, and pension funds, have 
        inflated oil prices by as much as $70 per barrel are logically 
        defective and completely unsupported by any reliable evidence. 
        Almost without exception, trading by these market participants 
        does not contribute to the demand or supply of physical oil, 
        and hence their trading does not distort the physical oil 
        market. Many financial institutions trade cash-settled 
        derivative instruments, including swaps and the ICE WTI 
        contract, which cannot be used to take or make delivery of oil; 
        nor can these positions result in a physical claim on oil. 
        Those trading these instruments are by definition price takers, 
        not price makers. Moreover, even when financial institutions 
        trade delivery-settled instruments, such as the NYMEX WTI 
        contract, they typically offset their positions prior to the 
        delivery period, and hence do not contribute to the demand or 
        supply for physical oil. Even if they purchase in large 
        amounts, they subsequently sell in almost equal amounts as 
        contracts reach delivery. Hence, they typically exert no upward 
        impact on the ``spot'' price for oil which is crucial in 
        determining the prices that consumers actually pay.

   It should also be noted that the oil market has not 
        exhibited one of the necessary indicia of speculative 
        distortion of prices--the accumulation of large and increasing 
        inventories in the hands of speculators. Attempts to hold 
        prices above their competitive level--such as the actions of 
        the Hunts in the silver market in 1979&1980, or the 
        International Tin Council, or the agricultural price support 
        programs of the U.S. Government in years past--require the 
        entity keeping the prices up to accumulate large inventories. 
        This has not been observed in the oil markets of late.

   With regard to the notion that passive investors (including 
        ``long only'' index funds) have dramatically impacted the price 
        of oil, there are some key factors that prevent this from being 
        the case. Most notably, commodity index funds buy and sell in 
        equal amounts on a regular basis as the futures contracts 
        expire on a monthly or quarterly basis during the ``contract 
        roll.'' Because they roll, they do not take delivery, and hence 
        do not affect the demand for physical oil. Indeed, they are 
        sellers as futures contracts near delivery, and hence are not 
        the source of any buying pressure in the physical market; if 
        anything, the reverse is true.

   This phenomenon has been long understood. In 1901 (!) a 
        report from the United States Industrial Commission on ``The 
        Distribution of Food Products'' stated:

                As we have attempted to show, it is a mistake to 
                represent speculation in futures as an organized 
                attempt to depress prices to the producers.

                First. Because every short seller must become a buyer 
                before he carries out his contract.

                Second. Because, so far as spot prices are concerned, 
                the short seller appears as a buyer not a seller, and 
                therefore, against his own will is instrumental in 
                raising prices.\5\
---------------------------------------------------------------------------
    \5\&Report of the Industrial Commission on the distribution of farm 
products 223 (1901). Many Members of the House and Senate were members 
of the Industrial Commission.

    The concern addressed by the Industrial Commission was the mirror 
        of today's: in 1901, it was widely alleged that speculative 
        short selling depressed the prices of corn, wheat and oats, 
        whereas today it is asserted that speculative buying inflates 
        the price of energy. The Commission's analysis is directly on 
        point nonetheless; speculators who offset their positions 
        (short sellers who buy futures, or buyers who sell them) do not 
        distort spot prices--the prices that consumers pay and 
---------------------------------------------------------------------------
        producers receive.

   Of note, what many experts claim are massive inflows to 
        commodity index funds over the decade is largely the price 
        appreciation of the assets in the commodity index rather than 
        ``new money''. The assets attributable to commodity index funds 
        represent a small portion of these aggregate markets. 
        Interestingly, in the markets where index funds are most 
        concentrated, such as the cattle futures markets, prices have 
        been flat. Wheat futures traded on the Minneapolis Grain 
        Exchange are not included in an index, but have experienced 
        dramatic increases in price. Finally, these index funds take no 
        supply off the market, thus do not impact the physical market 
        where spot prices are set.

   It has been asserted that oil may be in a speculative 
        bubble. However, speculative bubbles are less likely to occur 
        in the market for a physical commodity, than a market for 
        financial assets, such as growth stocks in new industries. The 
        discipline of physical delivery that connects derivative 
        instruments--such as futures contracts--to the market for the 
        physical commodity makes it far more difficult for commodity 
        prices to become untethered from fundamentals as in the case 
        for Internet stocks, to name but one example. Moreover, extant 
        economic research suggests that goods and assets with active 
        futures contracts are actually less susceptible to bubbles than 
        those lacking liquid futures markets. Hence, it would be 
        particularly misguided to attack an alleged bubble by impeding 
        the trading of oil derivatives. Finally, economic models of 
        speculative bubbles imply that during a bubble, futures prices 
        should exceed spot prices by the cost of carrying inventory; 
        this was not observed during the period of rapid oil price 
        increases in recent months.

   Some proposed legislation is intended to constrain the 
        ability of financial institutions such as investment banks, 
        pension funds, and index funds, from participating in the 
        commodity markets. Such efforts are misguided because the 
        participation of financial institutions in the commodity 
        markets in general, and the oil market in particular, is a 
        laudable development. Improved integration of the financial and 
        commodity markets facilitates the efficient allocation (and 
        pricing) of commodity price risk. That is, it facilitates 
        hedging by energy producers and consumers, which in turn helps 
        consumers; pension funds and index investors can often bear 
        risk more cheaply than others (because of their ability to 
        diversify), and hence their participation in the market reduces 
        the cost that hedgers incur to shed this risk. Moreover, by 
        trading commodity derivatives, including exchange traded 
        commodity futures, investors can improve the performance of 
        their portfolios by reducing risk without sacrificing return--
        and without putting claims on physical inventories. Indeed, 
        this very ability to improve portfolio performance is what 
        permits these investors to take on risk from hedgers more 
        cheaply Therefore, impeding the ability of financial 
        institutions and investors to utilize the futures markets would 
        harm hedgers and investors, again without generating any 
        benefit for American consumers of oil products in the form of 
        lower prices.

   Moreover, some speculators devote effort and resources to 
        researching market, geopolitical and seasonal fundamentals. 
        Their participation in trading ensures that the information 
        they produce is incorporated in prices. Such trading 
        facilitates price discovery, contributes to the informational 
        efficiency of prices, and thereby encourages efficient use of 
        scarce energy resources by providing producers and consumers 
        with more accurate measures of the true value of oil.

   The role of margins in futures markets is to ensure that 
        parties to futures contracts are willing and able to perform on 
        their contractual commitments; in essence, margins are 
        performance bonds (collateral). Margins have costs; they 
        require traders to hold more in low yielding assets (such as 
        Treasury bills and cash) than they would absent such margin 
        requirements. Exchanges, clearinghouses, clearing members, and 
        brokers have incentives to set margins efficiently to trade-off 
        these benefits and costs. Exchanges and clearinghouses use 
        sophisticated methods to set margins efficiently, and based on 
        these methods, adjust margins to reflect changes in price 
        volatility.

   It would be imprudent to increase margin levels dramatically 
        by regulatory or legislative fiat to choke off speculative 
        activity in the energy markets. There is no reliable empirical 
        evidence that margin increases reduce price volatility, or 
        reduce disparities between market prices and prices justified 
        by fundamentals. Changes in margins would affect both long and 
        short speculative activity, and hedging activity, and thus 
        could lead to either increases or decreases in futures prices 
        relative to expected spot prices. Moreover, raising the cost of 
        speculation through margin changes would tend to reduce market 
        liquidity and increase the costs of hedging. Furthermore, 
        raising margins affects the activity of market participants 
        based on how much cash they have--not how much information or 
        smarts they possess. In addition, raising margins on exchange 
        traded instruments is likely to encourage a migration of 
        trading to off-exchange venues where parties can freely 
        negotiate collateral levels. Even if speculation was distorting 
        prices--and I repeat that there are neither convincing evidence 
        nor arguments to support this view--regulation of margins would 
        be an extremely blunt tool to control speculation, and would 
        likely have detrimental effects on the efficiency of the 
        futures market as a hedging and price discovery mechanism.

   Over-the-counter (``OTC'') instruments play an important 
        role in virtually all financial and commodity markets. Indeed, 
        the volume and open interest of OTC contracts is typically 
        higher than corresponding figures for their exchange traded 
        counterparts. Like exchange traded futures, OTC swaps permit 
        hedgers and speculators to trade risk efficiently. Revealed 
        preference indicates that for many market participants, OTC 
        swaps and options offer advantages over exchange traded 
        instruments. That is, market participants can often achieve 
        their risk management objectives more efficiently using swaps 
        than using exchange traded instruments. OTC market participants 
        are already proscribed from manipulating any commodity traded 
        in interstate commerce, so it is incorrect to say that these 
        markets are unregulated. Additional regulation, such as 
        limiting participation in OTC energy markets to those capable 
        of making or taking delivery of an energy commodity, or to 
        those who produce it, would interfere with the ability of these 
        markets to perform their essential risk transfer function 
        without materially reducing the frequency of manipulation. OTC 
        markets facilitate the trading of risk, and many of the most 
        efficient bearers of risk are not the most efficient handlers 
        of the physical commodity. Indeed, since most OTC contracts are 
        financially settled, they cannot even be used to transfer 
        ownership--they are used exclusively to transfer commodity 
        price risks. Limiting participation in these markets to those 
        who produce, consume, or otherwise handle, the physical 
        commodity therefore largely defeats their very purpose. By 
        eliminating from the market those who can most efficiently bear 
        risks, such measures would make hedgers--who do handle the 
        physical commodity--worse off.

   In evaluating the role of energy speculation, and energy 
        derivatives markets more generally, it is imperative to 
        remember one crucial fact: derivatives markets are first and 
        foremost markets for risk, rather than markets for the actual 
        physical product. Derivatives markets effectively permit the 
        unbundling of price risks from the actual physical commodity. 
        It is this unbundling that makes hedging work. The derivative 
        market for oil and the physical market for oil are of course 
        related, and indeed, the delivery process in the futures market 
        ensures that futures prices at maturity reflect the actual 
        value of physical energy. As long as the integrity of the 
        delivery process is protected against the manipulative exercise 
        of market power, however, financial trading of energy 
        derivatives permits efficient allocation of energy price risks, 
        but does not impede the orderly and efficient operation of the 
        market for physical energy. Indeed, by facilitating the 
        efficient allocation of risk and the discovery of prices, 
        derivatives trading--including derivatives trading by 
        speculators, investors, and financial institutions--actually 
        makes the physical market more efficient. It allows energy 
        producers and consumers to shift the risks to those best suited 
        to bear them, and to focus their efforts on producing, 
        transporting, marketing, and using energy as efficiently as 
        possible. This benefits energy consumers in the U.S.

    In summary, energy derivatives markets play an important risk 
transfer and price discovery role. Speculation is a crucial element of 
an efficient derivatives market; speculators provide services that 
redound to the benefit of producers and consumers of energy looking to 
reduce risk, and hence to the customers of those producers and 
consumers. Assertions that manipulation, or speculation, or 
manipulative speculation, are causing high oil prices are not based on 
sound economic reasoning, and find no support in the data. Policies 
based on such mistaken beliefs will do nothing to alleviate energy 
price pressures. Indeed, such policies are likely to harm U.S. 
consumers and investors by impairing the ability of the energy 
derivatives markets to discover prices and transfer risk.

    The Chairman. Thank you very much.
    Mr. Zerzan, for the benefit of the Committee, would you 
tell us what a swap looks like? I mean, is it an actual 
contract? Can you send us a copy of one of these so we can see 
what it looks like? Are they all kind of alike, or are they 
different?
    What I am trying to understand is exactly--I think there is 
confusion on the part of Members and myself about just what 
this is, and I don't think they are all alike. Some people are 
doing these swaps that actually are in the business, and then 
you have people that rather than go to Las Vegas, they deal 
with you guys apparently. So as somebody said, ``The problem is 
we don't know what is what here.'' But could you explain to us 
how this works?
    And then, as I understand it, these swaps mostly are offset 
with some over-the-counter offset, and they net these things 
out before they end up going over to the NYMEX. Could you just 
explain that maybe in terms that the Committee would 
understand?
    Mr. Zerzan. Sure. Your typical over-the-counter derivative 
arrangement has essentially three parts. The first part is what 
is called a master agreement, and it defines the scope of the 
relationship. So let's say I am ABC investment bank, and on the 
other side I have XYZ airline. XYZ airline wants to hedge its 
risk of the rise in prices or the fluctuations in the price of 
jet fuel. So, the investment bank and the end-user will enter 
into a master agreement which defines the overall contractual 
terms; what happens in the case of a default; what happens in 
the event that some of the parties to the transaction decide 
they want to enter into other transactions.
    So under the master agreement you then have a credit 
support document, and the credit support document outlines the 
collateral between the transactions, between the parties. If I 
am going to enter into a relationship with a counterparty, I 
want to know that if they back away, I have some security, I 
have some sort of recourse. And so we will have a credit 
support annex which defines the type of collateral which I can 
try to obtain if my counterparty decides it is going to walk 
away.
    Any individual transaction, like the swap that I want to do 
with the airline, is documented by a confirmation, and each 
individual transaction is confirmed via a confirmation. All of 
these are written contracts. And we will be happy to provide 
the Committee with examples of these. They are written 
contracts. They are generally referred to as ISDAs within the 
trade, because ISDA developed the general framework.
    But within the context of the actual documents, the 
material economic terms are always negotiated. These terms 
include, obviously, the price, the size of the transaction, 
such things as I mentioned: the collateral; what type of 
collateral must be posted; and what events would constitute a 
default under the contract, for instance. So although you have 
standardization in terms of the framework, the actual terms of 
the agreement that relate to the actual transaction, the 
economic exposures, are all individually negotiated, and they 
are, in the case of each transaction, confirmed by a written 
confirmation, which is a contract like any other contract.
    The Chairman. Well, and are these normally just by 
themselves, or are sometimes a bunch of these put together and 
then offset by some other institution that picks up that risk, 
or does one of these credit default swaps--or is that--how does 
that work?
    Mr. Zerzan. If I am a swap dealer, I will have transactions 
with XYZ airline, ABC trucking company, CDF producer. And this 
gives me an overall net portfolio exposure. So as opposed to my 
trying to seek to offset each individual transaction, I will 
try to offset the exposure in my entire portfolio, and I may go 
to the futures market to do that. In fact, I will likely go to 
the futures market to try to offset some of that exposure. But 
this is done primarily as a means of risk management.
    And so when we talked about the hedge exemption, you can 
see, if you are an investment bank, you have a very real need 
to hedge your risk by going to the futures market as part of 
managing your overall portfolio, and that allows you to enter 
into contracts on commodities like jet fuel that an airline 
can't otherwise obtain protection on.
    The Chairman. Well you have airlines and truckers and so 
forth; they have a business of being in the market. But we have 
these other people that apparently buy these things that have 
no interest in ever owning oil or have no connection to this at 
all. They are just apparently getting into this because they 
think they can make money. Am I right?
    Mr. Zerzan. Well, you have people that are speculating 
certainly.
    The Chairman. Yes. And one of the problems is the CFTC 
doesn't know how many of these contracts relate to actual 
physical hedgers and how many are speculators, I guess. Do you 
have any idea what that percentage is, how many of these swaps 
are airlines and truckers and people that use this stuff and 
how many aren't? And how much of the hedging is in the actual 
futures market, and how much of it is in the over-the-counter 
market? Do you have that information?
    Mr. Zerzan. Well, one of the proposals that has been put 
forward would require the disaggregation and the breaking down 
of swap dealers and index traders and others. To the extent 
that the Commission feels that that type of transparency is 
important; and Congress feels that that should be done, then I 
think the important thing to remember is you don't want to 
create a situation where an individual swap dealer's strategy 
or position in the futures market is laid open so that other 
traders can trade ahead. And one of the concerns that have been 
expressed is that you want to make sure you anonymize the 
ability of individual firms to use the futures market to hedge 
their bona fide risk.
    When you ask what is the percentage of people doing 
speculative trades versus what is the percentage of people that 
are doing hedging trades, I actually think that would be 
tremendously difficult to try to break out on any case-by-case 
basis. On any given transaction, you might have a party that is 
hedging one part of its portfolio. You might have another party 
that is speculating. You might have an individual transaction 
that in some light is seen as speculation and in another light 
is seen as a hedge.
    The most important question is whether or not the 
speculation is driving up the price of the commodity. And I 
think that Professor Pirrong noted there is no real evidence 
showing that is the case.
    The Chairman. Well, and if the Committee will bear with me, 
I just want to finalize this. So these guys don't want to know, 
they don't want anybody to know what they are doing. I can 
understand that. That has been part of my puzzle about all of 
this. And from what I can tell, some of these swaps and these 
index funds are never, ever getting over into the futures 
market. The only thing that is getting over there is the amount 
that you can't lay off over-the-counter some other way. So 
people are basically making this side bet over here between two 
parties, and in the case of the indexes, they are using the 
futures market as what they are betting against. But this money 
never goes into the futures market. And if nobody knows what 
they are doing, how can it affect the price?
    That is what I cannot figure out. I mean, if the money 
doesn't go in there, and if nobody knows what they are up to, 
then how can it affect the price? The part of it that goes over 
into the futures market could potentially affect the price, but 
I just don't get the connection here. Am I missing something; 
or does somebody actually know what these swap things are, and 
then they use that information?
    Mr. Zerzan. No, Mr. Chairman, I think you hit the point 
precisely on the head. An individually negotiated contract 
between two people, the price of which is known only to those 
two people, doesn't affect any price of anything else. And to 
the extent that you have swaps that are then being hedged in 
the futures market, as you point out, that pricing information 
is being fed into the futures market, and it is showing up in 
the price of the contract.
    But you have hit the issue precisely. These are not driving 
up prices if they are contracts which are bilaterally 
negotiated and the prices are known only to the two people to 
the transaction.
    Mr. Marshall. Mr. Chairman.
    The Chairman. Mr. Marshall.
    Mr. Marshall. Would you mind?
    The Chairman. Yes.
    Mr. Marshall. I just wanted to follow up on something that 
you have already raised as a result of Mr. Zerzan's comment 
concerning the problem with more transparency in this market. 
And it is, in essence, as you described it, a worry by those 
who are trying to hedge in the market that others will be able 
to trade ahead of them. And what you mean by that is if word 
gets out that XYZ airlines is working with ABC to cover a 
particular risk. Where jet fuel is concerned, ABC's costs go up 
if ABC knows that it is going to be more difficult for it to 
then lay off that risk someplace else because the word gets out 
that it is going to be trying to do this. This is a huge 
position that will have to be taken, and consequently people 
get there ahead of time, and it becomes more expensive for them 
to lay off the risk. Is that basically the concern?
    Mr. Zerzan. Yes, sir.
    Mr. Marshall. I am describing this adequately?
    There wouldn't be a problem with sharing information 
concerning the swap position confidentially with the CFTC to 
enable the CFTC itself as a regulatory entity to have complete 
transparency in real time with regard to what is going on in 
the market. Wouldn't that be correct, because that would have 
no effect on somebody trading ahead?
    Mr. Zerzan. Well, for instance, your legislation where you 
put forth the provision where swap dealers would be required to 
report separately, I don't think that type of reporting would 
be something that the firms would be unprepared to do. I think 
they already have those records, and they would be able to do 
so. And as you point out, the important issue is that it is 
done in such a way that it doesn't individually point to each 
firm's trading strategy.
    Mr. Marshall. So the effect of adopting a rule like that 
would be to increase the oversight burden for the CFTC for 
sure, because they would be receiving all kinds of information 
which they could probably arrange to receive in summary form, 
in addition to the detail, but also in summary form. This is 
pretty close to whatever it is on NYMEX, something like that. 
To generally follow what is going in the market with a fair 
amount of ease, CFTC may need a little more resources, but the 
market itself wouldn't react badly to that as long as the 
market had confidence that this information was going to remain 
secret. And, so, you wouldn't have this problem of people 
trading ahead and consequently making it more expensive to 
hedge.
    And in addition, frankly, having a regulatory regime where 
there is a regulator that is seeing all of this could enhance 
the confidence that people have in the market and be good for 
the market as opposed to bad for the market, wouldn't you 
think, Mr. Zerzan?
    Mr. Zerzan. Again, I think it is important that we are 
clear, when we are talking about a provision that shows the 
over-the-counter positions as opposed to the futures positions, 
then you are talking about a different regime. What your 
legislation does is it talks about showing the hedges in the 
future markets, broken down by the fact they are done as a 
hedge on a swap.
    Mr. Marshall. And my question goes further than that.
    The Chairman. Mr. Marshall, we are way over my time, so I 
recognize the gentleman from Virginia, the Ranking Member, Mr. 
Goodlatte.
    Mr. Goodlatte. Thank you, Mr. Chairman. And I want to thank 
all the members of the panel.
    Dr. Pirrong, yesterday we had a panel of witnesses who were 
Members of Congress who have introduced legislation that they 
believe would address some of the concerns that have been 
raised regarding speculation in the futures market. One of 
those witnesses used the Hunt brothers' attempt to corner the 
silver market as an example of what is happening today. And I 
wonder if you could compare and contrast what the Hunt brothers 
did versus what we observe in energy and commodity markets 
today.
    Dr. Pirrong. I will be glad to, sir. In fact, I think that 
that is sort of an excellent example of how things are very 
different today from what happened with the Hunts or other 
examples of manipulation that have happened in the past. And in 
particular, it relates to a point that I raised during my 
initial statement, which is relating to if manipulative acts or 
speculative acts are distorting prices, you are going to see 
distortions in the physical market.
    The basic idea is prices send signals about scarcity. 
People respond to price signals and do things with real things 
in response to that. If you screw up prices, you are going to 
screw up the allocation of resources, and you are going to see 
that very clearly.
    In the case of the Hunts, they amassed a massive position 
in silver and started taking deliveries of huge quantities of 
silver. Indeed, there are sort of anecdotal stories about 
brides in India melting down their trousseaux of silver to have 
them shipped to New York because the price of silver was so 
highly distorted that it was better to have the Hunts sit on it 
than to have it as part of their trousseau. There was a clear 
evidence in the physical market that something was wrong and 
that prices were distorted.
    What you would look for today is sort of evidence of the 
same sort of thing. You would look for evidence of oil, in this 
instance, being accumulated, hoarded by speculators. You should 
see an elevation in the level of oil inventories or oil stocks, 
and there is no evidence that we see of that. And so that is a 
very important thing. You just can't look at prices alone.
    Let's look at the real side of the economy, too. Let's look 
at quantities as well as prices. Every economist, when he puts 
up a supply and demand diagram, there are two axes. There is a 
price axis, but there is also a quantity axis. If speculation 
is distorting prices, we will see that in some sort of quantity 
data, like in inventories or in flows of the commodity. We saw 
that with the Hunts. We don't see it now.
    Mr. Goodlatte. Well, let me ask you about that inventory. 
It was widely reported this week that the U.S. Energy 
Information Administration said that for the week of July 4, 
domestic crude stocks fell 5.9 million barrels to 293.9 million 
barrels, the lowest since the week of January 25 when stocks 
stood at 293 million barrels. Is this information consistent or 
inconsistent with what you, as an expert, would expect to 
observe if there were efforts to manipulate the market?
    Dr. Pirrong. No. What we would expect to observe if the 
market was being manipulated is that stock should be 
increasing, that we should see hoarding. Stocks should see 
ballooning, not declining.
    Mr. Goodlatte. Thank you.
    Mr. Greenberger, yesterday we heard testimony from Members 
of Congress that support legislation that would address many of 
the issues of concern that have been voiced by you and others. 
You and others have cited hedge exemptions as a way for parties 
to increase their speculative positions. The CFTC made data 
available to us that allows us to analyze this.
    In 2006, for swap agreements, 19 firms requested hedge 
exemptions. Thus far in 2008, only four firms have requested 
hedge exemptions, one on an annual basis and three temporary. 
For a combination hedge and swap agreements, 23 firms requested 
hedge exemptions in 2006. Thus far in 2008, eight firms have 
requested hedge exemptions. For pure hedges, ten exemptions 
were requested in 2006 and only two in 2008. During the time 
that crude oil had a large run-up in price, the request for 
hedge exemptions has fallen dramatically. How do we reconcile 
that data with what we are hearing?
    Mr. Greenberger. Thank you. I am happy to answer that 
question. First of all, the relationship between hedge 
exemptions and the skyrocketing speculative investments, you 
will only need one hedge exemption. If Goldman Sachs has a 
hedge exception, they are going to enter into the markets 
billions of dollars under that exemption. So I don't think the 
number of hedge exemptions tells you anything.
    Second, the Chairman asked a very interesting question.
    Mr. Goodlatte. Well, you said it in your testimony that 
hedge exemptions were a way for parties to increase their 
speculative position.
    Mr. Greenberger. Yes. And I say if Goldman Sachs----
    Mr. Goodlatte. But that is not apparently how they are 
doing it now, if there are only a few.
    Mr. Greenberger. I am saying if you only have one, if 
Goldman Sachs has one, that is all they need.
    Mr. Goodlatte. Is Goldman Sachs responsible for this large 
run-up?
    Mr. Etheridge. Would the gentleman yield?
    Mr. Goodlatte. I would be happy to yield.
    Mr. Etheridge. I am told that the very day that they offer 
the exemptions, the stock of oil will fall, which doesn't 
square with the fact that if you have an exemption it should be 
going up, shouldn't it?
    Mr. Greenberger. Let me answer that question as well. The 
Chairman put his finger on the pulse of the issue. He says, 
``Gee, I don't see all this money going to NYMEX.'' Now, if it 
goes to NYMEX, the concern has been that when Goldman Sachs 
tries to take its short positions from its swaps and convert 
them into longs, they are buying long on NYMEX. The hedge 
exemption is allowing them to be treated as an oil dealer 
rather than as an investment bank who is laying off its risk 
from all the bets it has taken in on the price.
    Now, you have to understand when Mr. Zerzan says they are 
netting things out, it is like a bookie. They have longs, they 
have shorts, and they see how much overage they have. When they 
have a lot of overage they have sold short to the people who 
are buying long. And that is not a good way to be in this 
market. So they have to find other avenues to lay off that 
short risk and buy long.
    Now, the Chairman says, ``Gee, I don't see all that on 
NYMEX.'' They don't need a hedge exemption to lay that off on 
the over-the-counter market. The over-the-counter markets are 
not covered by hedge exemptions.
    Now, if I can just follow my train of thought, Mr. 
Goodlatte.
    Mr. Goodlatte. Yes. My time has expired. I do want to give 
Dr. Pirrong an opportunity to respond as well. But go ahead.
    Mr. Greenberger. Okay. When they go out into the over-the-
counter market, everybody is saying, ``Gee, we don't know what 
is happening in the over-the-counter market. So how can it 
affect the price of crude?'' Well, what is happening in the 
over-the-counter market is Goldman Sachs is going to people, 
asking them to sell short. And that is all happening in the 
over-the-counter market, which as Congressman Marshall is 
saying, ``We don't have any information about.'' Well, those 
shorts are being sucked out of transparency. So if you look at 
NYMEX, all you are seeing is the long, the heavy long position 
on NYMEX. You don't see everybody who is selling short on the 
over-the-counter market. If those shorts were required to be on 
NYMEX or another regulated exchange, you then all of the sudden 
would see that people want to sell here, they just don't want 
to buy.
    Mr. Goodlatte. Let me ask Dr. Pirrong if he agrees with 
your assessment.
    Dr. Pirrong. No. Essentially this is just part of the 
process where essentially risk is being allocated and 
essentially in an efficient way. These markets are intimately 
interconnected. To the extent that a swap dealer sees order 
flow, he has the ability to trade that off in many markets. And 
to the extent that the impact of that order flow isn't 
reflected on some market where he can trade, that represents a 
profit opportunity and he is going to basically trade on that 
information accordingly. That means that information is going 
to be communicated through these markets in a very efficient 
and rapid way. These guys talk with one phone in one ear and a 
phone in another ear--or one phone in another ear and looking 
at their computer screen, and essentially are acting to ensure 
that these prices are interconnected. And so the idea that 
essentially stuff can happen over in one market and essentially 
that is not going to be reflected in prices in another I just 
think reflects a misunderstanding of the way these markets 
work.
    Mr. Goodlatte. Let me, if I might, Mr. Chairman, ask Mr. 
Vice if he believes or he knows of evidence to support or 
refute Mr. Greenberger's contention that what is not being seen 
on NYMEX is heavy trading of shorts on the OTC.
    Mr. Vice. I am not sure I followed all of Professor 
Greenberger's remarks. But in trying to take a couple of 
takeaways: no one has really differentiated yet in this 
conversation that there is an electronic OTC market, of which 
ICE offers, and there is a much larger non-electronic OTC 
market which are through voice brokers or through direct 
negotiation, as Greg just described. We obviously don't have 
any information about the latter. On the former, as I said in 
my testimony, there is no electronic OTC trading in U.S. crude 
oil or any other U.S. refined product today on ICE or anywhere 
else. So there is no data there to go get because there is no 
trading.
    As I understand it, Professor Greenberger is suggesting 
that directly negotiated trades of the type that Greg described 
earlier between airlines and Goldman Sachs, and any other swaps 
dealer, should somehow all be moved onto a regulated exchange. 
And I think Greg did a good job of describing these are 
customized, privately negotiated deals that have sometimes very 
unique terms to fit the risk management need of that particular 
airline for a particular time frame or particular delivery 
point that may not match up 100 percent with the terms of a 
futures contract.
    Mr. Goodlatte. Thank you. Thank you, Mr. Chairman.
    The Chairman. I thank the gentleman.
    The gentleman from Pennsylvania, Mr. Holden.
    Mr. Holden. Thank you, Mr. Chairman. We obviously have a 
difference of opinion on the panel how this Committee should 
move legislatively or move at all. And some of my questions 
have been answered already, but I am sure all of you are 
familiar with the panel we had yesterday of our colleagues, Mr. 
Stupak, Ms. DeLauro, Mr. Larson, Mr. Van Hollen, and their 
proposals that they have introduced into the Congress. I am 
just curious, what do you think would happen if one of those 
proposals, or parts of that proposal would be enacted into law 
in the marketplace? Would the money go someplace else so we 
would never have a chance to know what is going on in the 
marketplace? I am just curious as to your opinion if any of 
those, or parts of those, were enacted into law.
    Mr. Zerzan. Thank you, Congressman. It is virtually certain 
that proposals that would drive the derivatives business away 
from the over-the-counter markets or drive it off-exchange 
would not lower the price of energy. They would, however, 
relocate jobs and revenue overseas and they would remove the 
ability of producers to manage their price risks, which would 
mean ultimately that those price risks would be passed on to 
consumers. So it is fair to say that provisions which would 
harm the ability of the derivatives markets to allow people to 
manage risk will not result in lower prices.
    Mr. Holden. Mr. Greenberger.
    Mr. Greenberger. First of all, the commercial users, if you 
talk to them, if you talk to the airlines, the truckers, the 
farmers, they can't use these markets anymore. They are so 
volatile that any price they are locking in means nothing to 
them. In fact, I just saw yesterday that the Chicago Mercantile 
Exchange has asked for an exemption from the bar of 
agricultural swaps in the statute to start selling agriculture 
swaps for soybeans. I forget the other agriculture thing. 
Soybeans stuck out in my mind because the farmers can't use the 
regular exchanges. They are so divorced from what the farmers 
believe are economic reality. I think they are walking into a 
trap there myself because the swaps market is only going to be 
more devoid of reality.
    If you impose speculative limits is this statute going to 
continue to control speculation? The speculators will have to 
find other forms of investment to the extent that they are 
driven from these markets. And a lot of people believe, for 
example, the pension funds who are pouring money into Goldman 
Sachs, to buy long in these products they will then have to go 
back to conventional investments like the stock market. Don't 
forget these are bets, these are bets on the direction of where 
prices are going to go. It is like going to Las Vegas and 
betting on who is going to win a football game. It has nothing 
to do with building the economy. If you invest in stocks, you 
are growing a company, if you loan money to a company on a debt 
market, you are helping them grow. When the pension fund puts 
this in and, god bless them, they feel this is the way they are 
going to make money, they are betting. They are not buying the 
commodity. They are only betting on the price of the commodity.
    And I find it interesting that in the Commodity Futures 
Modernization Act state gambling laws were preempted. They had 
to be preempted because these swaps are giving the swap dealer 
money and in return he is swapping either the upward price or 
the downward price of a commodity, crude oil, soybeans. It is 
essentially a gamble. You are gambling on the price. There is 
so much of that happening, $260 billion have gone into the 
crude oil markets since 2004, that it is self-evidently putting 
wind at the back of those who want to drive the prices up.
    Now, somebody made the analysis, ``Gee, inventories went 
down, of course, that means prices are going to go up.'' People 
are forgetting that 3 weeks ago the Saudis said we will 
produce, produce, produce. That has been forgotten, the next 
day oil went up. Oil is not responding to supplies and Dr. 
Pirrong says, ``Gee, this isn't hoarding. There are no 
inventories there.'' Of course, I am not saying it is hoarding, 
but one of the reasons there may not be inventories is because 
nobody is producing because why produce now if the price is 
going to go higher later on? And in fact that has been the 
thesis that OPEC has traditionally given for why they are not 
going to produce more, that they are only selling at a price 
that is not the direction of where the market is going to go.
    Now, it is true the Saudis surprised everybody 3 weeks ago 
and said, ``We will produce anything you want.'' I mean, they 
had limits. It was a shocking announcement. The next day, that 
was a Sunday, I believe, the price of oil went up. What really 
is happening there is OPEC, who is under tremendous pressure to 
produce, wants to make a point. We can promise you all the oil 
you want, but that is not going to undercut the price. The 
price has become detached from supply/demand fundamentals. Why 
is it detached? Because if you take the swaps dealer funds, 
people are pouring money into those funds long. And then 
Goldman Sachs, which is going short to deal with that long, has 
to go out into the market and buy long to cover its short bets. 
And that is distorting this market.
    Mr. Holden. Thank you.
    The Chairman. We will let him respond.
    Dr. Pirrong. Thank you. A couple of things. First of all, 
in terms of specific proposals, the proposals to dramatically 
increase margins on futures would tend to drive activity off 
the futures exchanges towards over-the-counter markets where 
people can negotiate their own collateral. And I think that 
would be highly disadvantageous in terms of if you want to 
promote price transparency and transparency in the market, that 
that would have a very pernicious effect.
    In terms of the participation of financial institutions in 
the market, it just sort of points out the sort of yin and yang 
nature of these markets. For one set of people to want to get 
rid of risk, you have to have another set of people that want 
to take on risk. And making it analogous to gambling or Las 
Vegas or what have you, that is very entertaining, but, 
essentially that is a vital role of the market. And if you want 
somebody to hedge, there has to be somebody taking on that 
risk. And frequently it is going to be a financial institution 
or a pension fund or somebody that most effectively can do 
that.
    The Chairman. Thank you. The gentleman from Kansas, Mr. 
Moran.
    Mr. Moran. Mr. Chairman, thank you very much. I appreciate 
the opportunity to further explore these issues. Professor 
Pirrong, you in your testimony, which I have read, it seems to 
me that words matter and you make an attempt to outline various 
phrases and words. It seems to me as I read your testimony that 
words matter to you. And one of the things that has troubled me 
in the debate that we have had is that the words ``excessive 
speculation'' seem to be interchangeable with market 
manipulation. And I think your testimony, although I give you 
the opportunity to confirm my understanding, points out there 
is a significant difference. One is illegal and disadvantageous 
to the economy. I am not sure whether ``excessive 
speculation,'' whether that phrase has existed in either 
economic or legal terms in the past. Do we study excessive 
speculation in the schools of economics, are they written in 
the rules and regulations of the CFTC or the laws?
    Dr. Pirrong. Well, I think the phrase ``excessive 
speculation'' is in the Commodity Exchange Act but certainly 
not a concept that has a lot of traction in economics. We 
understand what ``speculation'' is. We understand what it means 
but drawing the line as to what is ``excessive'' and what is 
not is very difficult.
    What I would go back to is something I raised in my initial 
remarks, which is to the extent that there is some distortion, 
whatever label you want to put on it, there is some distortion 
that is taking place as a result of activities in the 
derivatives markets that would leave a very clear trail in 
other data, in particular quantity data in terms of whether it 
be production or inventory and things of that nature, and we 
just don't see that.
    Mr. Moran. In that regard, tell me the bad consequence from 
speculation as compared to what I would call market 
manipulation. To me, to have something bad, economically, occur 
and someone take advantage of the circumstance, it would 
require hoarding or hoarding mentality or collusion. How do you 
get an increase in price just by the activity of speculating 
between two individuals or two entities as to what the price is 
going to be in the future?
    Dr. Pirrong. Well, a couple of responses to that. First of 
all, you are right, in terms of manipulation that results from 
the exercise in market power. And that typically results from 
one dominant trader or a group of dominant traders colluding 
with one another to do something to distort the market. On the 
other hand, if you have speculative activity, some people are 
speculating on information. They have information, folks that 
are speculating in the market, they do a lot of research to try 
to figure out things about supply and demand to the extent that 
their orders are informative, that will affect prices, but it 
will have the tendency to drive prices to where they should be. 
That is reflecting all the relevant information that is abroad 
in the marketplace.
    Mr. Moran. What is the value of speculation to the American 
consumer? How do the futures market and off markets speculation 
provide benefits to the American economy?
    Dr. Pirrong. There are a variety of benefits. Most 
importantly, it facilitates the efficient allocation of risk. 
So it allows the transfer of risk from those that bear it at a 
high cost, which may be, for example, a highly leveraged 
airline, to those that can bear it a lower cost, which might be 
a pension fund that sees an advantage in being able to 
diversify and giving its investors a better risk-return 
tradeoff. Also these markets in speculation facilitate the 
discovery of prices. People go out, they commit resources to 
investigating, doing research on supply and demand 
fundamentals, take that information into account in their 
trading, that affects prices and assures prices reflect those 
fundamental factors and leads people to allocate resources 
efficiently.
    Mr. Moran. In earlier hearings, I was interested in the 
topic of convergence. I walked in late for the testimony and I 
am not certain that anybody has used that word in the testimony 
today. But is there something that we should be looking at as 
we look to see how the prices converge at the end of the 
futures contract with the actual market price that would give 
us a clear understanding that the markets are transparent and 
efficient?
    Dr. Pirrong. What I would say is absence of convergence can 
sometimes indicate a manipulative distortion. So, for example, 
when somebody is manipulating the market, executing a corner or 
squeeze for example, that is going to cause the futures price 
and the price of the deliverable to diverge from its normal 
relationships. And that can be sort of a warning light that the 
market is not working properly.
    Mr. Moran. And is there evidence today in regard to 
convergence in regard to the oil markets?
    Dr. Pirrong. No, sir.
    Mr. Moran. In other words, there is no divergence?
    Dr. Pirrong. Yes, sir.
    Mr. Moran. In the markets today?
    Dr. Pirrong. Yes, sir.
    Mr. Moran. Thank you. Thank you, Mr. Chairman.
    The Chairman. Would you yield me----
    Mr. Moran. I have no time, but of course I would yield to 
the Chairman.
    The Chairman. The discussion you just had assumes that 
there is a free market and OPEC is not allowing this to be a 
free market, is it? I mean, there is this question that we had 
before about the supply of stocks. Well, they can store that 
stuff in the ground as well as they can in a tank someplace and 
you have this cartel that can control this thing basically and 
how does that all fit into this? I mean, I am no expert on all 
this oil stuff, but----
    Dr. Pirrong. I think we can draw a very important 
distinction here. Certainly OPEC might be able to take actions 
that can cause the prices to be higher than they would 
otherwise be. For example, extracting oil at an insufficiently 
rapid pace to constrain supply. But that is fundamentally 
different from speculation. If speculators were distorting 
price--if they say, ``Hey, we are willing to pay this high 
price and we are willing to get our Guccis dirty with gooey oil 
to do it,'' they would be the ones that would end up holding 
the oil. So what you would expect to observe is that with 
speculators driving the prices, they would end up causing them 
to be higher than they should be. They are the ones that should 
be owning the supplies of physical oil. Conversely if it is 
OPEC doing something, that could very well have an impact, but 
it is not going to manifest itself in the same way.
    Mr. Moran. Reclaiming the time I don't have, Mr. Chairman, 
maybe the point of that is what Mr. Greenberger said about not 
finding hoarding, that hoarding could be in the ground, that 
makes sense to me. Maybe the point of this is that the culprit 
may not be speculation, but the culprit is the cartel that is 
withholding the supply. We are not having a hearing on the 
cartel, we aren't having a hearing on OPEC and we aren't having 
a hearing on that topic. But, is it not a greater factor in 
determining the price of oil, OPEC, than it is the fact that 
people are speculating in the future prices of petroleum?
    Mr. Greenberger. I would just say this: As Dr. Pirrong has 
said, and by the way I am not a doctor, I am a Juris Doctor, 
but I can't call myself a doctor. The Act bars excessive 
speculation for better or for worse and maybe if speculation is 
good, that should be struck from the statute. I think that is 
what you have to say to yourself. That was a fundamental 
premise that was made. The farmers were getting burned in the 
1930s by speculators. I think the airlines will tell you today 
they are getting burnt by speculators. Maybe they don't know 
what they are talking about. But if speculation is great, let 
us get excessive speculation out of the statute. The way 
excessive speculation finds its way into the regulated markets 
is speculators have limits on how much they can participate.
    So all I would say is if speculators are wonderful, then I 
think we have to be candid and tell the truckers, the airlines, 
the farmers to get the automobile manufacturers, you are wrong, 
this speculation is terrific and the Commodity Exchange Act is 
not going to deal with speculation.
    Just to flip that around, these markets were designed for 
businesses to hedge their business concerns. Yes, you needed 
speculation to make these markets liquid, but the statute says 
no to excessive speculation. It is absolutely true that you can 
have problems here with no manipulation at all. But you have to 
answer the question, if speculation is good and healthy, then 
let us get rid of the excessive speculation bar in the statue. 
If it is not good and healthy, then you have to go out into 
these markets which are unregulated and we don't know anything 
about and we can't find the information and say we have to 
control your speculation because you are adversely impacting 
the price.
    And the Commodity Futures Trading Commission on its 
website, it talks about the economic fundamentals of futures 
markets, futures markets are price discovery mechanisms. You go 
to the paper to see what crude oil is selling at and that 
determines what crude oil is. The Chairman is correct, a lot of 
this market is not being reported, but I think that is a 
distortion in and of itself, that if it was fully reported 
people would be seeing there is a lot more selling of oil than 
buying of oil and that would affect the price. You essentially 
are sitting here and I am sitting here making guesses about 
what is going on in the markets that are dark.
    And by the way, before the Enron loophole was passed in 
December 21, 2000, every energy futures contract had to be on a 
regulated exchange.
    The Chairman. Mr. Greenberger, that is not true. You didn't 
have to be. The problem was you didn't have legal certainty was 
the only issue. You could still do it.
    Mr. Greenberger. Mr. Chairman, when you say that is not 
true, I really feel I have to answer that question.
    The Chairman. It was happening before.
    Mr. Greenberger. Can I answer your assertion since you have 
made it?
    The Chairman. Go ahead.
    Mr. Greenberger. The assertion of it was happening before 
because there was an energy swaps exemption.
    The Chairman. But that is going to be there even with these 
bills that have been introduced.
    Mr. Greenberger. I understand that. And if I could answer, 
I would like to be able to answer that question. The energy 
swaps exemption was for individually negotiated contracts. You 
could not have one economic term negotiated in advance. Now, if 
this purpose is to have standardized contracts that can be 
liquid. Now, maybe there was trading. Yes, I will tell you, 
Enron opened Enron On-Line before they got the Enron loophole, 
but that was not legal trading. And I would be happy to carry 
this dialogue on further, but I stand by my proposition that 
energy futures contracts, just like agricultural contracts 
today, cannot be traded, could not be traded off-exchange. That 
is why Enron wanted the Enron loophole. Agricultural products 
today cannot be traded off-exchange. That is why the CME is 
asking for an exemption to have agricultural swaps.
    And I would finally say the Goldman Sachs index does trade, 
part of it is swaps in agricultural products. I think that is 
flatly in violation of the statute. And I think that will be 
later shown to be.
    The Chairman. We will investigate that. And what I wanted 
to say earlier is that you need to understand what the 
political situation was in 1935. Farmers were desperate. They 
were looking for somebody to blame, whoever. And so I can 
easily see why they would put excess speculation in there, just 
like I have some letters from my fuel dealers and so forth, 
from the airlines who want to have an answer for their Board of 
Directors because the CEO is under fire. You know, we just need 
to understand all of that. What I am trying to get to is, show 
me the facts here that will tie this thing together. And I 
still haven't seen that.
    Mr. Zerzan, you wanted to say something and then we are 
going to get to Mr. Etheridge. I apologize.
    Mr. Zerzan. Thank you, Mr. Chairman. I would just point out 
that the purpose of ISDA is not to create standardized liquid 
documents. It was to create a framework of documentation, the 
material economic terms of which any individual trade would be 
negotiated between the parties. But ISDA is not in the business 
of creating futures contracts. We are in the business of 
helping facilitate the individual negotiation of bilateral 
contracts.
    The Chairman. The gentleman from North Carolina, Mr. 
Etheridge.
    Mr. Etheridge. Thank you, Mr. Chairman. Let me thank each 
of the witnesses here today. I am sitting here trying to think 
how to start. And I thought what I might do after all we have 
heard is that we really are about setting a framework that is 
fair to the consumer and fair to the producer, really and 
truly. That is what it is about. Now, a lot of people in the 
middle get in the game.
    But on Sunday night, I got a call from a friend of mine who 
is a lawyer. He employs nine employees. In March of 2007, he 
was paying about $5,500 a week for fuel for five trucks and all 
of his skidders in the woods. A year later, he shut down his 
operation, laid all those people off and took a 3 month 
sabbatical without pay because when he had paid his fuel bill 
he had no money left. Now, you may say that is his problem, he 
didn't hedge. The truth is, we are trying to get a handle on 
this because it is really about those folks. The folks in 
between who handle paper and do all the other stuff, they are 
going to be all right. Now, he is back in business, he sold off 
part of his equipment and ultimately at the end of the day, his 
banker helped him heal the situation, the warehouser gave him a 
little more allocation of fuel money if he would keep a list of 
what he put on his skidder and what he put in the truck.
    So we need to sort of keep a framework of where we are as 
we deal with this because the public doesn't understand 
futures, swaps or derivatives or anything else. But our job is 
to try to get a framework that is fair and protects the 
American people. That is really where we are and I hope we will 
keep that focus. I could share a lot of other stories. But my 
question, Mr. Comstock, is to you.
    Given that APGA, as your testimony says, values the 
different needs served by the more tailored OTC market, does 
your organization or would you support legislation, of which 
this Committee is going to be looking at, as soon as we finish 
all the testimony, that it would eliminate the OTC market with 
respect to energy commodities as some of these claim to do, or 
just share with us your thinking on that. I think it is 
important for us to have that as we try to get a handle on 
these things.
    Mr. Comstock. Mr. Etheridge, thank you for the opportunity 
to comment. I don't believe that APGA supports the elimination 
of OTC markets. But APGA does support the position that data 
and information are important.
    Mr. Etheridge. Transparency?
    Mr. Comstock. Transparency, yes, sir, in a word, it is 
important.
    Mr. Etheridge. Those are two different things is the reason 
I asked the question that way.
    Mr. Comstock. The transparency is important to us to 
provide information to know what is happening in those markets. 
That is our position and that is what we would support.
    Mr. Etheridge. Okay. Thank you. My colleague, from Kansas 
raised the issue of OPEC. I wish you could be talking about 
that today because when this issue came up in the 1970s, we 
were importing far less oil than we are today. And they do set 
the threshold of how much they will produce. The truth is when 
they said they were going to increase the production here 
recently, all they did was reduce production in another field. 
So it was sort of a net-net.
    Dr. Pirrong, we have heard comments that there is too much 
liquidity in certain commodity markets and I think I have an 
awful lot of constituents who really believe that. What are 
your thoughts on this statement? Can there be such a thing as 
too much liquidity? And if so, what does that look like? How 
does that affect the market and how do we put in place 
mechanisms to make sure there is adequate liquidity to make the 
market work? As someone on a farm would say, ``Enough grease to 
grease the machinery and make it work and not too much grease 
to get it all over the axle and mess up everything else.'' I 
think that is what we are about right here. We talk about it in 
a lot of terms. But the real issue is having enough liquidity 
to make the market work and not too much to mess up everything.
    Dr. Pirrong. Yes, sir. Well, I think there is a market for 
liquidity like there is a market for other things. And 
essentially that market will typically work in a way that 
ensures that the right amount of liquidity is there. Where does 
liquidity come from? Liquidity comes from capital. To the 
extent that people are demanding liquidity, the price of 
liquidity is going to be high and that is going to attract 
capital there. Conversely, to the extent that people don't 
demand liquidity, hedgers aren't in the market, they don't 
really need the liquidity, there will be a low demand and there 
would be relatively less capital.
    Mr. Etheridge. I understand that. I understand that 
theoretic statement. My question is a little deeper than that. 
You have to make sure if there aren't any regulatory schemes. I 
think my question is, how much liquidity does it take, 
otherwise every dollar will chase certain things. You and I 
know that. My question is, how do you devise that framework so 
that you have adequate liquidity to make it work and not too 
much to over-stimulate so that others suffer? Does that not 
necessitate putting in some kind of framework that limits the 
lubrication, so to speak, to adequate and not excess?
    Dr. Pirrong. First of all, I think we should be somewhat 
clear about the use of liquidity, because it is frequently used 
in different ways. For example, the central bank, the Federal 
Reserve provides liquidity to the economy, and it is arguable 
that over the last years that the Fed has been too liberal with 
that and the Feds actually contributed to problems in the 
economy, for example, the weakness in the dollar and so on.
    Mr. Etheridge. It lost about 43 percent.
    Dr. Pirrong. And that is sort of a different issue than 
talking about liquidity when you are talking about a market. 
And liquidity basically means how expensive is it to trade? If 
I want to buy, am I really going to jack the price up? If I am 
going to sell, am I really going to drive the price down? In 
terms of a framework, I think we can rely on the market to 
provide the right amount of liquidity. And what we need is a 
framework that basically ensures that people do not do 
economically inefficient things, most notably that they don't 
manipulate the market by exercising market power. I think if 
you have that sort of framework in place, that the market will 
serve to allocate capital to provide the right amount of 
liquidity, not too much, not too little, be just like Goldie 
Locks and get it just right.
    Mr. Etheridge. You are saying but without total 
transparency, it is kind of hard to know that is happening?
    Dr. Pirrong. Well, not necessarily. If what you mean by 
total transparency, but in a sense that you can have a market 
that is liquid and you can be confident that the market is 
liquid, even if the regulator can't observe every nook and 
cranny and position of what is going on in the marketplace. So 
usually more transparency is better, but I wouldn't believe 
that essentially having complete transparency would lead to 
that much of a better operation in the market, and particularly 
I don't think it would lead to better liquidity. In fact, 
having too much transparency, and this goes back to a point 
that was raised earlier by Mr. Zerzan, actually impairs 
liquidity and make markets less liquid because again concerns 
about front running and so on.
    Mr. Etheridge. Thank you, Mr. Chairman. I always happen to 
believe a little sunshine helps a lot of things. It has a way 
of purifying a lot things. Thank you, and I yield back.
    The Chairman. The gentleman from Louisiana, Mr. Boustany.
    Mr. Boustany. Thank you, Mr. Chairman. I still believe that 
the fundamental problem is a lack of supply and very tight 
supply and demand coupled with a weak dollar and the absence of 
a comprehensive energy policy for this country. I want to thank 
my colleague from Kansas for pointing out the distinction 
between excessive speculation and market manipulation because 
market manipulation is really the culprit that we are concerned 
about.
    Another point I want to make is that in looking at the 
Commodity Exchange Act, there is no definition of ``excessive 
speculation.'' So I would ask Mr. Greenberger, does he have a 
definition?
    Mr. Greenberger. The definition of ``excessive 
speculation'' in the Commodity Exchange Act, if you go to any 
farmer who trades on an exchange, he will tell you that the way 
it is defined is that every contract there is a speculation 
limit. So that the exchange works out with the traders, how 
much speculation do we need in this market to make the market 
liquid. And in the ag market, they are hard and fast spec 
limits. But even in the crude oil markets on Dr. Newsome's 
exchange, NYMEX, there are accountability levels, position 
limits. They have never defined it because it is like defining 
some algorithm on a contract-by-contract basis. The way it is 
worked out in the real world is the exchange, if it is 
regulated, has a process where they limit the amount of 
speculation through a speculation limit. It is different. There 
are thousands of these contracts and there is a limit on every 
different contract.
    Mr. Boustany. It seems to me that those limits are set to 
prevent default.
    Mr. Greenberger. Well, I read to you from the Commodity 
Exchange Act report in 1936.
    Mr. Boustany. I have the definition here with regard to 
``excessive speculation'' and ``limits on trading,'' and there 
is no definition of ``excessive speculation.'' It just simply 
says, ``Excessive speculation in any commodity under contracts 
of sale of such commodity for future delivery made on or 
subject to the rules of contract markets or derivatives 
transaction execution facilities causing sudden or unreasonable 
fluctuations or unwarranted changes in the price of such 
commodity is an undue and unnecessary burden on interstate 
commerce on some commodity.'' So it just lays out the need for 
regulation, but it doesn't define it.
    And I want to thank Dr. Pirrong for actually giving us 
something to work with here because he makes the distinction 
between the physical markets and the derivative markets and 
says there is an empirical metric that we can use and that is 
to look for distortions in inventories and supply. And I think 
that was a very useful statement that you made to help us in 
terms of trying to understand this and to set policy. I think 
this is a useful metric.
    Earlier, Mr. Greenberger, you mentioned the Saudi 
announcement that they would produce 200,000 additional barrels 
of oil per day. And yet we did not see a drop. We saw perhaps a 
rise. And that would undermine your argument. We still have a 
major supply problem. And 200,000 additional barrels of oil a 
day is not going to take care of that. And I would suggest that 
if they were making that--if you saw a lot of market 
manipulation-type activities, we would have seen drops.
    So again I think we really need to look at the inventories 
and supply, as Dr. Pirrong mentioned, because we can't get our 
hands around something that is tangible to understand what is 
going on. We really haven't had any discussion here today about 
the impact of the weak dollar. And just this week, the dollar 
showed strengthening against the Yen and the Euro and we saw a 
$5 drop in the price of crude oil. So I would ask each of you 
maybe to comment on that and the impact of the weak dollar on 
this problem. Mr. Zerzan.
    Mr. Zerzan. Thank you, Congressman. I think you have aptly 
stated the problem. The weak dollar has certainly contributed 
to the rise in the price of oil for the U.S. consumer.
    Mr. Boustany. Thank you. Anybody else want to comment on 
that? Again, I would say if you look at the weak dollar, 
coupled with the lack of a comprehensive energy policy and 
tight supply and demand, I think you have to go beyond just the 
actual physical commodity. We have a workforce shortage in the 
oil and gas industry. The other commodities, such as steel, rig 
materials and so forth, there are shortages there. I think 
these are all factors that come into that calculation of the 
paucity of supply that is creating this fundamental problem.
    Mr. Greenberger. With regard to steel, you should know that 
I understand the steel industry is taking the position that 
there should be no steel futures contracts because it will 
distort the price of steel. And also with regard to the Saudis, 
I don't have the statistics in front of me. They may have said 
200,000, but they had a program going all the way out for a 
couple of years and I think it was a lot more than that. And I 
must say everybody I knew and I myself was sure that the day 
after they made that announcement there would be a drop.
    Mr. Boustany. Mr. Vice, you were going to make a comment.
    Mr. Vice. I was just going to add that if you look at the 
full price curve that the futures markets are telling you, it 
is not indicating a bubble, it is not indicating a short-term 
bottleneck in supplies. It is $135 or $140 out through 7 or 8 
years. It is sustained. I am not an economist or expert, but in 
my view I agree completely with you. There are fundamental 
factors here that short term, medium term, long term, the 
marketplace is recognizing there has been a long, under-
investment in supply and the infrastructure to refine that 
supply and get it to market. And it is my belief that this is 
what that is reflecting.
    Mr. Boustany. We have seen a decline in almost all 
producing fields, whether you are talking about Venezuela, 
Nigeria, Mexico and on. So I appreciate your comment. Thank 
you. My time is up. I yield back.
    Mr. Holden [presiding.] The gentleman from Georgia, Mr. 
Marshall.
    Mr. Marshall. Thank you, Mr. Chairman. Dr. Pirrong, I think 
you can help us out a little bit. We have had a lot of 
testimony and it is not just yesterday and today, but 
previously, on the possible impact of pension, sovereign 
wealth, you name it, money moving into commodities and taking 
positions. Whether it is buying ETS, whether there is actually 
an underlying commodity that is being purchased and held, or 
whether it is an index fund or something like that. There are 
those who say that the market, talking about oil, would proceed 
apace, it would not be distorted by this phenomena at all. You 
wouldn't see the distortions that you are suggesting. You would 
have to see if there is some sort of market manipulation or 
something else going on here, other than sort of normal day-to-
day process. But what would happen, some say, is that the 
overall price goes up because so much money is in there that is 
long. If the mechanism chosen to give a position in oil is in 
essence a long position in the futures market, whether it is 
OTC or it is the regulated markets, the effect of that is to 
pull--since there is not as much money on the short side to 
start out. With all this money coming in long because that is 
the investment ploy that the money managers think is wise under 
their circumstances, taking into account all things, including 
their expectations concerning the future where commodities are 
concerned with a globe that is becoming more and more 
populated. The folks who are on the short side see this 
phenomena and they are going to move up also. And the price 
generally will move up as a result of that phenomenon.
    Could you comment on that?
    Dr. Pirrong. Yes. First of all, I want to draw this 
distinction between the physical and the financial markets. 
Even on a commodity like oil, there is a financial oil market 
and there is a physical oil market. The concern expressed 
earlier about the gentleman having to pay so much for his gas, 
his fuel bill that he couldn't operate his business anymore, 
that is really what is going on in the physical market. And if 
you look at the connection between the physical and the 
financial side of the business, most of the money, virtually 
all of the money that is going in the financial side of the 
business; they are price takers, they are not price makers. So, 
for instance, the indexes, which we have heard a lot about, 
they rule their positions as their contracts move towards 
maturity. They are sellers, not buyers. Even if they are 
originally long and they are going to sell their futures 
positions as they----
    Mr. Marshall. If I could interrupt. What we have been told 
by some is that the strategy is one that ignores price and 
says, ``We are going to be long indefinitely. We are passively 
long. And the idea here is our strategy will be to roll every 3 
months or 5 months and whatever the price is, we are just going 
to stay on the long side.'' And it is a lot of money doing 
that. That is what we have been told. And what I have a hard 
time seeing is what impact, if any, that kind of strategy might 
have on our markets. It is the only thing at this point that 
seems really anomalous, and it is something that has occurred 
in the last year or two and it has really increased 
dramatically. At the same time we have seen these price 
increases that we don't understand increase phenomenally. And, 
frankly, when you talk to OPEC and Big Oil, they can't figure 
out why the price is going so high.
    Dr. Pirrong. First of all, OPEC sometimes has an incentive 
to try to point the finger at somebody else. What is more, I 
still think it is very important. If speculators, or index 
funds, or passive long funds, if they were the ones that are 
keeping the price high because they say, ``Hey, we are not 
price sensitive, we are willing to outbid anybody else.'' If 
they are having an impact on the physical market, they would 
have to be the ones outbidding everybody else in the physical 
market and they would have to be the ones that were holding the 
oil. That still comes down to the key issue here. And again if 
you just look at the mechanics, when oil becomes prompt or when 
a corn contract moves towards expiration, this passive money is 
selling the nearby, they might be rolling in and buying the 
deferred, but their demand is not translating to the physical 
market, which is essentially what determines the price that we 
are going to pay at the pump or the grocery store.
    Mr. Marshall. The participants in this market are quite 
sophisticated and we are told there is just about virtually 
nobody who didn't look to see what is going on in the futures 
market in part as a means to determine what sort of price 
should be offered on the spot market. And there wouldn't be any 
distortions in the actual process, in the physical market, if 
the participants generally were doing that sort of thing. And 
we are told that they are doing that sort of thing. Do you 
discount that possibility?
    Dr. Pirrong. I don't think that these statements are 
necessarily inconsistent. But at the end of a day as a contract 
moves towards delivery, and that is what I essentially was 
referring to when I was talking about my experience in 
designing delivery mechanisms, when a contract moves towards 
delivery, people have to say, ``Hey, here is the price of the 
expiring futures, do I want that oil or not, do I want to be a 
buyer or a seller.'' That oil price, that futures price is 
going to accurately reflect the fundamentals in the 
marketplace. So given that people are confident that with a 
well operating unmanipulated delivery process that the price in 
the futures market as a contract moves towards expiration 
reflects fundamentals, they are going to be more than willing 
to base their pricing decisions on what they see going on in 
the futures market.
    So I would actually say that that argues for essentially 
the market's confidence that the futures prices are accurately 
reflecting physical market fundamentals as opposed to a 
situation where they believe that it is not reflecting physical 
market fundamentals.
    I will give you an example. Back in 1989, there was a 
manipulation of the soybean market. People were wildly 
concerned in May and July that the soybean futures price was no 
longer representative of fundamental cash market conditions. So 
what did major grain dealers like Cargill and others do, they 
said, ``Hey we are not going to make our pricing decisions on 
the basis of the May and July contracts anymore because we 
believe that those are manipulated, that those do not reflect 
fundamentals.'' The fact that market participants indeed still 
rely on these futures markets to base their prices indicates 
the high degree of confidence in the accuracy of these markets 
in reflecting fundamentals.
    Mr. Vice. Congressman, if I could add one point. I think 
too, a lot of what I will call dumb, long, only passive 
investment money coming into these markets, that is the kind of 
situation that active traders look forward to, quite frankly, 
because they are not trading in a dumb manner. They are 
studying the fundamentals, short-term, long-term fundamentals, 
and to have a counterparty on the other side of a trade who is 
not doing that is a big advantage for them. So typically what 
you will often see in the history of any prices as it moves 
around and you have any kind of phenomenon that is causing that 
type of investing, that is a profit opportunity for people that 
are studying the fundamentals. I think what you are seeing is 
those active, informed traders are looking at the fundamentals 
and they are not seeing fundamentals that argue for lower 
prices and they are not coming in in the same high volume. This 
is my own opinion. I am not basing this off numbers I have 
seen. But in the same manner they might if they thought this 
was actually that this dumb money did just happen to be right 
in this situation.
    Mr. Marshall. Thank you, Mr. Chairman.
    The Chairman [presiding.] Thank you, Mr. Marshall.
    Mr. Conaway, I guess you are the last standing over on that 
side.
    Mr. Conaway. Thank you, Mr. Chairman. I appreciate our 
panel being here today. I am no OPEC apologist. I grew up in 
west Texas and I was trying to make a living when the price of 
crude oil fell from whatever it was to $8 for sour crude and 
$12 for sweet crude in 1999, 8 years ago. But as we continue to 
bash OPEC, that bashing seems to be based on a premise that we 
have some right to their oil, that we have some mechanism that 
we can demand them to sell us stuff that is their property. And 
at the same time, I would argue that the U.S. is probably the 
single largest hoarder of crude oil and natural gas by the fact 
that we have restricted access to our own supply. We refuse to 
produce our own supply of crude oil and natural gas. And the 
net hoarding on behalf of the United States is contributing to 
the folks that Mr. Vice talks about who look at the actual 
things that are going on.
    Just a quick question. Does everybody make money in the oil 
stuff?
    Mr. Zerzan. No, Congressman. For every long, there has to 
be a short.
    Mr. Conaway. So folks are losing money in your world as 
they take these risks or try to lay these risks off?
    Mr. Vice. Trading is a zero sum game.
    Mr. Conaway. There you go. And also some great history 
lessons for Mr. Greenberger about the 1930s and the 1940s. I 
suspect today's information that is available limits the kinds 
of things that were going on with the locals that they were 
doing in Chicago and it was a closed loop and those guys were 
just hanging out in a small group. So I think today is 
fundamentally a different day.
    Mr. Greenberger. Mr. Conaway, could I respond to that, 
please?
    Mr. Conaway. I would like the record to reflect, Mr. 
Greenberger, that you have spoken more today than any other 
single person here.
    Mr. Greenberger. I would disagree with that, but if----
    Mr. Conaway. Thank you. It does not surprise me that you 
disagree with it. I have a limited amount of time.
    Mr. Greenberger. You referenced me and I would like to be 
able to----
    Mr. Conaway. You got your word in. Again, you have spoken 
more today--you might ought to run for the Senate. I don't 
think speculators are doing what is going on. I think there is 
a supply issue and a demand issue. Because my producers will 
sell every barrel they have at $140 a barrel. There is a 
refinery out there that has got to buy that at $140, convert 
that into product that he or she can sell across a wide 
spectrum of uses and try to make money at that. If that can no 
longer be done, then those refiners are going to quit buying 
oil at $140 and somehow the physical market is going to drop, I 
would suspect. How do I answer the folks who say it as if it is 
a self-evident statement that speculators are causing this 
problem? In fact, if you look at the supply issues over the 
last 15 months versus demand issues, yes, demand is coming up 
and supply is just holding its own. But, there is not a 
dramatic reduction in supply that would double the price of 
crude oil.
    And one other comment I made. The Saudis say they are going 
to increase production by 200,000 barrels a day. There is 86 
million barrels produced every day. And I am not real good at 
math. I am a CPA, but I am relatively good at math. That is not 
much of an interest against 86 million. How do we answer the 
folks who say, ``Supply and demand, yes, there is a tension 
there but it is not a lot different than it was in January of 
2007 when the price was much less than it is right now.''
    Anybody.
    Mr. Vice. I would say clearly the demand is very inelastic 
there. We also, for example, host electric power markets in our 
marketplaces. And given that power can't be stored and given 
that everyone also feels they have a right to light and heat 
and that demand is very inelastic, so you can see very small 
imbalances in supply and demand, which actually you can't even 
have in the power market. But to the extent you are at the 
maximum capacity of what the system can provide, you can see 
dramatic price changes there. I think that is probably the most 
extreme example because it can't be stored.
    Mr. Conaway. What about crude oil?
    Mr. Vice. Same thing. Again, there are not a lot of 
alternatives. If you have to drive to your workplace, that is 
what you have to do. You don't have a lot of choices right now 
in terms of alternative technology, alternative transportation, 
and it is going to take some time before these price signals 
are perceived as being semi-permanent and there is real 
behavior change in terms of demand.
    Mr. Conaway. Thank you, Mr. Chairman. I yield back.
    Mr. Vice. It is not an answer anyone wants to hear.
    Mr. Conaway. Let the record reflect I yielded back on time, 
please.
    The Chairman. We appreciate it, Mr. Conaway. The gentlelady 
from Kansas.
    Mrs. Boyda. Thank you very much, Mr. Chairman. And I have 
so many questions. If we could go real fast. I really am trying 
to figure out which this is on. So, clearly we need to increase 
supply. I don't think anybody disagrees with that, the supply 
of oil, the supply of alternate fuel, supply, and supply in 
general. So let me state that as a given.
    But it is interesting, why, do you think, when we were just 
talking with Mr. Conaway, 100,000 barrels when Nigeria is 
having trouble. What happened that day? And yet, 100,000 
barrels the other way, 100,000 barrels is 100,000 barrels. We 
did the SPRO. So clearly there is some psychological stuff that 
is going on. It may not actually be manipulation. Let me just 
state that.
    In January of 2008, $450 million a week was going into the 
oil speculation, and in March of 2008, $3.4 billion was going 
in a week. I got a briefing from CRS last week. I am trying to 
get this all figured out. What did we see happen when that much 
speculation went into the market in that short amount of time? 
Does anybody know? Basically we saw a tenfold increase in the 
amount of dollars going into the market. Do we have an idea of 
what happened with the price in that period? If somebody could 
get it for me for the record, I would appreciate it.
    Mr. Greenberger. I can say the price has gone up very, very 
substantially. I will supply something for the record, but my 
memory is that in the last year, the price has gone up, 
something like 100 percent.
    Ms. Boyda. In 3 months, according to CRS data, we saw 
tenfold, nine-fold, let's round up to tenfold increase in 
dollars just going into that marketplace. And if anybody would 
like to just give me what you think are those, what you think 
it is if it should have gone up more, if it was speculation, if 
it did go up or whatever I would appreciate knowing that. If 
this is manipulation, and excess speculation, whatever words 
that we want to use, and I understand those are hard. If it 
were not market driven, does that mean there is a bubble, and 
if so, when would we expect to see it burst? I mean, how much 
longer does this go on.
    Mr. Greenberger. Many people, Congresswoman, have said that 
it is a bubble. This is, of course, the debate. And that the 
bubble will burst. Many people say the bubble will burst when 
people like Mr. Etheridge's trucking company finally doesn't 
get another loan from the bank and Weyerhauser doesn't extend 
more credit. And these companies will, as you are going to hear 
from the airline companies, they will go down. Boeing will go 
down with them because they won't be buying planes. There will 
be a serious economic dysfunction and the bubble will burst. 
And the question I pose is, do you want to wait for that to 
snap? Or do you want to go back to the way we had done before?
    Ms. Boyda. So in your estimation, if this is speculation, 
you think it could go on, there won't be anything that will 
show it for speculation until we see some kind of real 
correction in the entire economy.
    Mr. Greenberger. I hope I am wrong about that. And I only 
know what I read. But a lot of people, I am not saying 
everyone, says that it will, this bubble will only burst when 
we go through a very serious recession.
    Ms. Boyda. Okay. Thank you. Mr. Comstock, would you just 
summarize for me what do you think we ought to do? Just, I know 
we need to increase supply. We all agree on that. What else do 
we ought to do? Should we do?
    Mr. Comstock. Boy, that is a----
    Ms. Boyda. And you have 1 minute and 21 seconds. Actually, 
I would rather that you not even use all of that.
    Mr. Comstock. I appreciate that. I think APGA'sposition is 
an increase in transparency. We need to see what is going on.
    Ms. Boyda. What does that mean specifically?
    Mr. Comstock. To understand what is going on in the 
markets, to see how the trades fluctuate, where the information 
is. I think the Chairman hit it early on in his statement, to 
find what is happening out there. And I am not sure we have 
that information.
    Ms. Boyda. So when Mr. Greenberger is talking about, the 
longs are transparent but shorts aren't, do you agree with that 
statement?
    Mr. Comstock. No, not necessarily, I do not. I am not sure 
that we have----
    Ms. Boyda. What would you like to make transparent?
    Mr. Comstock. The overall market itself. I am not sure that 
we have enough information in front of us to understand exactly 
how the overall process happens. And that is what we are 
looking at. I am not sure what total transparency means. I 
heard that earlier. We don't have a good definition of what 
total transparency means. When we get that maybe we will know 
what we have in terms of that definition, but at this point, I 
am not sure we have moved far enough in the idea of 
understanding what is going on to know that we are transparent 
enough to understand the process and the market.
    Ms. Boyda. I think we all agree, transparency is good. 
Supply is good. I am just trying to get my hands around what 
transparency, what specifically, what transparency we are 
looking for. I do believe that we can do harm when we try to 
insert ourselves too much into this market. So this is very 
difficult, and I appreciate each one of your being here today.
    The Chairman. I thank the gentlelady. The gentleman from 
Michigan, do you have questions?
    Mr. Walberg. Thank you, Mr. Chairman. I apologize for being 
late, but I was interested in hearing some of the responses 
thus far. And I just, in fact, in a meeting I just came from, 
some information was provided to me that I think I would like 
to ask the panel to respond to. I think we all agree that 
supply is necessary. And when we have seen in the United 
States, consumption decrease, and yet the costs continue to 
rise, of course, that says to us that if we are unwilling to 
compete, unwilling to produce, unwilling to increase our 
supply, that has impact.
    But the issue of subsidies, and I don't know if that has 
been brought up yet today. But I would like some comment or 
response on it when I see, according to this report here, that 
total demand in subsidized regions of the world has increased 
from 28 million barrels per day, that is a 37 percent of global 
demand in 2000, to an estimated 36 million barrels per day or 
42 percent of global demand in 2008. It seems like when you 
have that type of subsidized energy, that that is going to have 
a direct impact on the United States if we are unwilling to 
compete by being unwilling to produce more and develop a 
greater supply. I look at a report here that says that China, 
for instance, well, let's go from the bottom up. India, whose 
demand continues to expand geometrically, is at a total 
subsidized demand growth of ten percent. Latin America is at 19 
percent of total subsidized demand growth; the Middle East, 29 
percent; and they are paying what, a $1.25 a gallon, 29 percent 
total subsidized demand growth. And China, at 36 percent, even 
though they have reduced a bit of their subsidy right now 
because they can't afford it, but nonetheless reduced, they are 
still at 36 percent of total subsidized demand growth. Again, 
with us, unwilling to increase supply, unwilling to compete, 
and we have countries we are competing with, who are 
subsidizing huge proportions right now, what does that say to 
us? Jump on in.
    Dr. Pirrong. If I might, sir, I think that is a very 
important issue and that is actually one that I have sort of 
been blogging about for the last year. And it also relates to 
the issue of Mr. Conaway's question, why do seemingly small 
price disruptions have such big price impacts? The consumers in 
those countries that you are speaking about, they don't see 
price signals. So when the world price goes up, their price 
doesn't go up, so they don't cut back on their consumption. 
What that means is that demand is going to be very insensitive 
in those countries to price changes, and that actually can 
exaggerate, and exacerbate volatility in the marketplace.
    So that is a very important issue. Also, if you look at 
these countries, oil exports have been flat or declining in a 
lot of these countries because of just what you discussed, 
which is they are subsidizing their consumption. So we have 
this phenomena where the exporting countries are consuming more 
and more of their own oil and probably in a very wasteful way. 
So I think it is a very important feature in the market, and it 
is contributing to the high and volatile prices that we are 
seeing.
    Mr. Walberg. I see my time is up. Thank you, Mr. Chairman.
    The Chairman. I thank the gentleman. The gentleman from 
Wisconsin.
    Mr. Kagen. Thank you, Mr. Chairman, for holding these 
hearings, which are critically necessary to better inform 
Congress in terms of which way to go. But let's not forget why 
we are here. This energy crisis that we are in today is 
something that was totally predictable. It was predictable 
since 1973. We are also here today because government has 
failed. Our government has failed to come up with a meaningful 
and successful national energy policy to make us an independent 
nation, once again, as we once were in days gone by. So we are 
here because the failure of government and it is the failure of 
leadership of the current Administration to put together an 
energy policy that is anything other than drill and burn and 
drill and burn.
    So I thank you for being here today to testify. But I want 
to lay the predicate. Last week I had the honor of listening to 
the people I represent in northeast Wisconsin, which is largely 
a rural district. We live in our cars. A farm family, a mother 
of several children, told me that one out of four of her 
paychecks goes directly to gas just to get to work off the 
farm.
    A cook who has several jobs has a part time job just to get 
the money to pay for his gasoline to get to his full-time job. 
And a waitress who is getting paid $2.43 an hour plus whatever 
tips come in is telling me that she has a difficult time 
raising her children and paying for her gas bill at the same 
time as her food and her mortgage bill. This is a very real 
crisis and it is something that we have to take very seriously. 
And I am very interested in hearing your answers to just a few 
questions.
    First of all, I have to comment, Dr. Pirrong, I strongly 
disagree with you. You are the only one I know that thinks we 
have an open and free oil marketplace when you have people in 
OPEC controlling supply and determining price. So I strongly 
disagree with you. But Mr. Zerzan, I have a question for you 
about whether or not you believe position limits for hedge 
funds, for swap dealers and institutional investors would be a 
good thing for the people I represent in northeast Wisconsin.
    Mr. Zerzan. Thank you, Congressman. Position limits are 
routinely imposed on traders. The provisions that are being 
proposed, however, in the law, currently, would remove the 
hedge exemption that swap dealers are currently able to avail 
themselves of. What that ultimately would mean would mean that 
the swap dealers counterparties, be they producers or be they 
commercial entities, wouldn't be able to obtain protection from 
swap dealers. They would be subject to the risk of rising 
prices and the inability to pass on that risk to swap dealers.
    Mr. Kagen. Let me just ask it differently. What would be 
the effect to Mike, who is a cook in Marinette and to some farm 
families I represent and people in Green Bay if limitations 
were applied to your industry on these people?
    Mr. Zerzan. Ultimately the effect of not being able to pass 
on risk to swap dealers means you pass on risk to consumers. So 
prices go up for the people that need to purchase these items 
instead of those risks being passed on to people who are better 
able to manage them.
    Mr. Kagen. In your view, what do you think the appropriate 
punishment should be for anyone who is caught cheating? Several 
days ago here in this room, one of the Commissioners of the 
CFTC said they caught 40 cheaters, law breakers, and they were 
fined $40 million overall in the last 5 years. What sort of 
jail time would you recommend for someone who violates the law?
    Mr. Zerzan. Well, Congressman, the market participants that 
ISDA represents are among the strongest believers that people 
that try to cheat or try to game the system need to be punished 
and need to be punished severely.
    Mr. Kagen. As far as you are aware, has anybody gone to 
jail for robbing and stealing us blind with these high oil 
prices?
    Mr. Zerzan. Well, Congressman, I am not sure I know how to 
answer that question.
    Mr. Kagen. It is sort of a yes or no. Are you aware of 
anybody that has gone to jail for violating these rules?
    Mr. Zerzan. I don't personally know anyone who has gone to 
jail, no.
    Mr. Kagen. All right. What do you think the effect would be 
of Mr. Larson's bill about limiting OTC transactions to those 
who are capable of taking possession?
    Mr. Zerzan. I think that would remove a substantial amount 
of the liquidity from the market and mean that people couldn't 
hedge their risk.
    Mr. Kagen. So you think that would punish the consumer?
    Mr. Zerzan. I think that would ultimately result in prices 
being passed on to consumers.
    Mr. Kagen. Would you agree with me that part of the problem 
that we have here is a speculative bubble simply because the 
ability of people to pay these impossible prices has been 
exceeded, at least in my district? And I had a meeting with 
people that distribute oil to over 1,500 gas stations. I have 
met with mass transit officials, school district operators, 
mayors and county executives. Everybody I am listening to says 
that we can't afford these high energy costs; they are busting 
our budgets. So wouldn't you agree there is a speculative 
bubble involved here?
    Mr. Zerzan. Well, Congressman, I would agree that prices 
are rising to levels that are hurting American consumers. But 
the separate question is whether or not limiting the ability to 
pass on these risks through derivatives would actually help or 
hurt consumers, and ultimately it would hurt consumers.
    Mr. Kagen. Interesting. Mr. Vice, do you have an opinion on 
that?
    Mr. Vice. I guess I would generally add that, as someone 
said before, a market exists to transfer risk, particularly 
futures markets and largely the OTC market, not to procure a 
given commodity, but rather to people that want to get rid of 
price risk give it up to someone who wants to take on that 
price risk. I think speculators, whether they are swap dealers 
or other types of participants that are willing to that risk on 
are a critical and necessary part of a market. I would also add 
that, in general, the more liquidity the better. The more 
liquid a market is, the more broad the participation, the less 
likely it is for anyone to manipulate that market.
    Mr. Kagen. Well, Congress has already passed two pieces of 
legislation to try and attempt to do this. In fact, three of 
them. But in particular, the farm bill helped to close part of 
the Enron loophole, but it didn't do anything about the swaps. 
Do you think that swap loophole with regard to dealers and 
institutional investors has to be closed? Has to be addressed?
    Mr. Vice. My view is that the----
    Mr. Kagen. Another way of saying it is, was the farm bill 
sufficient to mollify the marketplace?
    Mr. Vice. Well, I don't know if it is going to mollify the 
marketplace. It starts with the premise that there is an answer 
in more regulation, and I don't think that is the case. But 
ignoring that, to the extent you want to, ``close the Enron 
loophole,'' I think the farm bill does that in a very well 
structured manner. It recognizes that the OTC market is a very 
diverse marketplace in terms of some contracts that trade 
electronically and they have sort of a price discovery 
function, and they should be, or it is appropriate to regulate 
them like a future, which is what the farm bill does.
    It also recognizes that there is a tail, a relatively small 
part of the OTC market that consists of hundreds, even 
thousands of different contracts that, in many cases, are 
traded by only a handful of participants in different parts of 
the world. They serve no price discovery function, and it would 
literally be impossible for ourselves or anyone else to apply 
exchange-like surveillance principles to such an illiquid 
market.
    Mr. Kagen. Mr. Chairman, if I could just ask another 
question. Mr. Etheridge has another bill, H.R. 6334, and this 
would seek to increase the ability of the CFTC to do its job. 
Do you have any opinions with regard to his bill?
    Mr. Vice. We definitely support additional funding and 
additional staff for the CFTC. There is no question that is 
needed. And I would also say that we fully support transparency 
in any way, both in our OTC marketplaces and our regulated 
futures marketplaces around the world. We have shared data 
whenever asked or required to. We have not opposed and would 
support, to the extent more transparency is required of us as a 
marketplace, we are happy to provide that. And as someone said, 
``Sunshine never hurt anything.''
    Mr. Kagen. And I would just finally ask all of you if you 
wouldn't agree that it would be a good idea for this Congress 
and this President to come up with a meaningful energy policy. 
In my view, much of the run up in the price here has to do with 
people betting against the house, betting against the ability 
of government to come up with a meaningful plan to begin to 
move us away from fossil fuels and away from being dependent 
upon foreign sources of energy. So if we did come up with this 
meaningful plan that drove us towards energy independence, 
wouldn't you agree that the price for OPEC's oil might go down?
    Mr. Zerzan. Certainly reducing the pressures on supply and 
developing an alternative source of supply would be a 
meaningful step.
    Mr. Kagen. And finally, wouldn't you agree that to whatever 
extent we could argue about the percentage, but the declining 
value, the declining purchasing power of the United States 
dollar applies to this situation? The oil hasn't changed in 
millions of years, but the dollar in your pocket certainly has. 
It doesn't buy as much oil as it did before. Some have 
estimated that 40 to 50 percent in the run up in the price of 
oil is due to the declining value of the dollar. Would you 
agree with that?
    Mr. Vice. Yes.
    The Chairman. I thank the gentleman very much. The 
gentleman from California.
    Mr. Cardoza. Thank you, Mr. Chairman. Mr. Zerzan, your 
written testimony questions a need and wisdom for greater 
disclosure of index traded traders and swaps dealers, mainly 
because of concern that the market functions better as I 
believe you said in anonymity. However, aren't traders on the 
regulated market, i.e., the non-OTC markets, subjected to a 
higher level of scrutiny than your members currently are? In 
fact, the swaps dealers already have a front run on the market 
participants.
    Mr. Zerzan. Thank you, Congressman. The paragraph you refer 
to in my written statement regards proposals which would break 
out the positions on regulating future exchanges of swap 
dealers and index traders. And the point of our concern is that 
anything which would allow someone to see the trading 
strategies of any individual market participant would put that 
market participant at a disadvantage, and would also provide 
opportunities for trading ahead or front running.
    So the point of that concern is really that on-exchange 
trading, to the extent that their proposals to increase 
reporting of swap dealers or index traders, it should be very 
carefully crafted so as to not allow any individual firm to be 
disadvantaged.
    Mr. Cardoza. I have been to all the exchanges, and I have 
seen open outcry trading where everything is very transparent. 
You don't know exactly, but you have a good idea who is making 
bids and you can have an idea if someone is making plays. 
Everybody shares the same information at the same time in those 
kinds of markets. I support that. That is sort of a democratic 
way of doing the free market. What I don't like is when people 
behind the scenes have hidden advantages. And I think that is 
what we are sort of talking about. Later today, Dr. Newsome, in 
his testimony, supports the idea of restricting swaps dealers 
from obtaining hedge exemptions for position limits if they are 
conducting OTC transactions involving noncommercial 
participants. Would your organization support such a change?
    Mr. Zerzan. We would not support such a change. And I think 
that that would actually tend to impair liquidity in the 
markets and impair the ability of participants to transfer 
risk.
    Mr. Cardoza. Mr. Zerzan, this goes back to my earlier 
question. I believe there is a legitimate place in the market 
for swaps. And I am certainly not advocating restructuring the 
entire OTC market. However, it is really difficult for me to 
understand why your members can't bring themselves to this more 
transparent place in the market.
    Mr. Zerzan. Well the CFTC, in October 2007, addressed this 
point, and said, ``Staff experience in surveillance of these 
markets does not suggest that the OTC bilateral or voice broker 
energy markets exhibits significant price discovery 
attributes.'' Thus, the direct impact on other parties and 
markets is limited.
    Mr. Cardoza. Mr. Zerzan, that was 2007. We didn't have $4 
gas in 2007. Now CFTC is saying they need 100 people to 
regulate that market. You are talking about history when it 
wasn't happening.
    Mr. Zerzan. Well, Congressman, I think that prices were 
rising through 2007 and the point is----
    Mr. Cardoza. They weren't exploding like they are in 2008. 
I guarantee you that. You talk to my constituents and they are 
darn upset about what is happening in 2008.
    Mr. Greenberger, I can't, as a University of Maryland 
graduate, go without letting you comment on the last thing very 
briefly because I have one more question I have to get to. Do 
you have an opinion on what you just heard?
    Mr. Greenberger. Can you just refresh my recollection of 
what I just heard?
    Mr. Cardoza. Well, the question was, does the swaps market 
and the folks that Mr. Zerzan represents, do they get a hidden 
advantage by being able to go first or to be able to hide their 
maneuvers in the swaps market?
    Mr. Greenberger. I think that the, there is a hidden 
advantage, but the most important hidden advantage is that 
nobody knows what is going on. That was not the way the 
Commodity Exchange Act was set up. Everybody is guessing what 
goes on on the bilateral or OTC market. Is it helping? Is it 
hurting? And the easiest way to answer that question is for 
transparency. Now, I am not saying transparency where 
competitors can see what they are doing. But as you pointed 
out, in the NYMEX or Chicago Board of Trade, large trader data 
reporting goes to the exchange every day. And that is not only 
useful to see whether there is excessive speculation. We are 
all here saying excessive speculation is different than 
manipulation, and I agree with that. And I believe we see 
excessive speculation. But we can't tell whether there is 
manipulation. I will tell you on the exchanges, the traders are 
watched by their surveillance systems, that they not engage in 
phony or fraudulent trading. We don't know what is going on. I 
am not saying it is happening. But we don't know. And all I am 
saying is let's find out. If everything is fine, terrific. But 
let's get the information we need.
    Mr. Cardoza. Mr. Vice, do you have an internal monitoring 
system to avoid skirting around your position limits or other 
requirements that you have on your exchange?
    Mr. Vice. Let's clarify which market we are talking about. 
Well, let me ask you, are you referring to our over-the-counter 
market?
    Mr. Cardoza. What stops traders from registering under 
different names in your market? On all of the exchanges, or all 
the different products that you trade?
    Mr. Vice. Well, okay. We have a U.S. exchange which is just 
ICE Futures, U.S. It doesn't trade energy. It trades 
agricultural products and financial products. It is regulated 
just like NYMEX, CME, has the same core principles it has to 
enforce. We also have an over-the-counter market, OTC energy 
over-the-counter market which is one of the requirements under 
that regime is it is a principals-only market and it has, and 
it is professionals only. It has high net worth, high asset 
requirements, so it is essentially investment banks, funds, 
companies like Mr. Comstock's or gas companies, power 
companies, utilities, oil companies, they can trade 
bilaterally, where they are taking each other's credit. You can 
do that electronically, just as you can do it through a voice 
broker. So clearly, they are establishing their credit with 
each other outside of the service we provide them. They can 
also trade that in a cleared manner where they give it up to a 
clearing house.
    We enforce the requirements of that marketplace as the CFTC 
and the CFMA has required us to do. Requirements have been 
enhanced as time goes on, ultimately in the farm bill where we 
are in the process now of building these systems and the 
processes to do the large trader reporting, Commitment of 
Traders reports, position limit administration for contracts 
that are deemed significant price discovery contracts.
    I hope that answers your question.
    Mr. Cardoza. Well, sort of, but I am going to ask it in a 
different way or follow up in a different path here.
    Following up on your testimony, you said, basically ICE 
will fall under some new regulations that we imposed in the 
farm bill. And I believe in your testimony you said that some 
of these regulations will occur if and only if the CFTC decides 
an ICE contract serves significant price discovery function, 
and you will have a self regulatory requirement. However, a 
number of those requirements seem to be in common sense 
practices that should and could be implemented now, without 
CFTC mandate, such as monitoring trading activity to prevent 
market manipulation. You could adopt position limits, you could 
minimize conflicts of interest. So my question to you is why 
wait? Why wait for CFTC to mandate it? Why don't you just do it 
now?
    Mr. Vice. Well, we are not waiting. We are doing it now. 
Those are substantial processes and systems to put in place. We 
are working on that now. Our goal is to put that in place as 
soon as possible. I think the Act had 180 days or 270 days. I 
don't even know. We are hopeful to have it in place much sooner 
than that. But it does take time to do.
    Mr. Cardoza. You can't give us, the Committee, an estimate 
today about when you are going to have those?
    Mr. Vice. I can only tell you we are having to do something 
similarly for our European futures exchange, which, through a 
different no action process, now has similar requirements. 
There is a shorter time frame on that of 120 days, so 
eventually we are moving those projects along in tandem, and 
our hope is to have both of them in place by that time frame.
    Mr. Cardoza. Well, as usual, Mr. Chairman, I have several 
more questions, but no more time. So I will turn it back over 
to you.
    The Chairman. I thank the gentleman. The gentleman from 
Minnesota.
    Mr. Walz. Thank you, Mr. Chairman. And thank you all for 
coming here today. And Mr. Zerzan, I am going to ask you a 
question. I know I am not piling on here. You are getting a lot 
of questions. And I think it is clear, and I appreciate Mr. 
Greenberger's point on speculation versus manipulation being 
very clear on this. Everyone up here is representing about 
700,000 constituents for whom this is a major concern of 
theirs. We are trying to get to the heart of what this is, what 
the situation is, understanding that we need to have the fossil 
fuels, we need to understand the market needs to function and 
all of that. But there are some questions of if it is 
functioning correctly? So Mr. Zerzan, you have stated, and I 
read your testimony and heard you just shortly here, market 
forces supply and demand, not derivatives which are causing the 
commodity prices. My job is to weigh different sides of this.
    So here are a couple of quotes. One that said, ``We are in 
a mode where the fundamentals of supply and demand really don't 
drive the price.'' That was Lee Raymond at ExxonMobil. In 
December, somebody said, ``The market is not controlled by 
supply and demand; it is totally controlled by speculators who 
consider oil as a financial asset.'' That was the Secretary 
General of OPEC. How do you respond to them, and how do I 
respond to constituents that when they are hearing some Members 
of this body give them simplistic solutions that are going to 
get us out of that? I am not looking for a simplistic solution. 
I want to know what the role is. So how do you respond to that 
when you hear this?
    Mr. Zerzan. Well, Congressman, I read a report recently 
that had the clearest answer that I can think of, and it was a 
chart and it showed that the global daily demand for oil is 
about 87\1/2\ million barrels. And the global supply of oil is 
86 million barrels. So until you see a point where supply and 
demand are in convergence, you are going to see increasing 
prices for oil, and there is simply no other way around it.
    Mr. Walz. And you think that the talk on speculation, I 
just received, as a member of the frequent flier miles at 
Northwest Airlines just sent out a letter to all of their 
customers, it says, ``Since high oil prices are partly a 
response to normal market forces, the nation needs to focus on 
increased energy supply.''
    However, there is another side to this story because normal 
market forces are being dangerously amplified by poorly 
regulated market speculation. How do you respond to Northwest 
Airlines on that then.
    Mr. Zerzan. You know, there were a series of articles that 
have come out lately talking about Southwest Airlines, and how 
Southwest Airlines has been able to hedge the price of fuel 
going up by entering into over-the-counter derivatives, how 
they have gained price protection, and thus been able to keep 
their prices low. So when airlines send out notices like that, 
and several airlines have, I would simply say you probably 
should have gotten a swap agreement.
    Mr. Walz. What is the main role of the commodity markets? 
What are they supposed to do, in your opinion?
    Mr. Zerzan. Commodity markets primarily serve the purpose 
of informing market participants about prices.
    Mr. Walz. But now we have this entire class of hundreds of 
billions of dollars, pension funds, index funds, endowments and 
all of that, as a ways to bump up returns. And I am hearing you 
say that there is nothing involved in this. Just a few short 
years ago, $13 billion in this, now a new $260 billion headed 
maybe for a trillion. You don't think that change is going to 
have any impact on price at all; that capital?
    Mr. Zerzan. No. And frankly, there is a very simply way to 
illustrate this. If Mr. Vice and I decide that we are going to 
enter into an agreement whereby I am going to pay him $10 
tomorrow and he is going to pay me the price of an umbrella 
tomorrow, the price of that contract is going to be determined 
based on whether or not it rains. If it rains tomorrow 
umbrellas are going to be $11 and he is going to owe me a buck. 
If it doesn't rain, I am going to owe him a buck because 
umbrellas are going to be $9, and we could go a billion of 
these contracts. But at the end of the day the price of the 
umbrella is determined by whether or not it rains. Commodity 
prices are determined by supply and demand. Derivatives allow 
you to manage that risk but they don't determine the price.
    Mr. Walz. So Exxon, my constituents, Northwest Airlines, 
everybody is wrong but the commodity traders.
    Mr. Zerzan. No, the commodity markets represent the price 
at which someone is willing to sell something and the price at 
which somebody is willing to buy something. And frankly, we 
have not found a better method for figuring out what a price is 
than that. So people can decry the prices that they come up 
with. No one likes paying $5 for a gallon of gas. But at the 
end of the day, it is not the markets that caused that.
    Mr. Walz. Okay. I yield back, Mr. Chairman.
    The Chairman. The gentleman from Texas.
    Mr. Lampson. Thank you, Mr. Chairman. And thank you for 
your indulgence and in allowing me to chair my own hearing 
going on in another building a few minutes ago. And I was 
unable to listen to the testimony, but I certainly appreciate 
you all being here, and what I am hearing I wish that I had 
heard more along the day. I will keep mine fairly simple and 
pretty quick, Mr. Chairman.
    Mr. Greenberger, recently on National Public Radio, you 
said that there was one act of deregulation most to blame for 
the problems caused by financial derivatives, more to blame 
than the 1999 repeal of the Glass-Steagall Act is the Commodity 
Futures Modernization Act of 2000 introduced by then Senator 
Phil Gramm of Texas as a rider on to an 11,000 page omnibus 
bill that passed Congress just before it adjourned for 
Christmas in 2000. Who would you say, except for the drafters 
of this bill, or that bill, understood what this legislation 
did? And second, what effect would you say this bill had in 
contributing to the current financial crisis around the 
country?
    Mr. Greenberger. It is my own belief that not many people 
understood what the impact of that bill was. There were 
endorsements of various parts of it. We are worried today if we 
re-regulate there will be unintended consequences. I would say 
the unintended consequences of that bill were enormous. 
Chairman Peterson disagreed with me earlier, but my assessment 
was, as a regulator, that before that bill passed, all energy 
futures, including the bilaterals that Mr. Zerzan is now 
talking about, if they are standardized, if they are 
standardized, and by the way, the International Swaps and 
Derivatives Association was the foremost proponent. They 
understood what that bill did, that they had to be traded on 
futures exchanges.
    Now, if they were on futures exchanges we wouldn't be 
guessing is there speculation here, and who is doing what. 
There would be large trader data reporting coming to the CFTC. 
There would be spec limits that Dr. Newsome would be applying 
from his exchange. Those markets were functioning fine on 
December 20, 2000. We weren't holding hearings about whether 
there was excessive speculation. They allowed Mr. Vice's 
exchange to get started in some respects, for example, natural 
gas, to trade out of sight of the regulators. They allowed 
Enron, who was the proponent of it, to establish Enron On-Line, 
which has now been demonstrated through enforcement actions to 
have driven up the electricity costs on the West Coast by 
substantial numbers.
    They allowed Amaranth, a hedge fund, to have its way, not a 
big hedge fund, but a hedge fund to drive up natural gas prices 
for 2 years until it got caught out. I believe because we don't 
know what is happening in the bilateral market, we don't know 
what is happening in the swaps market, we don't know what is 
happening on a lot of ICE's going on. We, my only suspicion is 
that things are not going on there that are helpful. Why do I 
suspect that? Because I oversaw regulated markets for 2 years. 
And even on regulated markets, it is like the wild west if you 
don't police them. My fear is that when you take these markets, 
which this Act did, out of transparency, things that are not 
good for your constituents, Minnesota constituents or the 
airlines are happening, and we are spinning out of control.
    Now, just my final point, and I am bearing in mind, Mr. 
Conaway's concern about my talking too much. My final point, is 
it deregulated the financial swaps market. When you go and look 
at the subprime meltdown, you will find credit default swaps 
were at the heart of that meltdown. And why is that? The 
mortgage lenders, the banks said to people who said, ``Oh my 
gosh, you want us to buy a security in whether people who can 
afford to pay their mortgages are going to pay them? That 
doesn't make sense to us.'' And they said, ``Not to worry. We 
are going to engage in a little swap here. You give us a 
premium and we will guarantee that you don't lose money.'' 
Well, the problem is, classically shown by Bear Stearns, the 
swaps dealer who was making the guarantee didn't have the money 
to pay off the guarantee. They thought housing prices would 
always go up. And when they went down there was no capital 
reserves. We are now holding $29 billion of those Bear Stearns 
obligations.
    Mr. Lampson. Who understood that?
    Mr. Greenberger. I would say there weren't enough people 
who understood what was going on there. I think at the time I 
did. I think at the time the International Swaps and 
Derivatives Association did. We were promised, Senator Gramm 
said when he introduced that thing, this would be a boon to the 
national economy, and here we are today.
    Mr. Lampson. Thank you, Mr. Greenberger. Thank you, Mr. 
Chairman.
    The Chairman. I thank you all. We just had votes called and 
we have been sitting here a long time. We thank the panel for 
coming in and sharing their time and expertise with us. We will 
recess the Committee and go over and do these votes. Hopefully 
you can grab a little lunch during the process. And we will 
have the second panel start immediately after the series of 
votes ends. The Committee is in recess.
    [Recess.]
    The Chairman. The Committee will come back to order. Do we 
have the witnesses? They are all here, are they? I would like 
to welcome the witnesses to the table.
    This panel is going to examine pension funds and index 
funds, issues surrounding those areas. First of all, we have 
Ms. Robin Diamonte, Chief Investment Officer at the United 
Technologies Corporation on behalf of the Committee on 
Investment of Employee Benefit Assets; Dr. Scott Irwin, 
Professor of Department of Agriculture and Consumer Economics 
at the University of Illinois; Mr. Paul Cicio, President of the 
Industrial Energy Consumers of America. Mr. Jeffrey Korzenik--
--
    Mr. Korzenik. Korzenik.
    The Chairman. I am a Norwegian. I can't say that.
    Mr. Korzenik. Wait until you get to the name of my firm, 
sir.
    The Chairman.--Chief Investment Officer of VC&C Capital 
Advisers. And Dr. Craig Pirrong, who was on the panel previous. 
We would tell you that your full statements will be made part 
of the record. We would ask you to summarize and talk in layman 
language that we can understand as best you can. And we will 
have 5 minutes available for each of you. And Dr. Pirrong, you 
already gave your statement. We will just have four statements 
and then we will get to questions.
    Ms. Diamonte, you are on.

           STATEMENT OF ROBIN L. DIAMONTE, CHAIRMAN,
 SUBCOMMITTEE ON DEFINED BENEFITS, COMMITTEE ON THE INVESTMENT 
 OF EMPLOYEE BENEFIT ASSETS; CHIEF INVESTMENT OFFICER, UNITED 
                          TECHNOLOGIES
                   CORPORATION, HARTFORD, CT

    Ms. Diamonte. Good afternoon, Mr. Chairman, Ranking Member 
Goodlatte, and others of the Committee. My name is Robin 
Diamonte, and I chair the Defined Benefits Subcommittee of 
CIEBA. Thank you for allowing us to testify on this very 
important subject. The Committee of Investment of Employee 
Benefit Assets, CIEBA, is the voice of the Association for 
Financial Professionals on employee benefit plan asset 
management and investment issues.
    As the chief investment officers for most of the country's 
largest pension funds, CIEBA members manage more than $1.5 
trillion of defined benefit and defined contribution plan 
assets on behalf of 17 million plan participants and 
beneficiaries nationwide. According to the Federal Reserve 
data, the $966 billion managed by CIEBA members in defined 
benefit plans represents half of all the private defined 
benefit plan assets.
    The pension system has served millions of Americans for 
over half a century. We owe it to the working Americans and 
their families to ensure that any contemplated policy changes, 
no matter how well intentioned, do not undermine the retirement 
security.
    The record prices for food and energy in the U.S. and 
abroad are of great concern to all of us. We are sensitive to 
the need to investigate this critical problem. Nonetheless, we 
are deeply concerned about the prospect of any legislation that 
would bar pension plans from investing in certain types of 
assets.
    Congress has long recognized the direct government 
regulation of pension plan investments is ill-conceived. ERISA, 
the primary law that regulates the investment of pension 
assets, takes a very different approach. Rather than requiring 
or prohibiting specific investments, ERISA imposes rigorous 
fiduciary responsibilities on the persons that manage pension 
plan assets. These rules require a plan fiduciary to act 
prudently and to diversify planned investments so as to 
minimize the risk of large losses. In addition, ERISA requires 
that as a fiduciary, they act solely in the interest of plan 
participants and beneficiaries.
    Today, private pension plans invest in a wide range of 
different asset classes. Plan fiduciaries use a variety of 
investment techniques and tools, including derivative 
instruments, to mitigate risk and enhance returns.
    Other countries have taken different approaches to 
investments of pension assets. Some U.S. public plans and 
European defined benefit plans have had rigid investment 
guidelines prohibiting certain types of investments and 
requiring others. Many of these rules have now been discarded 
because of the negative impacts such guidelines have on 
investment returns and thus on employees' retirement income.
    Put simply, mechanical approaches do not work as well as 
the American approach of an investment flexibility paired with 
strict fiduciary obligations. It is critical that pension plans 
have the ability to invest in accordance with modern portfolio 
theory and pursue the best investment strategy available.
    The investment marketplace is constantly changing and plans 
need to be able to adapt and evolve accordingly. Our concern is 
both with specific restrictions on pension plan investments and 
commodities and with the precedent that that action will set 
for allowing the government to intrude on pension investment 
decisions.
    Today, commodity investments are not a significant part of 
most private sector plan portfolios. Preliminary results 
received through a 2007 profile survey show that plans have 
less than one percent of assets invested directly in 
commodities and natural resources combined. We firmly believe 
that commodities may be a part of a prudent, well diversified 
investment portfolio by providing a hedge against inflation and 
minimizing volatility, but our primary concern is with the 
principle that the government should not micro-manage pension 
plan investments.
    Political temptation to intervene in pension investments is 
not unprecedented. However, Congress has consistently rejected 
legislation that would subjugate the retirement security of 
millions of Americans and their families to other social or 
political concerns, no matter how worthy. In fact, when asked 
about economically targeted investments, the Department of 
Labor interpretation said, ``That a fiduciary must not 
subordinate the interest of participants and beneficiaries to 
unrelated objectives.''
    Regulating pension investments would make it difficult for 
plans to adequately diversify investments to hedge against 
market volatility and inflation and consequently would put at 
risk the retirement funds of the very workers the proposal is 
intended to help. In effect, such a proposal could be a case of 
robbing Peter to pay Paul.
    Again, thank you for the opportunity to testify. Please let 
me know if there is any additional information that you would 
like to receive from us.
    [The prepared statement of Ms. Diamonte follows:]

   Prepared Statement of Robin L. Diamonte, Chairman, Subcommittee on
   Defined Benefits, Committee on the Investment of Employee Benefit
   Assets; Chief Investment Officer, United Technologies Corporation,
                              Hartford, CT
    Mr. Chairman, Ranking Member Goodlatte, and other Members of the 
Committee, my name is Robin Diamonte and I am the Chairman of CIEBA's 
Subcommittee on Defined Benefits.
    Thank you for providing this opportunity to testify. The Committee 
on Investment of Employee Benefit Assets--CIEBA--is the voice of the 
Association for Financial Professionals on employee benefit plan asset 
management and investment issues. CIEBA was formed in 1985 to provide a 
nationally recognized forum and voice for ERISA-governed corporate 
pension plan sponsors on fiduciary and investment issues. CIEBA members 
are the chief investment officers of most of the major private sector 
retirement plans in the United States. CIEBA represents 110 of the 
country's largest pension funds and its members manage more than $1.5 
trillion of defined benefit and defined contribution plan assets, on 
behalf of 17 million plan participants and beneficiaries nationwide. 
According to Federal Reserve data, the $966 billion managed by CIEBA 
members in defined benefit plans represents half of all private defined 
benefit plan assets.
    The pension system has served millions of Americans for over half a 
century and tens of millions of retirees rely on defined benefit and 
defined contribution pension plans as a critical element of their 
retirement security. We owe it to working Americans and their families 
to ensure that any contemplated policy changes, no matter how well 
intentioned, do not undermine their retirement.
    The record prices for food and energy in the U.S. and abroad are of 
great concern to all of us. We are sensitive to the urgency with which 
this issue must be addressed and we applaud the need to investigate 
this critical problem. Nonetheless, we are deeply concerned about the 
prospect of any legislation that would bar pension plans from investing 
in certain types of assets.
    Congress has long recognized that direct government regulation of 
pension plan investments is ill-conceived. ERISA--the primary law that 
regulates the investment of pension assets--takes a very different 
tack. Rather than requiring or prohibiting specific investments, ERISA 
imposes rigorous fiduciary responsibilities on the persons that manage 
pension plan assets. These rules require a plan's fiduciary to act 
prudently, and to diversify plan investments so as to minimize the risk 
of large losses. In addition, ERISA requires that a fiduciary act 
solely in the interest of the plan's participants and beneficiaries and 
for the exclusive purpose of providing benefits to the plan's 
participants. Fiduciaries who violate these obligations face a range of 
civil and criminal penalties.
    The sole instance in which ERISA directly regulates pension 
investments is with respect to investments in employer securities--an 
area where there are clearly unique considerations, including potential 
conflicts of interest and the possibility of excessive concentrations 
of investment risk. In fact, private pension plans today invest in a 
wide range of different asset classes, including U.S. and international 
equities, U.S. and international fixed income, emerging markets, real 
estate, private equity, and natural resources. Plan fiduciaries use a 
variety of investment techniques and tools, including derivative 
instruments, to mitigate risk and enhance returns. Further, when 
presented with emerging asset classes and investment strategies, the 
Department of Labor--the Federal agency with oversight responsibility 
for pension investments--has consistently given its blessing as long as 
the investment is prudent and for the exclusive benefit of participants 
and beneficiaries.\1\
---------------------------------------------------------------------------
    \1\&See, e.g., Department of Labor Information Letter to Eugene 
Ludwig, Comptroller of the Currency (Mar. 21, 1997) (permissibility of 
investing pension assets in derivatives).
---------------------------------------------------------------------------
    Other countries have taken different approaches to the investment 
of pension plan assets. Historically, some U.S. state government and 
some European defined benefit plans had rigid investment guidelines, 
prohibiting certain types of investments and requiring others. Many of 
these rigid investment rules were eventually discarded because of the 
negative impact such guidelines had on investment returns and thus on 
employees' retirement security. Even today, European pension funds 
subject to more restrictions on plan investments have been shown to be 
consistently outperformed by funds subject to regimes such as ours, 
which pair investment flexibility with strict fiduciary obligations. 
Put simply, mechanical approaches do not work as well as the American 
approach. It is critical that pension plans have the ability to invest 
in accordance with modern portfolio theory and pursue the best 
investment strategy available. The investment marketplace is constantly 
changing and pension plans need to be able to adapt and evolve 
accordingly without having to comply with lists of permitted and 
impermissible investments.
    Our concern is both with specific restrictions on pension plan 
investments in commodities and with the precedent that action will set 
for allowing the government to intrude on pension investment decisions. 
Today, commodities investments are not a significant part of most 
pension plan investments. Preliminary results for CIEBA's 2007 profile 
survey show that plans have less than one percent of assets invested 
directly in commodities and natural resources. It may be that the 
actual percentage of assets invested in commodities is modestly greater 
through indirect investment vehicles, such as hedge funds. However, in 
total, CIEBA members reported that only 3.15 percent of their assets 
were invested in the broad category of hedge funds in 2006. We firmly 
believe that commodities may be part of a prudent, well-diversified 
investment portfolio by providing a hedge against inflation and 
minimizing volatility, but our primary concern is with the principle 
that the government should not micromanage pension plan investments.
    Pension plans are long-term investors, not speculators. The most 
successful plans do not `chase' returns. Rather they have disciplined 
strategies for minimizing risk and enhancing returns so that plan 
sponsors can fulfill the promises they make to their employees.
    Political temptation to intervene in pension investments is not 
unprecedented. Congress in the past has considered legislation that 
would bar plans from investing in particular investments or, 
conversely, would require plans to invest in particular investments. 
There are numerous instances in which there has been a first instinct 
to require pension plans to make investment decisions with a view to 
promoting social or political goals, such as protecting the environment 
or stimulating business activity in certain geographic areas.
    Congress, however, has consistently rejected legislation that would 
subjugate the retirement security of millions of Americans and their 
families to other social or political concerns, no matter how worthy. 
In fact, when confronted with whether pension plans may take into 
account social goals in considering economically targeted investments, 
the Department of Labor interpreted ``the requirements that a fiduciary 
act solely in the interest of, and for the exclusive purpose of 
providing benefits to, participants and beneficiaries as prohibiting a 
fiduciary from subordinating the interests of participants and 
beneficiaries in their retirement income to unrelated objectives.''&\2\
---------------------------------------------------------------------------
    \2\&29 C.F.R. &2509.94&2.
---------------------------------------------------------------------------
    Moreover, the case for limiting pension investments in commodities 
has simply not been made. As others, including the Commodity Futures 
Trading Commission (``CFTC''), have testified, it is far from clear 
that institutional investors in the commodities market are driving the 
surging prices. The allegations that institutional investors engage in 
harmful speculation in the commodities markets have been almost 
entirely anecdotal and we are not aware of any substantial analysis 
that supports the allegations. Before acting, it is imperative that 
Congress step carefully and allow the CFTC to analyze the commodities 
markets and gather data to facilitate an informed approach.
    Various proposals to restrict investments in commodities do not 
define commodity investing with any specificity. If interpreted 
broadly, these restrictions could apply to direct investment in 
commodities, any commodities futures transactions, commodity indexes 
and even publicly-traded companies who produce or distribute energy or 
agricultural commodities. Compliance with such a prohibition would 
significantly disrupt pension plans' overall investments, thereby 
hurting plan participants.
    Finally, regardless of one's view of whether institutional 
investors as a whole have been a driver of rising prices, it is 
apparent that pension investments have not been a material cause of the 
rising cost of food and energy. As previously mentioned, investments in 
commodities are a small fraction of CIEBA member pension funds' assets. 
Further, most plans will rebalance their investments periodically to 
assure that they stay within their guidelines and do not inadvertently 
get over-exposed to any single asset class. Plans with exposure to 
commodities or commodity indexes are very likely to sell when prices 
rise and buy when prices fall in an effort to maintain a constant 
weighting with respect to the whole portfolio.
    Regulating pension investments would make it difficult for pension 
plans to adequately diversify investments to hedge against market 
volatility and inflation and, consequently, would put at risk the 
retirement funds of the very workers the proposal is intended to help. 
In effect, such a proposal could be a case of robbing Peter to pay 
Paul.
    Again, thank you for this opportunity to testify. Please let me 
know if there is additional information that you would like to receive 
from us. We are happy to help you in any way we can.

    The Chairman. Thank you very much. Dr. Irwin, I appreciate 
you being with us.

       STATEMENT OF SCOTT H. IRWIN, Ph.D., PROFESSOR AND
            LAURENCE J. NORTON CHAIR OF AGRICULTURAL
           MARKETING, DEPARTMENT OF AGRICULTURAL AND
         CONSUMER ECONOMICS, UNIVERSITY OF ILLINOIS AT
                 URBANA--CHAMPAIGN, URBANA, IL

    Dr. Irwin. Mr. Chairman, my name is Scott Irwin. I am a 
Professor in the Department of Agricultural and Consumer 
Economics at the University of Illinois, and I have had a 
lifelong interest in commodities markets. I have been teaching 
and studying about commodity markets now for almost 30 years. 
And I also want to point out my interest is not merely 
academic, as I also help to manage our family farm in Iowa, and 
that gives me a real on-the-ground look at these questions as 
well.
    As you are well aware, the impact of index funds on 
commodity prices is currently being hotly debated. It is 
commonly asserted that speculative buying by index funds and 
commodity future markets has created a bubble, with the result 
that market prices far exceed fundamental values. A number of 
bills have been introduced recently in Congress with the 
purpose of prohibiting or limiting index fund speculation in 
commodity futures markets.
    And the first part of my remarks is devoted to the idea 
that there was a lot of discussion this morning about how 
things are new and changed, but I believe that there are, in 
fact, important lessons that we can draw from history. And it 
is interesting that a pervasive theme running through the 
history of U.S. futures markets is skepticism or out-and-out 
hostility about the role of speculators.
    Rapidly increasing commodity prices at various times over 
the last 125 years have been accompanied by assorted attempts 
to curtail speculation. For example, just after World War II, 
soaring grain futures prices, especially for wheat, attracted 
political attention. In a statement that echoes those being 
made today, President Truman proclaimed that, ``The cost of 
living in this country must not be a football to be kicked 
around by grain gamblers,'' and ordered the Commodity Exchange 
Authority, the precursor of the CFTC, to require futures 
exchanges to raise margins to 33 percent on all speculative 
positions. A truly extraordinary level.
    Like the current time period, U.S. and international 
commodity markets during 1972 through 1975 experienced a period 
of rapid price increases. Commodity price increases were widely 
blamed on speculators and the growing futures industry. 
Following these price increases, public and political pressure 
to curb speculation resulted in a number of regulatory 
proposals and the upward adjustment of futures margin 
requirements.
    In the boldest move against speculators and commodity 
futures, trade in onion futures was banned by the U.S. Congress 
in 1958. The ban, actually still in place, was due to the 
widespread belief that speculative activity created excessive 
price variation. Again, in language very similar to that heard 
today, a Congressional report stated that, ``Speculative 
activity in the futures markets causes such severe and 
unwarranted fluctuations in the price of cash onions as to 
require a complete prohibition of onion futures trading in 
order to assure the orderly flow of onions in interstate 
commerce.''
    The evidence is thin at best that past attempts to limit 
the impact of speculation have had the desired effect on market 
prices. For instance, there is no historical evidence that 
directives to increase futures margins were effective at 
lowering overall price levels. The only consistently documented 
impact at the higher margin requirements was a decline in 
futures trading volume due to the increased cost of trading. So 
while proposals currently being considered might, in fact, 
curtail speculation through reduced volume of trading, it is 
very unlikely that the measures will cure the problem of high 
prices.
    Let me now turn to a brief discussion of several facts that 
are inconsistent with the existence of a substantial bubble and 
commodity futures prices. First, let me note that for 
speculation to be considered excessive, it must be considered 
relative to the commercial hedging needs in the markets. The 
available data indicates that long speculation in commodity 
futures markets, including that by index funds, is not out of 
balance relative to short hedging by commercial firms.
    Second, some commodity futures markets with high 
concentrations of index funds positions, such as livestock 
futures, have not experienced large increases in price. Very 
high prices have also been reserved for commodities without 
futures markets, such as durum wheat and edible beans and in 
futures markets that are not included in popular commodity 
indexes such as rice and fluid milk. It is difficult to 
rationalize why index fund trading would impact particular 
commodity markets and not others.
    Third, inventories for some commodities such as grains and 
oilseeds have fallen sharply over the last 2 years while 
inventories of other commodities such as crude oil have stayed 
relatively flat or declined modestly. If index fund speculation 
creates bubbles in commodity futures prices, inventory should 
be rising, not falling or staying flat.
    Fourth, index funds do not attempt to hide their current 
positions or their next move. It is highly unlikely that other 
large and well capped live speculators such as commodity 
trading advisors and hedge funds would allow index funds to 
push prices away from fundamental values when index trades are 
so easily anticipated.
    In conclusion, long only index funds provide liquidity and 
risk bearing capacity for hedgers in commodity futures markets. 
It is possible that long only index funds impact future prices 
but the available evidence indicates that if there is any 
impact, it is likely to be small and fleeting. Therefore, 
policies aimed at curbing or eliminating speculation by index 
funds are likely to be counterproductive.
    In contrast, policy initiatives that aim to improve the 
availability and transparency of information about index fund 
positions in commodity futures markets are more likely to be 
beneficial. The information gap is most glaring in the crude 
oil futures market, and if reliable data can be collected for 
this market, I believe it would go some distance towards 
addressing many of the questions currently being asked about 
the nature and impact of index fund trading.
    Thank you for this opportunity to share this statement. I 
look forward to questions.
    [The prepared statement of Dr. Irwin follows:]

Prepared Statement of Scott H. Irwin, Ph.D., Professor and Laurence J. 
Norton Chair of Agricultural Marketing, Department of Agricultural and 
         Consumer Economics, University of Illinois at Urbana--
                         Champaign, Urbana, IL
    Mr. Chairman, my name is Scott Irwin. I am a Professor in the 
Department of Agricultural and Consumer Economics at the University of 
Illinois at Urbana--Champaign. I am also the holder of the Laurence J. 
Norton Chair of Agricultural Marketing. Thank you for this opportunity 
to comment on the potential impacts of speculation by long-only index 
funds in commodity markets. As you are well aware, the impact of index 
funds on commodity prices is currently being hotly debated. Rising 
costs for energy and food are clearly a cause for general concern. It 
is commonly asserted that speculative buying by index funds in 
commodity futures markets has created a ``bubble,'' with the result 
that market prices far exceed fundamental values. For example, it has 
been alleged at recent Congressional hearings that the ``rampant'' 
speculation by commodity index funds has driven the price of crude oil 
futures 25% or more above the true fundamental value of crude oil. A 
number of bills have been introduced recently in Congress with the 
purpose of prohibiting or limiting index fund speculation in commodity 
futures markets.
    In my comments, I want to first point out the lessons we can learn 
from similar controversies about speculation in the past. Next, I will 
examine the available evidence on the balance between speculation and 
hedging in commodity futures markets over the last several years. 
Finally, I want to explore a number of facts about the current 
situation in commodity markets that are inconsistent with the existence 
of a substantial bubble in commodity futures prices.
    A pervasive theme running through the history of U.S. futures 
markets is skepticism or out-and-out hostility about the role of 
speculators. Rapidly increasing commodity prices at various times over 
the last 125 years have been accompanied by assorted attempts to 
curtail speculation or control prices. For example, just after World 
War II, soaring grain futures prices, especially for wheat, attracted 
political attention. President Truman proclaimed that, ``the cost of 
living in this country must not be a football to be kicked around by 
grain gamblers,'' and ordered the Commodity Exchange Authority 
(precursor to today's Commodity Futures Trading Commission) to require 
futures exchanges to raise margins to 33% on all speculative positions, 
a truly extraordinary level. In a statement that echoes those being 
made today, President Truman added, ``If the grain exchanges refuse, 
the government may find it necessary to limit the amount of trading.''
    U.S. and international commodity markets during 1972&1975, like the 
current time period, experienced a period of rapid price increases, 
setting new all-time highs across a broad range of markets. Commodity 
price increases were widely blamed on speculators and the growing 
futures industry. Following these price increases, public and political 
pressure to curb speculation resulted in a number of regulatory 
proposals and the upward adjustment of futures margin requirements. 
These changes were accompanied by even more drastic measures--such as 
Federal price controls and an embargo against soybean exports--aimed at 
lowering commodity price levels.
    In the boldest move against speculators in commodity futures, trade 
in onion futures was banned by the U.S. Congress in 1958. The ban, 
actually still in place, was due to the widespread belief that 
speculative activity created excessive price variation. Again, in 
language very similar to that heard today, a Congressional report 
stated that ``speculative activity in the futures markets causes such 
severe and unwarranted fluctuations in the price of cash onions as to 
require complete prohibition of onion futures trading in order to 
assure the orderly flow of onions in interstate commerce.''
    The actions used to reign in supposedly damaging speculation in the 
past run the gamut from requiring futures exchanges to raise margins to 
an outright ban on futures trading. The historical evidence is thin, at 
best, that measures to limit the impact of speculation had the desired 
effect on market prices. For instance, there is no historical evidence 
that directives to increase futures margins were effective at lowering 
overall price levels. The only consistently documented impact of the 
higher margin requirements was a decline in futures trading volume due 
to the increased cost of trading. So, while proposals currently being 
considered might in fact curtail speculation--through reduced volume of 
trade--it is very unlikely that the measures will cure the ``problem'' 
of high prices. But, legislative and regulatory initiatives could 
severely compromise the ability of commodity futures markets to 
accommodate the needs of commercial firms to hedge price risks.
    Let me now turn to available evidence on the balance between 
speculation and hedging in commodity futures markets over the last 
several years. The statistics on long-only index fund trading reported 
in the media and discussed at earlier Congressional hearings tend to 
view speculation in a vacuum--focusing on absolute position size and 
activity. As first pointed out by Holbrook Working back in the 1960's, 
an objective analysis of futures market activity must consider the 
balance between speculators and commercial firms hedging market risks. 
Instead of focusing solely on the question of ``Who is doing all the 
speculative buying?'' it is equally important to ask ``Who is doing all 
of the short hedging?'' A key insight from this framework is that 
speculation can only be considered `excessive' relative to the level of 
hedging activity in the market.
    A look at the data provided by the Commodity Futures Trading 
Commission (CFTC) is enlightening in this regard. Table 1 shows the 
division of open interest for nine commodity futures markets for the 
first 3 months of 2006 and 2008. The four basic hedging and speculative 
positions are: HL = Hedging, Long; HS = Hedging, Short; SL = 
Speculating, Long; SS = Speculating, Short. Note that index fund 
traders are allocated almost exclusively to the HL category in Table 1 
and that HL + SL = HS + SS. There is an important omission from this 
table--crude oil futures. As the CFTC noted when it first began 
publishing data on index fund positions, it is difficult to separate 
out index fund transactions in energy markets because of the degree to 
which many firms in these markets engage in multiple trading activities 
that fall into different classifications and the degree to which firms 
engage in internal netting of these activities.
    As expected, Table 1 reveals that long speculation-driven by index 
funds--increased sharply in all but one of the nine commodity futures 
markets over January 2006 through April of 2008. However, the increase 
in short hedging generally was of similar magnitude or exceeded the 
increase in long speculation. Corn provides a pertinent example. 
Speculative buying in corn--including commodity index funds--increased 
by nearly 250,000 contracts; but, selling by commercial firms involved 
in the production and processing of corn increased by an even greater 
amount, around 500,000 contracts. While the increase in long-only index 
fund positions has received the most publicity, the increase in the 
size of short hedging positions is equally interesting. For instance, 
the position of short hedgers during the first quarter of 2008 in corn 
is equivalent to slightly less than 6 billion bushels, or about half 
the size of the expected 2008 crop.
    The data in Table 1 show that increases in long speculative 
positions tend to represent speculators trading with hedgers rather 
than speculators trading with other speculators. The former is 
considered beneficial to overall market performance since speculators 
are providing liquidity and risk-bearing capacity for hedgers, while 
the latter may be harmful since speculative trading is not connected to 
the risk transfer needs of hedgers. There is no pervasive evidence that 
current speculative levels, even after accounting for index trader 
positions, are substantially in excess of the hedging needs of 
commercial firms. In fact, long speculation in many cases is inadequate 
to balance the selling done by commercial firms. This result, though 
surprising to many, is consistent with the historical record for 
commodity futures markets.
    If speculation is driving prices above fundamental values, the 
available data indicates it is not obvious in the level of speculation 
relative to hedging. Several other facts are inconsistent with the 
existence of a substantial bubble in commodity futures prices. Figures 
1 and 2, respectively, show the increase in commodity futures prices 
over January 2006 through April 2008 and the average percent of open 
interest held by commodity index funds for the same time period. Note 
that data are presented for the same nine markets as in Table 1. The 
charts show that price increases are concentrated in grain and oilseed 
markets, but the highest concentration of index fund positions tend to 
be in cotton and livestock futures markets. This is the reverse of the 
relationship one would expect if index fund trading leads to bubbles in 
commodity prices. Very high prices have also been observed for 
commodities without futures markets, such as durum wheat and edible 
beans, and in futures markets that are not included in popular 
commodity indices tracked by index funds, such as rice and fluid milk. 
It is difficult to rationalize why index fund trading would impact 
particular commodity markets but not others.
    Another stubborn fact has to do with inventories for storable 
commodities. If index fund speculation creates a bubble in futures 
prices for storable commodities, this also creates an incentive to 
store commodities because prices in the future exceed levels normally 
required to compensate inventory holders for storage. We should 
therefore observe an increase in inventories when a bubble is present. 
In fact, inventories for some commodities, such as grains and oilseeds, 
have fallen sharply over the last 2 years, while inventories of other 
commodities, such as crude oil, have stayed relatively flat or declined 
modestly. The behavior of commodity inventories is not consistent with 
large bubbles in commodity futures prices.
     Still another difficult fact is the nature of commodity index 
trading. In order for any trader group to consistently push futures 
prices away from fundamental value their trading must be unpredictable. 
Otherwise, competing traders can easily anticipate the buying and 
selling by the group in question and profit by taking advantage of this 
knowledge. Index funds do not attempt to hide their current positions 
or their next move. Generally, funds that track a popular commodity 
index (e.g., GSCI) publish their mechanical procedures for rolling to 
new contract months. Moreover, they usually indicate desired market 
weightings when the index is re-balanced. So, the only uncertainties 
stem from the overall in-flow or out-flow of money to index funds. It 
is highly unlikely that other large and well-capitalized speculators, 
such as commodity trading advisors and hedge funds, would allow index 
funds to push prices away from fundamental values when index trades are 
so easily anticipated.
    A related point is that large and long-lasting bubbles are less 
likely in markets where deviations from fundamental value can be 
readily arbitraged away. There are few limitations to arbitrage in 
commodity futures markets because the cost of trading is relatively 
low, trades can be executed literally by the minute, and gains and 
losses are marked-to-the-market daily. This stands in contrast to 
markets where arbitrage is more difficult, such as residential housing. 
The low likelihood of bubbles is also supported by numerous empirical 
studies on the efficiency of price discovery in commodity futures 
markets. The vast majority of studies indicate that commodity futures 
markets react efficiently to new information as it emerges. Where 
pricing problems have been documented, they are often associated with 
the delivery period of particular commodity futures contracts. However, 
as noted in the recent CFTC background memorandum on the application of 
its emergency powers, even this type of problem has been infrequent and 
relatively short-lived.
    My position is that there is very limited hard evidence that 
anything other than economic fundamentals is driving the recent run-up 
in commodity prices. The main driving factors in the energy markets 
include strong demand from China, India, and other developing nations, 
a leveling out of crude oil production, a decrease in the 
responsiveness of consumers to price increases, and U.S. monetary 
policy. In the grain markets, driving factors also include demand 
growth from developing nations and U.S. monetary policy, as well as the 
diversion of row crops to biofuel production and weather-related 
production shortfalls. The complex interplay between these factors and 
how they impact commodity prices is often difficult to grasp in real-
time and speculators historically have provided a convenient scapegoat 
for frustration with rising prices.
    In conclusion, commodity market speculation by long-only index 
funds has increased markedly since 2006 in absolute terms. However, 
most commodity futures markets experienced an equally dramatic or even 
greater increase in selling by commercial hedgers. In these 
circumstances, speculative buying facilitates legitimate business 
transactions and enhances risk transfer for firms involved in commodity 
businesses. It is possible that long-only index funds impact futures 
prices, but the available evidence indicates that if there is any 
impact, it is likely to be small and fleeting. Therefore, policies 
aimed at curbing or eliminating speculation by index funds are likely 
to be counter-productive.
    In contrast, policy initiatives that aim to improve the 
availability and transparency of information about index fund positions 
in commodity futures markets are laudable. There is a need to study and 
better understand the role of this new class of speculators in 
commodity futures markets. The information gap is most glaring in the 
crude oil futures market, and if reliable data can be collected for 
this market, I believe it would go some distance towards addressing 
many of the questions currently being asked about the nature and impact 
of index fund trading.
    For a more detailed analysis of analysis of speculation in 
commodity futures, please see the following report:

        Sanders, D.R., S.H. Irwin, R.P. Merrin. ``The Adequacy of 
        Speculation in Agricultural Futures Markets: Too Much of a Good 
        Thing?'' Marketing and Outlook Research Report 2008&02, 
        Department of Agricultural and Consumer Economics, University 
        of Illinois at Urbana--Champaign, June 2008.

    The report can be downloaded on the Internet at:

        http://www.farmdoc.uiuc.edu/marketing/morr/morr_08-02/morr_08-
        02.pdf.

     Table 1. Speculative and Hedging Positions in Commodity Futures
  Contracts During the First Quarter of 2006 and First Quarter of 2008
------------------------------------------------------------------------
    Market            HL             HS            SL            SS
------------------------------------------------------------------------
                                   --# of contracts--
------------------------------------------------------------------------
Corn:
  2006........       328,362        654,461        558,600       208,043
  2008........       598,790      1,179,932        792,368       182,291
               ---------------------------------------------------------
    Change....       270,428        525,471        233,768       ^25,752
------------------------------------------------------------------------
Soybeans:
  2006........       126,832        192,218        183,105       107,221
  2008........       175,973        440,793        351,379        74,844
               ---------------------------------------------------------
    Change....        49,141        248,575        168,274       ^32,377
               ---------------------------------------------------------
Soybean Oil:
  2006........        66,636        124,134         92,515        35,599
  2008........       121,196        228,515        128,546        25,844
               ---------------------------------------------------------
    Change....        54,560        104,381         36,032        ^9,755
               ---------------------------------------------------------
CBOT Wheat:
  2006........        57,942        213,278        251,926        92,148
  2008........        70,084        240,864        300,880       121,578
               ---------------------------------------------------------
    Change....        12,141         27,585         48,954        29,430
               ---------------------------------------------------------
KCBT Wheat:
  2006........        43,993        110,601         80,158        13,560
  2008........        46,459         96,556         67,827        15,767
               ---------------------------------------------------------
    Change....         2,466        ^14,045        ^12,330         2,207
               ---------------------------------------------------------
Cotton:
  2006........        41,582        108,085         86,777        21,824
  2008........       107,826        296,434        200,773        18,918
               ---------------------------------------------------------
    Change....        66,244        188,349        113,995        ^2,906
               ---------------------------------------------------------
Live Cattle:
  2006........        54,549        128,951        129,786        45,305
  2008........        34,970        144,549        198,211        80,303
               ---------------------------------------------------------
    Change....       ^19,579         15,599         68,425        34,998
               ---------------------------------------------------------
Feeder Cattle:
  2006........        10,707         17,725         20,769        10,632
  2008........         6,310         13,435         28,284        18,111
               ---------------------------------------------------------
    Change....        ^4,397         ^4,290          7,515         7,479
               ---------------------------------------------------------
Lean Hogs:
  2006........        15,949         65,438         93,522        40,036
  2008........        36,825        113,971        149,415        69,055
               ---------------------------------------------------------
    Change....        20,876         48,533         55,893        29,019
------------------------------------------------------------------------
Notes: HL = Hedging, Long; HS = Hedging, Short; SL = Speculating, Long;
  SS = Speculating, Short. Long-only index fund positions are classified
  as speculative. The data reflect average positions in the first
  calendar quarter of 2006 and 2008, respectively. Source: Sanders,
  Irwin, and Merrin (2008).

Figure 1. Percent Change (return) in Commodity Futures Prices, 
        2006&2008.
        
        
Figure 2. Average Percent of Open Interest Held by Index Funds in 
        Commodity Futures Markets, 2006&2008.
        
        

    The Chairman. Thank you very much, Dr. Irwin. Mr. Cicio.

   STATEMENT OF PAUL N. CICIO, PRESIDENT, INDUSTRIAL ENERGY 
             CONSUMERS OF AMERICA, WASHINGTON, D.C.

    Mr. Cicio. Thank you, Mr. Chairman, Members of the 
Committee, for the opportunity to testify before you. My name 
is Paul Cicio, and I am President of the Industrial Energy 
Consumers of America, a trade association and consumer advocate 
for manufacturing companies who are significant consumers of 
energy.
    Mr. Chairman, I have a letter here from the President and 
CEO of Tyson Foods, a member of my organization, that we would 
like to submit for the record.
    The Chairman. Without objection, so ordered.
    Mr. Cicio. Thank you.
    Consistent with my testimony today, Tyson Foods says they 
are very concerned about the impact that noncommercial traders 
and index funds are having on the agricultural markets and 
urges reform to deal with excessive speculation in both ag and 
energy commodities.
    Mr. Chairman, we believe that Congress must decide whether 
it supports families and American manufacturing businesses and 
jobs, or index funds, hedge funds, pension funds, sovereign 
funds and exchanges. It is just that simple.
    Consumers across the nation are asking for proof that index 
funds and Wall Street firms are not playing a role in causing 
the significant rise in commodity prices. The burden of proof 
is on the speculator, not on the consumer.
    Each monthly commodity price is based on a given supply of 
physical product. Think of each individual commodity as having 
a swimming pool filled with product for delivery that month, 
but more and more people jump into that pool. That is what has 
happened to the commodity markets. In just 3 short years, index 
funds have increased from almost nothing to $260 billion and 
each month more and more are jumping into that same pool, which 
has created a speculative bubble and higher resulting prices. 
To consumers it appears that speculative bubble has benefited 
the few at the cost of many, the American public and 
manufacturing.
    We believe there is a speculative bubble. The bubble will 
eventually burst and prices will fall, either by government 
action or by demand destruction. We urge government action. No 
action on the part of Congress will result in continued demand 
destruction by the price sensitive manufacturing industries 
that belong to my organization. Higher prices will continue to 
shut down manufacturing plants.
    Higher energy costs have already significantly contributed 
to the loss of 3.3 million manufacturing jobs since 2000, and 
we have already lost 350,000 jobs just this year. We have lost 
19 percent of all manufacturing jobs since the year 2000. For 
IECA companies who use large quantities of natural gas, we want 
proof that index funds have not increased natural gas prices 
that have risen 128 percent in 1 year when domestic supply has 
increased 7.1 percent in that same time period and is 
continuing to increase and is in balance with demand for that 
same time period.
    And national inventories currently stand adequately at just 
below the 5 year average; there has not been any supply 
disruptions; and 85 percent of the market is supplied 
domestically. U.S. natural gas prices are not linked to crude 
oil prices and are not impacted by international supply 
disruptions of crude oil, yet prices have surged along with 
crude prices. If index funds did not cause the price increase, 
we want to know what did. And we would ask the Committee to 
help us.
    We would like to point out that prior to the year 2000, 
before CMFA, the futures market worked efficiently without 
index funds and any changes to price were confidently the 
result of supply and demand issues. We want that confidence 
back. Index funds were not needed to make markets work before 
and they are not needed now. We encourage you to restore that 
confidence by returning these markets to physical producer/
consumer hedgers and eliminate index fund participation.
    NYMEX is on record saying the index funds are not driving 
up the price of commodities. Our question is, prove it. NYMEX 
trading volumes are estimated by many to be as little as 25 
percent of the trading volume. Plus NYMEX is in the business of 
making money based on higher trading volumes. Given this, we 
put little credibility on that testimony.
    The CFTC is on record saying that index funds are not 
driving up the price of commodities. If the CFTC has proof, we 
would like to see it. Given that CFTC has admitted to having 
very limited access to volumes of trades in dark markets, which 
are estimated to be three to four times the size of NYMEX 
volumes, we have a very hard time understanding how the CFTC 
can confidently say that index funds are not playing a role.
    In closing, Mr. Chairman, doing nothing creates demand 
destruction and loss of jobs by the manufacturing sector. We 
urge action to increase transparency, place limits on 
speculation that is responsible and set responsible position 
limits.
    Thank you.
    [The prepared statement of Mr. Cicio follows:]

   Prepared Statement of Paul N. Cicio, President, Industrial Energy 
                 Consumers of America, Washington, D.C.
    Mr. Chairman and Members of the Committee,

    My name is Paul N. Cicio. I am President of the Industrial Energy 
Consumers of America. Thank you for the opportunity to testify before 
you on the important issue of excessive speculation in energy and 
commodity markets in general.
    IECA is a 501(C)(6) national non-profit non-partisan cross-industry 
trade association whose membership is exclusively from the 
manufacturing sector.
    IECA promotes the interests of manufacturing companies for which 
the availability, use and cost of energy, power or feedstock play a 
significant role in their ability to compete in domestic and world 
markets. IECA membership represents a diverse set of industries 
including: plastics, cement, paper, food processing, aluminum, 
chemicals, fertilizer, brick, rubber, insulation, steel, glass, 
industrial gases, pharmaceutical, construction products, automotive 
products, and brewing.

    Immediate action by Congress is needed to eliminate excessive 
speculation in energy and food related futures markets and increase 
domestic energy production.

    At the heart of the matter is that every consumer in the country 
assumes that the government is protecting their interests and that 
commodity markets are operating with the public's interest at heart. 
Nothing could be further from the truth. The futures market that is 
relied upon for price determination in the spot physical market no 
longer reflects underlying supply and demand fundamentals. Existing law 
and government institutions that are in place have failed to protect 
the public interest. Excessive levels of speculation are un-necessarily 
raising the costs of energy for every homeowner, farmer and 
manufacturer.
    We urge the Congress to take action to eliminate excessive 
speculation in futures markets and to increase the domestic supply of 
energy. Removing excessive speculation will have an immediate short 
term impact on commodity prices. The Congress cannot under-estimate the 
impact this issue is having on our country through un-necessary high 
energy costs and inflationary impacts. Make no mistake that excessive 
speculation is occurring and futures markets have become over-run with 
players that futures markets never intended as participants.
    For energy, taking action to remove the moratorium on the Outer 
Continental Shelf and provide access to the Alaskan National Wildlife 
Refuge Reserve (ANWR) will increase domestic supply of natural gas and 
oil in coming years. The combination of eliminating excessive 
speculation, increasing domestic production, implementing cost 
effective energy efficiency and responsible conservation will go a long 
way in solving our nation's energy crisis.
    The manufacturing sector is dependent upon globally competitive 
energy to compete in the market place. We are substantial consumers of 
natural gas for fuel and feedstock and also use large quantities of 
electricity.
    The high price of natural gas has significantly contributed to the 
loss of manufacturing jobs. Since 2000, 3.3 million manufacturing jobs 
have been lost which account for 19 percent of all manufacturing jobs. 
According to the July 4, 2008 USA Today, manufacturers lost 33,000 jobs 
in the month of June alone. It also reports that U.S. manufacturers 
have lost 353,000 jobs so far this year despite the weak dollar that 
has helped to make exports more cost competitive.
    It is also important to note that natural gas prices set the 
marginal price of electricity in a growing portion of the country. As 
natural gas prices rise, so does the price of electricity. The two are 
connected and the increase in the price of electricity is another 
unintended consequence of higher natural gas prices because of 
excessive speculation. High natural gas and electricity prices are 
resulting in a new round of demand destruction that drives high paying 
manufacturing jobs offshore.

    The case for natural gas.

    U.S. natural gas prices are not linked to crude oil prices and are 
not impacted by international supply disruption concerns, yet prices 
have surged along side crude prices in recent months.
    Unlike crude oil that is priced globally, natural gas is a North 
American market and is priced domestically. In most years, we produce 
about 82 percent of our natural gas in the U.S., import about 15 
percent from Canada and import about three percent in the form of LNG. 
If global demand for crude oil exceeds supply, the price will rise 
globally. If demand for natural gas rises or falls in the U.S., only 
U.S. consumers will pay either higher or lower prices. Crude oil and 
natural gas pricing are distinct and separate and there is 
insignificant substitution capacity. Natural gas prices are 
disconnected to crude oil prices in the physical markets.
    There is no shortage of U.S. natural gas. Domestic supply is 
meeting demand and expanding slowly. National inventories are slightly 
below their 5 year average; LNG import capacity has increased and is 
greatly under-utilized. There have not been any hurricanes or 
production stoppages. However, despite this fairly stable supply and 
demand picture, the price of natural gas has soared.
    From 1 year ago, the price of natural gas has risen from $5.94 mm 
Btu to $13.58 mm Btu, a 129 percent increase. Why, then, has the price 
of natural gas risen so high so quickly? The answer is that larger and 
larger quantities of capital have flowed into the futures markets by 
means of index funds, institutional investors like pension funds, hedge 
funds and sovereign funds.
    To illustrate the point we have compiled the following information. 
Using EIA 2007 data, the U.S. consumes on average 1,971,357,597 MM Btus 
of natural gas per month. On July 3, 2008 50,731 natural gas contracts 
were traded on the NYMEX for the August contract. At this rate, the 
NYMEX trading activity in the prompt month (August) is eight times the 
total U.S. monthly average consumption volume. But this is only the 
NYMEX volume. It is a widely held view that the Over-the-Counter (OTC) 
markets, the dark markets, trade three to four times the volume that is 
traded on NYMEX. If the OTC market is three times larger, natural gas 
traded volume is greater than 24 times the physical consumption. What 
is frightening is that the rate of trading volume continues to rise.

    Excessive speculation must be stopped.

    There is no question that excessive speculation has increased the 
price of energy and commodities in general. Trading volumes are now 
reportedly 22 times that of the underlying commodity volumes and, as a 
result, speculators are trading with other speculators with no regard 
to the underlying supply versus demand fundamentals.
    According to one estimate, assets allocated to commodity index 
trading strategies have risen from $13 billion from 2003 to about $260 
billion in early 2008. Futures markets were never intended to be used 
as an inflation hedge or an asset class. Futures markets were 
established to serve price discovery for sellers and buyers of the 
commodity.
    We strongly encourage you to include provisions that will do the 
following.

    1. Ensure only bona fide physical hedgers qualify for hedge 
        exemptions.

    Direct the CFTC to re-examine the definition of ``hedging'' to 
ensure that hedge exemptions are only available to bona fide hedgers 
and not to speculators. This will prevent speculators from using this 
exemption to avoid position limits.

    2. Prohibit pension funds, index funds funds from speculating in 
        commodity markets.

    Futures were never intended to be used as an asset class for 
investment purposes. Using futures as an `asset class' to hedge against 
inflation or to feather the performance of pension funds destroys the 
underlying functioning and efficiency of price determination for which 
we rely on futures. In the past, gold was used as a hedge against 
inflation, but using energy or food commodities directly and negatively 
damage families, farmers and manufacturers. The Congress must decide 
whether it supports families and American businesses or hedge funds, 
pension funds and sovereign funds. It's just that simple.

    3. Fully close the Enron loophole.

    Require that all energy exchanges be subject to appropriate Federal 
regulation, including reporting requirements and position limits, by 
prohibiting any energy contracts from being traded on exempt commercial 
markets. This includes Swaps. Speculative position limits must ``look-
through'' the swaps transaction to the ultimate counterparty and hold 
that counterparty to the speculative limits.

    4. Close the foreign exchange loophole:

    (a) Require all foreign exchanges offering energy commodities 
            through a U.S.-based terminal to be subject to the same 
            regulatory requirements applicable to U.S. exchanges, 
            including position limits, margin requirements, and 
            reporting.

    (b) Subject U.S. traders trading energy derivatives on non-U.S. 
            markets to the same reporting and record-keeping 
            requirements as those trading on U.S. exchanges. This 
            prevents them from avoiding CFTC oversight by trading 
            oversees.

    5. Provide greater transparency on energy swaps.

    Direct the CFTC to impose reasonable record-keeping and `large 
trader' reporting requirements on all energy swaps made in the U.S. or 
made by U.S. traders anywhere in the world, while taking steps to 
ensure that participants' information is kept confidential and not 
disclosed to competitors.

    6. Enhanced reporting requirements.

    Direct the CFTC to devise new classifications of trades to break 
out speculators or swaps as a separate category, and direct the CFTC to 
enhance its Commitments of Traders reports to include trades using the 
Intercontinental Exchange (ICE) in Europe and other similar exchanges.

    7. Disclosure requirements.

    Require companies who promote market positions (such as market 
analysts) to disclose their positions if they talk publicly. Or ban 
conflict of interest such as analysts' statements that enrich analyst's 
portfolios.

    8. Lower position limits and margin policies to benefit physical 
        hedgers.

    We believe that individual entities from the hedge funds, index 
funds, and sovereign funds can provide more capital for trading then 
most energy producers or sellers. It is paramount that we prevent a few 
entities from developing market power.

    9. Identify sovereign fund positions.

    Require the CFTC large trader report to identify sovereign funds 
and their positions. The participation of sovereign funds in commodity 
markets must be made clear to the CFTC because financial derivative 
price movements have a direct impact on the price of the physical 
commodity. A cause and effect.

    10. All companies must register and file reports to Security 
        Exchange Commission.

    Require all companies who participate in U.S. commodity markets, 
including hedge funds, to register and file reports to the Security 
Exchange Commission just like all other companies.

    11. Ensure that the banks are not borrowing capital from the 
        Federal Reserve at low interest rates to speculate in the 
        futures market.

    We encourage the Congress to ensure that Federal Reserve monetary 
policy is not causing higher energy and food costs by providing cheap 
money to banks to speculate on commodities. Attached charts show an 
almost linear relationship between lower Federal Reserve interest 
rates, increased borrowing by banks and corresponding higher commodity 
prices. We are concerned that the timing is not coincidental.
    Thank you.
                                Appendix


July 9, 2008

Hon. Collin C. Peterson,
Chairman,
Committee on Agriculture,
U.S. House of Representatives,
Washington, D.C.;

Hon. Bob Goodlatte,
Ranking Minority Member,
Committee on Agriculture,
U.S. House of Representatives,
Washington, D.C.

    Dear Chairman Peterson and Ranking Member Goodlatte:

    I commend the Committee for its attention to the critical issue of 
excessive speculation in the commodity markets and want to offer the 
view of Tyson Foods, Inc. on possible actions to remedy this problem.
    As you know, we have seen tremendous increases in the cost of 
grains as well as energies over the last few years. While attributable 
to a number of factors, Tyson Foods is very concerned with the impact 
that noncommercial traders and index funds are having on the 
agricultural commodity markets. As of June 17th, open interest in corn 
futures has increased 114 percent over the last 3 years and open 
interest in soybeans has jumped 93 percent. Wheat has also seen 
considerable growth. All of these numbers are in excess of the growth 
we have seen in crude oil.
    Looking closer, if you examine the June 17th Commitment of Traders 
report, which is attached, you will note that overall corn holdings for 
noncommercial and index funds are equivalent to roughly 32 percent 
ownership of the estimated production for this year's crop. These are 
market participants that do not physically use these commodities. We 
are very concerned that the percentage holding in corn will only 
continue to grow. We base that concern on the premise that 
participation from the noncommercial and index funds in other 
agricultural markets is already higher than in corn. For example, 
soybean holdings for noncommercial and index funds are almost 50 
percent of estimated production for this year's crop and for wheat, the 
percentages are even higher.
    While the energy markets have rightly received a tremendous amount 
of attention in recent months, we are convinced that the data shows 
that excessive speculation is a problem in many of the markets under 
the CFTC's jurisdiction. For this reason, Tyson Foods urges that any 
reforms considered by this Committee and ultimately adopted by the 
House of Representatives be applied to all commodity markets and not 
just the energy markets. A standardized approach to all commodity 
markets to reduce the role of excessive speculation is warranted.
    To be clear, Tyson Foods does recognize the necessary role of 
speculation in the commodity markets and does not support banning 
particular participants from these markets. We recognize that 
speculators provide liquidity to the commodity markets but believe that 
they must provide that liquidity with transparency and under clearly 
defined limits. For this reason, we urge strong action to address 
excessive speculation, including:

   Ensuring that only true physical hedgers qualify for hedge 
        exemptions--hedge exemptions should be available only to true 
        hedgers that have a physical underlying exposure to a 
        commodity. Speculators should not be allowed to use this 
        exemption to avoid position limits. For example, a financial 
        trading subsidiary for an investment bank or an index fund 
        should not qualify for a hedge exemption. Neither entity has a 
        natural long physical ownership or short physical need for 
        commodities.

   Fully closing the Enron Loophole--all commodity exchanges 
        should be subject to appropriate reporting requirements and 
        position limits, no commodity contracts should be traded on 
        exempt commercial markets.

   Providing greater transparency on commodity swaps--the CFTC 
        should be directed to impose reasonable record-keeping and 
        reporting requirements on all commodity swaps made in the U.S. 
        or made by U.S. traders anywhere in the world.

   Requiring enhanced reporting requirements--the CFTC should 
        be directed to devise new classifications of trades to break 
        out index speculators or swaps as a separate category.

   Closing the foreign exchange loophole--all foreign exchanges 
        offering commodities through a U.S.-based terminal should be 
        subject to the same regulatory requirements applicable to U.S. 
        exchanges, including position limits, margin requirements, and 
        reporting. Further, U.S. traders trading on non-U.S. markets 
        should also be held to the same regulatory requirements as 
        those trading on U.S. exchanges.

    I appreciate this opportunity to offer Tyson Foods' views on excess 
speculation in the commodity markets and thank the Committee for its 
thorough examination of this important issue. If you require any 
additional information related to my comments please do not hesitate to 
contact me.
            Sincerely,
            
            
            
            
   Thank you very much. Jeff.STATEMENT OF JEFFREY D. KORZENIK, CHIEF 
  INVESTMENT OFFICER, VC&C CAPITAL ADVISERS, LLC, VITALE, CATURANO & 
                       COMPANY, LTD., BOSTON, MA

    Mr. Korzenik. That is fine. Thank you, sir.
    The Chairman. We appreciate you being with us.
    Mr. Korzenik. I am pleased to be here. Thank you, Mr. Chairman and 
Members of the Committee. My name is Jeff Korzenik. I am the Chief 
Investment Officer of Vitale, Caturano & Company in Boston, and they 
are a registered investment adviser, VC&C Capital Advisers. My 
background with commodities and derivatives goes back 22 years; 
however, I don't believe that my firm or I would benefit or be harmed 
by the policy changes being considered.
    Until now I have never testified before Congress. I don't think I 
have even stood up at a town meeting, my local form of government. But 
I am here today because when I first began examining this issue, I came 
to the conclusion this was a public policy concern.
    The largest drivers of recent commodity price inflation are almost 
certainly demand growth from developing economies and weakness in the 
dollar. In the long run, too, markets find their price level based on 
commercial production, usage and inventory changes.
    In short to intermediate periods, however, speculators can be 
disruptive, influencing prices and hurting consumers. Pension and index 
investment has become a third force in stoking commodity inflation and 
damaging the structural integrity of the futures markets. Their 
activities can fairly be said to represent excessive speculation. These 
new participants, and I am going to follow the lead of others, are 
commonly called index speculators. When I use terms like ``excessive 
speculation,'' it is in the neutral technical sense. I am not intending 
to apply any judgmental labels.
    These index speculators of course represent managers of pensions, 
endowments, other investment pools that aren't normally associated with 
speculation. These money managers are seeking portfolio efficiency by 
blending noncorrelated productive assets. The .COM bust and the 
parallel interest in alternative investments led many of them to 
consider commodities as a portfolio addition.
    Regardless of the merits of this approach, there is an overriding 
practical concern. The commodity markets and the futures exchanges were 
meant to serve the needs of commodity producers and users, not 
investors. This marketplace is ill-suited for index speculation.
    All this must be understood in the context of how index speculators 
differ from traditional ones. They are overwhelmingly oriented to the 
long side of the market, commonly do not deploy leverage and hold 
positions for long period of time. They add substantial interest to the 
long side of the market without actually creating much trading volume. 
In essence, they actually reduce market liquidity.
    Part of the problem is relative market size. Index speculators are 
draining funds from an ocean of traditional investment assets 
represented by thousands of stock and bond issuers into what are 
effectively small ponds, about two dozen futures markets.
    It is important to note that this impact will only grow. Many 
institutions have been only testing the waters and are increasing their 
allocations to the strategy. Institutions that have not yet 
participated will increasingly follow the lead of others who have. The 
$260 billion currently allocated by index speculators is only the 
beginning of a trend. We can reasonably expect the holdings of index 
speculators to increase more than tenfold and perhaps as much as 
fifteen-fold.
    From a policy perspective we must assess not only the current 
impact, but the future as well. There are those who claim that index 
speculators have no real impact on future prices since for every buyer 
there must be a seller. This misses the point, which is what determines 
the price at which those two participants meet? Is there any market in 
the world where the net addition of $260 billion on the long side of 
the market wouldn't move prices higher? Maybe a lot higher, maybe just 
a little, but higher nonetheless?
    Some concede that futures prices may be impacted by index 
speculators but claim this has no bearing on the cash market. The 
mechanisms by which futures prices influence physical prices vary both 
by commodity and environment. In some cases, there is a clean arbitrage 
transaction so that a rise in the futures will directly translate into 
higher physical prices. Sometimes futures impact cash less directly by 
providing a reference or index price on which physical transactions are 
based.
    There may be some instances where index speculation indeed 
influences futures prices disproportionately more than cash prices. 
However, this is harmful in another way. Commercial users of the 
futures markets need to rely on predictable relationships between cash 
and futures. When these relationships break down, commercial 
participants either flee the market or are forced to bear or pass along 
additional costs.
    In all these considerations, one can argue in good faith whether 
index speculators create a large or small impact. Those who believe 
there is eventual minimal influence should consider a future when these 
index speculators will command far greater assets.
    There are numerous proposals before Congress to address these 
concerns. In my opinion, imposing speculative position limits on both 
futures and swap desk transactions appears to be the best solution. 
This would require more transparency in the swap markets than we 
currently have.
    It may be that position limits alone are insufficient to curb the 
distorting influence of index speculators and some sort of aggregate 
limitation should be imposed. I don't think this view is currently 
supported by the evidence, and position limits are an appropriate and 
productive first step. This would, of course, restrict the use of index 
speculation as a portfolio strategy. Portfolio managers do have 
alternative tools for inflation protection and exposure to commodity 
pricing. Not identical to be sure, but reasonable nonetheless.
    Each marketplace has its own rules. Traditional equity and bond 
managers should be expected to play by the rules of the commodity 
market when they trade futures, and those rules should and 
traditionally have included speculative position limits.
    Thank you.
    [The prepared statement of Mr. Korzenik follows:]

 Prepared Statement of Jeffrey D. Korzenik, Chief Investment Officer, 
 VC&C Capital Advisers, LLC, Vitale, Caturano & Company, Ltd., Boston, 
                                   MA
    Thank you, Mr. Chairman and Members of the Committee. My background 
with commodities and derivatives goes back 22 years. However, I do not 
believe that my firm or I would benefit or be harmed by the policy 
changes being considered. I am here because, when I first began 
examining this issue 6 months ago, I came to the conclusion that this 
was public policy concern.
    The largest drivers of recent commodity price inflation are almost 
certainly demand growth from developing economies and weakness in the 
dollar. In the long run, too, markets find their price level based on 
commercial production, usage, and inventory changes. In short to 
intermediate periods, however, speculators can be disruptive, 
influencing prices and hurting consumers. Pension and index investment 
has become a third force in stoking commodity inflation and damaging 
the structural integrity of the futures markets. Their activities can 
fairly be said to represent ``excessive speculation.''
    These new participants--and I'll follow the lead of others--are 
commonly called ``index speculators.'' When I use this term, and terms 
like ``excessive speculation,'' it's in a neutral, technical sense; I 
don't intend these to be judgmental labels. These index speculators 
represent managers of pensions, endowments, and other investment pools 
that aren't normally associated with speculation. These money managers 
are seeking portfolio efficiency by blending non-correlated, productive 
assets. The .COM bust and the parallel interest in alternative 
investments led many of them to consider commodities as a portfolio 
addition. Regardless of the merits of this approach, there's an 
overriding practical concern--the commodity markets and the futures 
exchanges were meant to serve the needs of commodity producers and 
users, not investors. This marketplace is ill suited for index 
speculation.
    All this must be understood in the context of how index speculators 
differ from traditional ones. They are overwhelmingly oriented to the 
long side of the market, commonly do not deploy leverage, and hold 
positions for long periods of time. They add substantial interest to 
the long side of the market without actually creating much trading 
volume. In essence, they actually reduce market liquidity.
    Part of the problem is relative market size. Index speculators are 
draining funds from an ocean of traditional investment assets, 
represented by thousands of stock and bond issuers, into what are 
effectively small ponds: two dozen futures markets. It's important to 
note that this the impact will only grow; many institutions have been 
only ``testing the waters'' and are increasing their allocations to 
this strategy. Institutions that have not yet participated will 
increasingly follow the lead of others who have. The $260 billion 
currently allocated by index speculators is only the beginning of a 
trend. We can reasonably expect the holdings of index speculators to 
increase more than ten fold, and perhaps as much as 15 fold.\1\ From a 
policy perspective, we must assess not only the current impact, but the 
future as well.
---------------------------------------------------------------------------
    \1\&University endowments have led the embrace of alternative 
investments, with other investors following. According to the latest 
survey of the National Association of College and University Business 
Officers, large endowments already allocate 3.6% of assets to ``Natural 
Resources.'' Using this as a proxy for index speculation, and in light 
of the approximately $100 trillion global pool of publicly traded 
stocks and bonds, a potential global allocation of $3.6 trillion can be 
estimated. A report by the British regulator, FSA, (Growth in Commodity 
Investment, 3/26/07) infers that a higher percentage may be possible.
---------------------------------------------------------------------------
    There are those who claim that index speculators have no real 
impact on futures prices, since for every buyer there must be a seller. 
This misses the point, which is, what determines the price at which 
those two participants meet? Is there any market in the world where the 
net addition of $260 billion on the long side of the market wouldn't 
move prices higher? Maybe a lot higher, maybe just a little, but higher 
nonetheless.
    Some concede that futures prices may be impacted by index 
speculators, but claim this has no bearing on the cash market. The 
mechanisms by which futures prices influence physical prices vary both 
by commodity and environment. In some cases, there is a clean arbitrage 
transaction, so that a rise in the futures will directly translate into 
higher physical prices. Sometimes, futures impact cash less directly by 
providing a reference or index price on which physical transactions are 
based.
    There may be some instances where index speculation indeed 
influences futures prices disproportionately more than cash prices. 
However, this is harmful in another way. Commercial users of the 
futures markets need to rely on predictable relationships between cash 
and futures. When these relationships break down, commercial 
participants either flee the market or are forced to bear or pass along 
additional costs.
    In all these considerations, one can argue in good faith whether 
index speculators create a large or a small impact. Those who believe 
that there is only a minimal influence should consider a future when 
these index speculators will command far greater assets.
    There are numerous proposals before Congress to address these 
concerns. In my opinion, imposing speculative position limits on both 
futures and swap desk transactions appears to be the best solution.\2\ 
This would require more transparency in swap markets than we currently 
have. It may be that position limits alone are insufficient to curb the 
distorting influence of index speculators, and some sort of aggregate 
limitation should be imposed. I do not think this view is currently 
supported by the evidence, and position limits are an appropriate and 
productive first step.
---------------------------------------------------------------------------
    \2\&Raising speculative margin requirements appears to be a 
particularly risky policy. For a more thorough review of this, please 
see the Appendix, which includes my article, ``Margin Madness,'' 
published on MarketWatch on June 10, 2008.
---------------------------------------------------------------------------
    This would, of course, restrict the use of index speculation as a 
portfolio strategy. Portfolio managers do have alternative tools for 
inflation protection and exposure to commodity pricing--not identical 
to be sure, but reasonable nonetheless.\3\ Each marketplace has its own 
rules. Traditional equity and bond managers should be expected to play 
by the rules of the commodity market when they trade futures, and those 
rules should, and traditionally have, included speculative position 
limits.
---------------------------------------------------------------------------
    \3\&TIPS are a well recognized portfolio tool for providing 
inflation protection. Preliminary research suggests that an equity 
index like the Morgan Stanley Commodity Related Equity Index offers a 
strong alternative to index speculation, offering high correlation with 
commodity rallies, and lower correlation in declines.
---------------------------------------------------------------------------
                                Appendix

             As published on MarketWatch on June 10, 2008.

Margin Madness
Commentary: Proposed regulatory cure will only worsen the crisis
By Jeffrey D. Korzenik
Last update: 6:18 a.m. EDT June 10, 2008.
    Jeff Korzenik is Chief Investment Officer at VC&C Capital Advisers, 
the registered investment advisory of Vitale, Caturano & Company Ltd., 
a Boston-based wealth management, accounting, and business services 
firm.

    BOSTON (MarketWatch)--Last Friday's startling spike in oil prices 
has refocused attention on the role of futures speculators in driving 
inflation. Higher energy prices are likely to renew calls to raise 
margin requirements for speculators in an effort to moderate prices. 

    Those calling for this approach have misdiagnosed the problem and 
prescribed the wrong cure. Higher speculative margin requirements could 
well result in higher prices and the further decay of the structural 
integrity of the futures markets.
    Unfortunately for consumers and for concerned policy makers, 
there's no ``quick fix'' that strengthens the dollar or increases oil 
production to meet demand from the developing world. Policymakers 
instead are focusing on the role of noncommercial participants in the 
commodity futures markets. Much has been made of the supposed role 
played by ``speculators,'' but this term no longer adequately describes 
the full breadth of noncommercial participation in today's market.
    There are indeed still speculators of the traditional variety--
highly leveraged players who play both the long and short side of the 
market and move quickly in and out of positions. However, today's 
commodity futures activity is marked by the presence of a new type of 
noncommercial participant. These new players treat commodity futures as 
an investment asset class, and they represent some of the largest 
pension funds and asset managers in the country.
    These ``commodity investors'' behave very differently from the 
speculators. They are overwhelmingly oriented to the long-side of the 
market, commonly do not deploy leverage, and hold positions for long 
periods of time. Policy makers seeking to moderate commodity prices 
need to distinguish between speculators and these new commodity 
investors.
    There has been a recent debate about the impact of these commodity 
investors. There is a strong argument to be made that these new 
investors both push commodity prices higher and disrupt the market. 
Unfortunately, some of the debate has been informed more by sentiment 
than by fact--after all, we instinctively think of ``investment'' as 
good and ``speculation'' as bad. In the futures world, the opposite is 
true. Speculators, with their high levels of margin and short-term 
trading, create a tremendous amount of volume with a limited amount of 
capital, ensuring critical market liquidity. Investors, on the other 
hand, provide little benefit to the futures world, and lots of 
problems.
    The commodity markets operated quite efficiently without 
``investors,'' who have only entered the arena in any size within the 
last few years. The introduction of roughly $260 billion dollars of 
long-only investment has effectively created an order imbalance--
futures prices have had to move higher to draw out opposing short 
interest. The capital pools upon which the investors draw upon are 
quite deep. In contrast, traditional speculators have limited trading 
capital. Commercial participants are constrained by both the size of 
their working business capital and by the amount of physical commodity 
they can control. The capital committed to commodity investors is large 
and growing, and if current trends continue unchecked, it could grow to 
several trillion dollars.
    Much has been made of the investors' position size relative to the 
physical marketplace, but it is also worth considering the size of the 
investor commitments relative to the speculator commitments. The chart 
below illustrates data from the


    There are three mechanisms by which the order imbalance created by 
commodity futures investors can drive prices higher in the physical 
market:

    1. Higher futures prices directly impact those who contract to buy 
        or sell on a forward basis (e.g., airlines which contract for 
        future fuel needs, either directly through futures hedging or 
        through physical sellers who price on the basis of the futures 
        market).

    2. When futures prices are bid up independent of the physical 
        market, this stimulates an arbitrage trade, where cash goods 
        are purchased and futures are sold, locking in price 
        differentials but driving up cash prices

    3. The imbalance within the futures markets disrupts traditional 
        cash/futures relationships which ultimately adds risk, 
        uncertainty and cost along the commodity supply chain. This is 
        ultimately reflected in higher prices to the consumer.

    In addition to these direct influences, there is also a case to be 
made that the higher futures prices support an inflationary psychology. 
We all face the bombardment of news of higher prices in energy, food 
and precious metals. It may be that this increases the willingness of 
commodity users to pay higher prices, and of commodity users to demand 
increases as well.
    What would happen if the regulators chose to raise speculative 
margin requirements? How would this impact the order imbalance caused 
by the investors' capital? The answer is unequivocal--higher 
speculative margin would increase rather than decrease commodity 
prices. Higher margin would decrease the ability of traditional two-
sided speculators to establish positions, and would not impact the 
long-only, unleveraged commodity investors. This would increase the 
ratio of commodity investors to traditional speculators. To the degree 
this order imbalance is causing higher commodity prices, it would only 
get worse.
    Policymakers would be well advised to consider other tools at their 
disposal. At the end of the day, commodity investors are using the 
futures markets in a way that they have never been used before--and for 
which they are ill-suited. It is a legitimate question of public policy 
whether this should be constrained or even permitted. The investment 
community, too, should reconsider the legitimacy of consumable goods as 
a core asset class. After all, the last time we considered an 
agricultural good a great investment, the commodity was tulips.

    The Chairman. Thank you. We maybe don't have all of the 
right people on this panel for this question, but I have been 
asking this question. I still haven't gotten an answer that has 
gotten through my head anyway; that is, as I understand these 
index funds, that is some kind of an instrument or security 
actually that is created and is priced off of the index or off 
of the futures market. And, people buy these things and the 
money does not go into the futures market. Money goes to 
whoever sold them this instrument, right? And it does not at 
that point go into the market and these indexes are never going 
to buy these commodities. Am I right so far?
    Mr. Korzenik. If I may, sir. There are various vehicles and 
various ways. The most basic would be, something like a gold 
exchange traded fund. This was the first of these publicly 
traded vehicles to gain a lot of attention. And it actually 
bought physical bullion. To give you a sense of the power of 
this investment capital flowing in, it currently holds more 
gold than the reserves in the European Central Bank. But some 
of the others will go into the futures markets. Some of the 
others will effectively participate through swap desks, who in 
turn are laying off their risk even----
    The Chairman. That is the point I was getting to. But, I 
mean, by and large, though, like in oil, most of these are not 
going into the futures market and buying those positions in the 
futures market.
    Mr. Korzenik. Some are going in via swap desks.
    The Chairman. So, then, whoever sold this investment, they 
are going to lay their risk off someplace. And as I understand 
it, generally it is in the over-the-counter market that they go 
into and find somebody to take the other side, some bank, 
Merrill Lynch or whoever. The only thing that actually goes 
over into the futures market is whatever they cannot net out. 
Am I wrong about that?
    Mr. Korzenik. You are correct on the mechanics, sir. But 
following the weak point of that argument----
    The Chairman. It is not an argument. I am just trying to 
understand.
    Mr. Korzenik. I understand, sir. But there are those who 
are arguing that because the swap desk transactions are 
essentially balanced they don't have an impact on the 
marketplace. That is another way of saying, and this is a 
falsehood, that there is no price impact because there is a 
seller for every buyer. The issue at hand is if these 
transactions are being executed through a swap desk and you 
have physical sellers of oil and you have an index speculator 
on the long side, the question is what would happen if the 
index speculator was not there. That short seller or the swap 
desk would execute the short transaction that laid off their 
risk through the futures market and without the index 
speculator there. Of course the index speculator could go in 
through the futures, or if that money was not there, the short 
hedger would have to sell down to a price to attract buying 
interest and long interest. So it really washes through. The 
argument that what happens on the swap desk if it is balanced 
doesn't matter is really saying that aggregate demand doesn't 
matter, it depends where that demand is. And I believe that is 
not correct. Aggregate demand is what is important.
    The Chairman. I don't understand where the demand is coming 
from because this money that has paid for this index goes to 
the investment bank, not to the market and not to the oil 
seller, right?
    Mr. Korzenik. Ultimately it represents a long interest in 
the market.
    The Chairman. Well, a fictitious long interest that they 
have created. It is not a real long interest. It is just 
something they created and it is kind of like a casino that is 
based on some deal that is going on over here and you are going 
to say, ``Okay, we are going to make a deal or we are going to 
use this and I am going to bet this way, you are going to bet 
that way, and we are going to see who wins.''
    Mr. Korzenik. Pardon me. Some of the references to gambling 
and casino have some application to the futures markets. But at 
the heart of the markets, these are contractual obligations. It 
is not like saying at the roulette wheel where your wager 
doesn't influence the roll of the wheel. These too have 
influences. And what essentially happens is the index longs 
crowd out the commercial longs. There are long hedgers as well 
and they essentially get crowded out by this, which has an 
upward pressure on price.
    The Chairman. So I still am not tracking this because these 
long hedgers that are getting crowded out, how are they getting 
crowded out, out of where? Out of the futures market?
    Mr. Korzenik. If there is on a swap desk--if there is a 
short hedger----
    The Chairman. You are talking within the swap operation?
    Mr. Korzenik. There is some customization of the 
marketplace. But, as Dr. Pirrong mentioned, there are also 
things that keep the prices aligned to some degree in these 
markets. On a look at it purely from the commercials, you have 
commercial longs and you have commercial shorts. They have to 
come together somewhere. If you add in new commercial longs, 
whether they are commercial or they are index, there is an 
upward pressure on where those transactions occur.
    The previous panel had this umbrella analogy. Think of a 
seller of an umbrella that someone else wants to buy. Add in 
five new buyers who are really aggressive. That is going to 
increase the price of that umbrella, to use the previous 
panel's analogy.
    Dr. Irwin. Mr. Chairman, maybe I can add a couple of facts 
that may be helpful in this situation. In terms of the netting 
of their laying off of risk, we do have some good data already 
on the volume of that activity in our commodity futures markets 
through the CFTC's commodity index trader reports. That gives 
us some very useful market statistics already. Recently, the 
index trader positions as a percent of open interest are 
basically in the range of 10 to 25 percent of total market open 
interest. That certainly is a change in the structure of the 
markets. But it simply isn't any evidence that they are 
overwhelming our commodity futures markets, and I would also 
point out that there is a logical fallacy that seems to be 
committed here. There is no limit to the number of futures 
contracts that can be created, in the sense that you can't 
crowd out someone else in a futures market because you can 
create an infinite number of futures contract if you wanted. It 
is like you said, you can create as many side bets as you want.
    And the other interesting part of that point is our grain 
futures market. I know it is very important in your district. 
In fact the biggest change over the last 2 years in the 
structure of open interest has been the extreme surge in short 
open interest by commercials, the people that are taking the 
other side of the positions from long only index funds. For a 
transaction to occur, it is voluntary, you only have a 
transaction if the short and the long can agree on a price 
given available information. That is what has been going on.
    The Chairman. The one thing about these index funds is that 
they are being driven by a formula. I don't think they look at 
what the price is. They are just wanting to get into the 
market, right? I mean, they have decided that they can't make 
any money in any other place, and so this is where they are 
going to go. They have made good returns the last few years. I 
think somebody is going to lose their shirt frankly at some 
point, and I have a real problem personally with pension money, 
I am sorry ma'am, being put in these commodity funds. I think 
that is a bad idea. As someone who used to be Chairman of the 
Pension Commission for the State of Minnesota, I know a little 
bit about that because when this thing unravels, there are 
going to be some unhappy folks. We don't have control over 
that. So you don't have to worry.
    Ms. Diamonte. Mr. Chairman, as you know, I am the CIO for 
United Technologies. We don't have any direct investments in 
commodities at all. But representing CIEBA, as I mentioned, on 
looking at our survey for 2007, which manages $1.5 trillion 
combined with natural resources and commodities, there is less 
than one percent investing in this.
    The Chairman. I understand that.
    Ms. Diamonte. It is not a large percentage.
    The Chairman. I know. I looked at that. But, personally, 
that is one percent too much. And if you aren't invested, I 
commend you. I think that is a good decision. And I know that 
some of these pensions that are in for one percent are now 
looking to put in more. And I know how this works. They all go 
to these meetings and they talk to each other about where they 
are making money. And I will guarantee you that this is going 
to go up. And how far it will go, I don't know. But, I am not 
sure that you want to put people's pension money in something 
as volatile as the commodity market.
    Ms. Diamonte. Mr. Chairman, there is a lot of study that 
has been done over time and it depends on the end period of 
whether commodities actually add value. A commodity is a 
commodity. So is it really a valuable asset class that is going 
to add return? But one fact is that it is extremely 
uncorrelated with the stock market and uncorrelated with the 
bond market. And for many pension plans who have liabilities 
that are gauged to inflation for the benefits, commodities 
moves with inflation.
    The Chairman. I know what drives them.
    Ms. Diamonte. There are a lot of valid reasons why some of 
my colleagues are investing in them.
    The Chairman. I know. And it might have been legislators or 
whatever that put these benefits in that can't be sustained and 
so these managers have to scramble around trying to figure out 
how to pay for it because they have unfunded liabilities. I 
understand all of that. And I sympathize with them, but I am 
not sure this is a good strategy in the long term.
    Mr. Cicio. Mr. Chairman, you pointed out a very important 
thing. Index funds generally don't care what the price of the 
underlying commodity is, and that is a problem for commodity 
markets. It may not be a problem for stock markets, bond 
markets, I don't know. But for commodity markets, it is 
different, it is about a physical delivery of a product. And 
that product needs to reflect underlying value. What is really 
important to a producer of, let's say, natural gas, they don't 
want the price to be too low to ensure that they have a profit 
to produce more. They don't want the price to be too high 
because then they get demand destruction and they lose markets.
    For us consumers, we care a great deal because we don't 
want the price to be too low so that the producer can't 
continue to produce it. But at the same time, it can't be too 
high that it drives us out of the market and we are not 
competitive. We care. The basic hedgers, the physical hedgers, 
have skin in the game and hedgers and index funds do not.
    The Chairman. Mr. Neugebauer.
    Mr. Neugebauer. Ms. Diamonte, as a manager, I assume your 
responsibility is to manage a pension fund; is that correct?
    Ms. Diamonte. Yes, it is.
    Mr. Neugebauer. And so when you look at return, the people 
that are depending on your investments are looking for an 
after-inflation return on their investment?
    Ms. Diamonte. You know, I really think it depends on the 
plan sponsor. As you know, many corporations have different 
expected returns, and many of them have different benefit 
designs. And there are some corporations that have put cost-of-
living adjustments into retirement benefits, so they are tied 
to trying to get inflation numbers. There are others that 
don't, are not being raised by inflation, and therefore don't 
worry about that hedge.
    Mr. Neugebauer. It might not be important to the companies, 
but it is certainly important to the retirees; is that correct?
    Ms. Diamonte. Absolutely.
    Mr. Neugebauer. And so what is, in your opinion, one of the 
best hedges against fairly rapid inflation that we are having 
right now?
    Ms. Diamonte. Well, studies show that there are very few 
asset classes that actually are highly correlated with 
inflation. In other words, as they increase, gain prices 
increase. Commodities is one of them; real estate is another 
one, and we all know what the valuation is in the real estate 
market. So it is very hard for pension funds like ourselves to 
try to invest in assets that actually are very correlated. 
Treasury index inflation bonds is another one. The prices of 
that have actually been low, so it is difficult to actually get 
good inflation hedges.
    Mr. Neugebauer. But it is important to.
    Ms. Diamonte. It is extremely important.
    Mr. Neugebauer. So really one of the things that has 
happened in our economy right now is we have had a huge decline 
in our dollar, which has caused huge inflationary pressures, 
and particularly it has caused a tremendous decrease in the 
value of investment for companies that are holding dollars 
because the dollar has obviously gotten weaker. Should we 
prohibit people from being able to look for opportunities to 
hedge or to protect themselves from these inflationary times?
    Ms. Diamonte. I think it is our opinion that we really need 
to adhere to good portfolio modern theory, which means that you 
need to look through all the different markets and find the 
best asset-allocation policy that meets your long-term 
liability needs. So I would say no, not to prohibit in any 
asset class. And we have many opportunities to invest 
internationally on an unhedged basis, so if the dollar does go 
down, we still can maintain some of that return.
    Mr. Neugebauer. Now, I tell you what. This panel, with the 
exception of one, has got the name thing a little tricky here. 
I wasn't here for the introductions, but is it Mr. Cicio?
    Mr. Cicio. Yes.
    Mr. Neugebauer. You seem to be advocating that we should 
only let people that have skin in the game be in the 
marketplace. And so I think one of the things that we have had 
a difficult time here is who are people that have skin in the 
game?
    For example, in my former life I was a land developer, and 
in the land development business, I used a lot of plastic pipe 
that is oil based. The asphalt that I was purchasing in large 
quantities was oil based. The diesel that was being used to do 
the excavation and all of the operations necessary to put in 
that infrastructure was oil based. And so under the current 
scenario that I hear some of the testimony, I would be a 
speculator. When, in fact, I might have been trying to hedge a 
business position because of the tremendous amount of intensity 
that my business relied on oil-based products. So are you going 
to throw me out?
    Mr. Cicio. Absolutely not. It sounds to me like what you 
described is someone that is a business person who has a real 
hedge opportunity. You are doing something in relationship to 
your business that is associated with the underlying commodity. 
That is who should be playing in these markets, as I contrast 
that to index funds, who, as I say, they don't care what the 
price is. They are just throwing mounds of money into it, and 
they have a different intent, a different strategy than 
historical participants, buyers and sellers for a physical 
future delivered product.
    We need speculators in these commodity markets. Don't 
misunderstand what I am saying. I pointed out earlier 
everything worked pretty well in these futures markets prior to 
the year 2000, prior to when we made changes to the Commodity 
Futures Modernization Act. And that opened up the door to a lot 
of increased speculation that now has picked up steam and is 
rapidly accelerating for players that, as I say, don't have 
skin in the game.
    Mr. Neugebauer. I believe if I called up today and tried to 
take a position to hedge in a futures contract, I would not be 
a qualified hedger. I would be a speculator. I would like to 
hear someone that knows a business in America today that is not 
being impacted by higher energy prices.
    Now, the other thing is that I don't have the expertise to 
sit and trade hedges all day long. When I was in the land 
development business, I needed to be out selling things, 
because there is an old philosophy in my business that if you 
don't sell anything, you don't get to eat. And most of my 
family did like to eat, so I needed to spend more of my time 
trying to sell something.
    So one of the things that some of these investment vehicles 
provide an opportunity is for businesses that don't want to be 
involved in trading and don't want to have to make a margin 
call, if the market is swinging. My final question is that the 
term ``excessive speculation'' keeps being kicked around here. 
What happens is about every 6 months we come up with buzzwords 
in Congress, and so the buzzword du jour right now is 
``excessive speculation,'' that it is somehow ruining the 
world. What is ``excessive speculation?''
    Mr. Cicio. Well, for natural gas I will tell you that when 
the analysis we just did, the volume of natural gas is trading 
in the neighborhood of 24 to 32 times the physical consumption 
of, let's say, the August natural gas physical commodity. We 
don't know what the right number is where excessive begins and 
ends, but we look at 24 times and 32 times and say, ``That 
sounds like excessive speculation to us.''
    Mr. Neugebauer. Anybody else want a bite at that apple?
    Dr. Pirrong. Essentially the key thing, is that that demand 
is not translating into the physical demand that is affecting 
the price that Mr. Cicio and his clientele are worried about. 
Essentially if you look at deliveries, for example, they are a 
trivial fraction of the kinds of volumes that he is talking 
about here. And in terms of the swimming pool analogy, well, to 
be quite honest, these index funds and everybody else are well 
out of the pool by the time that these contracts go to 
delivery. So these folks are not contributing the kind of 
physical demand that would be causing prices to move away from 
where they should be.
    Dr. Irwin. I think you raise an excellent point that in our 
history of the regulation of commodity futures market, we have 
struggled from the beginning in the 1920s, when we first 
decided that we needed to have regulation regulating the level 
of positions in the markets. That means we needed to define 
what was a hedger, and that has been a difficult debate now 
running over 80 years.
    For example, at the University of Illinois right now, in 
responding to the farmers that we talked to, one of their 
biggest concerns is rapidly rising production costs. Anybody 
that is working with farmers knows that it, particularly 
fertilizer, is skyrocketing. Our research shows that the item 
that has most positively correlated with the increases in the 
price of their cost of production is crude oil. So if they are 
to hedge their input cost increases, it would be a very 
reasonable thing for a farmer to do today. I want to protect 
myself from that. What can they do? They need to buy something 
that is very highly correlated with the movement of the crude 
oil. And even though that is very important to their business, 
that would be classified as a speculative move.
    Mr. Neugebauer. Speculative, exactly. Every businessman, 
unless he is taking delivery of hydrocarbon in a bulk sense, 
would be classified as a speculator.
    Dr. Irwin. It is in fact, actually quite difficult to 
precisely define who is a hedger and who is a speculator. And 
we have been trying to slice that for 80 years, I think fairly 
unsuccessfully.
    Mr. Neugebauer. One of the last points I want to make, and 
someone can pick up on that, is that I am told in the last few 
years, that for a long time the major oil companies did not 
really deal in the commodities markets. They were producing, 
but they were not doing as much hedging as a number of them are 
today. I would like to get your reflections. What I am told is 
because these price levels and the cost levels of going after 
some of these deepwater drilling and some of the deep natural 
gas wells that are now--that cost millions and millions of 
dollars, that these folks have gone into a much more aggressive 
risk management process. And so when we look at some of these 
volume increases over what the volumes were 10 years ago, what 
the volumes are today, is that it is just that people are 
trying to use the commodity market for what they were designed 
to do, and that is to protect those folks.
    Mr. Cicio. That is one of the things that gives us great 
concern is if you look at the forward curve of any of these 
energy commodities, most of the volume is in the front month. 
And what we need are speculators, buyers and sellers in those 
future months. So the market could be working better, but 
instead we have--as I will go back to this issue of the index 
funds, it is all in the prompt month, and it is rolled over to 
the next month. So you have this huge mound of money that keeps 
getting bigger and gets rolled over, sold, rolled over to the 
next month and then the next month, and we just have this 
fundamental belief that if you keep throwing money at a 
commodity, certainly that mound of money, it certainly is going 
to have an impact and a speculating effect.
    The Chairman. I thank the gentleman.
    The gentleman from California. Do you have any questions?
    The gentleman from North Dakota.
    Mr. Pomeroy. I want to thank the panel. It has been 
absolutely excellent, really very, very interesting. Thoroughly 
knowledgeable experts reaching very different conclusions. And 
so it is a little puzzling up here, but it certainly is 
fascinating.
    Dr. Irwin, you are clearly an expert and exponent of market 
function. And so experts like you have helped me understand the 
relationship of liquidity in terms of futures speculation, in 
terms of easing price fluctuation, volatility in the 
marketplace. Do you get to a point where you have so much money 
coming in, where the market is so hyper-liquid, that the 
legitimate price discovery function of the market can be 
disrupted?
    Dr. Irwin. My view is that, yes, that is theoretically 
possible. We have to, as economists, admit that it is possible 
for a futures market in commodities to become overspeculated. 
The difficulty, of course, is then figuring out where that line 
is and how do you determine what is--when it is too much.
    In research that I have recently completed looking for the 
kind of standards, what we did is we looked at the relative 
levels of short hedging in these markets versus long 
speculation, where the index funds would be located. And, in 
fact, we find that the levels of commercial hedging seem to be 
pretty similar to what we had seen many, many years ago. In 
fact, they are very similar to what we saw going all the way 
back to the late 1940s and into the 1950s. So the markets, as 
best we can tell, based on historical standards, do not seem 
out of balance. But again, I admit that it is possible.
    Mr. Pomeroy. I am coming back to you.
    Mr. Korzenik. If I may. I think one of the issues here, and 
Dr. Irwin is quite right, is this theoretical overspeculated 
marketplace. And I guess where I would disagree with him is, as 
an academic construct, you can make more and more future 
contracts. You have plenty of people to adjust for price 
discrepancies. But, particularly in some of the smaller markets 
is where you would start to see the problems first. And if you 
look back and say, what happened to cotton in late February or 
early March, and I know there is an ongoing CFTC investigation 
to this, but you start to wonder whether we are running up 
against some of the limits.
    So, for instance, there are only so many short hedgers out 
there. There is only so much product that can be short-hedged, 
let alone the much smaller amount that is actually deliverable 
into the contracts. And then speculative shorts, longs and 
shorts are also limited by capital constraints. So, yes, 
ultimately you can draw more in over time, perhaps.
    Mr. Pomeroy. Would the fact that the Farm Program pays for 
cotton storage have a--potentially a complicating factor here?
    Mr. Korzenik. Yes, because anything is a change, a 
disruption from total free market.
    Mr. Pomeroy. It takes out some of the incentive to sell.
    Mr. Korzenik. You know----
    Mr. Pomeroy. That is really a matter for another day.
    Dr. Irwin, you indicate that if indeed price becomes 
separated from the fundamentals of supply and demand, that this 
arbitrage incentivizes the profit taking and rationalizing the 
market. Is that what you are saying?
    Dr. Irwin. Correct. That, as Dr. Pirrong talked about this 
morning, that in the real physical market, if you are creating 
a bubble, and again you are creating it against other well-
financed, large, very smart, very good traders, somewhere, 
someplace, somebody is going to then be holding the commodity 
off the market, and that should be evident.
    Mr. Pomeroy. Right. I am almost out of time.
    Mr. Cicio, why don't you think that is working?
    Mr. Cicio. Would you repeat the question?
    Mr. Pomeroy. Sure. Basically the profit-taking 
opportunities, if pricing becomes diverted from rational 
pricing based on supply and demand. Essentially Dr. Irwin has 
talked about the way the market corrects when trading creates a 
situation where the pricing may not accurately reflect an 
economically rational price based on supply and demand.
    Mr. Cicio. Well, that is just it. When you have, as I said, 
new players in the market, and index funds are relatively new 
players, that don't care about the price, they are just 
throwing money in, it just changes how that price is going to 
come out the end. It just does.
    Mr. Pomeroy. Dr. Pirrong, do you have a 30 second answer to 
that?
    Dr. Pirrong. Just to add to what Mr. Neugebauer said, which 
was, ``Hey, we have all these oil companies out there. They 
have huge capital. They have huge information. If they really 
thought that the price of oil would be driven up to excessive 
levels as a result of this index speculation, that would be a 
great opportunity for them to make money. And they have the 
financial wherewithal to do that.''
    And again, also it is important to make the distinction 
between the physical market on the one hand and the financial 
market on the other hand. These players are out of the game. 
They have cashed in their chips by the time this market goes 
physical, so they are not contributing to the demand for that 
product.
    Mr. Pomeroy. Thank you, Mr. Chairman.
    The Chairman. The gentleman from Mississippi, do you have 
any questions?
    Mr. Childers. Mr. Chairman, for the sake of time, I do not 
have any questions.
    The Chairman. Thank you very much.
    The gentleman from North Carolina, and then we have a vote 
here. We are going to take these questions, but we are going to 
come back. Mr. Marshall has some questions of this panel, and I 
may have some more, if that is okay. Thank you.
    We have about 8 minutes. So we have time for your 
questions, I think.
    Mr. Etheridge. Thank you, Mr. Chairman. And, Mr. Chairman, 
at the appropriate time I am going to have a couple of letters 
I would like to submit for the record.
    [The documents referred to are located on page 261.]
    The Chairman. Without objection.
    Mr. Etheridge. Because they are the real, live folks, 
people who are major corporations now on the verge of going out 
of business because of the commodity and fuel prices.
    So my question goes back, very quickly, Ms. Diamonte, I 
believe it is, how long have your folks been investing pension 
and retirement funds in the commodities markets? Do you know? 
When did that start?
    Ms. Diamonte. CIEBA as a whole? I don't know the answer to 
that.
    Mr. Etheridge. Can you get that for us?
    Ms. Diamonte. Sure. We have been collecting data for over 
15 years, so I could show you the trend of that over time.
    Mr. Etheridge. Maybe some graph as to when that increased.
    Thank you, ma'am. I think that is important because I think 
some of these are critical pieces. The letters I am going to 
submit are letters that are real life view of people's lives. 
They have lost a lot of jobs as a result of it.
    Mr. Cicio, you asked that we ensure that the Federal 
Reserve is not loaning capital at low interest rates to banks 
which turn around and speculate those funds in futures markets. 
And you also state in your testimony that you don't believe 
that the almost linear relationship between lower Federal 
Reserve interest rates, increased borrowing of banks and 
corresponding higher commodity prices is a coincidence.
    I would be interested in hearing you comment more on that 
because I really thought the Federal Reserve checked to see how 
loans it offered to banks are being utilized. And if not, we 
sure need to have our corresponding work with that. And I guess 
I want to know do you think the Feds are monitoring? If they 
aren't, why shouldn't they be doing it? That is a serious 
problem if it is true.
    Mr. Cicio. Thank you.
    We do not know if the banks who are borrowing Federal 
Reserve money are speculating with it. We could not help, 
though, when we saw the correlation of the timing of the lower 
interest rates to the significant ramp-up of borrowing by the 
banks and the relative correlation to the escalation of energy 
commodity prices and commodities in general. And so we are not 
accusing the banks of anything or the Federal Reserve of 
anything. We are just raising the question.
    Mr. Etheridge. Do you have any data on that?
    Mr. Cicio. Well, we have more charts like the ones that 
were in my testimony that showed these relationships. That is 
all we have.
    Mr. Etheridge. Would you make those available to this 
Committee?
    Mr. Cicio. Yes, sir.
    [The documents referred to are located on page 262.]
    The Chairman. Will the gentleman yield?
    Mr. Etheridge. I yield.
    The Chairman. When we cut the interest rates, I think 
people expected the dollar to fall and potentially inflation to 
take up. So weren't they just then shifting over, understanding 
that this is a foolhardy policy probably, and they are going to 
make use of it? I mean, the dollar has fallen how much since 
then, and as I understand it, that is why a lot of people are 
going into this market.
    Mr. Korzenik. If I may, Mr. Chairman, there are a number of 
theories relating to interest rates and commodity storage and 
things like that. But a lot has been talked about the role of 
the dollar, and there is no doubt that the dollar has had a 
role. But there are other things at work.
    For example, the dollar since mid-March has essentially 
been trading sideways, yet oil prices, crude oil prices, are up 
35, 40 percent since that time period. So one of the challenges 
in trying to examine this whole index speculation issue or 
speculation issues is you can analyze, you can guess, but you 
can never know with certainty what fully causes a price move.
    So there is certainly a role of the dollar. I don't think 
anyone denies that. But I would argue that there are other 
factors at work as well. In fact, the very close correlation 
between the dollar and crude oil, for instance, during last 
year was almost too close. Oil is not necessarily a currency, 
and you had an almost exact correlation, which is unlike 
previous periods. So if you go back 20, 30 years, the 
correlation between commodities and the dollar is much, much 
weaker than one would be led to believe by the press. It is 
certainly a factor. I wouldn't deny that. I just think you 
shouldn't walk away saying, oh, it is the dollar and nothing 
else, and not look at these factors.
    Mr. Etheridge. Let me get one final question in. Professor 
Pirrong, on the following panel and in the written testimony, 
Mr. White alleges that $167 billion in new inflows have gone 
into the 25 commodities that make up the major indexes. Have 
you seen this analysis?
    Dr. Pirrong. Not that particular analysis, but I have seen 
similar figures, yes.
    Mr. Etheridge. I would be interested in your thoughts on 
that, and also, if you believe these can be substantiated? I 
think this Committee needs to have some basis for that. If you 
don't, I would be interested in your thoughts on it.
    Dr. Pirrong. Well, I have a couple of thoughts. First of 
all, I mean, is this a bug or a feature, right? I think that is 
essentially what we are asking; is this a good thing or a bad 
thing? And in terms of the ultimate question, you have quite 
eloquently talked about your concern about what effect this is 
having on real people and what they are doing. And to be quite 
honest with you, sir, I don't really think that it is causing 
the pain that your constituents and other folks' constituents 
are suffering.
    Mr. Etheridge. So what do you think is causing that pain?
    Dr. Pirrong. Oh. We have how many minutes before your vote? 
I don't think we have enough time. But in a nutshell, in some 
respects a perfect storm in terms of perverse policies, 
particularly among developing nations that are subsidizing 
consumption at the same time when political unrest and 
essentially the harvest of lack of investment over the last 10 
years has really put a cap on supply. Add that with a little 
gasoline on the fire from the Federal Reserve and we have a 
very difficult problem.
    The Chairman. Well, thank you very much.
    The Committee is in recess. We will take this up when we 
get back.
    [Recess.]
    Mr. Marshall [presiding.] If everybody can take their 
seats. Chairman Peterson has asked that I reconvene the 
meeting, and I guess we should do that in the interest of 
diminishing the amount of time that you are stuck here and 
moving this thing along. And as it happens, I am the next 
person to ask questions anyway.
    Is Dr. Pirrong--here he is. Okay.
    Before the Chairman adjourned so quickly, I was going to 
try and intervene, lost my opportunity to do so. And had I had 
an opportunity to do so, I was going to ask that the two good 
doctors here, Irwin and Pirrong, get together with Mr. Korzenik 
and the three of you agree on the nub of your difference of 
opinion so that we can get right down to where it is that you 
differ.
    And it may be it is this burden of proof stuff that a 
number of people have suggested to us. Nobody can really prove 
their case, so cast the burden on the side of the other, and 
that decides the matter.
    And so if you guys could give that thought, let me ask Dr. 
Irwin a question. In a follow-up to a response, you said that 
you thought that there was some evidence out there that this 
largely passive long index fund money that is coming in simply 
because it wishes to take a position isn't influencing the 
market all that much. And you cited two things, and I just 
wanted to explore those two things. One, I think you said there 
was 10 to 25 percent open interest by commodity index funds, 
which is a relatively small thing, not overwhelming, is the way 
that you put it, so it couldn't possibly be overwhelming the 
market.
    And then the second thing that you said was that as you 
look at who is long and who is short, the index funds seem to 
be long, but the commercials are short. Did I understand you 
correctly?
    Dr. Irwin. Yes, that is correct.
    Mr. Marshall. And when you say commercials are short, you 
are referring to people who actually have an interest in the 
industry, they have oil to sell or something like that?
    Dr. Irwin. Correct. And these were producers, processors. 
And I am no expert here by any means. And you see all of us 
sort of fumbling around trying to grasp what is pretty arcane 
and complicated stuff, trying to just figure out what is the 
right thing to do to try to help folks out where these prices 
are concerned and at the same time not ruin these markets or 
drive business overseas. It is a delicate balance that we need 
to strike here.
    Mr. Marshall. And when you cited as support for this 
commodity money and long positions not being much of an 
influence. The second point, I found myself wondering, and I 
may be missing something altogether here, if it might not be an 
argument for exactly the opposite conclusion or evidence to 
support exactly the opposite conclusion. When what you are 
saying is that the commercial side, the folks that are 
typically in here for business reasons are on the short side 
and the folks that are in there, intending to take a position 
and hold long, but are not in there for typical commercial 
physical market reasons are on the long side, doesn't that 
suggest that those who are in the business normally think 
prices should be a little bit less and they are willing to take 
the short position because they see these prices and they 
think, ``Good gosh, that is a better deal than I think the 
market would normally give me. And so, yes, I guess I am going 
to take that deal.'' And one after the other I guess they are 
enticed to take that deal, to go ahead and agree to sell at 
some later date at a certain price. They are inclined to do 
that as the price gets pulled higher and higher and higher by 
what you describe as ``open commodity long positions,'' folks 
who don't have a commercial interest.
    Could you set me straight? I am confused.
    Dr. Irwin. It is an excellent question. I want to make sure 
I am understanding your point that you are talking about. The 
point I made was that the relative balance between the hedging 
interests in the market, at least in agriculture and many other 
markets, tend to be on the shorter selling side, that that is 
not out of balance relative to the long speculation in the 
market, which is where the long index funds----
    Mr. Marshall. We have had lots of testimony that in order 
for you to have a contract, people have to come together. So 
the question is, at what price do they come together? And if 
the commercials are saying, geez for that price I will sell 
either side and the--what we are sort of focusing on as the 
current crowd of speculators as opposed to the experienced ones 
who have been providing liquidity for a long time and you 
typically find on either side. I am going to go short this 
time, I am going to go long next time, that sort of thing, 
those kind of speculators have been in the market for a long 
time. We want them in the market, they help provide liquidity, 
they narrow the margins, they enable hedges that otherwise 
wouldn't be available for the commercial side. Now we have a 
whole bunch of money in the market that is just going long and 
it sounds like this long money in the market, people want to 
take positions because they want to be in commodities. You have 
the commercials on the short side, them on the long side. It 
sounds to me like that the commercials are going, ``Golly, if 
you will pay that much for it, I will do it because I am not 
going to get that kind of money from anybody else.'' And if 
that is the case, isn't that evidence that the longs, in fact, 
are pulling the market up as opposed to evidence, as you 
suggested, evidence that no, they are not having any impact?
    Dr. Irwin. Okay. What I would say in response to that is 
that what we know from at least historical patterns in 
commodity futures markets is that hedging, in essence, 
speculative volume tends to follow hedging volume. That pattern 
has been established for many, many years. Yes, you are 
correct. That could be changing. This is a new type of trader. 
So it does raise the kind of questions that you are raising. 
But it would be different than the traditional pattern of the 
speculation following the hedgers' volume and that is why the 
balance doesn't seem out of balance.
    The next response I would have is that we have to be 
careful that anyone with a short position at that point in time 
generally will have a view that prices are attractive to be a 
seller. So as price goes up, there are always going to be a 
concern, particularly if they are wrong. And that is a story we 
know about as it has happened in agriculture a number of times.
    Mr. Marshall. Can I interrupt? I am just trying to get you 
to get to the nub of my question. It is a question, it is a 
concern. I don't know. I am not an expert here. Hypothetically, 
let us assume that there are, I know this isn't the case, but 
let us assume that everybody who is short, are commercial types 
that have historically been in the market for a long time. And 
everybody who is long, are newbies, they are the commodities, 
the index funds, et cetera. Let us hypothetically assume that 
is the case. Would you say that is evidence that, and let us 
also assume that prices are going up. I mean, we are observing 
that. Would you say that is evidence that something must be 
going on, that these longs, that this new money in the market, 
different from the historical money in recent years, anyway, 
that it must be pulling things up? Would you say that is the 
case?
    Dr. Irwin. I don't believe, no, that is sufficient 
evidence.
    Mr. Marshall. If all the commercials are on one side and 
all the investment folks are on the other side?
    Dr. Irwin. No, because they could all be reacting to the 
same common information about underlying supply and demand.
    Mr. Marshall. Dr. Pirrong, if you could weigh in on that. 
Let us hypothetically say that is the case. And all the 
commercial folks are saying, ``There is no commercial person 
out there saying I want to buy at those kinds of prices,'' but 
there are a lot of commercial folks out there saying, ``Hell, 
yes, I will sell at those kind of prices.'' And they are the 
ones that are traditionally in the market and the ones that 
largely are the folks that are speculators that are 
traditionally in the market and are also on the short side and 
going, ``Whoa, heck, yes.'' And then on the long side is all 
this passive, not as experienced money. Let us say, 
hypothetically, that is the case. Would you say that prices are 
being pulled up by this passive, not very experienced money?
    Dr. Pirrong. Not necessarily. And here this might be a 
little inside baseball. But I think it is important to draw a 
distinction again between the physical market on the one hand 
and the financial market on the other hand. Essentially what 
economic theory tells us is that speculative participation is 
primarily going to affect the futures price relative to what 
the spot price is expected to be when that contract reaches 
delivery. And essentially the difference between those two 
things, the futures price on the one hand and the expected spot 
price on the other is a risk premium. A risk premium is a cost 
to the hedgers and essentially what can happen is you can have 
a situation where the following is true. We have a flow of new 
speculative money into the market that reduces the risk 
premium, which if commercials are net short would tend to cause 
the futures price to rise relative to the expected spot price. 
That doesn't mean that the spot price, the price for what 
barrels, in the case of oil, is being distorted or is too high 
and it actually means that actually that increase----
    Mr. Marshall. Doctor, it is hard for me to follow you and 
you are trying to help me. So let me interrupt you and just ask 
you this. You earlier had said that all these folks talked to 
one another. I mean there is a rule here in politics, if three 
people know it, it is no longer a secret. It is inconceivable 
to me that somehow the physical market and the financial 
market, the speculators around the globe, et cetera, just don't 
know what everybody else is doing. So even though it is in what 
we refer to as opaque, dark markets, there are an awful lot of 
people playing who are playing in the futures market, which is 
transparent to us and regulated by us, that know absolutely 
what is going on in the dark markets; and folks in the dark 
markets of course know what is going on in the others. And it 
is very unlikely that there is some arbitrage to be had because 
people are so stupid that they don't have information; isn't 
that correct?
    Dr. Pirrong. Yes, that is actually what I said earlier. 
There would be information flow between these markets, yes.
    Mr. Marshall. So what I don't understand is how all of the 
people who are historically savvy and commercially involved in 
my hypothetical could be on the short side and you wouldn't 
conclude that this group on the long side, either because they 
know something everybody else doesn't know, or they are in it 
for a different reason and they don't really care about that. 
They just want to take a position. But you couldn't conclude 
that. Given that information is supposedly shared so everybody 
knows everything, why would all the commercials in the 
hypothetical, all of the commercials and all of the traditional 
speculators be on one side and this new money be on the other 
side?
    Dr. Pirrong. Again, as Professor Irwin said earlier, 
typically it is the case that commercials are net short and 
they need somebody to lay off that risk to. One thing that 
could have been happening recently is that these----
    Mr. Marshall. I am not talking about recently. I am talking 
about the hypothetical. I am trying to see whether or not it is 
hypothetically possible with an experienced person like you, 
that in a hypothetical like this, the price could be pulled up 
by money coming in, taking that position that it is not 
something that the rest of the market understands and they are 
certainly willing to sell at those kinds of prices.
    Dr. Pirrong. Again, though, it goes back to what I said 
earlier. If this price were truly distorted, if it were away 
from where fundamentals would justify, then the people that 
were willing to pay the high price, they are going to end up 
actually owning the physical stuff. And to the extent, if you 
could document that, that would be----
    Mr. Marshall. They may not own it. But they might regret 
having taken the position, the willingness to buy at that 
price.
    Mr. Chairman, do you want to take over and wrap it up or do 
you want me to wrap it up.
    The Chairman [presiding.] We have to get to the next panel.
    Mr. Marshall. Gentlemen, thank you. I am very interested in 
hearing, could I do this, Mr. Chairman? Could the three of you 
talk with one another and see if you can't come together--maybe 
e-mail back and forth, and see if you can't come together with 
a statement that you could give us that describes where you 
fundamentally disagree so that we have a better handle on that?
    Mr. Korzenik. I would certainly be willing to do that.
    Mr. Marshall. Could you do that in just a couple of days?
    Dr. Irwin. I would be happy to.
    Mr. Marshall. By Monday?
    Dr. Irwin. We will do our best.
    Mr. Marshall. Thank you, Mr. Chairman.
    The Chairman. Thank you, Mr. Marshall. We are going to 
dismiss this panel. Thank you all very much for bearing with us 
and making your time available, and it has been very valuable 
to the Committee and we may be calling you again to clarify 
things. So thank you very much.
    We will call the next panel. We will try to get people out 
of here by 5 o'clock. We have Dr. Jim Newsome, President of 
NYMEX, who I think all of you know. Christine Cochran, the Vice 
President of Government Relations for the Commodity Markets 
Council. Mr. Joe Nicosia, President of the American Cotton 
Shippers Association. And Mr. Adam White, the Director of 
Research for White Knight Research & Trading. Welcome all to 
the panel.
    One good thing about being on the last panel, other than 
you had to sit here all day, is that most Members are not 
voting, it should go quicker. So, Jim, we appreciate you being 
with us today and your testimony. To all of the witnesses, your 
testimony will be made part of the record. And you can 
summarize your statements in 5 minutes and we appreciate you 
being here. Thank you.

 STATEMENT OF JAMES E. NEWSOME, Ph.D., PRESIDENT AND CEO, NEW 
 YORK MERCANTILE EXCHANGE, INC., NEW YORK, NY; ACCOMPANIED BY 
         THOMAS LaSALA CHIEF REGULATORY OFFICER, NYMEX

    Dr. Newsome. Thank you, Mr. Chairman. I appreciate the 
invitation to be here today to testify. Certainly the ever 
increasing cost of energy touches all aspects of our daily 
lives and today is quite possibly the most important issue 
facing both global and domestic economies. This panel is to 
focus on speculative limits and hedge exemptions and, Mr. 
Chairman, I will strictly address just those topics.
    Speculative activity on U.S. regulated futures exchanges is 
managed by position limits. These limits effectively restrict 
the size of a position that market participants can carry at 
one time. The limits are set at a level that greatly restricts 
the opportunity to engage in manipulative or abusive activity 
on NYMEX. Speculative limits adopted or adjusted by NYMEX are 
submitted to the CFTC for review prior to implementation.
    Hedge exemptions are being debated as a possible 
contributing factor to what is perceived by some as excessive 
speculation. NYMEX maintains a program that allows for certain 
market participants to apply for targeted hedge exemptions from 
the prior set position limits in place on expiring contracts. 
Hedge exemptions are granted on a case-by-case basis, following 
adequate demonstration of bona fide hedging activity involving 
the underlying physical cash commodity or involving related 
swaps contracts. A company is not given an open-ended 
exemption. The exemption does not allow unlimited positions. 
Instead, the extent of the hedge exemption is no more than what 
can be clearly documented in the company's active exposure to 
the risk of price changes in the applicable product.
    Questions have been raised concerning whether or not 
certain noncommercial customers or swaps dealers are in effect 
circumventing speculative position limits by obtaining hedge 
exemptions for noncommercial activity. Related to this issue, 
we have heard both reckless and unsubstantiated claims that 70 
percent of the NYMEX crude oil market is made up of 
speculators. That 70 percent figure incorrectly assumes that 
all swaps dealers are noncommercials and that all of their 
counterparties are also noncommercials. This is simply not the 
case.
    However, this confusion highlights the need for the CFTC 
large trader data to specify for energy futures the degree of 
participation by noncommercials in the same manner as is done 
now for agricultural contracts. This potential gap in the large 
trader data compiled by the CFTC in its Commitment of Traders 
report complicates efforts to determine the commercial and 
noncommercial activity of swaps dealers.
    More detailed information from index traders and swaps 
dealers in the futures market is necessary to confirm that not 
all over-the-counter energy swap activity undertaken by swaps 
dealers involves noncommercial participants. In addition, NYMEX 
believes that these data will allow the CFTC to better assess 
the amount and impact of this type of trading on the markets.
    NYMEX is concerned about restrictions that could be imposed 
on swaps dealers that could limit the ability of commercial 
participants to execute strategies to meet their hedging needs. 
For example, commercial participants often need to have 
customized OTC deals that can reflect their basis risk for 
particular shipments or deliveries. In addition, the reality is 
that not all commercial participants have the sufficient size 
nor sophistication to participate directly in the futures 
markets. Swaps dealers assume that risk and then manage it in 
the futures market.
    That said, Mr. Chairman, NYMEX would support a restriction 
of the ability of a swaps dealer to obtain a hedge exemption 
from a position limit for activity that concerns OTC 
transactions involving noncommercial participants. This 
targeted approach will address the concerns being raised in a 
thoughtful and deliberate manner and will also reinforce the 
underlying rationale for the maintenance of effective position 
limits on speculative activity.
    Thank you, Mr. Chairman.
    [The prepared statement of Dr. Newsome follows:]

 Prepared Statement of James E. Newsome, Ph.D., President and CEO, New 
              York Mercantile Exchange, Inc., New York, NY
    Mr. Chairman and Members of the Committee, my name is Jim Newsome 
and I am the President and Chief Executive Officer of the New York 
Mercantile Exchange, Inc. (NYMEX or Exchange). NYMEX is the world's 
largest forum for trading and clearing physical commodity-based futures 
contracts, including energy and metals products, and has been in the 
business for more than 135 years. NYMEX is a federally chartered 
marketplace, fully regulated by the Commodity Futures Trading 
Commission (CFTC) both as a ``derivatives clearing organization'' (DCO) 
and as a ``designated contract market'' (DCM).
    On behalf of the Exchange, its Board of Directors and shareholders, 
I want to express our appreciation to the Committee for holding today's 
hearing. The ever increasing cost of energy touches all aspects of our 
daily lives and today is quite possibly the most important issue facing 
global and domestic economies as well as U.S. consumers. Highlighting 
the urgency of the matter, no fewer than 19 bills have been introduced 
in the House and Senate over the last few weeks on this very topic.
    The Committee has chosen to focus the discussion on several key 
issues including margin requirements, hedge exemptions, swap dealers, 
index funds and foreign boards of trade. NYMEX is pleased to provide 
its views on the topics of interest that you have identified.
Margins
    Futures exchanges serve a price discovery and risk management 
function. Exchanges are neutral as to price levels. In the American 
free market system, price is determined by the open interplay of market 
opinion between buyers and sellers. Margin levels should not be used as 
a tool by the government to artificially control prices. Moreover, any 
attempt to use margin levels to do so will likely fail. The most 
important function of margin is prudential--that is, to protect the 
exchange from credit exposure to its clearing member brokers, and to 
protect brokers from credit losses from their customers.
    In futures markets, margins function as financial performance bonds 
and are employed to manage financial risk and to ensure financial 
integrity. Margin takes several forms in the futures industry. First, 
there is original margin, which is the amount of money deposited by 
both buyers and sellers of futures contracts to ensure their 
performance against the contracts in their account. In addition, on at 
least a daily basis and sometimes more frequently the futures exchanges 
collect variation margin from both long and short participants to 
reflect the shifting value of open positions in a given contract. All 
open positions in regulated futures and options contracts are ``marked-
to-market'' on a daily basis; this daily settlement is a core feature 
of the financial integrity process for U.S. futures markets because, 
among other things, it prevents losses from building up beyond 1 day's 
risk.
    The current margin structure used by U.S. futures exchanges and 
their clearinghouses has consistently demonstrated that it adequately 
protects the financial integrity of transactions executed on regulated 
markets. Indeed, no customer or other participant has ever lost money 
in the history of the Exchange as a result of a financial default by a 
clearing member.
    A number of Congressmen have questioned why futures margin amounts 
are not the same as securities margin amounts. Unlike margins for 
transactions in non-exempt securities, futures margin is not a down 
payment against the purchase price of the underlying product. An open 
position in a futures contract is not an asset and does not result in 
any ownership unless and until a market participant stands for delivery 
following termination of trading in the expiring contract month. 
Instead, futures margin represents a good faith deposit or performance 
bond to ensure that adequate funds are available in each customer's 
account to properly settle the trade when it is liquidated. These 
deposits are intended to cover the financial risk associated with 
maintaining a futures position by ensuring the financial integrity of 
transactions cleared by a futures clearinghouse.
    By contrast, securities margins are intended to cover the purchase 
price of the underlying stock and regulation allows the investor to 
borrow a percentage of that amount from his carrying firm. One short-
hand definition of securities margin is the amount of money an investor 
deposits with a broker when borrowing from the broker to buy 
securities. The remainder of the cost of the purchase would be financed 
by the broker. Because securities margin is collected only from the 
purchaser of the security, it should be noted that a seller would pay 
no margin in a securities trade, whereas a futures transaction that 
establishes a new position for buyer and seller would result in 
collecting margin from both parties.
    In addition, the settlement process for securities is notably 
longer than for futures. While futures transactions are processed and 
settled within a day of the transaction, securities trades historically 
take 3 business days for settlement. Beyond the fundamentally different 
purposes for futures and securities margins, the one-sided nature of 
securities margins, as well as the longer settlement period, may also 
account in part for differences in levels as between futures and 
securities margins.
    At NYMEX, margin levels are reviewed daily and are routinely 
adjusted in response to market volatility. Margin generally is 
collected to cover a 99 percent probability of a likely 1 day price 
move, based on an analysis of historical and implied data.
    Over the years, there have been proposals made to Congress to 
increase margins to artificial levels that have no relation to risk 
levels in order to deter participation in the market. For example, such 
proposals were made around the time that the CFTC was founded in 1974, 
as well as in the wake of the stock market crash in 1987. On each 
occasion, after weighing the prospect of controlling market behavior 
through margin levels, Congress ultimately rejected such proposals as 
ineffective and as bad public policy. Thus, the latest proposals to 
raise margin requirements to artificial levels are essentially 
recycling theories that have been repeatedly disproven and rejected by 
Congress in the past.
    Nonetheless, those who would push for artificially higher margin 
levels now are proposing solutions that are apparently premised on 
three assumptions: (1) that speculators are the primary driver of 
prices in futures markets, (2) that higher margin levels will drive out 
speculators; and (3) that higher margins will result in lower prices. 
Each of these assumptions reflects a fundamental misunderstanding of 
futures markets and market participants.
    The NYMEX Research Department has conducted extensive analysis of 
WTI futures market data and found no support for an assumption that 
speculators are pushing prices higher. Data analysis indicates that the 
percentage of open interest in NYMEX Crude Oil futures held by 
noncommercial participants (i.e., so-called speculators) relative to 
commercial participants actually decreased over the last year, even at 
the same time that prices were increasing. Noncommercial longs and 
shorts consistently have been in the range of 30&35% of the open 
interest. Moreover, noncommercial participants are not providing 
disproportionate pressure on the long or buy side of the crude oil 
futures market. Instead, noncommercials are relatively balanced between 
open long (buy) and short (sell) open positions for NYMEX crude oil 
futures. The attached chart indicates the percentage of open interest 
in the NYMEX Crude Oil futures contract held by noncommercial longs and 
shorts relative to that held by commercial longs and shorts. As can be 
seen, during the last year, commercial longs and shorts have 
consistently comprised between 65 and 70% of all open interest.
    Moreover, on a macro level, speculators are not in a position to be 
the drivers as to where prices are established in our markets. The 
crude oil futures contract is a physically delivered contract for a 
commodity for which OTC and cash markets exist that are each 
approximately 8&10 times the size of the futures market. There is and 
can be no credible argument among serious economists and academics who 
study futures markets that futures prices are driven by developments in 
the physical market and not vice versa.
     NYMEX does not believe that raising margin levels is the 
appropriate tool for dampening speculation. The Commodity Exchange Act 
specifically directs the CFTC to utilize speculative position limits to 
control excessive speculation in futures markets. NYMEX has raised 
margin rates for its crude oil futures contract seven times since the 
beginning of the year to reflect the increased credit risk from greater 
price volatility in energy markets.
    The base rate that NYMEX charges clearing member firms has risen 
from $4,500 to $9,250, a 106% increase. Clearing members then collect 
an even higher margin rate for member customers and a still higher 
margin rate for non-member customers. The margin required to be posted 
with such clearing members by non-member customers has increased from 
$6,075 to $12,488, also a 106% increase. The rates were adjusted by 
Exchange staff in direct response to the contract's increased 
volatility.
    Margin levels have increased substantially in response to increased 
market volatility. Year to date, the settlement price of spot month 
crude oil futures has risen from $99.62 to $140.93 (as of July 2, 
2008), a 41% increase. This upward trend continued in spite of crude 
oil margin being raised seven different times for a total of a 106% 
increase. As such, the available data does not support the assertion 
that increasing margins will lower prices.
    Exchange staff has examined trends in margin levels at the Exchange 
going back to early 2000. The data clearly indicate that higher margin 
levels lead rather than follow increases in the price of crude oil 
futures products. In other words, when Exchange staff, in exercising 
their independent and neutral business judgment, determined to increase 
margin levels in response to changes in crude oil volatility levels, 
the higher margin levels were followed not by lower prices but instead 
by yet higher crude prices.
    Although higher margin levels do not result in lower prices, NYMEX 
has grave concerns that a rash public policy course of action that 
imposes new artificial margin levels will have a serious and perhaps 
irreversible impact on a core mission of futures exchanges, which is to 
provide reliable price discovery. By harming and deterring 
noncommercial participants who effectively serve as liquidity providers 
to commercial participants, artificial margin requirements will reduce 
the attractiveness of U.S. futures markets for commercial participants 
as compared to other alternatives. In addition, artificial margin 
levels will clearly result in a distortion of the price discovery 
mechanism of U.S. futures exchanges from their current robust levels. 
All other things being equal, commercial participants will have a 
strong incentive to shift their hedging activity to other markets that 
have less distortion of the price discovery mechanism.
    In a highly transparent, regulated and competitive market, prices 
are affected primarily by fundamental market forces. Currently, 
uncertainty in the global crude market regarding geopolitical issues, 
refinery shutdowns and increasing global usage, as well as devaluation 
of the U.S. dollar, are now relevant market fundamentals. Adjusting 
margin levels significantly upward will not change the underlying 
market fundamentals, and thus, will not affect price levels. Moreover, 
by artificially increasing speculative margin levels, it is possible 
that speculators with short positions may be forced to liquidate their 
positions, putting even greater upside pressure on the market. 
Furthermore, given the reality of global competition in energy 
derivatives, increasing crude oil margins on futures markets regulated 
by the CFTC inevitably will force trading volume away from regulated 
and transparent U.S. exchanges into the unlit corners of unregulated 
venues and onto less regulated and more opaque overseas markets.
    As discussed above, increasing margins will not provide the 
promised solution of ultimately reducing crude oil prices on regulated 
futures exchanges. However, this action will have a number of 
unintended but severe consequences that will harm the regulated 
markets. Beyond the distortion of the financial risk management 
process, imposing artificially higher margins would result in:

   A cash and liquidity crisis for many market participants;

   A decrease in liquidity and an associated increase in price 
        volatility;

   A possible increase in intra-day trading to avoid overnight 
        margin requirements, resulting in heightening the impact of 
        short-term price changes, further accelerating price 
        volatility;

   An increase in hedging and other transaction costs for 
        commercials trading on the regulated U.S. exchanges; and

   A shift of business either to less regulated and transparent 
        overseas markets or to unregulated and non-transparent OTC 
        venues in the U.S.

    For these reasons, NYMEX believes that Congress should consider the 
real and perhaps irreparable harm that would result to regulated U.S. 
futures exchanges from this ill-considered proposal.
Hedge Exemptions/Speculative Position Limits
    NYMEX has numerous surveillance tools, which are used routinely to 
ensure fair and orderly trading on our markets. Monitoring the 
positions of large traders in our market is a critical component to our 
market surveillance program. Large trader data are reviewed daily to 
monitor reportable positions in the market. On a daily basis NYMEX 
collects the identities of all participants who maintain open positions 
that exceed set reporting levels as of the close of business the prior 
day. Generally NYMEX identifies in excess of 85% of all open positions 
through this process. These data, among other things, are used to 
identify position concentrations requiring further review and focus by 
Exchange staff. Any questionable market activity results in an inquiry 
or formal investigation.
    Speculative activity on futures exchanges is managed by position 
limits. As stated in the CFTC's rules, position limits and 
accountability levels are required ``to diminish potential problems 
arising from excessively large speculative positions.'' These limits 
effectively restrict the size of a position that market participants 
can carry at one time and are set at a level that greatly restricts the 
opportunity to engage in possible manipulative activity on NYMEX. For 
the NYMEX WTI Crude Oil contract, the position limit during the last 3 
days of the expiring delivery month is 3000 contracts. Breaching the 
position limit can result in disciplinary action being taken by the 
Exchange.
    NYMEX also maintains a program that allows for certain market 
participants to apply for targeted hedge exemptions from the position 
limits in place on expiring contracts. Hedge exemptions are granted on 
a case-by-case basis following adequate demonstration of bona fide 
hedging activity involving the underlying physical cash commodity or 
involving related swap agreements. A company is not given an open-ended 
exemption, and the exemption does not allow unlimited positions. 
Instead, the extent of the hedge exemption is no more than what can be 
clearly documented in the company's active exposure (as defined by the 
CFTC) to the risk of price changes in the applicable product. In a 
number of instances, hedge applications are either reduced in number or 
are denied because of staff's overriding focus on maintaining the 
overall integrity of our markets.
Role of Swap Dealers
    Turning specifically to data relating to the activity of swap 
participants since October 2007 until early June 2008, these data 
provide a very different result than what is being publicly asserted by 
commentators who choose not to burden their arguments with the facts. 
This is a key finding; a closer analysis of such data, including data 
obtained from the CFTC, reveal that swap dealers participating in our 
markets were in fact holding overall net short (sell side) positions. 
In other words, unlike the public posturing of those who blindly assert 
that swap dealers are providing upward pressure on price, the simple 
reality is that, in the recent past, any price impact that may be 
attributable to their open positions has generally been to lower prices 
somewhat and not to raise them.
    We have seen various representations made relative to participation 
by speculators in our markets that directly contradict our data. One 
such representation claims that 70% of our crude oil market is made up 
of speculators. That analysis incorrectly assumes that all swap dealers 
are noncommercials and that all of their customers who would be on the 
opposite side of any energy swap that they might execute would also all 
be noncommercials. This is simply not the case. However, this confusion 
clearly highlights the need for the CFTC large trader data to delineate 
for energy futures the degree of participation by noncommercials in the 
same manner that such data are now being delineated for agricultural 
contracts.
    This potential gap in the large trader data compiled by the CFTC in 
its Commitment of Trader's Report complicates efforts to determine the 
extent of commercial and noncommercial activity of swap dealers. As a 
result, questions are being raised as to whether hedge exemptions for 
swap dealers are being used as a means of circumventing speculative 
position limits. At this time, due to the manner in which the data are 
reported, it is not clear whether this is true or not. In response to 
these queries, the CFTC announced its intent to develop a proposal that 
would routinely require more detailed information from index traders 
and swaps dealers in the futures markets, and to review whether 
classification of these types of traders can be improved for regulatory 
and reporting purposes. NYMEX is confident that these data will confirm 
that not all of the over-the-counter (OTC) energy swap activity 
undertaken by swap dealers involves noncommercial participants. In 
addition, NYMEX believes that these data will allow the CFTC to better 
assess the amount and impact of this type of trading on the markets.
    NYMEX is concerned about restrictions that could be imposed on swap 
dealers that could limit the ability of commercial participants to 
execute strategies to meet their hedging needs. For example, commercial 
participants often need to have customized OTC deals that can reflect 
their basis risk for particular shipments or deliveries. In addition, 
not all commercial participants have the sufficient size or 
sophistication to participate directly in active futures markets 
trading. Swap dealers assume that risk and lay it off in the futures 
market.
    Nevertheless, NYMEX would support a restriction on the ability of a 
swap dealer to obtain a hedge exemption from a position limit for 
activity that concerns OTC transactions involving noncommercial 
participants. This focused or targeted approach will address the 
concerns being raised in a thoughtful and deliberate manner and also 
will support and reinforce the underlying rationale for the maintenance 
of effective position limits on speculative activity.
Role of Index Funds
    Unfounded assertions have raised concerns about a perceived 
dramatic increase in the level of participation by pension funds and 
index fund participants in NYMEX's Crude Oil futures contract. As a 
result, legislative proposals to limit the participation of such 
entities in energy futures contracts are under consideration. While the 
arguments advancing such assertions are riddled with errors, one rather 
sophomoric error is particularly egregious and does not warrant 
uncritical acceptance.
    Specifically, some commentators with no obvious expertise in 
futures markets have estimated levels of investment in Index Funds (or 
structured instruments based on Indices). These estimates are, in part, 
derived from data on participation in certain agricultural commodity 
futures contracts and are wholly based on several assumptions including 
one that the agricultural components of the index investments are 
entirely hedged in related agricultural commodity futures contracts. 
The commentators then make the leap in logic that any market exposure 
related to investment in the index will always and automatically be 
hedged by establishing positions in futures contracts for each of the 
25 commodities comprising the index. It is possible this reflects 
current practice for some or perhaps most of the agricultural 
commodities.
    In 2000, Congress declined an opportunity to provide the same level 
of legal certainty to OTC swaps in agricultural products that are now 
available to swaps in financial and energy products. Consequently, by 
virtually all accounts, the market for agricultural OTC swaps is far 
less developed than for energy swaps. Indeed, the OTC energy market 
currently dwarfs the size of the regulated futures market for energy 
products. So, while it would be understandable that index positions in 
the agricultural commodities of an index would be hedged, at least at 
present, on the regulated futures exchange, the OTC venue is far more 
viable for energy products.
    Thus, it is inaccurate to assume that energy markets operate in the 
same manner as agricultural markets, and it is equally wrong to presume 
that the same practice for agricultural commodities automatically will 
carry over to index fund activity as it concerns energy futures. An 
index fund provider could hedge its position either by establishing a 
position in the related energy futures contract on a regulated exchange 
or by entering into a swap or other derivatives transaction in the OTC 
market.
    The actual structure of energy derivatives markets is also 
supported by recent statements by companies engaged in the index 
business. Donald Casturo, an executive at Goldman Sachs, recently noted 
that ``85% of this investment (Index investing) takes place on the OTC 
market.'' (CFTC Energy Markets Advisory Committee meeting, Washington, 
D.C., June 10, 2008). Rather than incur the cost of entering into 
transactions on regulated futures exchanges for each of the 25 
commodities comprising its index, companies such as Goldman Sachs find 
it more cost-effective to hedge their exposure, at least with respect 
to energy products, predominantly via one OTC swap transaction with 
another swap dealer.
    The consequence of this practice is that only a modest portion (at 
best) of increases in participation in the index contracts results in 
actual increases in activity in the NYMEX crude oil futures contract. 
Furthermore, no credible empirical evidence has connected participation 
in Index Funds with price impacts in the crude oil market. In fact, 
independent analyses performed by the CFTC over different time periods 
have indicated that participation by financial non-oil entities, even 
when their net-participation is on the ``long'' side in futures, has 
had no statistically significant impact. Thus, the sweeping and 
dramatic claims and assertions being made by those commentators new to 
the futures industry are not only wildly exaggerated; they are simply 
wrong.
    NYMEX does not believe that the case has been made to support a 
finding that institutional investors are contributing to the high price 
of crude oil; contrary assertions are founded upon false comparisons 
that can be swiftly dismissed. It would be premature to adopt a 
legislative solution for an unproven and unsubstantiated problem. NYMEX 
recommends requirements to provide additional transparency to enhance 
the ability to monitor these markets. This approach will avoid undue 
harm to investors and to the markets. Finally, NYMEX believes that 
prohibiting investment opportunities of institutional market 
participants would effectively substitute the judgment of Congress for 
the judgment of trained financial investment professionals. We urge 
Congress to move with deliberation and caution in this area.
Foreign Boards of Trade
    Over the last few years, new developments have occurred related to 
products offered by non-U.S. exchanges (also referred to as foreign 
boards of trade (FBOT)) to U.S. customers. FBOTs, which are permitted 
by CFTC staff to offer their products to U.S. customers pursuant to 
CFTC No Action letters, began listing futures contracts with U.S. 
delivery points among their product slates. Historically, under the 
CFTC staff's FBOT no-action process, such exchanges were permitted to 
offer direct electronic access to their markets to U.S. customers based 
on a determination by CFTC staff that the foreign regulatory regime 
governing the FBOT was ``comparable'' to that of the CFTC.
    Essentially, there is a system of mutual recognition among 
regulators around the world as a means to facilitate access to global 
markets. This approach worked effectively up until one FBOT listed the 
look-alike of the NYMEX West Texas Intermediate (WTI) Crude Oil Futures 
contract without the level of transparency and market surveillance 
controls, such as positions limits, that are provided by U.S. markets 
under direct CFTC regulation. It was not anticipated that the no-action 
process would be used in this manner. The current policy, which permits 
the FBOTs to list look-alikes of U.S. futures contract, has effectively 
diminished the transparency to the CFTC of approximately \1/3\ of the 
WTI crude oil market, and permitted an easy avenue to circumvent 
position limits designed to prevent excessive speculation.
    Two years ago, NYMEX cautioned that allowing a foreign exchange to 
list a futures contract virtually identical to a contract traded on a 
U.S. futures exchange without comparable regulations, such as position 
limits, could be a slippery slope. We argued that the wrong policy 
decision could threaten the CFTC's jurisdiction over an important price 
discovery contract. At that time, the CFTC had jurisdiction over 100 
percent of the WTI crude oil futures markets; today, it has 
jurisdiction over approximately 60 percent of the WTI crude oil market.
    In our recent experience, ``regulatory arbitrage'' is not a 
hypothetical concern, but is a reality for certain NYMEX listed 
products. Customers are making choices among the same or similar 
products on the basis of differences in regulatory treatment rather 
than on the basis of intrinsic distinctions in the products. For 
example, customers can carry WTI positions above the position limits 
for WTI contracts established on NYMEX by shifting their business to 
ICE Futures Europe where position limits are not mandated by its London 
regulator, the Financial Services Authority. Thus, regulatory arbitrage 
potentially diminishes the breadth and depth of the CFTC's regulatory 
authority and, consequently, reduces much needed market transparency. 
Complete transparency to the CFTC should be a fundamental requirement 
for markets that are linked.
    Various legislative proposals have been introduced to address FBOTs 
that list energy contracts that are based on commodities delivered in 
the U.S. or are otherwise linked to contracts traded on U.S. futures 
exchanges. NYMEX would support proposals that would require a 
comparable regulatory scheme for FBOTs that list look-alikes of U.S. 
futures exchange contracts or contracts that are otherwise linked to 
U.S. contracts. Comparable requirements should include position limits/
accountability levels, large trader reporting and emergency authority. 
Overall, we have argued that FBOTs offering linked products should be 
required by the CFTC to provide the same level and quality of data and 
with the same frequency that U.S. exchanges provide daily to the CFTC. 
NYMEX believes that this targeted approach will effectively address the 
regulatory gap that currently impedes the CFTC's ability to monitor the 
entire U.S. WTI crude oil futures contract.
    NYMEX would not support other more expansive proposals that call 
for full registration by FBOTs offering U.S.-delivered or linked 
contracts. U.S. exchanges, including NYMEX, have placed trading screens 
in a number of foreign countries around the world to offer our products 
to foreign customers. There is considerable risk of retaliation by 
those countries, including a similar registration requirement in each 
foreign location where we are offering our products. Such a result 
would impede significantly the global competitiveness of U.S. markets.
    The CFTC recently announced several initiatives to address the 
growing concerns about an FBOT trading the U.S. benchmark WTI contract. 
It has reached an agreement with the FSA and ICE Futures Europe to 
receive enhanced data to allow the CFTC to see both U.S. participants 
in the London markets and foreign traders that it would not normally 
oversee. In addition, the CFTC announced that it would revise its FBOT 
policy and require ICE Futures Europe to establish comparable position 
limits and accountability levels on its crude oil contracts that are 
linked to NYMEX crude oil contracts.
    This would be a positive step and would provide an effective 
mechanism to restrict speculative activity in those markets. This is 
particularly important when the contract trading on the FBOT is the WTI 
crude oil contract, which is a benchmark for crude oil pricing, and 
which can have a substantial impact on U.S. consumers and the U.S. 
economy. Indeed, we would support the imposition of position limits 
even for listed contracts that are financially settled. We applaud the 
CFTC's recent initiatives.
    NYMEX continues to believe that the CFTC's no-action process for 
offering foreign products to U.S. customers is an important vehicle for 
global competitiveness of U.S. markets. Approximately 1 year ago, a new 
futures exchange, the Dubai Mercantile Exchange (DME), commenced 
operations in Dubai. NYMEX is a founder and has an ownership share in 
this venture and provides clearing services for the new exchange. The 
core or flagship crude oil futures contract is an Oman Sour Crude Oil 
futures contract. The DME initiative provides competition and greater 
transparency to crude oil trading in a critically important energy 
region.
    Although the DME does not yet list a WTI financial futures 
contract, the DME has received a No Action letter from the CFTC staff 
for this contract. The DME is currently finalizing a launch date for 
that contract. It is our understanding that, when a launch date is 
finalized on the DME WTI contract, DME will implement hard position 
limits that are comparable to NYMEX's own limits on our WTI crude oil 
futures contract. Also, as part of the NYMEX Clearing Order, large 
trader reporting to both the CFTC and NYMEX is required.
    In a more recent initiative, NYMEX has entered into an alliance 
with a London-based clearinghouse, LCH.Clearnet Limited (LCH), under 
which LCH will provide clearing services for two new product slates to 
be launched later this summer either by NYMEX or by a NYMEX affiliate. 
These new product slates are intended to provide greater competition to 
other energy trading facilities that are active in this energy space. 
One product slate, focusing upon natural gas and electricity contracts, 
will be listed by a division of NYMEX in the exempt commercial market 
tier. Applicable products in this category will comply fully with the 
requirements for significant price discovery contracts contained in the 
recently implemented CEA reauthorization farm bill.
    The other product slate, focusing upon crude and crude products, 
will be listed for trading by a NYMEX affiliate based in London that 
will be regulated by the FSA. That affiliate will follow the path of 
other exchanges regulated by other regulators and will apply for CFTC 
no-action relief. Notably, the affiliate will provide large trader 
reporting to the CFTC and also will impose hard position limits on any 
listed contracts with U.S. delivery points.
CFTC Resources
    The landmark Commodity Futures Modernization Act of 2000 (CFMA) 
ushered in a period of phenomenal growth in U.S. derivatives markets. 
The industry growth, however, has not been matched by increased 
resources needed for the CFTC to oversee those markets effectively. We 
believe that a compelling case has been made for immediate increases in 
the size of the CFTC's operating budget. My own views on the need for 
remedying this mismatch between duties and resources stem in part from 
my service as Chairman of the CFTC from 2002&2004 during the period 
when we were continuing to implement the provisions of the CFMA. As 
anticipated, that law brought new competition and enhanced innovation 
in derivatives markets, which contributed to the explosion in trading 
volume. It is imperative that the CFTC have all of the tools that it 
needs to carry out fully its obligation to maintain the integrity of 
U.S. futures markets.
Conclusion
    Complete transparency is fundamental for competitive markets. The 
same level of transparency and position size controls present on 
regulated U.S. futures markets should be the standard for foreign 
markets offering products with U.S. delivery points and for OTC 
contracts that serve a price discovery function. Additionally, NYMEX 
believes that disaggregation and delineation of positions held by swap 
dealers is necessary. This will provide important information to 
determine whether speculative position limits are being avoided by 
index funds and other institution investors and whether their activity 
is influencing market prices. However, a case has not been made for 
excluding institutional investors from participation in derivatives 
markets, nor for eliminating hedge exemptions for swap dealers to the 
extent the exemptions cover risks related to commercial activity.
    Many factors are contributing to high energy prices. NYMEX 
continues to believe that market fundamentals are a significant factor 
that must not be discounted in this debate. Increasing margins to 
dampen speculative activity will not change the fundamentals and will 
inevitably drive business away from the highly regulated, transparent 
marketplace. This will do more harm than good.
     I thank you for the opportunity to share the viewpoint of the New 
York Mercantile Exchange with you today. I will be happy to answer any 
questions that any Members of the Committee may have.
                               Attachment


     Thank you, Mr. Newsome. And next we have Christine Cochran. I 
   appreciate you being with the Committee.STATEMENT OF CHRISTINE M. 
    COCHRAN, VICE PRESIDENT, GOVERNMENT RELATIONS, COMMODITY MARKETS
                       COUNCIL, WASHINGTON, D.C.

    Ms. Cochran. Thank you, and good afternoon, Chairman Peterson and 
Members of the Committee.
    The Chairman. Your mic is not on, I don't think.
    Ms. Cochran. Thank you. Chairman Peterson, Members of the 
Committee, good afternoon. My name is Christine Cochran, and I am the 
Vice President of Government Relations for the Commodity Markets 
Council. I would like to thank you for hosting this series of hearings, 
as well as inviting us to participate.
    CMC is a trade association that represents commodities futures 
exchanges and exchange participants. Our membership includes the 
complete spectrum of commercial users of the agricultural and energy 
futures markets. I would like to emphasize that the businesses of all 
of our industry members depend upon the efficient and competitive 
functioning of the risk management tools traded on U.S. futures 
exchanges.
    CMC strongly supports your efforts and those of the Commodity 
Futures Trading Commission to seek greater visibility into the 
commodity markets, especially in the energy markets. We believe this 
visibility will lead to improved market transparency and is the first 
step to maintaining responsible commodity markets.
    CMC has confidence in the CFTC's ability to gather and analyze this 
data. For example, in 2006, we led the industry effort and worked with 
the CFTC to increase transparency on the index traders in the grain 
markets through the Commitment of Traders Supplemental report. Based on 
data collected by the CFTC, the Commission has created a report that is 
already one of the grain industry's most essential tools for analyzing 
markets. We believe that applying this same principle to other 
commodity markets will significantly benefit market regulators, 
traditional market users, as well as the general public.
    In the last decade, futures markets, especially in the enumerated 
agricultural commodities, have grown immensely because of the relevance 
of their product to the commercial hedging, financial hedging and 
general international and trading communities. This includes hedge 
funds, index funds and institutional investors. The increase in volume 
has boosted liquidity, aided in price discovery and enhanced market 
efficiency for all market participants.
    CMC views the investment activity of institutional investors and 
index funds as legitimate financial hedging, but we recognize that it 
is passive in nature and not responsive to price levels. Some believe 
that this activity is the reason for current price levels. However, 
based on the data available to us at this time, CMC does not believe 
that that is the case and therefore we cannot support proposals that 
would ban any group of legitimate investors from participating in 
commodity markets. Instead we believe that additional reporting could 
allow the CFTC to identify possible manipulative behavior. It could 
also help market participants better understand the role of these 
investors in the market.
    We encourage you to also weigh the possibility that banning or 
severely restricting this type of participant will not accomplish the 
intended purpose. The money is not going to disappear. Instead it may 
move offshore and take with it valuable market liquidity, or it could 
move into other markets and take with it valuable transparency.
    CMC supports the CFTC's recent decision to take a go-slow approach 
in expanding exemptions for this new class of investor. This decision 
will allow the Commission and market users more time to thoroughly 
evaluate the impact this passively invested money may have on commodity 
markets. Futures markets today reflect global economic trends, not 
speculative buying power. Based on the information that we have 
currently available, CMC believes speculative activity in the futures 
market may influence day-to-day prices as it always has, but it is the 
fundamental forces of supply and demand that create and sustain the 
price levels we see today.
    To address the concerns surrounding the new investor in the 
commodity markets, CMC has two policy recommendations. One, we believe 
the Commission should continue to monitor index funds and be prepared 
if necessary to examine the structure of the hedge exemption granted to 
such funds. And two, we recommend that the CFTC initiate a study of the 
trend towards alpha or enhanced return trading by index and hedge funds 
because this type of investment is price responsive and not passively 
managed. We believe it is speculative in nature and should be reported 
as such on the supplemental report.
    CMC also supports the efforts of the Commission to gather more 
information regarding swap transactions and would support greater 
transparency of such transactions. However, we also believe that swaps 
contracts provide a legitimate and important commercial service. A 
swaps contract is between two private parties. So it can provide a 
highly customized service that cannot be obtained in an on-exchange 
contract.
    In conclusion, CMC believes that the commodity industry is in a 
volatile period due to supply and demand fundamentals reaching new 
thresholds. Our system of open and competitive markets, coupled with 
proper government oversight, has positioned our market participants to 
read, understand and respond to market signals efficiently. Before any 
drastic changes are considered, we strongly urge you to seek additional 
transparency and evaluation and have great confidence in the CFTC's 
ability to provide that. More information will help regulators, 
traditional market participants and the general public understand the 
impact this new class of investor is having on the market.
    Mr. Chairman, we compliment you and the Committee's efforts and we 
look forward to working with you and answering any questions that you 
may have.
    Thank you.
    [The prepared statement of Ms. Cochran follows:]

Prepared Statement of Christine M. Cochran, Vice President, Government 
         Relations, Commodity Markets Council, Washington, D.C.
    Mr. Chairman and Members of the Committee:

    Good morning. My name is Christine Cochran and I am the Vice 
President of Government Relations for the Commodity Markets Council 
(CMC).
    Mr. Chairman and Ranking Member Goodlatte, the issues you plan to 
address in this series of hearings are very important to the industry I 
represent. I would like to thank you for hosting them and for inviting 
CMC to participate.
    CMC is a trade association that represents commodity futures 
exchanges, regional boards of trade, and numerous industry counterparts 
in the agriculture and energy businesses, including domestic and 
multinational commodity merchandisers, processors, millers, refiners, 
commercial and merchant energy companies, precious and base metal 
trading firms, and bioenergy producers; U.S. and internationally-based 
futures commission merchants; food and beverage manufacturers; major 
transportation companies; and financial institutions.
    Representing the complete spectrum of commercial uses of the 
agricultural and energy futures markets, the activities of our members 
range from grain and energy hedging by local country grain elevators to 
highly sophisticated, high-volume hedging activities supporting 
domestic and international grain and other agricultural product 
merchandising, exporting, and processing operations. The businesses of 
all our non-exchange member firms depend upon the efficient and 
competitive functioning of the risk management products traded on U.S. 
futures exchanges.
    The passage of the Commodity Futures Modernization Act of 2000 
(CFMA) shifted the regulatory philosophy from prescriptive regulations 
to core principles. This shift explicitly recognized the success of the 
self-regulatory organization (SRO) model and entrusted U.S. exchanges 
with broad authority to offer products and services to expand their 
businesses, attract customers, and compete domestically and globally. 
Since that time, U.S. futures exchanges have grown rapidly and the 
community of exchange users have benefited tremendously. U.S. capital 
markets are also an important beneficiary of this dynamic growth. The 
success of the U.S. futures business has helped sustain the U.S. as the 
centerpiece of global risk management.
    Before adopting any new proposals, CMC strongly encourages you to 
consider increasing market transparency. Greater transparency, we 
believe, is the first step to maintaining responsible commodity 
markets. It will provide more accurate and useful information about all 
classes of market participants. In 2005&2006, CMC led the industry 
effort to increase transparency on index traders in the grain markets 
through the Commitment of Traders (COT) Supplemental Report, which is 
already one of the grain industry's most essential tools for analyzing 
markets. We believe that applying the same principle to other commodity 
markets will significantly benefit the market regulators, traditional 
market users, and the general public.
    The businesses of all CMC members depend on market integrity and we 
strongly support the Commodity Futures Trading Commission's (CFTC or 
Commission) efforts to investigate and prosecute market manipulation. 
Ferreting out market participants that attempt to inappropriately 
influence the market is critical to protecting customers and keeping 
the trust of the trading public. Simultaneously, we need to ensure that 
U.S. markets continue to serve as global benchmarks and continue to 
provide efficient price discovery.
    As you evaluate the complicated issues before you, CMC encourages 
you to continue to follow the directions set by the core principles of 
the CFMA.
Institutional Investors and Hedge Funds in Commodity Markets
    CMC views the investment activity of institutional investors and 
index funds as legitimate ``financial hedging,'' but we recognize that 
it is passive in nature and not responsive to price levels or supply 
and demand fundamentals. In 2005 and 2006, CMC worked closely with the 
Commissioners and staff of the Commodity Futures Trading Commission 
(CFTC) to deepen the industry understanding of the nature of index fund 
activity in futures markets. The result of this collaborative effort 
was the CFTC's release of a new Commitment of Traders (COT) 
Supplemental report showing index fund financial hedges as a separate 
and distinct category.
    We believe the COT Supplemental Report provides greater 
transparency in the grain market about the size and behavior of such 
investors. Despite being a relatively young report, it is already one 
of the industry's most essential tools for analyzing markets.
    Some believe that the activities of large institutional investors 
in futures markets are the reason for current price levels; however, 
based on the information currently available, CMC does not believe that 
this is the case. As an advocate for open competitive markets, we do 
not support drastic proposals that ban any group of legitimate 
investors from participating in commodity markets. At the same time, 
CMC wants to emphasize that we in no way support or condone 
manipulative behavior. With the information currently available to us, 
CMC does not believe that pension funds or large institutional 
investors are having a significant impact on commodity prices; however, 
we strongly support increasing transparency. Additional transparency 
would allow the CFTC to identify possible manipulative behavior, and it 
would help market participants better understand the role these 
investors may play in the market.
    CMC also encourages you to weigh the possibility that banning or 
severely restricting this type of participant will not accomplish the 
intended purpose. The money will not disappear; instead, it may move 
offshore and take with it valuable market liquidity. It is important to 
be informed, thoughtful, and prudent as we evaluate restrictions on a 
class of market participants.
    The CFTC recently indicated that it will take a ``go-slow'' 
approach in expanding exemptions for this new class of investors. CMC 
supports this regulatory approach because it will allow the Commission 
and market users more time to thoroughly evaluate the potential this 
passively invested money may have on commodity markets. The additional 
transparency that we are calling for would provide the tools necessary 
for market participants to evaluate the impact of this new class of 
investor.
    Equally important is the distinction between passive investment and 
price-responsive investment. Typically index funds and institutional 
investors engage in passive investments. They take a position and hold 
it until a determined time. They do not change their position based on 
market movements. Meanwhile, hedge funds tend to be more responsive to 
market signals and act as a traditional fundamental trader. As such, 
hedge funds are subject to position limits which are appropriate.
    In the last decade, futures markets, especially in the enumerated 
agricultural commodities, have grown immensely because of the relevance 
of their products to the commercial hedging, financial hedging, and 
general international and domestic trading communities--including hedge 
funds, index funds, and institutional investors. This increase in 
volume boosts liquidity, aids in price discovery, and enhances market 
efficiency for all market participants.
    Futures markets today reflect global economics and trends, not 
speculative buying power. Based on the information currently available 
to us, CMC believes speculative activity in futures markets may 
influence day-to-day prices, as it always has. On the other hand, it is 
the fundamental forces of supply and demand that creates and sustains 
the price levels we see in the markets.
Policy Recommendations To Consider
    To address the concerns surrounding this new investor in commodity 
markets, CMC recommends:

    1. Monitor Index Fund Positions. To maintain competitive markets, 
        exchanges and the CFTC should continue to monitor index fund 
        participation and be prepared, if necessary, to examine the 
        structure of the hedge exemptions granted to the funds.

    In the agriculture futures markets, volume grew immensely in the 
        last decade and the increased liquidity benefited all market 
        participants. Fund investment contributed to this prosperity, 
        and CMC believes that the CFTC and lawmakers should move slowly 
        when adopting measures that will discourage such participation 
        in the markets.

    2. CFTC Study Of Alpha Trading. CMC also recommends that the CFTC 
        initiate a study of the trend toward ``alpha'' or ``enhanced 
        return'' trading by index and hedge funds. Because this type of 
        investment is price-responsive and not passively managed, CMC 
        believes it is speculative in nature and should be reported as 
        such on the CFTC COT Supplemental Report.

    3. Continued Product Innovation. As the markets evolve and learn to 
        adapt to the changing supply and demand dynamics, CMC would 
        support legislation and regulations that allow exchanges to 
        continue to innovate and create new products to manage risks.
CMC Grain Futures Performance Task Force
    With unprecedented challenges facing the U.S. grain markets, CMC 
brought together exchanges and exchange-users to discuss futures market 
performance. The Task Force reviewed many market-related issues with 
the participants and the role of institutional investors and hedge 
funds was a significant point of discussion.
    The overriding concern expressed by participants is the financial 
impact of high commodity prices and increased price volatility--not 
futures market performance. Most market participants agree that current 
supply and demand fundamentals support high commodity prices. They do 
not believe that institutional investors or hedge funds are pushing 
price levels higher. Specifically, participants identified the 
following as the primary reasons for current price levels:

    1. Strong economic growth in developing countries such as China and 
        India resulting in increased demand for commodities.

    2. Increased demand for commodities used for biofuel production and 
        government mandates on biofuel use that result in inelastic 
        demand for grains and vegetable oils.

    3. Reduced yields in major producing regions due to weather events 
        that are resulting in historically low world grain stocks-to-
        use ratios.

    4. Export restrictions imposed by other nations.

    5. A weakening U.S. dollar.

    At the same time, the increased pressure in the credit markets is 
increasing the need for consistent convergence.
    Consistent convergence was the primary topic regarding technical 
futures market performance. While most participants agree that basis 
weakens in high price environments relative to more normal market 
conditions as grain and oilseed handlers' increased risk is 
incorporated in lower cash grain bids, participants still expect 
consistent basis strengthening as futures markets approach expiration. 
Some Task Force participants have disagreed on why convergence has been 
inconsistent--citing either insufficient storage charges on futures 
market receipts and certificates; index fund and/or speculative 
activity in the market; or the multitude of external shocks hitting the 
market. Most of those interviewed by the Task Force urged Exchanges to 
not make drastic changes until the markets adjust to this new operating 
environment.
    The panel discussed a number of proposals that might improve 
convergence, but no broad consensus emerged from the process. 
Nonetheless, the largest number of participants generally supported 
increasing storage rates. Participants also supported seeking CFTC 
approval to clear OTC grain swaps.
The Role of Swaps in Commodity Markets
    CMC supports the efforts of the Commission to gather more 
information regarding swaps transactions and would support greater 
transparency of such transactions. However, we also believe that swaps 
contracts provide a legitimate and important commercial service.
    A swaps contract is between two private parties, so it can provide 
a highly customized service that cannot be obtained in on-exchange 
contracts. For example, a commercial company may seek to secure a 
hedging position that extends over a 5 year period, but on-exchange 
futures contracts are not available that far out. In the over-the-
counter market, the company can enter into a swaps agreement with 
another willing party for the desired terms. This arrangement meets the 
hedging needs of the commercial company seeking the position. It also 
creates risk exposure for the counterparty, which is often managed over 
time on-exchange.
Aggregating Speculative Position Limits
    Aggregating speculative position limits could cause serious harm 
for existing markets by grouping contracts that serve distinct purposes 
and by severing liquidity between markets.
    It is critical that any policy seeking to aggregate speculative 
position limits accounts for the difference between existing contracts. 
Wheat is traded on the Chicago Board of Trade, Kansas City Board of 
Trade, and Minneapolis Grain Exchange; however, each wheat contract is 
distinct and provides a unique risk management solution. For example, a 
company hedging soft red winter wheat flour on the Chicago Board of 
Trade is hedging ingredients in pastries, cakes, and pie-crusts, while 
a company hedging hard red spring wheat flour on the Minneapolis Grain 
Exchange is hedging ingredients in bread.
    Another possible consequence from aggregating speculative position 
limits is the division of the liquidity that currently exists between 
exchanges. If position limits in similar contracts are aggregated and 
subjected to existing speculative position limits, then firms, 
including commercial firms, may be forced to either reduce their 
positions in each individual market or move their positions to one 
market. This shifting of positions could severely reduce liquidity on 
existing exchanges and negatively impact all market participants.
    Some proposals currently being consider would apply aggregate 
speculative position limits for on-exchange products and OTC products. 
Given the customized nature of over-the-counter commodity contracts, 
our members, who are active in both markets, we would appreciate 
caution when examining such a proposal.
Margin Requirements
    With commodity prices moving higher and higher, CMC shares the 
concerns of many lawmakers, but we remain confident in the ability of 
CFTC professional staff to monitor and evaluate trading in all 
commodity markets, as well as their conclusions about the impact of 
speculation on prices in those markets.
    CMC is concerned about calls to require the CFTC to set 
substantially higher margin levels in the energy markets. It appears 
the intent of such proposals would be to lower prices; however, we 
believe that increased margin requirements could force many market 
participants off-exchange and into less transparent markets.
    A margin payment, also called a performance bond, is the amount of 
money or collateral deposited by either a customer with a broker, a 
broker with a clearing member, or a clearing member with a clearing 
organization. A margin payment does not serve as a partial payment on a 
purchase, but rather serves to manage counter-party risk and ensure the 
financial integrity of the markets. Raising margin requirements will 
not reduce volatility or manage prices. It will increase the cost of 
futures transactions and potentially push liquidity from the regulated 
exchange marketplace.
    In conclusion, CMC believes the commodity industry is in a volatile 
period due to supply and demand fundamentals experiencing new 
thresholds. Our system of open and competitive markets coupled with 
proper government oversight positions market participants to read, 
understand, and respond to market signals efficiently. Before any 
drastic changes are considered, we strongly urge you seek additional 
transparency and evaluation. More information will help regulators, 
traditional market participants, and the general public understand the 
impact this new class of investor is having on the market.
    Mr. Chairman, we compliment you and Mr. Goodlatte for your efforts 
and we look forward to working with you. Thank you.

    The Chairman. Thank you, Ms. Cochran. Mr. Nicosia. Am I 
right about that?
    Mr. Nicosia. Nicosia.
    The Chairman. I apologize.
    Mr. Nicosia. That is okay.

  STATEMENT OF JOSEPH T. NICOSIA, PRESIDENT, AMERICAN COTTON 
              SHIPPERS ASSOCIATION; CEO, ALLENBERG
                    COTTON CO., CORDOVA, TN

    Mr. Nicosia. Chairman Peterson and Members of the 
Committee, I am Joe Nicosia of Memphis, Tennessee. And I appear 
today in my capacity as President to the American Cotton 
Shippers Association. Accompanying me today is the Executive 
Vice President and General Counsel, Neal Gillen.
    I am the CEO of Allenberg Cotton Company and a member of 
the Executive Committee of the Louis Dreyfus Corporation. I 
oversee the worldwide trading of cotton and also trade grains, 
oilseeds, livestock, currencies and energy.
    My prepared testimony reviews the recent changes made by 
the ICE exchange in the cotton contract and the recent action 
by CFTC. The ICE has agreed to take our recommended changes to 
margin futures-to-futures settlements and options-to-options 
settlements. It has also agreed to the industry's proposal 
regarding the expansion of trading limits.
    While the CFTC has focused primarily on the monitoring of 
energy markets, it has launched a comprehensive investigation 
into the February and March trading in the cotton futures 
contract. It has also developed a proposal to require more 
detailed reporting from index traders and swap dealers and to 
review whether classification of these types of traders can be 
improved for regulatory and reporting purposes.
    I would add that it was not possible for the Commission to 
effectively regulate the futures market because it had never 
used its authority to request such information. The lesson here 
is that lacking the appropriate information, the markets cannot 
be properly monitored.
    More importantly, CFTC has agreed to review the trading 
practices for index traders to ensure that this type of trading 
activity is not adversely impacting the price discovery process 
and to determine whether different practices should be 
employed.
    Mr. Chairman, this is the crux of the matter. Different 
regulatory practices must be employed, and let me explain why. 
From December to late February, the net long position in cotton 
futures contracts of the noncommercial and index traders rose 
by 9.5 million bales. At its peak during the last week of 
February, the position reached 21\1/2\ million bales compared 
to the entire U.S. crop of only 19.2 million bales, effectively 
cornering the market. This huge position in cotton futures 
contract had nothing to do with ownership of the physical bales 
of cotton. And more importantly, in the 2 week period leading 
up to the explosion in cotton prices, the passive index funds 
increased their position by 16 percent and then reduced their 
position by 10 percent the following week after the price 
explosion. Their activity was anything but passive.
    The current practices of providing a hedge exemption to 
index funds is flawed, inconsistent with hedge requirements, 
and leads to disruptive and divergent price action in both the 
cash and futures prices. A traditional hedger can only trade 
futures in excess of his speculative position limit to the 
extent that he has valid cash sales or purchases of production 
or consumption needs. If a hedger desires to have a position in 
excess of these limits simply because it has more money put to 
use or desires additional price exposure, that hedger will be 
denied such right. And yet an index fund is granted that right 
solely based on the fact that it has more money seeking price 
exposure.
    In addition, since an index fund with a hedge exemption is 
not required to act with an economic purpose in regard to the 
cash market, it is allowed to continue to purchase futures 
levels that are not justified by the cash market. This causes a 
breakdown in the traditional cash futures relationship and 
impedes the proper convergence of price between the cash and 
futures.
    Normally this would provide a profit opportunity for the 
hedger. However, the size of the index fund position is so 
massive, and we have data that we can share with you, that 
those positions are so massive that it overwhelms the 
industry's capacity to arbitrage the divergence; and thus 
convergence cannot take place. Therefore, by requiring an index 
fund to adhere to the same requirements as a traditional hedger 
would greatly enhance convergence as well as provide capital to 
the cash markets.
    As I stressed in our prepared statement, the CFTC needs to 
aggregate all positions and market exposures to determine an 
entity's total position. If I, as a commercial hedger, must 
report full information, then so too should other trading 
entities. It is not only logical, it is equitable, but the CFTC 
and the trading public should also have this information so as 
to make sound regulatory and trading decisions.
    Another obvious reason that index funds can be used to 
circumvent, is that they can be used to circumvent speculative 
position limits. Index funds are able to take large investments 
from any one entity with a total disregard as to whether that 
investor measured as an individual may be over his speculative 
position limits. If an entity wants to exceed its position 
limits, it simply invests additional money into an index fund 
or swap and completely circumvents the CFTC regulation.
    While we are pleased that the CFTC has placed a moratorium 
on granting further hedge exemptions to the so-called passive 
investment funds, action must be taken to strike a balance 
between those funds that are currently operating under a hedge 
exemption. We submit that CFTC should take immediate action to 
require that an index fund with a hedge exemption restrict its 
position to a commodity in the commodity to the dollar 
allocation, or to the percentage of funds allocated to that 
commodity as defined in the fund's prospectus.
    We also recommend that the CFTC monitor and oversee all 
swap and OTC activity by requiring the reporting of all swap 
and OTC contracts by market participants and that the CFTC 
determine the aggregation of those positions from all sources, 
including exchanges, ETFs, swaps, index investments, OTC and 
other trading entities.
    We also recommend that the CFTC require all nontraditional 
hedge accounts, those not involved in the commercial enterprise 
of physical trading of bales, to be reported as a separate 
individual category.
    In our view, these requirements would provide the CFTC and 
the trading public with the necessary information on which to 
make sound regulatory and market decisions. It will hopefully 
attenuate the current situation in which these essential 
markets have become investment vehicles for speculative funds 
who act unimpeded by market fundamentals or regulation.
    Again, Mr. Chairman, thank you for providing us the 
opportunity to participate in these important hearings and for 
your attention to our concerns. Hopefully your legislative 
findings and recommendations will result in full market 
transparency, revealing the necessary data that will allow the 
CFTC to know firsthand what is taking place in the markets so 
they can make sound regulatory decisions.
    Thank you.
    [The prepared statement of Mr. Nicosia follows:]

  Prepared Statement of Joseph T. Nicosia, President, American Cotton 
      Shippers Association; CEO, Allenberg Cotton Co., Cordova, TN
    Chairman Peterson, Ranking Member Goodlatte, and Members of the 
Committee, I am Joseph T. Nicosia, of Memphis, Tennessee. I appear 
today in my capacity as President of the American Cotton Shippers 
Association (ACSA). Accompanying me today is ACSA's Executive Vice 
President & General Counsel, Neal P. Gillen.
    I am the CEO of Allenberg Cotton Company and a member of the 
Executive Committee of the Louis Dreyfus Corporation. I oversee the 
trading of cotton and also trade grains, oilseeds, livestock, 
currencies, and energy.
    The concerns and some of the recommendations expressed in this 
statement are shared by the entire U.S. cotton industry--producers, 
ginners, warehousemen, merchants, cooperatives, and textile mills. For 
the past 4 months ACSA has been working closely with Amcot--the 
association of marketing cooperatives, and the American Cotton 
Producers of the National Cotton Council in addressing our concerns to 
the IntercontientalExchange (ICE), the Commodity Futures Trading 
Commission (CFTC), and the Congress.
Recent Developments
    We are pleased to inform you that the ICE has been responsive to 
our concerns, and so to has the CFTC, which has actively considered and 
adopted some of the recommendations we made to the Commission's April 
22nd Roundtable. Further, we appreciate the scheduling of this week's 
hearings and the overall sense of urgency by many in the U.S. Congress 
to determine what can and should be done. Your involvement is another 
example of the concerns expressed by this Committee to effectively 
oversee the futures markets by addressing these important issues. 
Hopefully, your legislative findings and recommendations will result in 
full market transparency revealing the necessary data that allows the 
CFTC to know first-hand what is taking place in the markets so it can 
make sound regulatory decisions providing for the orderly trading of 
agricultural futures contracts.
Interest of ACSA
    ACSA, founded in 1924, is composed of primary buyers, mill service 
agents, merchants, shippers, and exporters of raw cotton, who are 
members of four federated associations located in sixteen states 
throughout the cotton belt:

        Atlantic Cotton Association (AL, FL, GA, NC, SC, & VA)

        Southern Cotton Association (AR, LA, MS, MO, & TN)

        Texas Cotton Association (OK & TX)

        Western Cotton Shippers Association (AZ, CA, & NM)

    ACSA's member firms handle over 80% of the U.S. cotton sold in 
domestic and export markets. In addition, our members also handle a 
myriad of foreign growths of cotton, which is forward priced based on 
the New York futures market. Because of their involvement in the 
purchase, storage, sale, and shipment of cotton, ACSA members, along 
with their producer and mill customers, are significant users of the 
ICE's No. 2 Upland Cotton Futures Contract. Therefore, they are vitally 
interested in a return to an orderly futures market reflecting market 
fundamentals that are not grossly distorted by speculative interests.
Current Status of Cotton Contract
    In ACSA's testimony to the General Farm Commodities & Risk 
Management Subcommittee on May 15th, we reviewed the consequences to 
the price run-up in the ICE No. 2 Contract in the period from mid-
February to early March and the resulting problems to the cotton 
industry due to an unrealistically widened basis precluding the use of 
the No. 2 Contract as a prudent hedging or risk management tool by 
producers, cooperatives, merchants, and mills.
    I am pleased to report, that while the industry is still suffering 
from the repercussions of the disruptive market events of early March, 
the ICE has listened to the cotton industry and has agreed to make our 
recommended changes to margin the futures to futures settlements and 
options to option settlements. It has also agreed to the industry's 
proposal regarding the expansion of trading limits. These important 
changes should provide the necessary certainty to our financing banks, 
who had been reluctant to finance margin requirements under the 
previous system that established margins not at the closing price of 
the futures month, but at the ``synthetic'' level of the closing price 
of the options month, which added on additional financial exposure.
    The CFTC, while focusing mostly on the monitoring of the energy 
markets, has launched a comprehensive investigation of the 
February&March trading in the cotton futures contract. We have limited 
knowledge of the investigation, but based on what we know, the CFTC's 
Enforcement Division has detailed a top-flight team to this important 
task. The Commission is also developing a proposal to require ``more 
detailed reporting from index traders and swaps dealers . . . and to 
review whether classification of these types of traders can be improved 
for regulatory and reporting purposes.'' I might add that it was not 
possible for the Commission to effectively regulate the futures markets 
because it had never used its authority to request such information. 
The lesson is that lacking the appropriate information the markets 
cannot be properly monitored.
    More importantly, the CFTC has also agreed to ``review the trading 
practices for index traders . . . to insure that this type of trading 
activity is not adversely impacting the price discovery process, and to 
determine whether different practices should be employed.''
    The CFTC Agricultural Advisory Committee is scheduled to meet on 
July 29th Mr. Gillen and I have served as members of that Committee. At 
that meeting, we expect to discuss a myriad of proposals on what can 
and should be done to assure that the agricultural futures markets 
function as Congress intended that they should.
Hedge Exemptions--Speculative Position Limits
    In our earlier testimony we discussed the recent phenomena of the 
participation of the index funds and the over-the-counter traders, who 
have flooded the futures markets with record liquidity to the extent 
that the resulting widened basis has in fact made the markets illiquid 
to those for whom Congress created these markets. This has had the 
effect of rendering the markets, particularly the cotton contract, 
which has significantly different supply/demand fundamentals than the 
other agricultural commodities, ineffective for hedging against price 
risks and discovering prices. More importantly, this has adversely 
impacted the physical markets since merchants or cooperatives cannot 
offer price quotations to farmers or end-users because they cannot use 
the contracts for hedging purposes.
    Simply put, these markets, now overrun by cash, preclude the 
convergence of cash and futures prices, hedging, and forward 
contracting. The markets now lack the economic purpose that the 
Congress required when it originally authorized the trading of 
agricultural futures contracts.
Speculative Position Limits
    The Congress through the CFTC has imposed speculative positions 
limits in the futures contracts to reduce the potential for market 
disruption or manipulation. But such limits are no longer effective for 
two reasons, first, the CFTC has granted hedge exemptions to the 
investment funds allowing them to exceed the limits, and second, large 
traders were permitted by the Congress, through the swaps exemption, to 
operate outside the regulatory framework through the swaps markets. The 
transactions in these hidden markets are permitted to take place off-
exchange where each party mutually agrees to satisfy each other's 
credit standards and to remit margins to one another as the underlying 
market fluctuates. Such transactions have the characteristics of an 
exchange-traded futures contract, but are traded ``over-the-counter'' 
(OTC) and are not subject to CFTC oversight.
    Such transactions pose problems when one of the parties to the swap 
has a ``hedge exemption'' that exempts his on-exchange futures trading 
from position-size limits. The swaps dealer would take an equal and 
opposite position in the futures market to the swaps trade. For 
example, should a pension fund desire to purchase $20 million in long 
exposure in cotton, it can purchase this exposure from a swaps dealer. 
The dealer, now short the price of cotton via the swap, enters the 
futures market to hedge his position by buying cotton futures. Given 
that he is a ``hedger,'' CFTC allows him to trade futures in excess of 
the normal speculative position-size limits. This has created a 
situation where such large investors can trade in any contract in any 
size they desire without regard to position limits. They are not 
limited by the CFTC. Only a swaps dealer can limit such trades, and no 
swaps dealer is going to turn a deaf ear to any financial entity awash 
in cash.
    These arrangements, along with the billions of dollars invested in 
index funds, bring so much cash into a market that the traditional 
speculators cannot take a short position to match the institutional 
longs. This leaves it up to the commercials--cooperatives, the 
merchants, and the processors to offset these positions. But lacking 
the huge margin requirements they cannot do so. That is the situation 
today as the funds continue to purchase futures. Unwilling to assume 
such margin risks in such a volatile futures market the commercials 
remain passive not only in the futures, but in the physical markets. 
The result--markets with no economic purpose for the commercials. 
Therefore, no business is done. Producers, lacking a price, cannot 
properly plan and processors must buy hand to mouth. Simply put, the 
investment funds have negated the real purpose of the futures markets 
causing severe disruptions in the agricultural marketing process.
Recommendations
    While we are pleased that the CFTC has placed a moratorium on 
granting further hedge exemptions to the so-called ``passive'' 
investment funds, action must be taken--a balance must be struck--with 
those funds currently operating with a hedge exemption.
    We submit that the CFTC should take immediate action to require 
that an index fund with a hedge exemption restrict its position in a 
commodity to the donor allocation or the percentage of funds allocated 
to that commodity as defined in the fund's prospectus and recorded with 
the CFTC. Further, any variation should be subject to speculative 
position limits, and that such funds should report their cash positions 
on a weekly basis.
    ACSA also recommends that the CFTC monitor and oversee all swaps 
and OTC activity by requiring the reporting of all swap and OTC 
contracts by market participants, and that the CFTC determine the 
aggregation of positions from all sources, including the exchanges, 
ETF's, swaps, OTC, and other trading entities.
    We also recommend that the CFTC require that all non-traditional 
hedge accounts, those not involved in the commercial enterprise of 
physically trading bales of cotton, be reported as a separate 
individual category. It is also recommended that only those involved in 
the commercial enterprise of physically trading bales of cotton, shall 
be eligible for hedge margin levels.
    In our view, these requirements would provide the CFTC and the 
trading public with the necessary information on which to make sound 
regulatory and market decisions. It will hopefully attenuate the 
current situation in which these essential markets have become 
investment vehicles for speculative funds who act unimpeded by market 
fundamentals or regulation.
    Again, Mr. Chairman, thank you for providing us with the 
opportunity to participate in these important hearings and for your 
attention to our concerns.

    The Chairman. Thank you.
    Mr. White, welcome.

        STATEMENT OF ADAM K. WHITE, C.F.A., DIRECTOR OF
   RESEARCH, WHITE KNIGHT RESEARCH & TRADING, ALPHARETTA, GA

    Mr. White. Thank you. Mr. Chairman and Members of the 
Committee, thank you for the opportunity to share my research 
on the threat to the U.S. economy from excessive speculation.
    Erosion and elimination of speculative position limits has 
allowed hundreds of billions of dollars of speculative money to 
flow into the commodity futures markets, causing food and fuel 
prices to skyrocket. This has damaged the price discovery 
function by pushing prices far and beyond what supply and 
demand would dictate.
    Commodity futures markets are a unique hybrid form of 
marketplace with two distinctly different types of market 
participants. When physical hedgers are the dominant force, 
then futures prices will accurately reflect the real world 
supply and demand fundamentals that these hedgers are 
experiencing directly in their own businesses. When speculators 
are the dominant force, then futures prices often become 
untethered from supply and demand and can reach irrationally 
exuberant heights.
    Today the agricultural and energy markets rely on the 
futures prices as their benchmark for the pricing of nearly all 
of their transactions to the real world spot markets. For many 
commodities, when the nearby futures price rises by a dollar, 
spot price rises by a dollar as well. In the last 5 years, a 
titanic wave of speculative money has flowed into the commodity 
futures markets and dramatically driven up both futures and 
spot prices. Institutional investors have come to view 
commodity futures as an investable asset class, giving birth to 
a new form of speculator. I call them index speculators.
    The first slide shows assets allocated to commodity index 
trading strategies have risen twenty-fold from $13 billion in 
2003, to $260 billion in March of 2008, and the prices of the 
25 commodities that compose these indexes have risen by an 
average of 183 percent.
    The second slide shows that the commodities futures markets 
are small markets. In 2004, their total size was only $180 
billion. And over the next 5 years, as hundreds of billions of 
dollars flowed into these markets, caused futures prices to 
rise dramatically as the markets were forced to expand and 
absorb this influx of money. Index speculators have bought more 
commodities futures contracts in the last 5 years than any 
other group of market participants. They are now the dominant 
force in the commodities futures markets. And worst of all, 
their buying has little to do with the supply and demand 
fundamentals of any single commodity.
    Since 85 percent of index speculators enter into commodity 
swaps, these swap dealers have huge futures positions. Recently 
released data shows that swaps dealers as a category are the 
largest holders of NYMEX WTI crude oil futures contracts. This 
slide shows that as their positions have grown, so has the 
price of oil.
    Now, I am not a legal expert, but I believe there are three 
key elements that need to be part of whatever legislation 
Congress does adopt. First, there need to be Federal 
speculative position limits for all U.S.-based commodities 
across all exchanges.
    In 1936, Congress established speculative position limits 
in order to ensure the dominance of physical hedgers and to 
prevent speculative bubbles from forming. However, over the 
years, these position limits have been raised or eliminated. I 
recommend that a panel of physical hedgers be convened to 
establish real, meaningful position limits, since they will set 
limits that truly restrict speculation without restricting 
necessary liquidity.
    Second, speculative position limits must apply in the over-
the-counter commodity swaps market. Excluding swaps from 
position limits would allow excessive speculation to continue 
unabated and render existing limits meaningless.
    Finally, the practice of commodity index speculation should 
be prohibited because of the liquidity it consumes and the 
damage it does to the price discovery function. Speculative 
position limits worked well for over 50 years and carry no 
unintended consequences. If Congress takes these actions, then 
the speculative money that flow to these markets would be 
forced to flow out. And with that, the price of commodities 
would come down substantially. Until speculative position 
limits are restored, investor money will continue to flow 
unimpeded into commodity markets and prices will continue to 
rise.
    Thank you.
    [The prepared statement of Mr. White follows:]

  Prepared Statement of Adam K. White, C.F.A., Director of Research, 
            White Knight Research & Trading, Alpharetta, GA
    Mr. Chairman and Members of the Committee, thank you for the 
invitation to speak to you today. I first began to study the role of 
institutional investment in the commodities futures markets, back in 
early 2006, while I was employed by Masters Capital Management. Since I 
formed my own independent research company I have continued to study 
this issue in-depth. I have recently added the Air Transport 
Association as a client but I am not representing them here today.
    Instead I want to share the results of my research efforts. I am 
co-authoring an in-depth research report with Michael Masters that we 
hope to have completed in the next week or 2. My testimony today 
essentially represents the executive summary of that report. With your 
permission I would like to submit the full report to your Committee 
when it is complete. [i]
    The commodities futures markets are a unique hybrid form of 
marketplace where two distinctly different categories of market 
participants transact side by side. Physical Hedgers access the markets 
to reduce the price risk of their underlying physical commodity 
businesses, while Speculators trade in the markets to make maximum 
profits.
    When Physical Hedgers are the dominant force in the marketplace 
then futures prices will accurately reflect the real world supply and 
demand fundamentals these physical consumers and producers are 
experiencing directly in their businesses. When Speculators are the 
dominant force, then futures prices often become un-tethered from 
supply and demand and can reach irrationally exuberant heights.
    In 1936 Congress devised a system whereby speculative position 
limits would restrict the size of Speculators' positions in order to 
ensure the dominance of Bona Fide Physical Hedgers and to prevent 
speculative bubbles from forming. [ii] Congress took this action 
because they realized that the commodities futures markets were 
essential to the health of the American economy.
    Today the agricultural and energy markets rely on the futures price 
as their benchmark for the pricing of nearly all their transactions in 
the real world ``spot'' markets. [iii] For many commodities, when the 
nearby futures price rises by $1, the spot price rises by $1 as well. 
This is preferred by Physical Hedgers because they can use the futures 
markets to hedge their price risk on a dollar for dollar basis.
    Unfortunately the price discovery function of the commodities 
futures markets is breaking down. With the advent of financial futures 
the important distinctions between commodities futures and financial 
futures were lost to regulators. The term excessive speculation 
effectively came to mean manipulation. [iv] Therefore speculative 
position limits were raised or eliminated because they were not deemed 
necessary for the prevention of manipulation. [v]
    Swaps dealers who trade derivatives in the completely unregulated 
over-the-counter markets were given the same virtually unlimited access 
to the futures markets that Bona Fide Physical Hedgers enjoy. These 
swaps dealers turned around and convinced institutional investors that 
commodities futures were an asset class that would deliver ``equity-
like returns'' while reducing overall portfolio risk. These investors 
were encouraged to make ``a broadly diversified, long only passive 
investment'' in commodities futures indices. [vi] And as a result a new 
and more damaging form of speculator was born--I call them Index 
Speculators.
    As Chart One below demonstrates the result has been a titanic wave 
of speculative money that has flowed into the commodities futures 
markets and driven up prices dramatically. Assets allocated to 
commodity index trading strategies have risen from $13 billion at the 
end of 2003 to $260 billion as of March 2008, [vii] and the prices of 
the 25 commodities that compose these indices have risen by an average 
of 183% in those 5 years! [viii]


Chart Two below shows this has caused futures prices to rise 
dramatically as the commodities futures markets were forced to expand 
in order to absorb this influx of money. 

    The four largest commodity swaps dealers: Goldman Sachs, Morgan 
Stanley, J.P. Morgan and Barclays Bank are reported to control 70% of 
the commodity index swaps positions. [xiii] That would mean that on 
average about one out of every four long positions on the exchanges is 
controlled by one of these banks. [xiv] Recently released data from the 
House Energy Committee shows that swaps dealers as a category have 
grown to become the largest holders of NYMEX WTI crude oil futures 
contracts. [xv] Chart Three on the next page shows that as their 
positions have grown in size so has the price of oil.


    First there needs to be Federal speculative position limits for all 
commodities (except precious metals). These limits need to apply in 
aggregate across all exchanges trading U.S. based futures contracts. I 
recommend that a panel of Bona Fide Physical Hedgers be convened to 
determine these position limits since they can be relied upon to set 
them at levels that truly restrict speculation without restricting 
necessary liquidity.
    Second, speculative position limits must apply in the over-the-
counter (OTC) commodity swaps market. The commodity swaps market does 
not need to be regulated per se but if swaps dealers want to access the 
futures markets then they must report all their counterparties' 
positions in order to ensure that no one is in violation of speculative 
position limits. The OTC swaps market is many times bigger than the 
futures markets so excluding swaps from position limits would allow 
excessive speculation to continue unabated and render existing limits 
meaningless.
    Third, excessive speculation should be numerically defined as a 
percentage of open interest. The same panel of bona fide physical 
hedgers should also determine this figure. Then the CFTC can establish 
a system whereby the individual position limits adjust based on the 
overall level of speculation in the marketplace. This system would 
prevent the commodities futures markets from ever reaching a level of 
excessive speculation in the future.
    Finally the practice of commodity index replication should be 
prohibited. Index Speculators damage the price discovery function and 
lock up large amounts of market liquidity by buying and holding futures 
positions for the ultra long term. Congress would not allow someone to 
hoard physical commodities so they should not allow institutional 
investors to hoard commodities futures either. A way should be found to 
prevent this damaging practice from continuing.
    Speculative position limits worked well for over 50 years and carry 
no unintended consequences. If Congress takes these actions then the 
speculative money that flowed into these markets would be forced to 
flow out and with that the price of commodities futures would come down 
substantially. Until speculative position limits are restored investor 
money will continue to flow unimpeded into the commodities futures 
markets and prices will continue to rise.
Endnotes
    [i] All of the data in my testimony today is calculated as of March 
2008. When I submit the completed report the data will be updated 
through July 1, 2008.
    [ii] ``The fundamental purpose of the measure is to insure fair 
practice and honest dealing on the commodity exchanges and to provide a 
measure of control over those forms of speculative activity which too 
often demoralize the markets to the injury of producers and consumers 
and the exchanges themselves.'' Report No. 421, U.S. House of 
Representatives 74th Congress, Accompanying the Commodity Exchange Act, 
March 18, 1935.
    ``It should be our national policy to restrict, as far as possible, 
the use of these exchanges for purely speculative operations.'' 
President Franklin D. Roosevelt message to Congress February 9, 1934
    ``The bill authorizes the Commission . . . to fix limitations upon 
purely speculative trades and commitments. Hedging transactions are 
expressly exempted. That this power of the Commission will be exercised 
judiciously and for the purposes merely of preventing overspeculation 
and a type of `racketeering' by a few large professional traders, may 
be assumed as a matter of course.'' Report No. 421, U.S. House of 
Representatives 74th Congress, Accompanying the Commodity Exchange Act, 
March 18, 1935.
    [iii] ``In many physical commodities (especially agricultural 
commodities), cash market participants base spot and forward prices on 
the futures prices that are `discovered' in the competitive, open 
auction market of a futures exchange.'' ``The Economic Purpose of 
Futures Markets and How They Work--Price Discovery or Price Basing,'' 
Commodities Futures Trading Commission website, http://www.cftc.gov/
educationcenter/economicpurpose.html.
    ``In the spot market, therefore, negotiations for physical oils 
will typically use NYMEX as a reference point, with bids/offers and 
deals expressed as a differential to the futures price. Using these 
differentials, Platts makes daily and in some cases intra-day 
assessments of the price for various physical grades of crude oil, 
which may be referenced in other spot, term or derivatives deals.'' 
``Platts Oil Pricing and Market-on-Close Methodology Explained--A 
Backgrounder,'' Platts, A Division of McGraw Hill Companies, July 2007, 
page 3. http://www.platts.com/Resources/whitepapers/index.xml.
    [iv] ``Excessive Speculation'' (7 U.S.C. 6a) and ``Manipulation'' 
(7 U.S.C. 13b) are separate sections of the Commodity Exchange Act. 
Excessive Speculation is remedied by establishing speculative position 
limits and is not a violation of the Act. Manipulation is a violation 
and can result in monetary penalties and jail time. Yet on the CFTC 
website it says ``In general, position limits are not needed for 
markets where the threat of market manipulation is non-existent or very 
low.'' http://www.cftc.gov/industryoversight/marketsurveillance/
speculativelimits.html#P8_883.
    So their stance appears to be that position limits exist to prevent 
manipulation. Contrast this with the comments of Johnson and Hazen in 
their book ``Derivatives Regulation'' where they say ``However, Section 
4a (7 U.S.C. 6a) is expressly concerned with `excessive speculation' 
and thus is not specifically an 
anti(-)manipulation provision. Rather, section 4a focuses upon market 
disorders attributable to unbridled speculative activity, without 
regard to whether that speculative frenzy has a manipulative purpose.'' 
Section 5.02[1] ``Derivatives Regulation,'' Philip McBride Johnson and 
Thomas Lee Hazen, Aspen Press, 2004, page 1235.
    [v] ``In general, position limits are not needed for markets where 
the threat of market manipulation is non-existent or very low. . . . A 
contract market may impose for position accountability provisions in 
lieu of position limits for contracts
on . . . certain tangible commodities, which have large open interest, 
high daily trading volumes, and liquid cash markets.'' http://
www.cftc.gov/industryoversight/marketsurveillance/
speculativelimits.html#P8_883.
    In 1998 the CFTC allowed the futures exchanges such as the NYMEX to 
replace ``speculative position limits'' with ``position accountability 
limits'' which do not actually limit the size of positions but simply 
represent a threshold above which the exchanges look closer at 
positions to ensure that manipulation is not occurring. The result is 
that NYMEX WTI crude oil does not have any speculative position limits 
except in the last 3 days prior to expiration. 63 FR 38525 (July 17, 
1998) http://www.cftc.gov/foia/comment98/foi98--028_1.htm.
    [vi] ``Investing and Trading in the GSCI,'' Goldman, Sachs & Co., 
June 1, 2005.
    [vii] ``Investing and Trading in the GSCI,'' Goldman, Sachs & Co., 
June 1, 2005, CFTC Commitments of Traders Report--CIT Supplement and 
estimates derived there from.
    [vii]

                        Commodity Futures Prices
                      March 2003March 2008
------------------------------------------------------------------------
 
------------------------------------------------------------------------
Agricultural:
  Cocoa.....................            +                        34%
  Coffee....................            +                       167%
  Corn......................            +                       134%
  Cotton....................            +                        40%
  Soybean Oil...............            +                       199%
  Soybeans..................            +                       143%
  Sugar.....................            +                        69%
  Wheat.....................            +                       314%
  Wheat KC..................            +                       276%
Livestock:
  Feed Cattle...............            +                        34%
  Lean Hogs.................            +                        10%
  Live Cattle...............            +                        23%
Energy:
  Brent Crude Oil...........            +                       213%
  WTI Crude Oil.............            +                       191%
  Gasoil....................            +                       192%
  Heating Oil...............            +                       192%
  Gasoline..................            +                       145%
  Natural Gas...............            +                        71%
Base Metals:
  Aluminum..................            +                       120%
  Lead......................            +                       564%
  Nickel....................            +                       282%
  Zinc......................            +                       225%
  Copper....................            +                       413%
Precious Metals:
  Gold......................            +                       183%
  Silver....................            +                       331%
------------------------------------------------------------------------
Source: Bloomberg

    [ix] Bloomberg did not have open interest data for the base metals 
in 2004 so I used 2005 figures for 2004. This is conservative since 
prices were rising during this time frame.

           Average Daily Dollar Value of Open Interest in 2004
                               (millions)
------------------------------------------------------------------------
 
------------------------------------------------------------------------
                       Cocoa                            $1,569
                      Coffee                            $2,748
                            Lean Hogs                   $1,873
                            Live Cattle                 $3,556
                 Brent Crude                           $12,620
                   WTI Crude                           $33,620
                      Gasoil                            $5,461
                 Heating Oil                            $8,242
                    Gasoline                            $7,304
                 Natural Gas                           $25,897
                    Aluminum                           $12,286
                            Lead                          $677
                      Nickel                            $1,986
                        Zinc                            $2,696
                      Copper                           $11,864
                        Gold                           $13,221
                      Silver                            $3,745
                                        --------------------------------
  Total................................               $179,590
------------------------------------------------------------------------
Source: Bloomberg

    [x] There is no publicly available data that shows the total amount 
of inflows into commodity indexation trading strategies but some 
approximations can be made. The total amount benchmarked to the S&P-
GSCI and DJ&AIG can be estimated and the annual performance of the 
indices is known. Therefore the amount that the prior year's investment 
has grown or shrunk can be computed. Then the difference in the yearly 
change has to come from net inflows. When during the year the inflows 
occurred is not known, so the assumption is made that all net inflows 
occurred evenly throughout the year. Changing assumptions on net inflow 
timing only affects the rate of growth for that year's inflow which 
never amounts to more than a few billion dollars difference.

                        Estimated Annual Inflows
------------------------------------------------------------------------
                        S&PGSCI    DJAIG       Total
------------------------------------------------------------------------
               2004            $16.20             $8.90          $25.10
               2005             $4.80            $12.40          $17.20
               2006            $28.30            $11.30          $39.60
               2007            $14.70            $15.40          $30.10
               2008            $35.10            $20.00          $55.10
                      --------------------------------------------------
  Total..............          $99.10            $68.00        $167.10
------------------------------------------------------------------------
2008 figures reflect estimated inflows through March 12, 2008, figures
  will be updated through July 1, 2008 with final report.

    [xi]

------------------------------------------------------------------------
                                     2003 Long Open Interest
                       -------------------------------------------------
                                           Traditional         Index
                        Physical Hedger     Speculator      Speculator
------------------------------------------------------------------------
              Cocoa            71,300            5,673            2,710
             Coffee            38,378           12,197            5,671
               Corn           227,612           54,123           51,139
             Cotton            52,529           23,633            9,518
        Soybean Oil            76,717           33,449            3,272
           Soybeans            98,696           58,567           13,733
                   Live Cattle 19,820           40,864           20,021
      WTI Crude Oil           433,028           56,629          108,599
        Heating Oil            69,363           14,063           26,217
           Gasoline            44,252           20,698           25,555
        Natural Gas           397,488           21,734           29,774
                       -------------------------------------------------
  Total...............      1,691,579          416,042          404,785
------------------------------------------------------------------------
                                     2008 Long Open Interest
------------------------------------------------------------------------
              Cocoa            50,243           72,866           29,527
             Coffee            41,159           56,866           63,133
               Corn           505,627          300,017          441,197
             Cotton            91,820           77,132          114,804
        Soybean Oil           104,064           48,619           72,287
           Soybeans           141,375          132,849          194,391
              Sugar           359,427          180,670          411,510
              Wheat            58,484           66,958          218,191
           Wheat KC            35,629           31,201           30,299
      Feeder Cattle             5,117           16,208            9,279
                   Lean Hogs   29,366           33,374          105,228
                   Live Cattle 27,898           51,798          135,451
      WTI Crude Oil         1,161,063          203,280          606,176
        Heating Oil            65,851           27,972           83,008
           Gasoline            83,826           41,534           78,692
        Natural Gas           480,964           77,462          214,641
                       -------------------------------------------------
  Total...............      3,241,915        1,418,805        2,807,813
------------------------------------------------------------------------
                                     Purchases Last 5 Years
------------------------------------------------------------------------
              Cocoa           ^21,056           67,193           26,817
             Coffee             2,781           44,669           57,463
               Corn           278,016          245,894          390,057
             Cotton            39,291           53,499          105,286
        Soybean Oil            27,348           15,169           69,015
           Soybeans            42,679           74,282          180,658
              Sugar           263,817          149,527          365,579
              Wheat            33,639           41,260          184,231
           Wheat KC             2,870           26,246           19,773
      Feeder Cattle             1,253           10,969            6,637
                   Lean Hogs   24,049           25,997           89,711
                   Live Cattle  8,078           10,934          115,429
      WTI Crude Oil           728,035          146,651          497,577
        Heating Oil            ^3,512           13,909           56,791
           Gasoline            39,574           20,836           53,137
        Natural Gas            83,476           55,728          184,867
                       -------------------------------------------------
  Total...............      1,550,337        1,002,764        2,403,029
------------------------------------------------------------------------
Figures derived from data from Goldman Sachs, Dow Jones, Bloomberg, CFTC
  Commitments of Traders report and the CFTC CIT Supplement. Non-
  Directional Spreads and Non-Report (Unclassified) Positions are not
  shown. Traditional Speculators accessing the futures market through
  the ``swaps loophole'' are still classified as Physical Hedgers
  because the CFTC does not distinguish. 2008 figures are as of March
  12, 2008 and will be updated to reflect July 1, 2008 in the final
  report.

    [xii]

                       Commodities Futures Markets
                       Percentage of Open Interest
                          2008 Long/Demand Side
------------------------------------------------------------------------
                                           Traditional         Index
                        Physical Hedger     Speculator      Speculator
------------------------------------------------------------------------
              Cocoa               33%              48%              19%
             Coffee               26%              35%              39%
               Corn               41%              24%              35%
             Cotton               32%              27%              41%
        Soybean Oil               46%              22%              32%
           Soybeans               30%              28%              42%
              Sugar               38%              19%              43%
              Wheat               17%              20%              64%
           Wheat KC               37%              32%              31%
        Feed Cattle               17%              53%              30%
                   Lean Hogs      18%              20%              63%
                   Live Cattle    13%              24%              63%
      WTI Crude Oil               59%              10%              31%
        Heating Oil               37%              16%              47%
           Gasoline               41%              20%              39%
        Natural Gas               62%              10%              28%
                       -------------------------------------------------
  Average.............            34%              26%              40%
------------------------------------------------------------------------
Source: CFTC Commitments of Traders reports, and estimates derived from
  CFTC CIT Supplement, does not include Spreads.
Data represents an average from January 1, 2008 through March 12, 2008,
  data in final report will reflect through July 1, 2008

    [xiii] ``The Global Commodities Boom,'' Greenwich Associates, 
Andrew Awad, Woody Canaday, et al., May 2008, page 1. ``Commodities: 
Who's Behind the Boom?,'' Gene Epstein, Barron's, March 31, 2008. First 
report identifies the four largest swaps traders and second article 
references some ISDA data saying four largest swaps traders are 70% of 
swaps market. Barron's also says and CFTC CIT supplement corroborates 
that 85%&90% of all index trades are done through swaps.
    xiv&According to calculations Index Speculators average 
40% of the long open interest (excluding spreads) in U.S. based 
commodities (see footnote [xii]), 85&90% is done through swaps and 70% 
of swaps are done with the four largest traders. So .7*.875*.4=.245 or 
24.5%. I cannot know for sure if this estimate is accurate since I do 
not have access to this information.
    xv&http://energycommerce.house.gov/Investigations/
EnergySpec.shtml.

    The Chairman. Thank you all for your testimony.
    Mr. Nicosia, in your testimony here, you are saying 
something about the hedge exemption should be restricted to the 
dollar allocation of the percentage of funds of the index. Is 
that not what they are doing now? Do they get an exemption for 
the whole amount of the fund but it is not done by commodity, 
or what are you talking about there?
    Mr. Nicosia. No. It is in their prospectus, they usually 
show what percentage they are going to allocate to different 
commodities. Our concern is that under the umbrella of a hedge 
exemption, that they use discretionary trading which is not 
passive. So as opposed to an index fund which is going to 
allocate a certain dollar amount to an individual commodity, 
have it invested and leave it there, the record, especially in 
cotton, shows that they have not done that. As leading up to 
the debacle that we had on March 3rd and 4th, where prices rose 
11 limits in about 90 minutes, you can see that the index 
position was very aggressive in the 2 weeks leading up to that 
and then actually liquidated. In that particular case, I doubt 
that the index funds had a 16 percent increase in their 
allocation of money and then a ten percent decrease within a 
week of their money. We know that the money continued to flow 
in all through that time.
    The Chairman. So they had some information and they went in 
and they----
    Mr. Nicosia. In other words, they didn't act as a passive 
investor. In other words, they were using their hedge 
exemptions to act as an extended arm of the regular 
discretionary trader.
    The Chairman. But I was told that most of these index funds 
don't even put the money in the market.
    Mr. Nicosia. Yes, I heard that earlier today. There was a 
lot of disinformation you received from the other panels. That 
is not true. There is massive amounts of index participation 
directly into the futures market. So much so that there are 
even funds that have been set up to counteract fund rolls that 
exist from days 5 through 9 when they start to roll their 
futures. There is massive participation.
    The Chairman. Do you have any idea what the percentage is?
    Mr. Nicosia. I found it interesting too that on the energy 
side, although I am not an energy expert, the reports that 
people have been using to try to gauge, whether it be 
speculator involvement, the energy markets do not report on the 
Commitment of Traders reports as they do in the ags. So it is 
impossible to gauge that. Index funds, swap dealers are all 
listed as hedgers on the energy markets. Therefore, the subset 
is not divided out. So they are acting as if the speculative 
community number may not be changing greatly, because the 
number that would be added to it is hidden within the hedger 
number. You don't even see it. In the agricultural commodity 
markets, however, from the pilot program, CFTC does in fact 
break it out. For example, in soybeans, if you took the 
noncommercial long and the index trader today, they are long 50 
percent of the entire United States crop speculatively. Now, 
for someone to say that has no impact in price I think would be 
fairly foolish. Today the speculative position in corn equals 
over 2.15 percent of the amount of the total carryout that 
exists in the United States at the end of the year. And if you 
look at it as a percentage of open interest, 40 percent of the 
entire open interest in soybeans is owned by the speculative 
position, 35 percent in cotton. So the agricultural markets do 
have the information split out from index funds. Energy markets 
do not.
    The Chairman. But we don't know what percentage of this is 
index funds out of the whole money that is flowing into the----
    Mr. Nicosia. We know that from the reports in agriculture, 
absolutely.
    The Chairman. But we don't know it in energy?
    Mr. Nicosia. CFTC does not require that to be split out. 
They did the pilot program. They only did it for agriculture.
    The Chairman. Mr. White, that is how you tried to figure it 
out. You took these numbers out of agriculture and extrapolated 
based on how they are structured in these index and try to 
figure out how much was oil, right? Is that what you told me?
    Mr. White. Yes, that is exactly right. And I didn't invent 
that, but many have done the same thing.
    The Chairman. Surely none of you think that we should 
decide what they should be. Is there anybody that thinks that 
the Congress should decide what the position limits are?
    Mr. Marshall. Mr. Chairman?
    The Chairman. What? Do you think we should?
    Mr. Marshall. No. There is another entity that could. It is 
the CFTC, the CFTC I am pretty sure----
    The Chairman. Go ahead.
    Mr. Marshall. If I could. You are getting at the fact that 
CFTC sets these limits not the exchanges?
    The Chairman. No, no. I was trying to figure out what is 
going on here. You are probably way beyond where I am at.
    Mr. Nicosia. Mr. Chairman, if I could. Position limits 
today are really pretty much a joke because there is no way to 
enforce them because you can just circumvent them easily off 
the exchange.
    The Chairman. Even on the ag?
    Mr. Nicosia. Even on the ags because--the swap situation is 
not subject to those limits. And the only ones that are 
required to report the swaps are actually the traditional 
hedgers, the commercial hedgers who are in there. We actually 
do have to report all of that information as part of a cash 
transaction. But anyone who wants to exceed the limits can do 
so very easily.
    The Chairman. So was it you that recommended that you get a 
bunch of people that are involved together and figure out what 
these limits are? Was that you? Or was that you, Mr. White? I 
was told by somebody that in the ag area, they get the people 
together that are involved in this and they are the ones that 
decide what these limits are. Is that true? Is that how that 
works? I mean, does the CFTC do that? Do they get these people 
to recommend and they set these limits; how does that work?
    Mr. Nicosia. It does work in conjunction through the 
exchange as well as through CFTC. I was a long-term Board 
Member for the New York Cotton Exchange in the New York Board 
of Trade. And the process that took place there is often the 
CFTC would actually make recommendations back to us for the 
size of position limits. They would often do that as a 
percentage maybe of open interest or of trading volume or in 
relationship to other markets. There are times that maybe the 
exchange could also request of the CFTC an increase that took 
place. Often at those points in time, many of the contract 
committees in agriculture would have some response. At the New 
York Board of Trade, the Board and the contract committees and/
or the trade were very involved in either okaying or not 
okaying those speculative limits. The exchange also had the 
right to accept those limits or lower ones.
    The Chairman. Okay. So that process does go on in all the 
agriculture area?
    Mr. Nicosia. Yes.
    The Chairman. And so who actually has the power to do this, 
the exchange or the CFTC?
    Mr. Nicosia. CFTC.
    The Chairman. So in the end they could set the limits 
wherever they want?
    Mr. Nicosia. Yes.
    The Chairman. Now in oil, does that happen? Is there 
anybody, any process like that to set limits in oil?
    Dr. Newsome. Yes, sir, there are not federally mandated 
limits in energy, but there are guidelines in the Commodity 
Exchange Act that say that limits should not be set any higher 
than what would roughly be 25 percent of the underlying 
deliverable of whatever commodity we are talking about. The 
NYMEX position limits are set conservative as compared to those 
guidelines, and the CFTC is involved in every step of the 
discussion with NYMEX to determine what the appropriate limits 
would be.
    The Chairman. And in that case, does the CFTC in the end 
have the final say or do you guys?
    Dr. Newsome. The exchange has the final say----
    The Chairman. It is different than agriculture?
    Dr. Newsome. It is different than agriculture, yes.
    The Chairman. And what would your position be if we changed 
that so it is like agriculture?
    Dr. Newsome. Well, I mean, first of all, we don't believe 
that the position limits have been abused in the energy sector 
on the regulated exchanges. And we like the flexibility created 
of having a dialogue with the CFTC, based upon the guidelines 
that are in the Commodity Exchange Act. Have we ever disagreed 
with the CFTC at the end of the day? No. They are a Federal 
regulator. But we do like having the flexibility and the 
dialogue with them.
    The Chairman. So you don't think there is a problem with 
the position limits?
    Dr. Newsome. Certainly not at the NYMEX, no, sir.
    The Chairman. Mr. White.
    Mr. White. I think it is important to point out that 
position limits at NYMEX and WTI crude oil, my understanding 
has only existed in the last 3 days of trading.
    The Chairman. Suppose the index and swaps are out before 
the last 3 days anyway.
    Mr. White. That is right. So they are having their impact 
in months other than the last 3 days.
    The Chairman. Why is it set for the last 3 days, Jim? Can 
you tell us that?
    Dr. Newsome. Yes, sir. We have position accountability 
across all months. And then we have the hard limits within the 
last 3 days for both commercials and for speculative traders. 
And the reason that the 3 days are important is that is when 
the price is determined that the whole industry uses. And when 
that final price is determined, which is the key price 
discovery component, then the speculators are either completely 
decreased or out of the market.
    The Chairman. The gentleman from North Carolina.
    Mr. Etheridge. How long has that been in force?
    Dr. Newsome. Roughly 20 years, Congressman.
    Mr. Etheridge. Thank you, Mr. Chairman. Since this topic is 
on hedge exemption and speculation position limits, let me run 
by you some numbers that we talked about yesterday. In 2006, 46 
hedge exemptions were granted for West Texas Intermediate crude 
oil contracts traded on NYMEX, some of which lasted just 1 year 
and some for 1 month. In 2007, only 36 hedge exemptions were 
granted. In 2008, to date, only 11 exemptions have been 
granted. So as oil has climbed to almost $100 in 2007 and I 
don't know what it cleared out today, $135 plus, demand for 
hedge exemptions has declined. And when Mr. Stupak said that 
because some exemptions lasted for a year, all 117 exemptions 
granted for West Texas Intermediate crude from 2006 to today 
were in effect. Now, I am afraid that is just not quite totally 
accurate. But at no time between 2006 and now have 117 
exemptions been in effect at the same time. I think that is 
correct.
    Dr. Newsome. That is totally correct.
    Mr. Etheridge. So as the theory goes, if swap dealers are 
using hedge exemptions to lay off the risk of all arrangements 
they have with pension funds, index funds, et cetera, which 
everyone believes is pouring money into commodities, shouldn't 
we be seeing an increased need for swap exemptions instead of a 
decline?
    Dr. Newsome. Well, certainly.
    Mr. Etheridge. I would like to hear from each one of you on 
that, a short answer.
    Dr. Newsome. Certainly from the exchange standpoint, we are 
not the driver behind requests for exemptions. Those come from 
the participants. We handle those on a case-by-case basis. And 
they have to show the bona fide need for the exemption, whether 
they are a commercial producer or a swaps dealer who has 
assumed the risk of commercial entities and therefore needs the 
exemption.
    Mr. Nicosia. With all due respect, the number of those that 
are requested have nothing to do with it. The number means 
nothing. As you heard earlier, the size of any one individual 
can more than overwhelm 20----
    Mr. Etheridge. All the rest of them?
    Mr. Nicosia. Exactly. So it is really the total number of 
dollars that are involved, not the number of hedge exemptions 
that are important.
    Mr. Etheridge. So your recommendation would be dealing with 
the dollar number versus----
    Mr. Nicosia. It is much more important to deal with the 
dollar number of the size of the positions that are being taken 
place within the exemption.
    Mr. White. I don't know enough about the hedge exemptions 
to really know. It is one of those things that really sounds 
like the devil is in the details. But to me the only reason you 
need an exemption is in the last 3 days, because there aren't 
any limits other than the last 3 days.
    Mr. Etheridge. Okay. Comment?
    The Chairman. Well, if you would yield.
    Mr. Etheridge. Yes.
    The Chairman. Didn't you say there was some other kind of 
control before that?
    Dr. Newsome. There are accountability limits that we use.
    The Chairman. What does that mean?
    Dr. Newsome. It means they are not hard limits, but they 
are limits that are put on by the exchange that cover the total 
limits that a participant can have across all months within 
that sector. So again these limits that are granted are not 
open ended. They represent only what that entity has shown that 
they have the need to truly hedge. And at the end of the day, 
based upon the CFTC guidelines, no more than 25 percent of the 
overall underlying deliverable can be exempted.
    So, I mean, there are steps that we follow to make sure 
that what the concern that the Committee and others have does 
not exist on the regulated market. Now, I would be very quick 
to say that there are real differences between the agricultural 
markets and the energy markets. In terms of competitive 
exchanges there is a much, much larger over-the-counter 
marketplace within the energy sector. So I don't think what you 
say could hold true in ag necessarily holds true in energy.
    Mr. Etheridge. Mr. Nicosia, do you have this kind of 
information available for cotton?
    Mr. Nicosia. Yes, we do.
    Mr. Etheridge. Do you have that available just to share?
    Mr. Nicosia. I sure do.
    Mr. Etheridge. Would you make that available to the 
Committee Chairman?
    Mr. Nicosia. Absolutely. We have that and we also have the 
current status information for the main five ags as of this 
current week.
    Mr. Etheridge. Okay. I think that would be helpful to have.
    Very quickly, Mr. White, we have heard the figure of $260 
billion in index trading tossed around lately. But what you 
appear to be telling us today is that the $260 billion figure 
is just a snapshot of the value of the index funds and that in 
reality it is only $167 and new funds have been invested in 
commodities since 2004; is that correct?
    Mr. White. To be more specific, it was $13 billion in 2003. 
And then $167 billion in new money flowed in; the $13 billion 
from 2003, it grew; the $25 billion from 2004, it grew; the 
$167 billion is the amount of inflows; the $260 billion is the 
amount of the total today, in March.
    Mr. Etheridge. Okay. All right. Thank you. I appreciate 
that clarification.
    Mr. Chairman, I yield back.
    The Chairman. I thank the gentleman. The gentleman from 
Texas.
    Mr. Conaway. Thank you, Mr. Chairman. I am struggling like 
you are to make sure I understand this. To me right now there 
is still a disconnect between an automatic assumption that 
volume and activity in the market is just the exact cause and 
effect to drive these prices higher. I have a great respect for 
Joe and Adam and others who are making that case. A little bit 
of Joe's background with cotton and what happened in March, I 
want to ask you about that in a second. I am still trying to 
understand this deal. Jim, you mentioned large trader data that 
needs to be--are there any implementation barriers to that? Is 
that something that could be done relatively easily by the 
various folks that would have to comply with that?
    Dr. Newsome. It is a technical process that the 
IntercontinentalExchange, which is the foreign board of trade 
really in question here, has to implement. They are in the 
process of implementing that now. Even though they have 
supplied data in the past, it was not in the format that other 
exchanges supply and therefore not as readily available and 
usable for the CFTC. But they are working on supply and----
    Mr. Conaway. Okay. Joe, you mentioned that in March, where 
the price limit was up 11 times over a very short period of 
time. Is that that the actual cash market was going up to catch 
up with the futures prices?
    Mr. Nicosia. The cash market never moved at all.
    Mr. Conaway. Who got hurt in that regard?
    Mr. Nicosia. Everyone that was in the industry. The 
traditional hedger, the traditional user, the contract because 
what would be a traditional basis relationship between the cash 
and futures was totally divorced.
    Mr. Conaway. But the folks who were long on those higher 
prices got hurt? Who got hurt?
    Mr. Nicosia. The person that got hurt was the person who 
had bought products from the farmer. When he buys product, he 
sells futures to hedge. So he has locked in a basis 
relationship.
    Mr. Conaway. He is long on the product himself. This is a 
traditional hedger who is trying to hedge against his price?
    Mr. Nicosia. Exactly. So, long on the product and short in 
the futures. But what happens is that as the index fund and/or 
speculative community is allowed to buy futures totally 
unimpeded, they are able to stampede the price to levels that 
had nothing to do relative to the cash market. If a traditional 
hedger did what they did, we would go to jail because we are 
required to act in an economic fashion. When the cash becomes 
substantially cheaper than the futures, CFTC will not allow us 
to continue to buy futures because they are saying we are 
acting in an noneconomic manner, and yet the index funds are 
allowed to do that as are speculators.
    Now, the problem is that if someone is within their 
speculative limit, you can argue that there isn't anything 
wrong with that per se. But our contention is that amongst all 
these commodities, is that that would be fine if the CFTC could 
tell us that the aggregative positions from swaps, from the 
ETFs, from all the other sources were still within their 
speculative limits. Because today the exchanges do a reasonably 
good job in keeping people and watching speculative limits. It 
is what they don't see that they can't account for. CFTC also 
does not see it. And therefore if you want to take a position 
in excess of your speculative limit and/or to push prices 
improperly; you can do so, and, one, within the law; and, two, 
no one would even see it or monitor it.
    Mr. Conaway. Later in your testimony you mentioned that you 
had a breakdown of all the ag participants in the deal and yet 
ag prices are up sharply. Are there other participants that are 
driving that? I mean, it seemed like your solution was greater 
transparency lets everybody know what all the positions are. 
And you said that was happening in ag. But yet if you look at 
ag, prices are up as sharply as oil, gas, or fuel prices.
    Mr. Nicosia. Right. And I think there is a very important 
difference you have to be able to draw. There is no doubt that 
supply and demand fundamentals and many of these commodities 
warrant a higher price. The question is whether that be crude 
oil at $110 instead of $145; or soybeans at $13 instead of $16; 
or whether wheat should have went to $17 versus $25. And there 
are certain rules that are laid down. Our biggest concern is 
that people play within the rules that they have because today 
there is absolutely no way to find that.
    Mr. Conaway. On the overall position limits, is that for 
the entire commodity, the collective positions can only be 25 
percent of 1 day's trading; or is that each individual 
participant has a certain amount they could hold? How does it 
mechanically work?
    Dr. Newsome. That is as an entity, not for one specific----
    Mr. Conaway. Is there an overall speculative limit for the 
entire cotton market?
    Dr. Newsome. I cannot speak to cotton.
    Mr. Nicosia. No, there is not. Only for an individual.
    Mr. Conaway. So all these limits that we are all talking 
about--that are being discussed here is on individual 
participants. So that if you had a lot of participants in the 
market, who each of them had a certain limit and they all did 
the limits you could still mechanically get to these higher 
volumes of things that are going on?
    Mr. Nicosia. Absolutely. I think the other problem that we 
had in the earlier testimony was the idea that this excess 
buying does not push prices up. I don't know how anyone can 
come to that conclusion, whether it was a NASDAQ of 1999 or 
whatever. Excess buying pushed prices up. Just as if we asked 
today for all of that index money to disappear, what do you 
think would happen to prices? They would all go down. They 
would have to go down until they found someone else willing to 
take the long side and assume the risk at a lower level. Today 
the index funds are crowding out other buyers. If China wants 
to come in and buy corn, beans, wheat or cotton, they have to 
compete with an index. There is one bushel to sell. They are 
both going to buy it. It is a bidding war between the two of 
them. So it does affect prices. Maybe not improperly, but it 
absolutely affects it. Whether they are in the delivery market 
or not.
    Mr. Conaway. Thank you, Mr. Chairman. I yield back.
    The Chairman. Thank you. The gentleman from California.
    Mr. Costa. Thank you very much, Mr. Chairman. I, like many 
of my colleagues, am still trying to get my arms around this 
complex issue that obviously is a cause of concern for many as 
to the impacts not just on the general commodity markets but of 
course on energy. Mr. White, you made a comment in your opening 
statement that I am trying to figure out. Obviously we are all 
concerned about adverse impacts of speculation and you seem to 
believe that it has had a significant impact. And I don't know 
how we would rate that. But in the charts that you use, that 
you provided, out of the five major oil fields in the world, 
four of them are all in decline, and one could maybe argue the 
fifth is in decline as well, not to mention others. And we know 
that demand for the product has risen rapidly as a result of 
the economic growth of China and India and other parts of the 
world.
    So I am wondering how you discount that and what percentage 
you are really able to make a determination because I believe 
in part--well, I believe the laws of supply and demand are 
impacting. It is one of the reasons I think we are in an energy 
crisis. And I am trying to figure out how much blame, or 
responsibility maybe is a better word, on the issue of 
speculation.
    Mr. White. Yes. Basically what you have is you have a 
situation of supply and demand and demand. You have your normal 
supply and demand and then you have this additional financial 
demand. So exactly like Mr. Nicosia said, the index speculators 
are demanding futures just like China or any other of the 
physical commodity consumers would be demanding futures. And so 
the problem is that, take 1998 for example, on average, 80 
percent of the positions on long and short were held by 
physical hedgers, 20 percent by speculators. So physical 
hedgers outnumbered speculators four to one and the market 
worked fine and prices reflected supply and demand. Today, on 
average, index speculators are about 40 percent of the long 
side. Traditional speculators are about 25 percent. And then 
physical hedgers make up the difference, about 35 percent. So 
index speculators are bigger in terms of long positions that 
they hold than any other category. And together with other 
speculators, they outnumber them two to one.
    Mr. Costa. I don't know, maybe because of the opaque nature 
of the group of investors that we are talking about, maybe it 
is not possible to determine. But do we know what percentage of 
those that are participating that you just indicated may be 
investors from China. Or, have you heard from some of these 
other places that are also--we are competing with for the 
product, for the energy?
    Mr. White. Let me understand the question. So you are 
saying of the 40 percent of index speculators, how many of 
those might be foreign index speculators?
    Mr. Costa. Right.
    Mr. White. I don't know the answer, but it raises a great 
question and that is some people have said that sovereign 
wealth funds could be anywhere from 10 to 20 percent of that 
money, and so it would be very unusual to see petro dollars. 
They make money when the price of oil is high and then they 
turn around and buy an index. But that is the only number I 
have ever looked at.
    Mr. Costa. Carly Gavars likes to say that if in fact the 
Chinese attacked Taiwan that we would have to borrow money from 
the Chinese to protect the Taiwanese. That is not the subject 
at hand of course. But to all four of you I want to ask the 
same question. Think about it precisely and concisely. We have 
had yesterday and I suspect you are familiar with them and 
there are other pieces of legislation out there that all 
attempt to provide a fix for the issue that you have just 
testified for.
    What do you precisely believe the fix ought to be if 
Congressional action is taken that would address very simple--
because I am a layperson, and I am not into the weeds like all 
of you are on this, but what are the one, two, three in 
priorities, simply stated?
    Mr. White. Okay. You are looking at me so I will--what we 
need is we need speculative position limits, Federal 
speculative position limits across all commodities, across all 
exchanges, including the over-the-counter swaps market. If we 
don't include swap, which are bigger than the futures, then we 
have left out a big portion of it. That is the main thing. I 
would also further say that I would like to see index investors 
told that they can't index anywhere. They can actively invest, 
trade, buy and sell, but no more indexation for what it does to 
the market.
    Mr. Costa. Okay. Mr. Nicosia. I assume that everybody 
believes transparency is a good thing.
    Mr. Nicosia. Without a doubt, the number one issue has got 
to be transparency and closing the loopholes to circumvent CFTC 
regulation and CFTC limits. Today it is just rampant and it is 
easy. So you need to close the loophole.
    Two, you need to open up the transparency of that 
aggregative positions. So once you close the loopholes, you 
also need the transparency and the reporting so that people can 
look at the aggregate of all trading activity both on and off-
exchange.
    And third, some type of limitation on index money. There 
may be a space for an index product to be in there, but to 
allow an index to put as much money it wants at any point in 
time simply because it has more money, the same right that is 
denied other participants, makes absolutely no sense to me. So 
limiting on the index money would also be an appropriate 
behavior.
    Ms. Cochran. I will go back to the issue of transparency. I 
think the first thing that we would like to see is that the 
CFTC has access and visibility into all the markets that they 
need to have access and visibility into. And then reporting to 
the public through reports such as the Commitment of Traders 
report, information that doesn't reveal obviously any 
proprietary information but allows the market to understand who 
has what positions and the impacts on those markets. We have 
seen that on the ag side and it has been very efficient.
    Mr. Costa. You are batting cleanup.
    Mr. LaSala. Yes, I am Tom LaSala. I am the Chief Regulatory 
Officer with NYMEX. I am filling in at the moment for Jim 
Newsome. I think everyone before me has said transparency. 
NYMEX is in favor of transparency, noting that, however, it 
needs to be on a reasonable basis. The notion of getting 
ingress to the OTC books is going to be extremely, extremely 
difficult. Additionally, some of the action taken with regard 
to the foreign boards of trade insofar as again transparency, 
comparable regulatory handling, position limits, actions moving 
on that, we support that. Additionally Dr. Newsome spoke to 
NYMEX advocating limitations on hedge exemptions that would be 
pursuant to the last 3 trading days for any swap dealer who has 
exposure directly related to noncommercial counterparties. So 
we would legislatively support that also.
    Mr. Costa. Thank you very much, Mr. Chairman.
    The Chairman. I thank the gentleman. The gentleman from 
Virginia, the Ranking Member.
    Mr. Goodlatte. Thank you, Mr. Chairman. I am sorry. What 
was your name again?
    Mr. LaSala. Tom LaSala.
    Mr. Goodlatte. Mr. LaSala, I wanted to ask this to Dr. 
Newsome, but you are the designated hitter. So let me ask it to 
you. We are told by one of the Members of Congress that 
testified yesterday that in 2000 physical hedgers accounted for 
63 percent of the oil futures market and speculators accounted 
for 37 percent. But by April of 2008, physical hedgers only 
controlled 29 percent of the market and that 71 percent of the 
market is now swap dealers and speculators. Meanwhile your 
testimony, or Dr. Newsome's testimony I should say, states that 
your data analysis indicates that the percentage of open 
interest held by speculators relative to commercial 
participants actually decreased over the last year, even at the 
same time that prices were increasing. That noncommercial long 
and short speculators, in other words, consistently have been 
in the range of 30 to 35 percent of the open interest. This 
would mean that hedgers make up the balance of 65 to 70 percent 
of the market. It is much different than the 29 percent cited 
by yesterday's testimony.
    I wonder if you can help shed some light on exactly what 
the available data is telling us, how do you define commercial 
and noncommercial, and what is included in these categories?
    Mr. LaSala. What Dr. Newsome was referring to was the 
traditional noncommercial that the CFTC who categorizes the 
parties in the Commitment of Traders reports as commercial or 
noncommercial would be individual speculators. I believe they 
would put index funds in there, wealth funds would be in there. 
That would be noncommercial. And what Dr. Newsome spoke to was 
that category's report about the CFTC in the past year as a 
whole decreased during rising prices. However, the larger 
percentage that you spoke to definitely bundled in effect 
actively every bit of open interest that someone might 
categorize as being applicable to a, ``swap dealer.'' We are 
quite confident that that is not the case. We are quite 
confident that when the CFTC, who has made calls to the swap 
dealers to look at the underlying books, you will absolutely 
confirm that that is not the case. And again, gentlemen, if you 
think about it, people that are going to swap dealers, they are 
absolutely commercial entities, whether they be airlines, or a 
home heating oil dealer, laying something off on the heating 
oil market. We are all familiar with that market where they are 
looking for fixed price protection and they can't manage it 
themselves. The swap dealers would be the ones prospectively 
laying off in the futures markets their net. I stress to you 
their net exposure. They are always going to look to 
effectively balance their book internally with offsetting risk 
and only effectively hedge in the futures market to the extent 
their net exposure.
    Mr. Goodlatte. So you would contradict the percentages that 
were cited here yesterday?
    Mr. LaSala. Absolutely.
    Mr. Goodlatte. Let me ask you. Some have called for higher 
speculative margins to tamp down on speculation. What has NYMEX 
observed with your recent margin increases? Would a systematic 
increase in margin reduce prices?
    Mr. LaSala. Would a systematic increase in margins reduce 
prices? No. It is going to prospectively have an effect on not 
only noncommercials but commercials, potentially pricing people 
out of the transparent market, pricing them out of hedging. I 
think it could translate into a more volatile and higher priced 
market. NYMEX does not set its margin, you referenced a number 
of margin increases recently. I am quite frankly very closely 
involved in the setting of the margins. Our margin setting 
policies are not aimed at a percentage of the notion of value. 
It is not aimed at controlling participation of the market. It 
is aimed at covering risk. And we look at the volatility in the 
market and we are looking to cover with 99 percent surety a 1 
day move. That is how we have traditionally managed margins at 
NYMEX. I think you would find that broadly speaking that the 
futures industry has done this.
    Mr. Goodlatte. Some of your fellow panelists have called 
for limits on positions, particularly by the index funds. What 
is your position on that?
    Mr. LaSala. I think it was also noted, my position would be 
this. Our hard position limits are in effect the last 3 days. 
Broadly speaking, the index funds are long gone before then. I 
would also say to you that broadly speaking, as a matter of 
fact, we have in any 1 month accountability level of 10,000 
contracts. During the pendency of the front month, when the 
10,000 contract accountability level is in place, we certainly 
look at the position of index parties and everyone. And I can 
tell you that if someone were to go through the 10,000 and have 
a substantive concentration, we would act upon it. And the best 
demonstration of that is documented by the Senate Permanent 
Subcommittee relating to the Amaranth matter. I directed a 
reduction of positions and that wasn't subject to a position 
limit violation. It was subject to their piercing the 
accountability level.
    So I think that effectively managing your use and 
management of accountability is an effective means of 
controlling speculation. You simply have to commit the time and 
the effort and the money and the resource to do it. And I 
believe we do that.
    Mr. Goodlatte. Let me ask if any of your fellow panelists, 
Mr. Nicosia, Ms. Cochran want to respond.
    Mr. Nicosia. Yes. If everything was a perfect world and all 
the information was on an exchange, then what was just said 
would be absolutely true. The problem is that if you have a 
10,000 contract limit of whether it is 5,000 in cotton, 10,000 
in crude oil, the truth is you have no idea what that guy's 
total position is today because all you see is the subset on 
your exchange.
    What he has in his own swap position, if he wants to exceed 
that, he can do that tomorrow on two trades in the swap market. 
So although ideally it is great if the exchange could be able 
to control that, they don't have full information. Neither does 
CFTC. How can we worry about a 5,000 or a 10,000 contract limit 
when all they are looking at is one subset, and everybody knows 
what those limits are and they can stay under them on the 
exchange. When they want to exceed them, they go off-exchange.
    Mr. Goodlatte. Mr. White, do you agree with that?
    Mr. White. Yes, I agree with that. It goes back to the 
point that if you put speculative position limits on the 
exchanges but not on the swaps market, you haven't achieved 
much because the swaps market is huge relative to the exchange.
    Mr. Goodlatte. Mr. LaSala, what would you say in response?
    Mr. LaSala. I am sorry I missed it.
    Mr. Goodlatte. What would you say in response?
    Mr. LaSala. I missed the point he mentioned. Forgive me.
    Mr. White. I just said that if you put limits on the 
exchange, but you don't put limits on the swaps then you 
haven't achieved much because the swaps are so much bigger than 
the exchange.
    Mr. LaSala. My response to that would be that generally the 
swap market is bigger, but, again the swap market is not the 
preeminent pricing market that you see. It is not the 
transparent market that the exchange is. And there are custom 
tailored deals that are occurring in the swap market. While I 
will say that there is an interrelationship, just like there is 
an interrelationship between the futures market and physical 
market like Dr. Pirrong said earlier, I don't think you have 
that same absolute relationship. You are going to make a 
transaction, take a position OTC which could be balanced by the 
swap dealer with another counterparty and that that is 
immediately going to translate into a push up or down, for that 
matter, in the futures market.
    Mr. Goodlatte. Mr. White, what do you have to say about 
that? The Chairman asked an earlier panel the same question. 
That is, if you have a private swap, how does that get 
reflected in the price of oil overall? How does that drive the 
market price upward?
    Mr. White. Well I am glad that came up because I was 
thinking about it through the first two panels. And I have an 
analogy for you. Okay.
    Mr. Goodlatte. My speech and debate coach in college said, 
analogy is the weakest form of argument. But go ahead.
    Mr. White. Okay. Well, with that, here is my analogy. Back 
in the Middle Ages, the way they used to buy and sell 
commodities is at the marketplace. It was in the city and they 
would have fairs at harvest time. And all the farmers from all 
around the countryside would come to the city. They would buy 
and they would sell and they would see what the supply was, 
they would see what the demand was from millers and brewers and 
stuff for this commodity. And that is how the prices were set.
    Now imagine if you had an enterprising grain merchant that 
said, ``I am going to go set up a stall on the side of the road 
and intercept people as they head into the city and offer them 
prices, and maybe I will buy and maybe I will sell outside of 
the city.'' And that is what swap dealers basically do. So in 
other words, if you have a wheat farmer that is coming to the 
city to sell his wheat but he never makes it because he did a 
deal on the side of the road before he ever got there, then 
that is less supply that exists in the city. That is less 
supply that exists in the futures market because it was offset 
in the swaps market.
    Mr. Goodlatte. But isn't it also true that there is less 
demand in the city because you also had somebody on the outside 
who was willing to sell on the outside?
    Mr. White. That is exactly right. You have somebody that is 
willing to buy on the outside called an index trader that is 
willing to buy in the swaps market and offset that supply that 
would otherwise come to the exchange. And that is why prices 
move up on the exchange in relationship.
    Mr. Goodlatte. Why would they move up if you have also 
taken some of the demand out of the market too because you have 
a person who doesn't make it to market who was willing to pay a 
certain price? You have less supply but you also have less 
people there with the cash to buy.
    Mr. White. The point is, it is all demand. It is all one 
market effectively. From a swaps dealer's perspective, all I 
care about is barrels. And if I can buy barrels for future 
delivery on the futures on the futures exchange, I will do 
that. If I can do it in an over-the-counter market, I will do 
that. It is all one market to them. That is the way they see 
it. So the point is is that an index trader going to the over-
the-counter market and putting their demand there will have the 
same effect as an index trader going to the futures exchange 
and having their demand there. So yes, their demand has an 
impact whether it was on the futures exchange or whether it was 
over-the-counter.
    Mr. Nicosia. Mr. Congressman, could I answer that also?
    Mr. Goodlatte. Sure.
    Mr. Nicosia. I am not going to use an analogy. I am going 
to use real life. Because we do do those transactions. And when 
they come in, we take the opposite side of that and we 
immediately go to the exchange and lay it off on that 
transaction in the exchange. So it creates immediate activity 
on the exchange. And if you happen to take a large retirement 
pension fund, if they decide to put $1 billion at work into the 
commodity market, it creates $1 billion of buying on the 
exchanges, period.
    Mr. Goodlatte. Would you like to respond to that, Mr. 
NYMEX?
    Mr. LaSala. Yes. And I will just simply note something that 
was stated earlier. Following the gentleman's point, he said he 
immediately creates this activity on the NYMEX or on the 
exchange. Okay. So we are going to give merit to that activity, 
let's assume in an upward--hypothetically--in an upward 
fashion. But what happens when that position has to be 
liquidated? Do we just completely ignore the liquidation? This 
is one of the things that I am puzzled with. How is it that 
everyone is willing to give merit to the presence of a buy in 
the market but completely disregard the exodus?
    Mr. Nicosia. The exodus will be just as great. You are 
absolutely right. When they go to liquidate, the push down will 
be just as great as the push up from where it is, from the 
relative level of imbalance that has taken place. I mean, this 
is fairly simple stuff. When you create extra money that flows 
through from the buy side, the only way that you can 
incentivize someone else to sell because you have to have a 
buyer and a seller is to create a higher price to bring in a 
seller at a higher level than he is willing to accept a risk to 
take the short side of that transaction. And when this money 
leaves, if it ever leaves, it will be just as disruptive on the 
way down. Because he is right. It is a matter of money flow. It 
is no different than it is in stocks as it is in commodities. 
If you have more buying come through, prices will rise until 
you reach a level that someone on the other side is willing to 
accept the risk to go short.
    Mr. Goodlatte. Let me ask all of you. One of the proposals 
that we have heard about is requiring enhanced reporting 
requirements that the CFTC should be directed to devise new 
classifications of trades to break out index speculators or 
swaps as a separate category. I can kind of guess how Mr. White 
and Mr. Nicosia will view that. What is your view of that?
    Mr. LaSala. We would support it. We have no problem with 
that.
    Mr. Goodlatte. Does everybody take that position?
    Ms. Cochran. We do, too.
    Mr. Nicosia. Absolutely.
    Mr. White. I would just like to point out that that will 
not bring prices down. That will do nothing to prices. But yes, 
we are in favor of that.
    Mr. Goodlatte. Well, we are trying to find out what will 
bring prices down. And we have one opinion from you and one 
opinion from you. So when we find something that people think 
will help with some discovery, we are encouraged by that. But 
then you say, that still won't help bring prices down, it makes 
us wonder whether anything will bring prices down because the 
real problem may be that the overall supply worldwide is not 
keeping up with worldwide demand and that is the real cause of 
prices moving upward.
    Mr. White. Well, to me, it is really simple. It is the 
money flowing in that pushes the prices up. An when the money 
flows out, the prices will come down. And the money hasn't 
flowed out. And what happens every month is the index traders 
just roll to the next month. They don't exit the position. They 
just roll it to the next month. So the money hasn't come out 
yet.
    Mr. Goodlatte. Well, let me ask you this: It has also been 
proposed that we ensure that only true physical hedgers qualify 
for hedge exemptions. Do you have a view on that?
    Mr. LaSala. Sure. I would disagree with it. If you are 
saying that you don't consider swap exposure per bona fide 
hedge, we would absolutely, again, use your heating oil dealer. 
Do you not want to get a price fix on your gallon of heating 
oil? That pricing program that probably everyone in this room 
has heard about from their home heating oil dealer, if he wants 
to pass a fixed price along, he is going to, in many instances, 
go to the swap dealer. So if you are saying that now that swap 
dealer cannot prospectively do that across multiple heating oil 
dealers in this example, you are cutting out a utility that is 
in the market that would be just absolutely devastating.
    Mr. Goodlatte. Even though that utility would not qualify 
as a physical hedger?
    Mr. LaSala. The heating oil dealer in my example could 
qualify as a commercial. But what I was responding to was if he 
got an OTC swap and you discounted the ability of a swap dealer 
to get an exemption, I think that would be detrimental.
    Mr. Goodlatte. Anybody want to respond to that? Mr. White?
    Mr. White. I just wanted to respond to your question. I 
think if I understand your question correctly, it was that the 
proposal has been made that you only get a swaps exemption to 
the extent that you have bona fide physical hedgers that you 
have done the swap with.
    Mr. Goodlatte. Yes. Hedge exemptions should be available 
only to true hedgers that have a physical underlying exposure 
to a commodity. Speculators should not be allowed to use this 
exemption to avoid position limits. For example, a financial 
trading subsidiary for an investment bank or an index fund 
should not qualify for a hedge exemption. Neither entity has a 
natural long physical ownership or a short physical need for 
commodities.
    Mr. White. I don't think we should get rid of the swaps 
market. I think we should keep the swaps market. I think the 
swaps market is important. And I do think that what Mr. LaSala 
has been saying is true, that a lot of swaps involve commercial 
bona fide physical players. And if you eliminate all 
speculation from the swaps market, then it would be the same as 
if you eliminate all speculation from the futures market. It 
wouldn't have the necessary liquidity that it needs. So the 
remedy for excessive speculation is speculative position 
limits. It is not elimination of speculation.
    Mr. Goodlatte. You would not ban index funds from 
speculating?
    Mr. White. Well, that is different. I would prohibit index 
funds because they are passive, long only, broadly diversified. 
Index is separate. Okay. So, in other words, keep the 
speculators just put limits on them; keep all the bona fide 
physical hedgers; keep the swaps market and the futures market 
and everything else.
    Mr. Goodlatte. Would you have the Congress set those 
limits? Or would you allow the CFTC the discretion to set the 
limits?
    Mr. White. My personal recommendation is that we have the 
bona fide physical hedgers in each one of those commodities set 
the limits. We have the Mr. Nicosias of the world. We have a 
panel on both sides, producers and consumers, you know six each 
or whatever that make a recommendation to the CFTC. And then if 
the CFTC wants to override it, then they can say why they want 
to override it. But I think the actual physical hedgers are who 
the market exists for. I mean, that is what these markets are 
for is for the physical players, not the speculators.
    Mr. Goodlatte. Let me ask one more. It has also been 
proposed that we close the foreign exchange loophole. I guess 
that is the so-called London-Dubai loophole. It has been 
proposed that all foreign exchanges offering commodities 
through a U.S.-based terminal should be subject to the same 
regulatory requirements applicable to U.S. exchanges including 
position limits, margin requirements and reporting. Further, 
U.S. traders trading on non-U.S. markets should also be held to 
the same regulatory requirements as those trading on U.S. 
exchanges. Do you agree with that as a proposal; is it a good 
idea? And what will be the consequence to the U.S. markets if 
we do that? Will the business simply go overseas beyond the 
reach of our regulatory controls? Mr. White, let me ask you. 
And we will go right down the panel and everybody will answer 
that.
    Mr. White. If I understood it correctly, then basically I 
just believe every exchange ought to play by the same rules.
    Mr. Goodlatte. Correct. But the question is, can we make 
other exchanges play by the same rules?
    Mr. White. Sure. Absolutely.
    Mr. Goodlatte. How?
    Mr. White. If we want to. Anybody that is based in the U.S. 
is subject to U.S. limits. Anybody that is residing in the U.S. 
with a terminal in the U.S. is subject to U.S. limits.
    Mr. Goodlatte. If they are speculators, in other words, if 
they are an oil business, obviously that would easily apply to 
them. But if they are simply speculators in the market, isn't 
it very easy for them to transfer their assets to some other 
location elsewhere in the world so that they can then 
participate on an exchange that is not subject to those 
regulations?
    Mr. White. Yes. Basically physical hedgers today have no 
limits; they never had them and they never will.
    Mr. Goodlatte. They are out of the picture. We are talking 
about speculators?
    Mr. White. Right. So any speculator----
    Mr. Goodlatte. Not going to take delivery.
    Mr. White. That is below the limits has no incentive to go 
elsewhere either. You would much rather be in the U.S. with 
U.S. banking, U.S. financial system, U.S. regulation.
    Mr. Goodlatte. Would you? Why?
    Mr. White. Why? Because you have the physical hedgers here, 
and they are the ones setting the prices that truly reflects 
supply and demand. It is not a speculative casino in the sky. 
It is a real market.
    Mr. Goodlatte. Aren't there hedgers out there in the world 
that are hedging----
    Mr. White. Plus you want the liquidity.
    Mr. Goodlatte.--based upon delivery in Europe or delivery 
on the Pacific rim or delivery in China?
    Mr. White. Yes. And my recommendations have nothing to do 
with that. I mean Brent crude is going to trade in London and 
it is trading now. It is Brent crude. It has nothing to do with 
the U.S. I mean, Oman, sour crude, trade 'em up.
    Mr. Goodlatte. What about oil that is coming into the 
United States that is not produced in the United States?
    Mr. White. Exactly. It is delivered in the U.S. It is U.S. 
It can be regulated and the U.S. regulates anything coming into 
its borders.
    Mr. Goodlatte. Mr. Nicosia.
    Mr. Nicosia. In regards to the first part of your question 
as far as the overseas exchanges, I think that is mostly an 
energy reference. And I don't have much of an opinion on that. 
As far as the question you asked about the outflow of cash and/
or trading to other exchanges or to other places, I think that 
it is a very weak threat and one that I would put very little 
credence in. Money flows to opportunity and it is going to flow 
to liquidity.
    And the best liquid exchanges in the world are here in the 
United States. It also has the best laws to protect those 
tradings. It also has the best regulatory situation and 
people's money is safe here. Continuously, other exchanges have 
tried to open with numerous different contracts and different 
locations and the majority of them all fail. So the money is 
going to go where it is safe and where it is liquid. So to the 
extent that if we are worried about our exchanges being in 
trouble I am not worried about that in the least.
    Mr. Goodlatte. Ms. Cochran.
    Ms. Cochran. I would have to slightly disagree with Mr. 
Nicosia. Our membership represents a broad spectrum of 
commercial participants and noncommercial participants as well. 
We have some individual speculators that are our members and I 
have heard resoundingly from all of our members that they have 
a lot of concern that while they want additional transparency 
and reporting requirements on all of those things, if 
regulations and laws aren't enacted, that makes doing business 
on U.S. futures exchanges more expensive, that the money will 
go somewhere else. Either it will go off-exchange or it will 
move to other markets somewhere else in the world and outside 
of the jurisdiction of the United States. And in a world of 
electronic trading, that becomes easier and easier.
    Mr. Goodlatte. Mr. LaSala.
    Mr. LaSala. I will follow up and agree with the point Ms. 
Cochran just made. In that if we over-legislate and make doing 
business in the United States, you know, 50 percent margins, 
ridiculously low position limits, just simply make it so 
uncomfortable for people to conduct commercial activities, I 
fully contemplate, and as you know, there are other energy 
exchanges, other clearinghouses around the world. There are 
other markers that people can use other than the reliable one 
that we have had. We can lose that business.
    We have been in favor, as stated earlier with regard to the 
changes that have been proposed and put into effect on 
conditioning the No Action letters, having comparable position 
limits, having large trader reporting. We can't control the 
margin policies of overseas DCOs. But in terms of keeping a 
level playing field for a U.S. commodity, WTI where there is a 
look-alike done overseas, we completely support that. If I 
could just add one point, if I have heard Mr. White before, 
unless I misunderstood him, he made a comment that there are no 
limits for commercials in NYMEX or in the U.S. That is not 
correct. The expiration limits, the accountability levels, any 
1 month and all months are applicable to everyone. We exempt in 
the last 3 days if it is demonstrated what we think appropriate 
bona fide exposure to parties to prospectively higher levels. 
But I want to be clear.
    And as Dr. Newsome stated earlier, this is not just a 
blanket exemption. You are exempt. Go do what you will. They 
ask for finite numbers. We evaluate carefully not only what the 
reasonableness of their need is, how appropriate is it, does it 
make sense. But also, wouldn't dare give someone just by size 
alone the ability to bully the market. I will state to you 
that, broadly speaking, if you took the largest exemption 
assuming that someone went up to the greatest extent of that in 
our markets on the last day, it would be less than 25 percent 
of the open interest. And obviously that percentage is smaller 
as you go to the second to last day, third to last day because 
the open interest is tunneling down.
    So we are extremely conservative and mindful of not giving 
wide open limits. Thank you.
    Mr. Goodlatte. Thank you, Mr. Chairman.
    Mr. Etheridge [presiding.] Thank you. I thank the 
gentleman. And I yield to the gentleman from Georgia, Mr. 
Marshall.
    Mr. Marshall. Thank you, Mr. Chairman. I assume our clock 
is off at this point. Were you here and did you hear Dr. Irwin 
and Dr. Pirrong's testimony, Mr. White, Mr. Nicosia in 
particular?
    Mr. White. Yes. Yes.
    Mr. Nicosia. Yes.
    Mr. Marshall. How did they get it so wrong? They have been 
at this for what, 30 years, both of them? Could you enlighten 
me?
    Mr. White. I don't know about enlightening you. But what 
they are espousing is the academic and what is taught in the 
finance textbooks. I was at University of Chicago when Dr. 
Pirrong was a professor there. We met and talked about that. I 
think it is a fundamental misconception between financial 
futures and commodities futures. So what they teach you in 
business school is that the spot price is an anchor, that 
futures prices have to convert to spot, that the only thing 
that can affect spot prices is supply and demand fundamentals, 
and that the only way that the futures price can affect the 
spot price is if it somehow affects supply an demand.
    But that is just wrong, because there are four ways in 
which the futures price can affect the spot price. Beginning in 
the 1980s in the energy markets, many energy participants 
decided that they were going to price their spot deals off the 
futures price. So I call up and I say, ``I would like to buy a 
tanker full of crude. What am I going to pay?'' And they say, 
``You are going to pay the NYMEX futures price plus or minus a 
differential.'' That doesn't have anything to do with the last 
3 days. That is just the nearest expiration futures contract.
    So when that futures contract goes up, the real world spot 
price goes up. That is one. Second of all, there are a lot of 
contracts that specify the futures price. Now you might ask 
yourself, why do they want to use the futures price? The answer 
is because we can hedge the futures price if we specify the 
basis in the contract, then we can use the futures to hedge it 
and we have eliminated our risk, plus they all agreed back in 
the 1980s that the futures price was the best price. It was the 
best indication of what was going on.
    And it was. Because it was largely determined by supply and 
demand because it was just modified physical hedgers in that 
market. Then there is arbitrage. That is the third thing. You 
can arbitrage the price. Okay. You know which is basically 
going to cause convergence. So if you have a giant elephant 
buying in the futures price and you are trying to converge, and 
then the fourth thing is that it is the benchmark for 
everything they do. There is not a guy in the swaps market that 
is not aware of where futures prices are and cash prices. There 
is nobody in the cash market that is not aware of where futures 
prices are. And it is very easy, well, I shouldn't say it is 
easy, but there is a strong relationship between futures and 
spot that is not part of the academic literature.
    Mr. Nicosia. Also I wouldn't say that they necessarily had 
it all wrong but I do think that they miss reality. And for 
example when Professor Pirrong was talking today about how the 
speculator is gone by the time delivery comes, therefore, they 
are not affecting delivery price that takes place with real 
supply demand when we go into delivery and that is ultimately 
what it is. Since they are not in it, that does not affect the 
prices, that is absolutely wrong. Because that is not how 
commodity markets work. We are the largest handler of taking 
delivery, making delivery in the world. And their absence to 
being in the delivery market has nothing to do with setting 
that price because prices work in relationship to other values.
    So, for example, if the nearby futures contract is going to 
delivery and the second month, the next month out in frontward 
is at a substantial premium, people will take that at any price 
because as a relation of the cost of carrying the commodity. 
They will own it and the cost of carrying it, paying interest 
in storage.
    Mr. Marshall. Arbitrage.
    Mr. Nicosia. Has nothing to do with the absolute level. It 
has to do with the relative level. So if someone is offering 
you the promise of a higher price in the future, you will pay 
more for it today even though there is no other demand because 
you are buying it against his relative promise in the future. 
So as these indexes or other speculative positions continue to 
roll forward and to move their demand and buy the next month 
out, that creates spot demand for anyone who has any money 
whatsoever to buy the commodity and hold it against the hope; 
against giving it to them into the next month. By the time you 
get there, they move forward to the next month again. And all 
it does is it creates a chain where you continually link it 
month to month and that is where your spot demand comes. Not 
from the demand in the cash market of an end consumer and end-
user coming to meet.
    Mr. Marshall. You heard me ask the three members of the 
last panel, the two doctors. And I can't remember the guy's 
name who was in opposition, who took basically the view the two 
of you are taking of this matter to get together with the two 
doctors to see if they could come to what is the nub of the 
disagreement? Are we going to have to agree to disagree?
    Mr. Nicosia. I don't think so because I think that there is 
some ``generalness'' of agreement, to the idea that you need 
convergence at some point in time, that is a reasonable 
agreement that all of us would agree to. The difference is that 
you can have convergence on an absolute or a relative level.
    Mr. Marshall. My sort of understanding of this doesn't come 
close to yours. And my sort of basic understanding of this is 
that the two doctors were saying this index money didn't have 
any effect at all on price. And you differ with that.
    Mr. Nicosia. I don't see how anyone can come up with that 
conclusion whatsoever.
    Mr. Marshall. Are you willing to talk to somebody who did? 
Could you talk to the two doctors and see if you, along with 
the other fellow, the three of you could get to the nub of what 
the two of you or the two sets of views fundamentally differ 
with?
    Mr. Nicosia. Right. And I do think that is a difference 
between today the ag markets and the energy markets that Dr. 
Newsome mentioned before. There is a slight difference to it. 
But even in the energy markets, I think there is a key 
difference between saying that they are responsible for prices 
being high as to be a difference for them to be this high. 
Because there is no doubt that there is an imbalance in the 
energy market. There is no doubt energy prices are going up 
with or without the speculation that took place. Whether 
today's price would be $125 instead of $145, I think that is 
fairly easy to say that the additional piling on of this demand 
is taking the place of demand. If you take the 900 million 
bushels that is held in speculative position in soybeans today 
and that wasn't there, someone else would have to assume that 
risk. Prices would be lower before someone else would accept 
that risk. It is the same in the energy market.
    Mr. Marshall. For certain agricultural commodities, the law 
requires that the CFTC itself set position limits which you say 
don't work for reasons you have already described. But in any 
event, the law does say that corn for example being one, cotton 
being another that the CFTC will set position limits. The 
position limits are not just the last 3 days. The position 
limits apply to given months for yearly positions, for yearly 
averages, things like that. I don't know the details.
    Mr. LaSala, since Dr. Newsome said there is this very 
cooperative relationship between the CFTC and the exchanges 
with regard to this position limits matter, what would be the 
problem with the CFTC legally being required to set position 
limits monthly, yearly? It is the exact same way that the 
position limits are set for the ag commodities in energy 
markets. And then y'all work well together with the CFTC anyway 
so you would obviously be working with them to try to find what 
are the appropriate limits to be set. But they wouldn't just be 
in the last 3 days and it wouldn't be accountability levels. 
There would be position limits.
    Mr. LaSala. Again, I think we have a protocol that has 
worked. And we have worked cooperatively with the CFTC. I fear 
that you start mandating Federal limits and the point that I 
raised earlier and where we would be so far out on a limb 
insofar as disparate with other regimes FSA, DFSA, you can look 
around the world, does not even require large trader reporting. 
We are not saying that is right. We think there should be 
position limits, position accountability, but I have a sincere 
concern that we could prospectively drive business away if we 
just simply over-regulate this market. You know to be clear, 
gentlemen, it is a process to negotiate exemptions to position 
limits. I regularly go through--over the course of the hundreds 
of commodities, we have put hard limits on everyone. We have 
competitor exchanges that have no limits. When I go and try and 
administer even the front month one there are comments that are 
made that this is a hassle. I am going to this less transparent 
market. And I think that that is absolutely what could happen. 
I think it would be detrimental to transparency and the good of 
functionality of these markets as they operate today.
    Mr. Marshall. Mr. Nicosia.
    Mr. Nicosia. Well, again, when we asked the earlier 
question, I do agree to the extent that if we were to raise 
fees and/or margins to unreasonable levels, that will drive 
stuff to overseas marketplaces. But again, I think that as far 
as you are looking for legislation or rules or ways to try to 
solve other loopholes, it is hard to solve excess speculation 
per se. But you have to realize how the real market works. You 
don't even have to get a hedge exemption. Every fund, any money 
that wants to, just call someone with a hedge exemption and put 
the order in with them.
    Mr. Marshall. Right.
    Mr. Nicosia. They use other people's hedge exemptions to 
get around this. So our biggest concern is that in order to get 
a handle on it first----
    Mr. Marshall. It has got to be market-wide.
    Mr. Nicosia. You have to be able to take all the pieces and 
put them together. Because otherwise it is like trying to plug 
one hole in a net. It just goes out another side of the net. 
You can't do it. And until we know the extent of the problem if 
there is a problem, we can't fix it because we may be fixing 
the wrong thing. So I don't think you can necessarily legislate 
against speculation. I think it is very difficult to try and I 
would not raise limits. I wouldn't raise limits but I also 
would not raise margins or user fees to that extent because I 
do think that it would drive business overseas. But we have to 
try to get our hand upon all of these circumventing trades to 
take place to go around transparency. That is where you must 
start before you throw the baby out with the bath water.
    Mr. Marshall. We discussed it in an earlier panel and you 
might have been there as well, the possibility of having the 
over-the-counter market, the swaps market provide reports to 
the CFTC to enable the CFTC to see what is going on. But those 
reports would not be public information. So presumably one of 
the objections that the swaps market might have, and that is 
somebody would get ahead of the hedging opportunity.
    Mr. Nicosia. I think that was a huge fallacy that you heard 
earlier today. I find it very interesting that I have to report 
those. So why is it okay that I report my activity? I have to 
report my cash activity, my swap activity. I report all of that 
activity today. For them to see against me. But they don't have 
to report it?
    Mr. Marshall. Do they see it?
    Mr. Nicosia. Absolutely they see it. They see it in 
aggregate.
    Mr. Marshall. They see it in aggregate but they don't see 
the individual position.
    Mr. Nicosia. No, and I don't think anybody has ever asked 
to see it individually. I think they want to see it in 
aggregate, both aggregates from a general component and then to 
aggregate individuals' positions from CFTC's standpoint alone 
to see if they are circumventing position limits. But today you 
don't get anything. Not only do you not get a reporting of a 
swap, you don't get any of the counterparty information either. 
So that if an individual had five swaps, with five 
counterparties and that in total aggregates to something, there 
is no way or no venue today to try to bring that into one 
location. That should be CFTC's responsibility.
    Mr. Marshall. I know you have been doing this orally and 
very much appreciate your testimony both you and Mr. White, all 
of you. But with regard to this dispute between the doctors and 
you with regard to the impact of this passively long index fund 
money, would you be willing to submit something by Monday in 
writing that specifically addresses that and points out why the 
two academicians just have it wrong?
    Mr. Nicosia. Unfortunately I wouldn't won't be able to 
because I leave here to join my family for 3 days of vacation 
but some time soon thereafter, I would be happy to.
    Mr. Marshall. Could you get Neil to do it?
    Mr. Nicosia. You get what you ask for.
    Mr. Marshall. Mr. White, can you----
    Mr. White. Yes.
    Mr. Marshall. It is your opportunity to take off after your 
old professor there.
    Mr. White. Right. I can do that. That is not a problem. I 
will just say since we have the time, there is two nubs really. 
One is the relationship between futures and spot. And then the 
other thing was they talk about where are the inventories if 
prices are so much higher than supply and demand would dictate, 
why isn't there the inventory? And the answer is is because you 
know the problem especially in oil and food is you can't get 
any more inelastic than that. It is like basically two vertical 
lines in the sense that you know other than air and oxygen and 
drinking water, there is nothing more inelastic than food. I 
mean that is going to be the last thing that people give up. So 
it is really the case where we have to pay at it, whatever the 
price is.
    Mr. Marshall. I have nothing further. Thank you, Mr. 
Chairman.
    Mr. Etheridge. I thank the gentleman. Let me thank each of 
you. Today has been a very good hearing. The truth is, we have 
raised a lot of questions. We have a lot of material to work 
with. This Committee will recess until tomorrow morning at 9 
a.m. We will be back for another panel. And I think it is the 
intent of the Chairman and certainly is my intent as Chairman 
of the Subcommittee working with the Members of our 
Subcommittee and this full Committee to get all the data we 
possibly can. And these 3 days, 2 days thus far have been very 
helpful.
    Today has been very helpful. And I think tomorrow will be, 
as well. And try to come back with some kind of solutions to 
the extent we can maybe next week after we have gathered all 
this data to move forward. We want to be cautious but we want 
to respond to the needs to make sure the market works for the 
producers, for the consumers and for the investors. That it 
works in a fair manner and that there is enough sunshine 
because I happen to believe very strongly that sunshine is a 
very purifying source. So with that, we stand adjourned until 
tomorrow morning at 9 a.m.
    [Whereupon, at 5:42 p.m., the Committee was adjourned.]
    [Material submitted for inclusion in the record follows:]
Supplemental Material Submitted By Charles A. Vice, Vice President and 
            COO, IntercontinentalExchange, Inc., Atlanta, GA
                               Fact Sheet
About IntercontinentalExchange, Inc. or ``ICE''
    IntercontinentalExchange is a leading global exchange operator, 
comprising both regulated futures and over-the-counter (OTC) markets 
across a variety of product classes, including agricultural and energy 
commodities, foreign exchange and equity indexes. ICE owns and operates 
three regulated futures exchanges: (1) ICE Futures Europe, a London-
based futures exchange overseen by the U.K. Financial Services 
Authority; (2) ICE Futures U.S., an agricultural commodity and 
financial futures exchange regulated by the Commodity Futures Trading 
Commission (CFTC); (3) ICE Futures Canada, Canada's leading agriculture 
exchange, regulated by the Manitoba Securities Commission.
How Energy Futures Markets Operate
    Energy derivatives are financial contracts whose value is linked to 
changes in the price of an underlying energy product, such as crude oil 
or natural gas. Both hedgers and speculators trade energy derivatives 
by forecasting price trends for these commodities and taking positions 
in the market that reflect their price expectations for the future. 
Participants enter into these contracts by taking short or long 
positions to hedge their risk against rising commodity prices or to 
generate profit. Typically this does not involve the purchase of the 
physical commodity, so the supply of the commodity available to 
consumers is not reduced by futures transactions. Rather, market 
participants buy a futures contract on a commodity; when the contract 
is settled, cash payments are made in lieu of taking physical delivery 
of the commodity.
    In the case of oil, investors in futures markets help to stabilize 
the market by providing oil producers with reliable market liquidity, 
enabling producers and consumers of energy to lay off risk to those 
willing to assume it. By conducting business through transparent and 
regulated exchanges like ICE, investors are a necessary part of 
establishing efficient, market-driven pricing in the oil markets.
Why Additional Regulation Is Not the Answer
    Some in Congress are reacting to higher oil prices--driven by the 
rising imbalance between supply and demand--by proposing excessive 
regulations on already regulated global commodities markets. These 
actions are driven by the misconception that oil prices are being 
manipulated by excessive speculation. The U.S. CFTC (which regulates 
commodities futures markets) has stated there is no evidence that 
excessive speculation or manipulation is occurring in the oil markets.
    Paul Krugman, a respected columnist for The New York Times, 
recently wrote about the myth that speculators are driving high prices 
in the oil market. After expressing doubts over the idea that the 
futures market is contributing to rising oil prices, he wrote:

        ``In any case, one thing is clear: the hyperventilation over 
        oil-market speculation is distracting us from the real 
        issues''.

    Mr. Krugman suggested the proper role of the government is to 
assist the private sector's effort to develop a rational energy policy 
that includes real solutions such as alternative-energy technologies, 
new methods of conservation, and an expanded public transit.
    The sustained rise in crude oil prices is not caused by the 
existence of the futures market, but instead by the increasing global 
imbalance between supply and demand, geopolitical issues, along with 
the depreciation of the U.S. dollar. Placing excessive regulations on 
this market would have adverse consequences for the U.S., its energy 
markets and its core commercial users without providing meaningful 
oversight enhancement or reducing the fundamental pricing pressures 
driving world energy prices.
    If Congress excessively regulates U.S. exchanges operating 
globally, then traders will likely flock to new, less transparent 
markets, which are not as regulated and which are outside of the reach 
of U.S. regulators. For example, the Dubai Gold and Commodities 
Exchange now offers a crude oil futures contract that has no regulatory 
obligations to the U.S. regulators. Futures markets in China and India 
are searching for ways to develop their own crude oil markets as well--
with no obligation to conduct business under U.S. law.
    Driving dollars or investment out of the cash-settled futures 
markets by making financial participation costly or illegal is likely 
to result in the flow of investment dollars into the physically-
delivered or spot markets. This would amount to financial investors 
controlling physical inventories of crude oil, rather than a position 
in a ``paper'' or cash-settled futures contract, which puts no pressure 
on supply. In such a scenario, hoarding ensues, prices skyrocket, lines 
begin to form at gas stations and fuel rationing in the U.S. would be 
conceivable.
The ``Enron Loophole'' No Longer Exists
    The ``Enron loophole'' referred to the exemptions from CFTC 
regulation that existed in the OTC market. While ICE's OTC business 
operates as an Exempt Commercial Market, ICE was never granted these 
Enron-specific exemptions. Most importantly, ICE's OTC market has a 0% 
share of trading in U.S. crude oil, heating oil, jet fuel, and 
gasoline, and therefore is not contributing to any price formation in 
these markets.
    To increase the transparency of energy markets, Congress passed 
into law--in a bipartisan fashion--a provision in the 2008 Farm Bill 
that unequivocally closes the ``Enron loophole'' by extending CFTC 
regulation to all energy contracts deemed to be a price-discovery 
contract, rather than just traditional energy futures contracts. This 
new legislation has resulted in extending CFTC regulation to all 
electronically traded OTC energy contracts, such as those traded on 
ICE, requiring futures-style reporting and regulation.
    The Chairman of the CFTC has stated for the record that the ``Enron 
loophole'' has been fully closed and that the CFTC has sufficient 
authority to police the OTC energy markets:

        Senator Carl Levin (D&MI): ``Could I ask a quick question of 
        Mr. Lukken? Have we effectively closed the Enron loophole, in 
        your judgment?''

        Walter Lukken (Chairman, CFTC): ``Absolutely.''

        [Senate Committee on Homeland Security and Governmental 
        Affairs, CQ Transcripts, 6/24/08]

    Many leaders in Congress concur that the years of work put into 
eliminating this unnecessary loophole have resulted in significant 
reform for the previously unregulated OTC markets. Now Congress must 
give the Act time to work.
The Existence of a ``London Loophole'' Is a Myth
    The mythical ``London Loophole'' is propagated by those who 
inaccurately believe that the WTI oil futures contract offered by ICE 
Futures Europe (IFE) is subject to substantially less oversight than 
its U.S. counterpart NYMEX. Since 1981, IFE has been located in London 
and fully regulated by the U.K. Financial Services Authority.
    While the Commodity Exchange Act prohibits the CFTC from directly 
regulating foreign exchanges, it permits foreign access to U.S. 
customers through the ``no-action'' process--today nearly two dozen 
foreign exchanges operate in the U.S. pursuant to this process. IFE 
originally received its No Action letter from the CFTC to provide 
screen access to U.S. traders in 1999. Recently, IFE has agreed to 
amend its No Action letter with the CFTC, now ensuring that the WTI oil 
futures contract will be subject to equivalent U.S. position limits and 
accountability limits.
Proposed Legislative Solutions
    ICE stands ready to work with Congress to help ensure that the 
commodity futures marketplace is functioning in an appropriately 
regulated environment that protects market participants and prevents 
market manipulation. We believe there is a clear need to provide more 
funding and staffing to the CFTC to carry out expanded responsibilities 
in a rapidly growing marketplace. Funding has been cut and staffing is 
at all-time lows in a marketplace where commodity trading has been 
transformed by global growth and competition. The CFTC warrants 
increased resources so it can continue to ensure the integrity of all 
markets within its jurisdiction. Furthermore, we believe the exchanges 
should provide enhanced quantity and quality of information to the 
CFTC, an initiative that ICE is actively participating in today.
                               News Clips
The Usual Suspects: Are Financial Investors Driving Up the Cost of 
        Commodities?
Silicon Investor
By Javier Blas and Joanna Chung
7 July 2008

    Prices were outrageously volatile. While traders attributed the 
sharp market movements to supply and demand, most politicians in 
Washington were sure that speculation was the culprit. The U.S. public 
became incensed.
    The year was 1958, the commodity in question onions. Congress held 
long and sometimes tumultuous hearings in which Everette Harris, then 
president of the Chicago Mercantile Exchange, tried to convince 
lawmakers that the futures market for onions was not the cause of the 
volatility. ``We merely furnish the hall for trad
ing . . . we are like a thermometer, which registers temperatures,'' 
Mr. Harris told a hearing. ``You would not want to pass a law against 
thermometers just because we had a short spell of zero weather.'' But 
such arguments were ignored and in August of that year the Onion 
Futures Act was passed, banning futures trading in the commodity.
    Fast-forward 50 years and it seems that little has changed. The 
recent surge in commodity prices has sparked an intense and politically 
charged debate on whether financial investments--to some, plain 
speculation--are affecting the markets. Pension funds and other big 
institutions today hold about $250bn in commodities, mostly invested 
through indices such as the S&P GSCI, a widely accepted industry 
benchmark. This compares with just $10bn in 2000, although part of the 
increase represents the rise in prices rather than fresh flows of 
money. 




    Political pressure is also mounting outside the U.S. Italy is 
calling on the Group of Eight leading economies to tackle commodities 
speculators, while last week a UK Parliamentary Committee said it would 
hold its first hearing into regulation of oil markets amid concern over 
the possible role of speculators in driving record crude oil prices.
    But lawmakers could end up disappointed if they enact restrictions 
or outright bans on the trading of commodity futures. Indeed, a number 
of governments, regulators, central banks, investors and multilateral 
organisations have argued that such moves would be unlikely to either 
damp volatility or stem the increase in prices.
    The U.S. regulator says there is little evidence to link price 
rises to institutional investors. It has maintained its stance that 
fundamental supply-and-demand


    Some go further. The International Energy Agency, the western 
countries' oil watchdog, recently accused politicians of looking for 
``an easy solution'' that avoids taking the necessary steps to improve 
supply and curtail demand. Michael Lewis, head of commodities research 
at Deutsche Bank, says: ``When regulators turn the lights on these 
`dark markets', they will find no monsters in the room--rather 
underlying fundamentals driving prices higher.''
    The Onion Futures Act is a perfect case study. When economists 
studied the market, they discovered that volatility and prices were 
higher in the period after the ban than they were before. Fre&1de&1ric 
Lasserre, head of commodities research at Socie&1te&1 Ge&1ne&1rale in 
Paris--who has studied the onion example--says today's context is very 
similar. ``The politicians are leading the debate pressured by the 
people,'' Mr. Lasserre says.
    The onions market is not the only example. India last year banned 
financial trading in most agricultural commodities but prices continued 
to rise. ``[Banning financial trading] is irrelevant,'' says a senior 
Indian official. ``When a commodity is scarce, its price rises, whether 
it is traded on an exchange or not.''
    That is exactly the argument of those who say that high prices 
merely reflect robust demand growth--boosted by the industrialisation 
of populous emerging economies such as China, India and Brazil or new 
policies such as biofuels--against sluggish supply increases following 
years of under-investment.
    Moreover, record commodity prices are being seen across the board, 
not just in raw materials with developed futures markets but also in 
those without significant speculative investments such as iron ore and 
rice, up 96.5 percent and 120 percent respectively this year. Research 
by Lehman Brothers shows that prices for metals that are not traded in 
exchanges, such as chromium, molybdenum or steel, have risen faster 
than prices for metals traded in exchanges, such as copper or 
aluminium. In addition, some of the commodities markets in which 
pension funds hold the largest share of outstanding contracts, such as 
hogs, have seen price drops.
    Equally important is that price rises across the commodity spectrum 
are not in line. This shows that different markets are responding to 
their own supply-and-demand fundamentals rather than to financial 
investors' money flows, analysts say. The base metals market is a good 
example: while aluminium and copper prices have risen by about 30 
percent since January, nickel, zinc and lead have fallen between 20 and 
40 percent. Tin, the only metal in which pension funds had little 
exposure, has jumped almost 40 percent.
    In another sign that supply and demand is the main driver, 
inventories for most commodities--including crude oil--have fallen 
since January. Many analysts echo Mr. Lukken in pointing out that 
financial investors in commodities are no longer betting only that 
prices would rise, as at the beginning of the boom in 2000&2001. Today, 
many funds are betting on lower prices.
    The UK Treasury, in a report published last month, suggests that 
investors are not driving price increases. ``Although there is 
insufficient evidence to conclusively rule out any impact, it is likely 
to be only small and transitory relative to fundamental trends in 
demand and supply for the physical commodities,'' it says.
    Wall Street banks acknowledge that investor flows could influence 
day-to-day movements, pushing prices to overshoot or undershoot their 
fundamental level for a few days. But they state that investors are 
unable to shape the long-term trend.
    Such arguments, however, seem to have proved less persuasive for 
U.S. lawmakers than those of other experts testifying before Congress. 
Michael Masters, a manager of a long-short equities hedge fund with a 
large stake in oil-hit airlines shares, told legislators that gasoline 
prices could fall as low as $2 a gallon--half today's price--with 
legislation barring commodity index funds. Fadel Gheit, an equity 
analyst at Oppenheimer, claimed that current record oil prices in 
excess of $135 per barrel were inflated. ``I believe, based on supply 
and demand fundamentals, crude oil prices should not be above $60 per 
barrel,'' he said.
    In response, lawmakers are preparing new legislation aimed at 
quickly fixing the problem of record high oil and food prices--or, as 
one Committee staffer put it, to ``help American families right now''. 
The proposals--several backed by political heavyweights--range from a 
ban on some kinds of speculation in commodities and energy futures 
markets, to higher margin requirements, to effectively extending the 
jurisdiction of the CFTC overseas. For instance, the ``Close the London 
Loophole Act'' aims to stop traders from manipulating prices and 
speculating excessively by routing oil trades through foreign 
exchanges. The ``End Oil Speculation Act'' proposes to increase the 
money, or margin, that speculators would have to put up to trade oil 
futures to 25 percent of the value of the underlying commodity compared 
with seven percent now.
    Some sceptics dismiss the various proposals as political posturing. 
But amid the growing political pressure, the CFTC has already taken the 
step of imposing position limits on the crude oil contract traded on 
London's ICE Futures Europe exchange and a similar contract to be 
traded on the Dubai Mercantile Exchange, bringing limits for crude oil 
traders overseas in to line with limits on domestic markets. Congress 
recently approved legislation closing the so-called ``Enron loophole'' 
and giving greater authority to the CFTC to oversee over-the-counter 
derivatives markets.
    Some observers of Capitol Hill suggest that lawmakers could try to 
consolidate the different proposals. But is unclear what laws, if any, 
will emanate from Congress, not least given that the White House--which 
has the power to veto legislation--has taken the view that supply and 
demand are behind the price surges. President George W. Bush recently 
threw his support behind proposals--forwarded by John McCain, 
Republican Presidential candidate--to lift the ban on fresh oil 
drilling off the U.S. coast to help reduce dependence on foreign energy 
sources.
    A White House veto could be overridden if enough Republicans join 
the Democratic majority as they did last month, when the House voted by 
a huge margin--402 to 19--to require the CFTC to ``utilise all its 
authority, including emergency powers, to take steps to curb excessive 
speculation in the energy futures markets''. However, it is unclear 
whether the Senate will take up the same bill.
    Political pressure is so high that some think that Congressional 
action is possible before the summer recess in August. One 
Congressional insider says: ``The truth is that it is going to be very 
difficult to get anything done before the Presidential election . . . 
But this is so much a primary issue facing everyone, there is 
momentum.'' One of the bills that could have some traction is the so-
called ``Increasing Transparency and Accountability in Oil Markets 
Act'', introduced by Democratic senators Dick Durbin, the Senate 
majority whip, and cosponsored by 15 other Senators. The bill would 
authorise new resources for the CFTC, including 100 extra employees, 
and close the ``London Loophole''.
    Some of the more extreme proposals have already been shelved, such 
as one idea from Mr. Lieberman's Committee that suggested limiting 
certain institutional investors from investing in the commodities 
futures market. ``After hearing from experts, the public, and holding 
numerous hearings on excessive speculation, our third draft proposal to 
limit certain institutional investors from commodity markets does not 
appear to be viable at this time. It doesn't look like it would have 
the support in the Senate,'' says one Lieberman Committee staffer.
    But industry executives, analysts and some lawmakers warn that in a 
U.S. election year, there is a danger of over-regulation. ``If we reach 
September and gasoline prices or food prices are setting new highs, 
noone knows what Congress would do,'' one says. That means there is 
also a risk of long-term damage to the commodity futures industry.
    Today, the Onion Futures Act remains in effect. But that has not 
stopped the price of onions from shooting up an eye-watering 420 
percent since 2000.
Lawmakers and Stakeholders Fail To Grasp the Details of the Debate
    In 2002, when the U.S. Congress was debating whether to close the 
``Enron Loophole''--that is, to require that over-the-counter energy 
markets be brought under the full oversight of the U.S. futures 
regulator--Republican Trent Lott rose to his feet in the Senate 
chamber.
    Brandishing a dictionary, the senator looked up a definition of ``a 
derivative'', a term referring to the complex futures contracts used in 
the energy markets to hedge the risks associated with holding physical 
supplies of commodities such as oil and natural gas. The dictionary 
told him that it was ``the limit of the ratio of the change in a 
function to the corresponding change in its independent variable as the 
latter change approaches zero''.
    Mr. Lott turned to his colleagues with a warning: ``We don't know 
what we are doing here. I have serious doubts how many Senators really 
understand [this] and it sounds pretty complicated to me.''
    Six years later, it is hard not to conclude that lawmakers are 
still not as informed as they could be about the issues. That matters, 
as legislation is now floating around Capitol Hill that could end up 
forcing significant changes to the mandate of the Commodity Futures 
Trading Commission, the U.S. commodities regulator.
    Bart Stupak, a Michigan Democrat who has introduced legislation, 
said in May that ``excessive speculation'' had ``inflated oil prices to 
the point that they are no longer tied to underlying supply and 
demand''--a claim most economists would struggle to agree with.
    Some of the stakeholders in the debate are not helping. A coalition 
of airline and travel industry associations wrote to Harry Reid, the 
Senate majority leader, and Nancy Pelosi, the House Speaker, last month 
claiming that speculators traded 22 barrels of ``paper oil''--futures 
contracts--for every physical barrel of oil consumed. However, 
Francisco Blanch, commodity strategist at Merrill Lynch, says: 
``Speculators do not add physical demand or take away physical supply 
from the market. They do not take away any barrel of oil or bushel of 
corn from the economy and the only way they can affect spot prices is 
if they reduce the quantity available for final consumers.''
Editorial: The Onion Ringer
The Wall Street Journal
8 July 2008

    Congress is back in session and oil prices are still through the 
roof, so pointless or destructive energy legislation is all but 
guaranteed. Most likely is stiffer regulation of the futures market, 
since Democrats and even many Republicans have so much invested in 
blaming ``speculators'' for $4 gas.
    Congress always needs a political villain, but few are more 
undeserving. Futures trading merely allows market participants to 
determine the best estimate--based on available information like supply 
and demand and the rate of inflation--of what the real price of oil 
will be on the delivery date of the contracts. Such a basic price 
discovery mechanism lets major energy consumers hedge against 
volatility. Still, ``speculators'' always end up tied to the whipping 
post when people get upset about price swings.
    As it happens, though, there's a useful case--study in the 
relationship between futures markets and commodity prices: onions. 
Congress might want to brush up on the results of its prior 
antispeculation mania before it causes more trouble.
    In 1958, Congress officially banned all futures trading in the 
fresh onion market. Growers blamed ``moneyed interests'' at the Chicago 
Mercantile Exchange for major price movements, which could sink so low 
that the sack would be worth more than the onions inside, then drive 
back up during other seasons or even month to month. Championed by a 
rookie Republican Congressman named Gerald Ford, the Onion Futures Act 
was the first (and only) time that futures trading in a specific 
commodity was prohibited, and the law is still on the books.
    But even after the nefarious middlemen had been curbed, cash onion 
prices remained highly volatile. In a classic 1963 paper, Stanford 
Economics Professor Roger Gray examined the historical behavior of 
onion prices before and after the ban and showed how the futures market 
had actually served to stabilize prices.
    The fresh onion market is highly seasonal. This leads to natural 
and sometimes large adjustments in prices as the harvest draws near and 
existing inventories are updated. Speculators became the fall guys for 
these market forces. But in reality, the Chicago futures exchange made 
it possible to mitigate the effects of the harvest surplus and other 
shifts in supply and demand.
    To this day, fresh onion prices still cycle through extreme peaks 
and troughs. According to the USDA, the hundredweight price stood at 
$10.40 in October 2006 and climbed to $55.20 by April, as bad weather 
reduced crop yields. Then it crashed due to overproduction, falling to 
$4.22 by October 2007. In April of this year, it rebounded to $13.30.
    Futures trading can't drive up spot prices because the value of 
futures contracts agreed to by sellers expecting prices to fall must 
equal the value of contracts agreed to by buyers expecting prices to 
rise. Again, it merely offers commodity producers and consumers the 
opportunity to lock in the future price of goods, helping to protect 
against the risks of future price movements.
    Tellingly, the absence of that option for onions now has some 
growers asking Congress to lift the ban. But instead of learning from 
its onion mistakes, the political class seems eager to repeat them.
Easy Target, But Not the Right One
New York Times
By Joe Nocera
28 June 2008

    So now we know: it's all the fault of those damnable speculators. 
They're the ones to blame as the price of oil tops $140 a barrel.
    It's not our government's fault for failing to come up with a 
credible energy policy--that can't be it. Nor is the problem the weak 
dollar, or the voracious energy appetite of the Chinese, or those pesky 
rebels in Nigeria who are trying to blow up their country's oil 
pipelines. And it's certainly not the fault of you and me for driving 
gas-guzzling S.U.V.'s. It has to be those speculators. They are the 
only villains in sight.
    This was ``first let's kill all the speculators'' week on Capitol 
Hill, and it was not a pretty sight. On Monday, the House Oversight and 
Investigations Subcommittee held an 8 hour hearing (!), the sole 
purpose of which was to decry ``excessive speculation.'' ``Have 
speculators hijacked trading on the futures exchange?'' asked the 
Michigan Democrat Bart Stupak. His answer throughout the day--as he 
``grilled'' an array of sympathetic academics and futures market 
critics--was a resounding yes.
    On Tuesday, the action moved to the Senate, where the Homeland 
Security and Governmental Affairs Committee held its hearing. 
``Speculation in the food and fuel markets is not illegal,'' Senator 
Joe Lieberman of Connecticut conceded, ``but that does not mean it is 
not very hurtful.'' He continued: ``They are artificially inflating the 
price of food and oil and causing real suffering for millions and 
millions of people and businesses.''
    There were yet more hearings on Wednesday, and by Thursday evening, 
the House had passed, by a wide margin, a bill calling on the Commodity 
Futures Trading Commission to curtail ``excessive speculation.'' 
Indeed, the C.F.T.C. spent the week being raked over the coals for 
allowing all this rampant speculation to take place. On Monday 
afternoon, for instance, Representative John Dingell of Michigan took 
unseemly glee in going after Walter L. Lukken, the agency's Chairman.
    Jabbing his pencil at Mr. Lukken, Mr. Dingell described the 
founding of the agency as an effort to prevent farmers and consumers 
from being ``screwed'' by ``those folks in the futures markets.''
    ``Now,'' he said, ``we find that those good-hearted folks in the 
futures market have figured out how not just to screw the farmers and 
the consumers in the city, but they figured out how to screw the 
farmers and the consumers in the city on a whole new product--oil.'' As 
Mr. Dingell sneered triumphantly, Mr. Lukken seemed to shrivel in his 
seat.
    Yes, it was wonderful theater, and great blood sport. And it had 
absolutely nothing to do with the price of oil.
    It's not just Congressmen who are railing about speculators, of 
course. As oil prices have doubled in the last year, I've gotten e-mail 
messages from readers decrying speculators, who, many believe, are 
manipulating the futures market. More than once this week, legislators 
used that same word their constituents were using: ``manipulation.''
    So let's take a closer look at what the speculators' critics are 
saying. First, despite the loose use of the word ``manipulation,'' that 
is really not what is being alleged here, at least not in the classic 
sense. Remember how the Hunts tried to corner the silver market? They 
bought up silver and took it off the market, thereby creating an 
artificial shortage. I suppose OPEC could do something like that--one 
could even argue that OPEC does that already--but no mere speculator 
could.
    I can already hear your rejoinder: what about Enron and its famous 
manipulation of energy prices in California? But remember, Enron was 
manipulating electricity prices, not oil, which was possible mainly 
because electricity can't be stored. By getting power plants to shut 
down for hours at a time, Enron was able to create artificial shortages 
and jack up the price.
    Instead, the critics' thesis is that speculators are creating an 
energy bubble the same way investors created the Internet bubble. As 
speculative bets on energy have grown drastically in recent years, the 
sheer amount of money being thrown at energy futures is making those 
bets a self-fulfilling prophecy. All that money, in other words, pushes 
prices higher than they would go if the market simply consisted of the 
actual buyers and sellers of oil.
    In addition, because of something called the ``London loophole'' 
and the ``Enron loophole,'' which allow speculators to use unregulated 
exchanges, they can evade the limits of the New York Mercantile 
Exchange, as well as C.F.T.C. scrutiny.
    The leading proponent of this theory is a portfolio manager based 
in the Virgin Islands named Michael W. Masters. When I caught up with 
him on Thursday afternoon, after his week of testimony, he said that 
the problem was that institutional investors had stopped seeing energy 
as a commodity the world relies on and instead saw it as an ``asset 
class'' for their portfolios. ``I am opposed to thinking about 
commodities as an asset class,'' he said.
    Several years ago, he continued, he began to notice that increasing 
cash flows were moving into commodities index funds. This was, he said, 
``long-only money''--meaning that it was a pure bet that prices would 
go up. By now, he told me, there is $240 billion in commodity index 
funds, up from $13 billion 5 years ago. As he also noted in his 
testimony before Congress, ``the prices of the 25 commodities that 
compose these indices have risen by an average of 183 percent in those 
5 years!'' He claims that energy prices will fall by 50 percent if the 
speculators can only be driven out of the futures market.
    There are so many holes in this argument I scarcely know where to 
start. The C.F.T.C. says that some $5 trillion worth of futures and 
options transaction trades take place every day; can an influx of $240 
billion, spread over 5 years, really propel prices upward to the extent 
that he and others claim? Then there's the fact that the commodities 
markets don't work like equity markets, where a small amount of trading 
can lift every share of a company's stock. In commodities trading, 
every contract has a buyer and a seller, meaning that for every bet 
that prices are going up, somebody else is betting they are going down. 
Why doesn't that short interest depress prices?
    And what about all those commodities, like coal or barley or 
sulfur, that don't trade on any futures market but have risen as fast 
as or faster than oil? Or how about the recent decline in cash flows 
into many commodity funds--why have prices kept going up if the money 
has stopped pouring into those funds? My speculator friends tell me 
that in the last 2 weeks, trading volumes have been cut in half. 
Indeed, what I hear is that much of the speculative money that remains 
in the market is betting against higher oil prices.
    As for the London and Enron loopholes, I can pretty much guarantee 
they will be closed soon. There are some eight bills aimed at curbing 
speculation, and virtually every one of them calls for an end to the 
loopholes. That is probably a good thing--but I'd lay odds the price 
will not drop as a result. The loopholes are not the reason prices are 
going up.
    In fact, I'd be willing to go a step further. Even if you 
eliminated speculation entirely, the price of oil wouldn't fall. 
Thankfully, no one is proposing to go that far (though Senator 
Lieberman was toying with the idea), because even Members of Congress 
understand that futures markets serve a crucial purpose. They help 
companies hedge their oil prices, and they help energy companies manage 
their risk, for starters.
    The energy speculators I spoke to say that Congress has it exactly 
backward: the futures market is actually taking its cues from the 
physical market, where the buyers and sellers of oil do their business. 
Last week, the Saudis promised to produce an extra 200,000 barrels a 
day. But it is pricing that oil so high that oil companies are balking 
at paying for it. The Saudis didn't arrive at their price by looking to 
the futures market--but if they get that price, it will certainly 
affect the futures market.
    Both speculators and oilmen say that supply and demand is the real 
culprit. ``Our supply is pathetic,'' said Gary Ross, the Chief 
Executive of the PIRA Energy Group, and a well-known energy consultant. 
``Look at the data,'' he continued. ``The world economy is growing by 
3.9 percent a year. World oil demand should grow by 2.3 percent just to 
keep pace. That's an extra two million barrels a day. We don't have it! 
It's obvious.''
    I also think there is something else at play. After years of 
ignoring the rather obvious fact that oil is a finite resource, the 
world has suddenly become acutely aware of that reality. Everyone in 
the oil markets is attuned to every little twitch that has the 
potential to damp supply or increase demand. That's why, for instance, 
when Libya announced on Thursday that it might cut oil production, oil 
jumped more than $5. Meanwhile, when Brazil discovers a huge new oil 
field, the market shrugs. That is not speculation at work--it's market 
psychology. There's a big difference. If there is indeed a bubble, 
that's what is causing it.
    ``Speculators have always been an easy target,'' said Leo Melamed, 
the man who founded the futures markets. As Ron Chernow, the great 
business historian put it, ``At times in history when you have vast and 
impersonal forces wreaking havoc in markets, there is always a 
temptation to villainize someone.'' Centuries ago, it was Shylock; now 
it's the speculator and the short-seller.
    In his book ``The House of Morgan,'' Mr. Chernow has a description 
of Herbert Hoover, ``moody and isolated,'' convinced that short-sellers 
were behind the market's horrendous downturn in 1929. ``He came to 
believe in a Democratic conspiracy to drive down stocks by selling them 
short,'' Mr. Chernow writes, adding that Hoover ``began to compile 
lists of people in the bear cabal and even claimed to know they met 
every Sunday afternoon to plot the week's destruction!''
    I wonder whether Mr. Dingell has heard about them.
Fuels on the Hill
New York Times
By Paul Krugman

    Congress has always had a soft spot for ``experts'' who tell 
Members what they want to hear, whether it's supply-side economists 
declaring that tax cuts increase revenue or climate-change skeptics 
insisting that global warming is a myth.
    Right now, the welcome mat is out for analysts who claim that out-
of-control speculators are responsible for $4 a gallon gas.
    Back in May, Michael Masters, a hedge fund manager, made a big 
splash when he told a Senate Committee that speculation is the main 
cause of rising prices for oil and other raw materials. He presented 
charts showing the growth of the oil futures market, in which investors 
buy and sell promises to deliver oil at a later date, and claimed that 
``the increase in demand from index speculators''--his term for 
institutional investors who buy commodity futures--``is almost equal to 
the increase in demand from China.''
    Many economists scoffed: Mr. Masters was making the bizarre claim 
that betting on a higher price of oil--for that is what it means to buy 
a futures contract--is equivalent to actually burning the stuff.
    But Members of Congress liked what they heard, and since that 
testimony much of Capitol Hill has jumped on the blame-the-speculators 
bandwagon.
    Somewhat surprisingly, Republicans have been at least as willing as 
Democrats to denounce evil speculators. But it turns out that 
conservative faith in free markets somehow evaporates when it comes to 
oil. For example, National Review has been publishing articles blaming 
speculators for high oil prices for years, ever since the price passed 
$50 a barrel.
    And it was John McCain, not Barack Obama, who recently said this: 
``While a few reckless speculators are counting their paper profits, 
most Americans are coming up on the short end--using more and more of 
their hard-earned paychecks to buy gas.''
    Why are politicians so eager to pin the blame for oil prices on 
speculators? Because it lets them believe that we don't have to adapt 
to a world of expensive gas.
    Indeed, this past Monday Mr. Masters assured a House Subcommittee 
that a return to the days of cheap oil is more or less there for the 
asking. If Congress passed legislation restricting speculation, he 
said, gasoline prices would fall almost 50 percent in a matter of 
weeks.
    O.K., let's talk about the reality.
    Is speculation playing a role in high oil prices? It's not out of 
the question. Economists were right to scoff at Mr. Masters--buying a 
futures contract doesn't directly reduce the supply of oil to 
consumers--but under some circumstances, speculation in the oil futures 
market can indirectly raise prices, encouraging producers and other 
players to hoard oil rather than making it available for use.
    Whether that's happening now is a subject of highly technical 
dispute. (Readers who want to wonk themselves out can go to my blog, 
krugman.blogs.nytimes.com, and follow the links.) Suffice it to say 
that some economists, myself included, make much of the fact that the 
usual telltale signs of a speculative price boom are missing. But other 
economists argue, in effect, that absence of evidence isn't solid 
evidence of absence.
    What about those who argue that speculative excess is the only way 
to explain the speed with which oil prices have risen? Well, I have two 
words for them: iron ore.
    You see, iron ore isn't traded on a global exchange; its price is 
set in direct deals between producers and consumers. So there's no easy 
way to speculate on ore prices. Yet the price of iron ore, like that of 
oil, has surged over the past year. In particular, the price Chinese 
steel makers pay to Australian mines has just jumped 96 percent. This 
suggests that growing demand from emerging economies, not speculation, 
is the real story behind rising prices of raw materials, oil included.
    In any case, one thing is clear: the hyperventilation over oil-
market speculation is distracting us from the real issues.
    Regulating futures markets more tightly isn't a bad idea, but it 
won't bring back the days of cheap oil. Nothing will. Oil prices will 
fluctuate in the coming years--I wouldn't be surprised if they slip for 
a while as consumers drive less, switch to more fuel-efficient cars, 
and so on--but the long-term trend is surely up.
    Most of the adjustment to higher oil prices will take place through 
private initiative, but the government can help the private sector in a 
variety of ways, such as helping develop alternative-energy 
technologies and new methods of conservation and expanding the 
availability of public transit.
    But we won't have even the beginnings of a rational energy policy 
if we listen to people who assure us that we can just wish high oil 
prices away.
                                 ______
                                 
 Submitted Letters By Hon. Bob Etheridge, a Representative in Congress 
                          From North Carolina
William H. Prestage, President and CEO, Prestage Farms, Clinton, NC
July 11, 2008

    Dear Congressman Etheridge:

    Prestage Farms is a producer of swine and poultry in eastern NC. We 
have been in business for over 25 years and have experienced many ups 
and downs in the industry. However, we have very strong concerns over 
various costs currently affecting our business, our customers, and our 
employees.
    At least 70% of the cost to raise livestock is feed itself. The 
costs of commodities such as corn, soybean meal, and fat, which 
represent approximately 90% of our feed cost, have been rising at an 
alarming rate. The additional cost of these ingredients has had a 
tremendous impact on our company financially, as they will ultimately, 
the consumer.
    The cost for a bushel of corn has increased over 100% since last 
year, soybean meal over 80% and fat over 68%. The additional cost of 
these three items alone will be over $225,000,000 to Prestage Farms in 
2008. As a result of that, our cost to produce a pound of turkey meat 
and hog meat will increase by more than 50%.
    It is difficult to quantify the impact of rising fuel costs, as 
increased fuel costs will affect virtually every aspect of our 
business. Vendors from whom we purchase products are experiencing 
rising fuel costs and are increasing their product costs to us as a 
result. Our employees are also feeling the impact of increased fuel 
cost in commuting, child care costs, and food cost. Directly, the 
increased cost of fuels increases our cost to haul ingredients and 
commodities, to haul our livestock, to provide heat to our livestock, 
as well as increasing our cost to operate machinery and equipment 
necessary for our production. Our cost of fuel purchases in 2008 alone 
will increase by approximately $6,000,000 due to increased prices. This 
does not take into account the additional costs passed through to us by 
vendors.
    Again, the impact of the rising cost of commodities, ingredients, 
and fuels, is proving to have extremely negative impacts on our 
industry. Employees, consumers, and businesses alike are in dire need 
of efforts that will help control some of these issues. I appreciate 
your efforts to help control and even possibly reverse some of these 
issues, as they are proving to have such negative impacts on our 
consumers and businesses.
            Sincerely,

William H. Prestage, 
President and CEO.
Roger F. Mortenson, President and CEO, House-Autry Mills, Inc., Four 
        Oaks, NC
    Dear Congressman Etheridge:

    It was a pleasure seeing you last week in Four Oaks. I certainly 
commend you for your visibility with your constituents. You 
consistently visit your constituents to learn what their concerns are 
as well as reporting to us what is going on in the nation's capital. 
Thank you for your excellent representation.
    As a small company, House-Autry Mills is being very negatively 
affected by increased costs on every side. Our primary products are 
wheat flour, corn and corn based products. With commodity costs rising 
seemingly uncontrollably and being influenced by market speculators and 
speculation, we find ourselves in the position of having had to raise 
prices to our consumers a number of times over the past months, which 
only exacerbates the financial stress and strain on the consumer.
    So it is with the rising fuel costs, again due in a large part to 
the speculators and speculation in the cost of oil. Not only affecting 
consumers directly at the pump, the high fuel costs also increase the 
cost of food because of the high cost of getting ingredients to our 
plant as well as increasing the costs of delivering finished products 
to our customers. As we distribute to 25 to 30 states from our Four 
Oaks plant, it is becoming almost cost prohibitive to continue at the 
same level of business, much less trying to expand our sales volume and 
distribution.
    I certainly applaud your efforts to reverse and control some of 
these issues that are proving so destructive to consumers and companies 
alike. I look forward to your positive efforts in securing concrete 
ways to limit cost increases in fuel and in food.
            Best personal regards,

            
            
President and CEO.
                                 ______
                                 
Supplemental Material Submitted By Paul N. Cicio, President, Industrial 
             Energy Consumers of America, Washington, D.C.
July 16, 2008

Hon. Bob Etheridge,
Chairman,
Subcommittee on General Farm Commodities and Risk Management,
Committee on Agriculture,
U.S. House of Representatives,
Washington, D.C.

    Dear Mr. Chairman:

    This letter and its attachments are a response to your request 
during the July 10, 2008 hearing on the review of legislation amending 
the Commodity Exchange Act and excessive energy speculation. You 
requested that I provide additional information relating to a 
concerning potential relationship between bank borrowing from the 
Federal Reserve and the corresponding rise of energy commodity prices.
    As we said in our testimony, we encourage the Congress to ensure 
that Federal Reserve monetary policy is not causing higher energy and 
food costs by providing low cost money to banks to speculate on 
commodities. The attached graphs show an almost linear relationship 
between lower Federal Reserve interest rates, increased borrowing by 
banks and corresponding higher commodity prices. We are concerned that 
the timing is not coincidental.
    The attached graphs include:

        Graph 1. Federal Reserve Fund Borrowing (February 2007&June 
        2008)

        Graph 2. Federal Reserve Fund Borrowing (August 2007&July 2008)

        Graph 3. Federal Reserve Fund Borrowing vs. Light Crude Oil

        Graph 4. Federal Reserve Fund Borrowing vs. Natural Gas

        Graph 5. Federal Reserve Fund Borrowing vs. NY Harbor RBOB 
        Gasoline Blendstock

        Graph 6. Federal Reserve Fund Borrowing vs. Heating Oil

    Thank you for your interest in this matter and we look forward to 
hearing from you on the response from the Federal Reserve.
            Sincerely,
            
            
President.


    While a majority of the industry is concentrated in 17 cotton-
producing states, stretching from Virginia to California, the 
downstream manufacturers of cotton apparel and home furnishings are 
located in virtually every state. The industry and its suppliers, 
together with the cotton product manufacturers, account for more than 
230,000 jobs in the U.S. The annual economic activity generated by 
cotton and its products in the U.S. is estimated to be in excess of 
$100 billion.
    The NCC would like to thank Chairman Peterson for holding this 
series of very important hearings to review possible amendments to the 
Commodity Exchange Act (CEA). Since late February, all segments of the 
cotton industry have felt the impacts of the disruptive and uncertain 
nature of the New York cotton futures markets. Many of the concerns 
felt by this industry were conveyed to the Commodity Futures Trading 
Commission (CFTC) during their April 22 roundtable. In addition, Mr. 
Andy Weil, then President of the American Cotton Shippers Association 
(ACSA), presented those concerns during a hearing of Subcommittee on 
General Farm Commodities and Risk Management.
    The NCC would like to take this opportunity to reiterate a number 
of points and recommendations made by the industry and also stress the 
importance to of a well-functioning futures market.
    Unfortunately, the cotton futures market remains largely 
dysfunctional at the current time. The impact of unregulated 
investments by index funds and other speculators have resulted in a 
significant divergence of cash and futures prices. This scenario is 
common to many agricultural markets but appears more severe in cotton 
futures trading. As an example, the synthetic value of cotton futures 
increased by approximately 31 cents between February 20 and March 4 
while the cash price changed by only 4 cents. Furthermore, markets 
continue to be highly volatile. Just in the past 2 weeks, December 2008 
futures fell from the low 80 cents range to the low 70 cents range with 
no significant change in market fundamentals.
    The New York Cotton Exchange was founded in 1870 as the first 
commodity exchange in this country and has served this industry well 
for over 100 years. The frustration shared by members of the cotton 
industry stems from a cotton futures market that is now unable to 
discover future prices with any historical correspondence to cash 
prices and provide a hedging mechanism. Cotton merchants are no longer 
offering forward contracts to producers because of extreme price risks.
    Likewise, producers are unable to convince their bankers to assume 
similar risks for their own price protection. Therefore, as cotton 
prices have soared and plunged over the past 4 months--producers, along 
with merchants, have been merely bystanders.
    Not only have we been on the outside of the market, we are also 
deeply troubled about the impact this recent price volatility has had 
on the liquidity of buyers. Traditional merchandising relationships 
between growers and buyers have ceased because price risks are too 
great for short hedging purposes. Growers continue to be concerned 
about the financial viability of buyers with whom they have previously 
contracted new crop sales. This situation equally applies to growers 
who trade with private merchants and those who belong to marketing 
cooperatives. The inability of merchandisers to hedge their risks 
translates into a weaker basis and lower prices offered to the cotton 
producer. Each penny reduction in the price of cotton means that U.S. 
cotton farmers lose $85 million in revenue.
    Cotton futures markets must be returned to their historical 
function of price discovery and risk management relative to real market 
conditions. Cotton producers face extreme pressures from escalating 
input costs which threaten their viability and yet currently have no 
mechanism to forward price their production at reasonable costs.
    The NCC urges Congress to provide CFTC with the necessary authority 
and resources in order to better protect market participants against 
manipulation. All industry segments concur with recommendations from 
our merchandising members that call for more transparency in trading 
and reporting. In addition, CFTC should regulate swaps and over-the-
counter (OTC) activity by requiring reporting by market participants of 
such activity.
    Speculative limits and reporting requirements must be consistent 
across all market participants. Consideration should also be given to 
increasing speculative position margins and disallowing any increase in 
speculative position limits. We understand the importance of 
speculative participation in a viable futures market. However it is 
incumbent upon the CFTC to use its authority to regulate futures 
markets so as to provide meaningful risk management and price 
discovery.
    Many in the cotton industry question what the public policy 
position of the CFTC should be regarding futures markets. Should these 
markets be regulated so that their primary purpose is to facilitate the 
cash market by providing price discovery and risk transfer, which has 
been its historic role? Or should they be regulated so that their 
primary purpose is to provide an investment vehicle to invest in 
commodities without taking title to the physical commodity? Our concern 
is that it has become the latter and that is not healthy for cotton or 
any commodity markets.
    In early June, the CFTC announced several policy initiatives--
including a cotton market investigation--aimed at addressing concerns 
in the agricultural futures markets that were raised at its April 22 
roundtable. The NCC remains hopeful that the ongoing probe will yield 
some definitive outcomes to address the ongoing problems with the 
cotton futures market. Restoring confidence in the futures market is of 
the utmost importance to this industry.
    Thank you for the opportunity to share our views and concerns.
                                 ______
                                 
              Submitted Statement By United Egg Producers
    This statement is submitted for the record on behalf of United Egg 
Producers (UEP). UEP is a farm cooperative whose members independently 
market about 97% of all the shell eggs produced in the United States. 
UEP commends the Committee on Agriculture for holding comprehensive 
hearings on legislative proposals affecting the energy futures markets. 
Like many other farm groups, UEP has been concerned about the recent 
performance of both agricultural and energy markets.
    UEP members have a strong interest in the legislative proposals 
before the Committee:

   We are exposed to rising energy costs by the nature of our 
        business: Henhouse ventilation systems operate by electric 
        power; trucks that deliver eggs to our customers are diesel-
        fueled; heat supplied to pullet houses is generated by natural 
        gas or propane; and those producers who grow all or a portion 
        of their own feed require diesel fuel to operate farm 
        equipment. Therefore, rapidly rising energy costs have a 
        significant negative impact on our businesses.

   The futures markets are also important to us as purchasers 
        of feed. Smoothly functioning futures markets for corn, soybean 
        meal and other commodities allow us to hedge our feed costs, 
        which comprise more than half of our total production costs. 
        The health of our businesses is threatened not only by 
        extremely high feed commodity prices, but also by large margin 
        calls that result from the high prices, as well as the well-
        documented deterioration in cash and futures market 
        convergence.

    In the many Congressional hearings that have focused on energy 
futures markets during the past few months, one question has been asked 
again and again: How much of the recent increase in oil prices can be 
attributed to speculation rather than supply-demand fundamentals? The 
question may ultimately be unanswerable, at least with precision; 
hearing witnesses' answers varied from none to $65 or $70 a barrel.
    Two things seem obvious to us. First, market fundamentals have 
driven prices upward; one only has to think of growing Chinese and 
Indian demand and the volatile politics of the Middle East, to name 
only two factors. Second, it is impossible to believe that the huge 
inflow of speculative capital, including large amounts of long-only, 
passively-managed index fund investment, does not exert upward pressure 
on futures prices.
    Some observers minimize the role of speculators by saying that for 
every long there must be a short. This simplistic statement ignores the 
central fact of futures markets. The law of supply and demand still 
applies. Yes, there must be a short for every long, but when demand for 
long futures positions increases as a result of billions of dollars of 
new demand for long positions, the price of those positions--i.e., the 
price the long must pay the short--will rise. The well-documented 
increase in investment by index funds--nearly all of which by 
definition are on the long side of the market--seems certain to account 
for some of the rise in energy and agricultural futures prices.
    The traditional role of futures markets is being undermined by 
excessive speculation by multi-billion dollar funds betting on a price 
increase in commodities. Commodity futures markets were created for and 
still exist for the purpose of allowing the producers and consumers of 
commodities to hedge their risks by fixing their prices in advance. As 
these markets became more successful, they have served another 
important function, price discovery. This has become an enormously 
important function of the markets because even the millions of primary 
commodity users and retail consumers have the prices of their purchases 
determined on the futures markets.
    Nowhere is the importance of price discovery more evident than in 
the price of gasoline. Typically, buyers and sellers of the physical 
commodity use the price established on the New York Mercantile Exchange 
as a reference point and make deals on some differential of this price. 
For the average motorist, this comes as no surprise. When there is an 
oil price spike in the futures market, it is quickly followed by a 
boost in the price at his or her local gas station.
    Many legislative proposals center on applying fairly traditional 
rules governing speculation in a stricter manner. The proposals seek to 
ensure that the Commodity Futures Trading Commission (CFTC) gains 
additional information about the positions of various market 
participants, including those in various off-exchange and over-the-
counter market venues. Many proposals also seek to apply more 
rigorously the traditional exchange requirements for large-trader 
reporting and speculative position limits.
    In general, we believe that hedging exemptions should be available 
only where there is a clear nexus with an entity that is exposed to the 
price of the underlying commodity in the normal course of its business. 
A grain elevator that uses futures to manage the risk of offering cash 
forward contracts to local farmers is undoubtedly hedging. On a much 
larger scale, an airline that enters a swap agreement to manage jet-
fuel costs, with the result that a swaps dealer takes an offsetting, 
on-exchange position in petroleum futures, is also hedging. A pension 
fund that invests in an index fund or an actively managed hedge fund is 
not hedging and the associated on-exchange transactions should not be 
carried out under a hedging exemption.
    We favor legislation that requires the consistent application of 
position limits to speculators, and provides guidance to the CFTC in 
differentiating between hedgers and speculators. We would recommend 
some degree of discretion for the CFTC in applying position limits, to 
allow for special or unforeseen circumstances.
    With respect to specific legislative proposals, UEP supports 
legislation to achieve the following:

   The CFTC should be provided sufficient budgetary resources 
        and personnel to handle its increasingly important 
        responsibilities. We realize that the actual appropriations 
        cannot be provided in legislation reported by the Committee on 
        Agriculture, but we urge the Committee to work with 
        Congressional colleagues to build support for 'an adequate CFTC 
        budget. We support the request for an additional $27 million 
        and 100 full-time equivalents (FTEs) made last month by the 
        CFTC.

   Exempt commercial markets should be subject to large-trader 
        position reporting and speculative position limits and, if 
        appropriate, other applicable regulations.

   Foreign boards of trade that desire ``no-action'' letters 
        from the CFTC should be required to maintain large-trader 
        position reporting, speculative position limits, and other 
        regulatory provisions deemed appropriate by the Commission. 
        Granting such ``No Action'' letters should be a function of 
        CFTC Commissioners, not staff.

   Exemptions from speculative position limits should be 
        available only to legitimate hedgers. If a swap dealer seeks to 
        manage its swap-based risk by taking an offsetting position in 
        the futures markets, the CFTC should review the swap 
        transaction to determine whether it qualifies for a hedging 
        exemption. The exemption should only be granted where an entity 
        is managing a risk that it incurs in the normal course of its 
        business with respect to the underlying commodity being traded 
        in the futures market.

   With respect to index funds, we believe the application of 
        position limits is the appropriate way for Congress to address 
        this issue. We believe any restrictions applied to index funds 
        in energy markets should also be applied in agricultural 
        markets.

    With respect to the last point, we urge Congress to avoid any 
unintended consequences of treating one futures market differently from 
another. There is some possibility that the application of position 
limits to index funds in energy markets--which we believe is 
justified--would provide an artificial inducement for large 
institutions to shift such investments into agricultural markets if 
exemptions from position limits continued to be available in those 
markets. Already, the index funds are a major force in agricultural 
futures markets and may be exerting upward price pressure there, just 
as they are in energy markets. Congress should avoid any artificial 
incentives for these funds to shift their investments into agricultural 
markets merely for regulatory reasons. As a general matter, we believe 
that the rules for index fund and hedge fund investment should be 
similar across the markets for physical commodities.
    UEP appreciates the Committee's consideration of our views.


   HEARING TO REVIEW LEGISLATION AMENDING THE COMMODITY EXCHANGE ACT

                              ----------                              


                         FRIDAY, JULY 11, 2008

                          House of Representatives,
                                  Committee on Agriculture,
                                                   Washington, D.C.
    The Committee met, pursuant to call, at 9:08 a.m., in Room 
1300, Longworth House Office Building, Hon. Collin C. Peterson 
[Chairman of the Committee] presiding.
    Members present: Representatives Peterson, Holden, 
Etheridge, Baca, Cardoza, Scott, Marshall, Herseth Sandlin, 
Cuellar, Costa, Salazar, Ellsworth, Boyda, Space, Walz, 
Gillibrand, Kagen, Pomeroy, Barrow, Lampson, Donnelly, 
Childers, Goodlatte, Moran, Hayes, Graves, King, Neugebauer, 
Boustany, Kuhl, Foxx, Conaway, Fortenberry, Smith, and Walberg.
    Staff present: Adam Durand, Alejandra Gonzalez-Arias, Scott 
Kuschmider, Clark Ogilvie, John Riley, Bryan Dierlam, Kevin 
Kramp, and Jamie Weyer.

OPENING STATEMENT OF HON. COLLIN C. PETERSON, A REPRESENTATIVE 
                   IN CONGRESS FROM MINNESOTA

    The Chairman. The Committee will come to order. I 
appreciate the Members being here on a Friday when we could be 
someplace else.
    Mr. Conaway. I could be in Texas.
    The Chairman. That's right. And we appreciate the witnesses 
being here with us today.
    This is the third day of hearings that we have been having 
regarding all of these issues and bills that we have had 
Members of Congress come in and explain their proposals. And we 
had a good discussion yesterday with the panels in the various 
areas we discussed yesterday. Today we will examine the foreign 
boards of trade; the second panel, margins; and the third panel 
we will kind of tie everything else up that we couldn't find a 
category for.
    We have Members that have obligations, and so I am going to 
be--as opposed to yesterday, I am going to impose the 5 minute 
rule with some strength today.
    Mr. Conaway. You have a gavel.
    The Chairman. So we would encourage everybody to be mindful 
of that, and hopefully we can move through this in an 
expeditious fashion.
    [The prepared statement of Mr. Peterson follows:]

  Prepared Statement of Hon. Collin C. Peterson, a Representative in 
                        Congress From Minnesota
    Good morning and welcome to today's hearing.
    Today marks the last day of three hearings this week to review 
legislative proposals to amend the Commodity Exchange Act.
    We have three full panels today and a lot of ground to cover, so I 
will keep this very brief and not repeat what I said the last 2 days.
    Wednesday we heard from six of our House colleagues who have 
introduced bills that would amend regulation of commodity futures 
markets. Yesterday and today, we will hear from stakeholder groups 
about these and other legislative proposals, as well as the major 
issues currently surrounding commodity futures and options markets.
    What we intend to do is have each panel examine one of these 
subjects in detail. Today's three panels will look at:

   Foreign Boards of Trade;

   Margins; and

   Miscellaneous/General.

    Today's witnesses will hopefully shed some light on these topics 
and how legislation that has been introduced would affect them. Some 
groups, of course, have vested interests in more than just one area, 
and that will be reflected in their broader written testimony submitted 
for the record. But with so much to get to today, we will try and keep 
this as focused as possible.
    At this time, I now yield to the Ranking Member of the Committee, 
Mr. Goodlatte for an opening statement.

    The Chairman. So we welcome the witness to the first panel 
on the foreign boards of trade: Mr. Mark Young from the Futures 
Industry Association; Mr. David Peniket, President and Chief 
Operating Officer of ICE Futures Europe, London, U.K.; Mr. 
Gerry Ramm--Ramm is it?
    Mr. Ramm. Yes.
    The Chairman.--from the Inland Oil Company on behalf of the 
Petroleum Marketers Association; and again, Mr. Michael 
Greenberger, who was with us yesterday, from the University of 
Maryland School of Law. And we welcome the panel.
    Your full statements will be made part of the record. We 
would encourage you to try to limit your remarks to 5 minutes, 
and, if possible, talk to us in terms that we can understand, 
which may not be possible.
    So, Mr. Young, you are on.

  STATEMENT OF MARK D. YOUNG, J.D., PARTNER, KIRKLAND & ELLIS 
          LLP, WASHINGTON, D.C.; ON BEHALF OF FUTURES
                      INDUSTRY ASSOCIATION

    Mr. Young. We will try.
    I am Mark Young. I am actually a Partner in the law firm of 
Kirkland & Ellis, and I am appearing today on behalf of our 
client, the Futures Industry Association. I am a pinch-hitter 
for John Damgard, the President of the Futures Industry 
Association, who regrets he is not able to be here. But like 
John, I have been involved in every CFTC reauthorization since 
1978. I also teach a derivatives course at the Georgetown Law 
School and have for many years, even before Mike Greenberger 
joined the CFTC. So I am very familiar with the history and law 
being discussed in this hearing.
    FIA represents the interests of the U.S. futures industry 
as a whole. And especially the firms that broker trades for 
customers. Our member firms execute and clear orders for 
customers worldwide. That business is jeopardized, we believe 
inadvertently, by the legislative proposals you are considering 
in the foreign board of trade area. FIA asked this Committee in 
any legislation you consider to work with us to remove this 
threat without harming market surveillance transparency in any 
way.
    Before discussing what is called the FBOT issue, I want to 
make two quick points. First, FIA fully appreciates the serious 
economic challenges high energy prices create. These prices are 
hurting real people in a real way. Did the futures markets 
cause those prices or merely serve as the vehicle delivering 
those prices? Were futures the message or the messenger? At 
this point we believe futures were the messenger. But it would 
be imprudent to reach any firm conclusion before the CFTC 
completes its analysis of this question.
    For now FIA looks forward to reviewing the CFTC's findings. 
We will not, and we believe others should not, prejudge that 
verdict one way or the other.
    Second, many of you have asked in the last couple of days 
about the term ``excessive speculation.'' The recent history of 
that term is instructive. From 1922 until the year 2000, the 
Commodity Exchange Act stated that preventing excessive 
speculation was a major reason futures regulation was 
imperative. In 2000, however, Congress repealed that finding. 
Instead, the statute now states that futures markets serve the 
national public interest, ``by providing a means for managing 
and assuming price risks, discovering prices and disseminating 
pricing information through trading in liquid, fair and 
financially secure trading facilities.''
    Congress found that assuming price risks, in a word 
speculating, enabled futures markets to serve the public 
interest. The importance of that modern finding seems to have 
been lost by some in the current debate.
    What isn't lost is that every witness before you has 
opposed price manipulation. FIA is no exception. Price 
manipulation robs the futures markets of their ability to serve 
the public interest. Congress wisely granted the CFTC vast 
powers to detect and deter price manipulation. The key to those 
powers is effective and intensive CFTC market surveillance.
    At its core the FBOT issue is all about market 
surveillance. Sometimes two exchanges compete to list the same 
product. When they do, market surveillance is more difficult, 
even with two U.S. exchanges, because it requires seeing 
trading activity in two markets, not just one. And when that 
trading activity is being conducted on a foreign market with a 
foreign regulator, the CFTC must coordinate with those foreign 
officials in order to conduct effective market surveillance.
    This market surveillance challenge is a two way street. 
Again, that is a point I don't believe that we have heard 
discussed in these hearings. It applies when a foreign exchange 
tries to compete with a dominant U.S. exchange and when a U.S. 
exchange tries to compete with a foreign exchange. This 
challenge requires cooperation. No exchange, whether in the 
U.S. or in a foreign jurisdiction, should be subject to the 
dictates of two separate regulators. Coordination by the CFTC 
and what the statute calls foreign futures authorities is 
therefore essential.
    The FIA supports legislation to address both sides of this 
street. We want the CFTC to have access to any and all trading 
data it needs to make informed market surveillance judgments. 
We recognize that foreign regulators have the same legitimate 
concerns about trade on U.S. exchanges that compete with 
foreign exchanges. In that instance the statute should call for 
the CFTC's cooperation with the efforts of its foreign 
counterpart. This two way street approach will lessen the 
likelihood that legislation in this area will spark trade war-
style retaliation. FIA is extremely concerned about that 
prospect because it could cause foreign exchanges to avoid CFTC 
regulation by walling out order flow from U.S. firms.
    That reaction would threaten our firms' ability to serve 
their customers from the United States. The result could be a 
shift in brokerage firm business to overseas affiliates and the 
loss of jobs. That shift would be even more likely if the U.S. 
FCM becomes legally responsible for a foreign exchange's 
compliance with CFTC mandates, as some legislation now 
proposes.
    The FIA thanks you, Mr. Chairman and Members of the 
Committee, for your continued interest in these issues. Your 
hearings this week have been fair and informative. As your 
deliberations continue, FIA will help you in any way we can. We 
look forward to answering your questions.
    [The prepared statement of Mr. Young follows:]

 Prepared Statement of Mark D. Young, J.D., Partner, Kirkland & Ellis 
    LLP, Washington, D.C.; on Behalf of Futures Industry Association
    Mr. Chairman and Members of the Committee, I am Mark Young, 
appearing on behalf of the Futures Industry Association. FIA 
appreciates the opportunity to present its views to the Committee on 
the pending legislation to address futures regulation and energy 
prices.
    FIA regular member firms are registered with the Commodity Futures 
Trading Commission as futures commission merchants (``FCMs''). FIA's 
FCM member firms execute customer orders for and provide the financial 
guarantees underwriting more than 90% of the futures contracts traded 
on U.S. exchanges. FIA member firms also play a substantial role in 
executing and clearing orders for customers world-wide in futures 
contracts traded on non-U.S. exchanges. As the leading trade 
association for the U.S. futures industry, FIA and its member firms 
have an acute interest in the many legislative proposals you are 
considering.
    FIA has a long record with this Committee. We have supported every 
legislative reform of futures regulation dating back to the Commodity 
Futures Trading Commission Act of 1974 as well as each Reauthorization 
of the CFTC since 1978. As in the past, FIA is committed to working 
with this Committee on constructive legislation to modernize regulation 
and adapt to the ever quickening pace of change in futures trading 
around the world.
    While I suspect FIA, led by John Damgard, is well known to many 
Members of this Committee, I am sure I am not as well known. I am a 
Partner in the law firm of Kirkland and Ellis, LLP in the Washington, 
D.C. office. In 1977, I joined the CFTC's legal staff when I graduated 
from law school. I then moved to Kirkland in 1982. I have represented 
clients in every CFTC reauthorization from 1978 to 2008. I now 
represent FIA on a variety of legislative, litigation and regulatory 
matters. I represent other clients as well on a variety of regulatory 
and litigation matters. I do not now represent any U.S. futures 
exchanges or foreign futures exchanges. Also, since 1991, I have taught 
a course in Derivatives Regulation as an Adjunct Professor at the 
Georgetown University Law Center.
    FIA and its members have long believed that futures market price 
integrity is a paramount concern. FIA does not support higher prices or 
lower prices on any market. FIA does support having prices discovered 
openly and competitively on what the Commodity Exchange Act calls, 
``liquid, fair and financially secure trading facilities.''
    In 1974, this Committee described the Commodity Exchange Act as a 
``comprehensive regulatory structure to oversee the volatile and 
esoteric futures trading complex,'' a description the U.S. Supreme 
Court later called an ``apt[] characteriz[ation].''&\1\ Amending this 
complex structure, under even the best of circumstances, can be a 
difficult challenge. FIA thanks this Committee for your thorough and 
thoughtful approach to deliberating on the benefits and costs of the 
many different legislative proposals before you.
---------------------------------------------------------------------------
    \1\&Merrill Lynch v. Curran, 456 U.S. 353, 355&356 (1982).
---------------------------------------------------------------------------
    FIA views each legislative proposal through the lens of seven basic 
principles.

    1. Futures trading serves the congressionally-endorsed national 
        public interests in commodity price risk management and 
        commodity price discovery. Price manipulation robs futures 
        markets of their ability to serve those public interests.

    2. The Commodity Futures Trading Commission now has vast powers to 
        prevent price manipulation, ranging from position limits and 
        vigorous enforcement actions to transparent market surveillance 
        and emergency powers. The CFTC is an effective agency; it needs 
        additional resources more than it needs additional powers.

    3. Speculators are essential for futures markets, as the Supreme 
        Court and many commentators have found.\2\ Without speculators, 
        U.S. futures markets would not serve the national public 
        interest. Speculation is not price manipulation. Those who 
        claim it is would also equate oxygen with air pollution.
---------------------------------------------------------------------------
    \2\&Merrill Lynch v. Curran, 456 U.S. at 390 (speculators play a 
``crucial role in an effective and orderly futures market''); 
Economist, ``Don't blame the Speculators,'' July 5&11, (at 15&16 
(``speculators provide a vital service''); Robert Samuelson, ``Lets 
Shoot the Speculators,'' Newsweek, July 7&14, 2008 (``What makes the 
futures markets work is the large number of purely financial players--
`speculators' just in it for the money--who often take the other side 
of hedgers' trades.''); Richard W. Rahn, ``Greedy Speculators,'' 
Washington Times, June 25, 2008 at A22 (``There are many . . . market 
speculators who provide liquidity to the market and fill the void if 
the numbers of short and long hedgers do not match up.''); J. Nocera, 
``Easy Target, But Not The Right One,'' New York Times, June 28, 2008 
at B1.

    4. Congress should not enact legislation that would create 
        disincentives for futures business to be conducted through U.S. 
        firms and on U.S. markets, which could cost U.S. jobs. Congress 
        should also not enact legislation that would hinder the CFTC's 
---------------------------------------------------------------------------
        market oversight and price transparency.

    5. The forces of globalization and technological innovation are 
        linking economic and financial activities world-wide more every 
        day. No legislation could repeal that market reality.

    6. Loopholes are a misnomer. Congress made many deliberate and 
        realistic policy choices from 1982 to 2000, many of which 
        originated in this Committee. Each was intended to serve the 
        public interest, not any special interest. Those choices have 
        served the public interest well, resulting in strong growth, 
        more transparency and less financial risk in U.S. derivatives 
        markets.

    7. The CFTC's legal authority over U.S. futures exchanges, traders 
        and firms is and must be greater and more direct than its legal 
        authority over foreign futures exchanges, traders and firms. 
        International cooperation and coordination is therefore an 
        essential component of effective market surveillance for global 
        markets.

    Along with other financial services trade associations, FIA has 
provided a list of measures Congress should enact to deal with the 
current market situation. Those recommendations are included as 
Appendix A. For this hearing, the Committee has grouped the issues 
presented in the pending legislative proposals into six categories. 
FIA's thoughts on each area follow. We emphasize the foreign board of 
trade issue because it is the primary area of concern to the clearing 
firms that comprise our core membership.
Foreign Boards of Trade
Background
    In 1982, Congress determined that futures contracts traded on an 
exchange ``located outside the U.S.''--called a ``foreign board of 
trade''--would be excused from the requirement that futures contracts 
in the U.S. must be traded on a CFTC-approved exchange. That 
requirement remains the law today unless a statutory or regulatory 
exclusion or exemption is applicable. In 1982, Congress also specified 
that the CFTC could not directly regulate foreign boards of trade or 
their operations. For well over a decade, this provision was non-
controversial and applied in a legally certain atmosphere: an exchange 
was considered to be ``located'' where its trading floor was located 
and U.S. customers accessed foreign boards of trade without incident.
    In recent years, matching engines, trading terminals, servers and 
web access allowed any exchange anywhere in the world to access U.S. 
customers directly. Because issues were raised about whether these 
developments affected where an exchange was ``located,'' the CFTC and 
its staff developed a no-action approach. Through the no-action 
process, the CFTC was able to condition the ability of a foreign board 
of trade to conduct business with firms and customers in the U.S. One 
important condition is the level of cooperation the CFTC could receive 
from a foreign board of trade's foreign regulator, what the CEA defines 
as a ``foreign futures authority.'' To date, the CFTC's website lists 
20 of these No Action letters issued to foreign boards of trade.
    As commodity markets have become more international in scope and 
electronic trade execution mechanisms have become predominant, U.S. and 
foreign exchanges have begun some level of direct competition. U.S. 
futures exchanges have attempted to engage in direct competition with 
certain foreign futures exchanges and foreign exchanges have attempted 
to engage in direct competition with certain U.S. exchanges. For 
example, in recent years the Chicago Board of Trade offered replicas of 
the German Bund, Bobl and Shatz futures contracts which trade 
successfully on EUREX, the German-Swiss Exchange. The New York 
Mercantile Exchange also trades a Brent Oil futures contract which is a 
cash-settled version of the same contract which first traded on what is 
now ICE Futures Europe. Competition is a two way street. ICE Futures 
Europe also has listed and trades a cash-settled clone of the 
bellwether WTI crude oil futures contract traded at NYMEX.
    FIA strongly supports direct competition among trading facilities 
both within the U.S. and globally. Competition leads to more liquidity, 
lower trading costs, tighter spreads, and more innovation. It does, 
however, complicate market surveillance. It is easier to know who is 
trading what futures contracts on one exchange, than on multiple 
exchanges. It is also easier for a single dominant designated contract 
market to discharge its statutory duty to prevent manipulation on its 
own market without having to worry about trading in the same commodity 
on the market of its competitor, the ``challenger'' exchange. The CFTC 
has determined that direct competition is important to promote and that 
the agency itself will bridge the gap in market surveillance among 
different exchanges trading the same product when these instances of 
direct competition arise. FIA has endorsed the CFTC's determination and 
actions to promote exchange competition.
    Competition does promote innovation. For example, in response to 
the ICE Futures Europe decision to list a NYMEX-replica WTI crude oil 
futures contract and the immediate success ICE experienced through 
electronic trading in a contract that previously could only be traded 
on the NYMEX trading floor, NYMEX accelerated its efforts to allow 
electronic trading for its WTI contract. In response, the CFTC has 
taken a number of proactive steps, with the cooperation of ICE's 
regulator, the UK Financial Services Authority, to make sure that the 
CFTC's market surveillance picture for both markets is clear and 
transparent. Again, FIA endorses the measures the CFTC has implemented 
and commends the agency for its leadership and initiative.
Current Proposals
    We understand that many want to codify in the CEA the CFTC's market 
surveillance protocols where a foreign-based and regulated exchange 
attempts to compete with a U.S. exchange for market share in a 
particular futures contract. FIA supports that goal. Competition should 
not compromise market surveillance. When two exchanges, no matter where 
located, compete for trading volume in the same product, the CFTC has 
heightened market surveillance responsibilities and its traditional 
market surveillance tools need to be adjusted to make sure that the 
CFTC has any and all data to prevent price manipulation or other major 
market disturbances.
    As this Committee understands well, with most CEA proposals it is 
particularly important to target the legislative language to address 
the specific problem at issue and to avoid triggering legal and 
business consequences that would undermine the intended policy goal or 
have other unintended repercussions. In this instance, it is essential 
that any proposal adopted by the Committee not unintentionally harm the 
CFTC's efforts to enhance its surveillance capabilities by pushing more 
market activity to less transparent venues where the trading data the 
CFTC may need would not be readily available.
    FIA has reviewed the pending proposals and our list of concerns 
with each proposal is found at Appendix B to this testimony. Overall, 
FIA fears that the proposals in the FBOT area that have been introduced 
to date would inadvertently harm both the CFTC's ability to prevent 
manipulation and the competitiveness of U.S. brokerage firms, while 
potentially leading to trade-war type retaliation from foreign 
governments against U.S. exchanges. Some of these proposals are drafted 
in a circular manner so that only foreign exchanges otherwise excused 
from CFTC oversight by statute would be subject to the heightened 
surveillance requirements. Other proposals enable FBOTs to evade the 
contemplated mandated CFTC regulation of FBOT self-regulatory 
operations by simply refusing to deal with U.S. traders and firms, 
while welcoming the business of any overseas affiliates of these same 
traders and firms. This has happened before in the context of security 
futures products and other trading instruments. In fact, some U.S. 
clearing firms have moved or may be compelled to move their operational 
and processing facilities out of the U.S. for just this reason. The 
results? No direct CFTC transparency for these FBOT trades, leading to 
increased manipulation risk and increased systemic financial risk on 
the clearing side, and a weakened business base for U.S. traders and 
firms (which creates a disincentive to even start such a business in 
the U.S.).
    FIA also believes that any legislation in this area should be 
symmetrical because competition is global and U.S. exchanges do try to 
wrest market share from foreign boards of trade in various products, a 
competitive trend we hope will continue. Foreign futures authorities 
have as much interest in preventing price manipulation in their 
jurisdictions as the CFTC does here. None of the introduced proposals 
addresses this market and regulatory reality.
    As mentioned earlier, FIA shares the policy goals of many of the 
introduced FBOT proposals: to enhance CFTC surveillance where warranted 
to deal with competition among foreign and U.S. exchanges in energy 
futures trading and to prevent market manipulation. To achieve those 
objectives, FIA recommends that the Committee consider the following 
type of provision:

        When a foreign board of trade lists for trading an energy 
        futures contract that is linked to the settlement price of an 
        energy futures contract trading on a U.S. futures exchange (or 
        vice versa) and when the CFTC (or its foreign regulatory 
        counterpart) believes enhanced market surveillance is necessary 
        or appropriate, then the CFTC and its foreign counterpart 
        should immediately consult on, develop and implement heightened 
        surveillance measures to prevent price manipulation and ensure 
        transparent, coordinated market surveillance.

This approach will not only codify and strengthen the process and 
procedures the CFTC already has implemented with respect to ICE Futures 
Europe and its coordinated efforts with the FSA, it would build upon 
the CFTC leadership in this area to promote international consultation 
and coordinated regulatory responses. We would be leading the world in 
a common and important mission--the prevention of price manipulation 
any time, anywhere. We would not be telling the world how that mission 
must be accomplished or that every CFTC or U.S. exchange requirement 
must be replicated in every instance. We would be leading, not 
dictating.
    FIA also is very concerned that some legislative proposals in the 
FBOT area would operate to impose prohibitions on U.S. futures 
commission merchant firms that accept and execute customer orders on 
FBOTs. Unintentionally and inadvertently, these proposals would make 
U.S. firms liable if an FBOT fails to comply with U.S. law. They could 
also be read to allow customers to sue U.S. firms to void or rescind 
foreign futures contracts if the FBOT fails to comply with the CFTC-
imposed regulatory conditions. When executing and clearing orders for 
U.S. or foreign customers, U.S. FCMs should not be guaranteeing the 
regulatory compliance of FBOTs. Specific statutory safe harbors and 
exemptions are needed to prevent CFTC-registered professionals from 
bearing the legal risk of FBOT non-compliance. Otherwise investment 
banks and other clearing firms will simply and sensibly decide to run 
their futures brokerage and clearing businesses through overseas 
affiliates to avoid that potential liability.
    The foreign board of trade issue is vitally important to the future 
commercial viability of the U.S. FCM community which comprises the core 
of the FIA's membership. We would be happy to consult with the 
Committee and its staff on specific legislative language to achieve the 
objectives of much of the FBOT legislation proposed to date without the 
adverse consequences outlined above.
Swaps: Treating Energy Commodities Like Agricultural Commodities
    Under the Commodity Futures Modernization Act of 2000, Congress 
prescribed different levels of CFTC oversight and regulation for 
different trading systems, different market participants and different 
commodities. Generally, Congress determined that trading on 
multilateral trading facilities, where many market participants may 
execute trades with other market participants (so-called ``many to 
many'' markets), replicated the trading structure of traditional 
futures trading pits and should not be excused from CFTC regulation. 
Also trading among only Eligible Contract Participants, essentially 
well-capitalized, sophisticated or regulated entities, might not 
require full CFTC regulation and oversight because each ECP would be 
capable of protecting itself. And transactions in financial, energy and 
metals commodities did not implicate the same historical CEA regulatory 
concerns about market manipulation as did futures on agricultural 
commodities, which are the only commodities subject to CFTC-set 
speculative limits for futures trading on an exchange. Building on 
those concepts, Congress extended legal certainty to non-agricultural 
commodity transactions among ECPs by excluding or exempting those 
transactions from the CEA when the transactions were not executed on a 
trading facility.\3\
---------------------------------------------------------------------------
    \3\&This summary oversimplifies the web of CEA exclusions and 
exemptions enacted in 2000. But it captures the essence of CEA &2(c), 
2(d), 2(e), 2(g) and 2(h). Notably, parties engaged in exempt 
transactions in energy commodities under section 2(h) could still be 
subject to CFTC prosecution for energy price manipulation.
---------------------------------------------------------------------------
    Agricultural options and swaps transactions, however, may still be 
exempted from the CEA's exchange-trading requirement, among other 
regulatory provisions, under a CFTC exemption found in Part 35 of its 
Rulebook and adopted under Section 4(c) of the CEA, as enacted in 1992. 
Under the Part 35 rules, non-standardized and non-fungible derivatives 
transactions among Eligible Swap Participants (again, well-capitalized, 
sophisticated parties) are generally exempt from the CEA unless traded 
on a multilateral transaction execution facility or submitted to a 
futures-style clearing system. These otherwise exempt agricultural 
transactions are still subject to the CEA's anti-fraud and anti-
manipulation prohibitions.
    The CFMA exemptions and exclusions in the energy area represented 
an attempt statutorily to increase price transparency and remove 
systemic financial risk in over-the-counter energy transactions. And 
those provisions have worked as intended. ICE and other market 
innovators have developed methods of increasing price transparency for 
energy swaps in less than fully multilateral electronic trading 
systems. It is uncertain whether those swaps would be eligible for 
exemption under Part 35. What is certain is that none of those energy 
swaps could be subject to a futures-style clearing system unless the 
CFTC adopted a new exemption. Treating energy commodity swaps like 
agricultural commodity swaps therefore would likely diminish price 
transparency and increase financial risk for these transactions.
    In the 2008 Farm Bill, Congress addressed the legitimate concern 
that exempt energy transactions under Section 2(h) that are traded 
electronically and develop into significant price discovery 
transactions should be regulated more like futures contracts than 
Congress envisioned in 2000. Once full implemented by the CFTC, this 
reform will enhance price transparency and market oversight. Its 
valuable benefits will be lost, however, if energy commodities are 
treated in the same ways as agricultural commodities and removed from 
the transactions eligible for exemption under Section 2(h)(3) of the 
CEA. Like most quick fixes under the CEA, equating energy commodities 
with agricultural commodities will disserve the public interest. FIA 
would not recommend its adoption or the approval of any substantive 
amendments to CEA &2(g) and 2(h). Instead, the reforms in the farm 
bill should be allowed to take full effect and monitored to determine 
whether any adjustment is warranted in the near future.
Resources for the CFTC
    FIA strongly supports the proposals for additional resources for 
the CFTC, including at least 100 new CFTC employees. Those numbers are 
commensurate with the CFTC's scope of responsibilities and ever 
expanding authority in a global and changing market place. The bulk of 
the CFTC's new resources we would expect to be used to hire attorneys 
in the Enforcement Division to investigate and root out any alleged 
price manipulations the CFTC staff may uncover. Manipulation should not 
be tolerated and enforcement actions for past misconduct are the best 
means to deter future misconduct.
Pension Funds and Index Trading
    FIA strongly opposes banning any collective investment vehicles, 
whether they are pension funds, mutual funds, commodity funds or hedge 
funds, from participating in futures markets. When the funds' 
professional trading managers determine it is in the best interests of 
the funds' investors or beneficiaries to diversify their portfolio by 
trading in futures markets, that new speculative capital and liquidity 
should not be shunned. The CFTC is wisely investigating to determine 
whether index traders or any one else has engaged in price 
manipulation. FIA has every confidence that the CFTC (along with staff 
from other, less directly interested, Federal agencies) will analyze 
the right data and will make public its conclusions on or about 
September 15, 2008. FIA will be interested to evaluate the Commission's 
analysis under that accelerated time table. Until the facts are known 
and analyzed, however, FIA would urge all interested parties not to 
pre-judge the price effects of index trading, swap dealer net offsets 
in futures or pension fund activities.
Speculative Limits
    Some observers believe that swap dealers should not be considered 
to be hedgers when they enter into futures market transactions to 
offset the price risk of their swap transactions with non-physical 
commodity counterparties. To the extent the CFTC study will consider 
this issue, FIA would withhold final judgment. But it seems to make no 
difference from the perspective of the swap dealer whether its futures 
position is designed to manage a price risk incurred with a physical 
counterparty or a financial counterparty. Price risk is price risk. 
Swap dealers in energy commodities use futures to reduce their net 
market price risk on transactions with financial and physical 
counterparties. If a swap dealer entered into a long swap transaction 
in crude oil with a notional amount equal to10 futures contracts with a 
financial counterparty and then entered into a short swap transaction 
in crude oil with a notional amount equal to five futures contracts 
with a physical counterparty, the dealer could then go short five crude 
oil futures contracts on NYMEX to manage its net outstanding price 
risk. Some proposals would disallow treating the dealer's five short 
futures position as a hedge; instead those proposals would insist the 
dealer has a five short speculative position in futures, a result which 
distorts both the economic reality of the swap dealer's risk and any 
CFTC surveillance of that position. That approach also could make it 
more costly for the dealer to margin its futures position (a cost the 
dealer would likely pass along to its swaps counterparties).
    The better way to handle this situation is to allow the CFTC as 
well as the NYMEX and other exchanges to establish position 
accountability standards and to look behind the positions when 
appropriate to see whether the swap dealers or other large traders are 
engaged in any transactions that would raise surveillance concerns, 
without worrying about the classification of a position as hedge or 
speculative. Current law and DCM core principles accomplish that kind 
of flexibility. Indeed, under NYMEX rules, the hedge versus speculation 
classification only really matters for position limit purposes during 
the last three trading days in every contract when speculative position 
limits first become applicable.
Margin
    U.S. futures exchanges should set margins, not the U.S. Government. 
Exchanges and their clearing entities set margins to balance credit 
risk considerations against other market interests. It is a delicate 
business judgment that goes to the heart of exchange operations and 
should be left to the exchanges. In the context of crude oil prices, 
there is no evidence that NYMEX has abdicated its authority in any way 
in this area. To the contrary, from January 2, 2007 through July 3, 
2008, NYMEX has increased its margin for WTI crude oil futures for non-
member speculators by about 270% in absolute terms and about 50% when 
compared to the notional amount per contract.
Conclusion
    Record high gasoline prices are creating challenges and hardships 
in our national and international economy. If FIA believed that some 
reform to futures regulatory surveillance practices would reduce those 
challenges and hardships, we would not hesitate to recommend those 
reforms. But FIA is not aware of any proposed change to the CEA that is 
likely to result quickly, automatically and permanently in a decline in 
the price of crude oil. We are aware of statutory proposals that would 
substantially and adversely affect U.S. futures firms and markets, 
price transparency, systemic risk, and competition. These proposals 
threaten the viability of many services our member firms now provide to 
customers in the U.S. and overseas. Those proposals should not be 
adopted by this Committee and Congress.
    FIA respectfully requests that the Committee continue to proceed 
with caution in considering the pending proposals. We look forward to 
working with the Committee and its staff to fashion meaningful, 
realistic and targeted legislation to enhance market surveillance for 
energy futures markets and to strengthen the CFTC's regulatory muscle 
over the ever changing dynamic of futures trading activities.
                               Appendix A
What Congress Should Do
   Congress should call on the President to immediately send a 
        request for emergency appropriations to allow the CFTC to 
        increase oversight, improve the Commission's information 
        technology, and hire at least 100 new full time employees.

   Congress should instruct the Commission to add at least 100 
        new full time employees in order to increase surveillance of 
        the market, improve enforcement and otherwise carry out the 
        purposes of the Act.

   Congress should require the CFTC to obtain all necessary 
        market surveillance information to prevent market manipulation.

   Congress should require the CFTC to report to Congress 
        regarding the effectiveness of its expanded information-sharing 
        arrangement with the FSA, and the results of its review of the 
        scope of commodity index trading in the futures market, and its 
        recommendations for any changes to its authority or rules, 
        including any modifications to the Commitment of Traders 
        reports as necessary to provide increased transparency in 
        energy derivative markets.

   Congress should instruct the Commission to undertake a 
        comprehensive report, in conjunction with other futures and 
        options regulators world-wide, relating to differences in 
        regulatory regimes worldwide as well as the role of 
        institutional investors, speculators and other participants in 
        the markets.
                               Appendix B
Futures Industry Association--Concerns Relating to Foreign Board of 
        Trade (``FBOT'') Legislative Proposals
    1. H.R. 6284 (Mattheson), H.R. 6334 (Etheridge), S. 2995 (Levin), 
        S. 3044 (Reid), S. 3129 (Levin), S. 3130 (Durbin)--CFTC may 
        grant &4(a) relief only for FBOT with comparable regulation 
        and willing to submit trading data to CFTC.

      (a) ``Located outside.'' Applies only to foreign boards of trade 
            which, by definition, are located outside the U.S. and 
            therefore do not need &4(a) relief. Because FBOTs need no 
            &4(a) relief the provision is ineffective and self-
            defeating.

      (b) ``Cash-settled.'' Applies only to FBOTs ``with respect to an 
            energy commodity that is physically delivered in the U.S.'' 
            FBOT contracts that are cash-settled would not be covered 
            by the provision. ICE Futures Europe's WTI futures contract 
            is cash-settled and does not call for physical delivery of 
            any energy commodity.\1\
---------------------------------------------------------------------------
    \1\&H.R. 6349 (Marshall) is substantially similar to the six 
enumerated bills except it does not have the physical delivery 
limitation. It would apply if an FBOT's energy contract refers to the 
price of a physically delivered energy contract traded on a U.S. 
exchange and the contract contemplates a ``primary physical delivery 
point'' in the U.S. This formulation would allow CFTC regulation to 
apply to FBOT contracts that are cash-settled, although the concept of 
a primary U.S. delivery point is not well established and may not be 
easy to apply in all circumstances. Other than cash-settlement, H.R. 
6349 raises all of the same issues as the six other bills listed.

      (c) Attempts to impose direct CFTC regulation on FBOTs in a 
            number of areas. In response and to avoid duplicative 
            regulatory oversight, FBOTs are likely to close off foreign 
            markets from U.S. market participants and firms. FBOTs will 
            simply refuse to take orders from U.S. firms and traders. 
            FBOT business may not suffer; firms and traders will 
            continue to trade on the FBOT, but will trade through their 
---------------------------------------------------------------------------
            overseas affiliates.

      (d) If FBOTs are made subject to affirmative U.S. statutory 
            requirements, U.S. FCM firms could be liable under &4(a) 
            for an FBOT's non-compliance because of the way &4(a) is 
            structured. FCMs should not be insuring FBOT compliance 
            with U.S. law.

      (e) No coordination role provided for foreign futures authority 
            with jurisdiction over the FBOT.

    2. H.R. 6341 (Van Hollen)--Disqualifies boards of trade from being 
        considered to be foreign if they have U.S. ties and trade SPDCs 
        in energy.

      (a) Harms CFTC Surveillance Transparency. Any FBOT could avoid 
            U.S. jurisdiction by not affiliating with an entity in the 
            U.S. or not having any infrastructure in U.S. FBOTs could 
            set up matching engines outside the U.S., with servers 
            outside the U.S. and no direct U.S. presence. FBOTs would 
            not need any CFTC relief. CFTC would lose all possible 
            leverage in trying to obtain surveillance information.

      (b) If CFTC determines an exchange with U.S. ties trades a 
            Significant Price Discovery Contract (a new statutory term 
            designed to serve a very different purpose) in any energy 
            commodity, then that contract becomes illegal to trade in 
            the U.S. unless the FBOT becomes a DCM. Making illegal a 
            contract that others are using for price discovery--
            theoretically world-wide--will harm the price discovery 
            process and may cause serious commercial harm in the energy 
            markets.

      (c) It is unclear how to apply the SPDC criteria from the farm 
            bill to an international market. The SPDC criteria were 
            developed to discern price discovery contracts in the U.S., 
            not in overseas markets. Is the CFTC supposed to make a 
            national or international SPDC determination?

      (d) Would encourage foreign exchanges to bar U.S. traders and 
            firms from participating in their markets. Congress may 
            want U.S. parties to participate in energy price discovery 
            rather than leave price discovery just to parties in the 
            Middle East and other parts of the world.

      (e) Requires ICE Futures Europe to become a U.S. designated 
            contract market. Could spark trade-war style retaliation.

    3. H.R. 6330 (Stupak)--Makes illegal non-DCM energy futures if 
        delivery point in U.S. or ``transacted'' on a terminal in U.S.

      (a) Would not apply to cash-settled transactions on an FBOT.

      (b) Exchanges now rely less on dedicated terminals for trading. 
            Modern technology and web-access make trading easier to 
            access from anywhere in the world. FBOT do not need to have 
            terminals in the U.S. If FBOTs don't have terminals in the 
            U.S., the CEA doesn't apply to those FBOTs' contracts.

      (c) Excuses an energy contract from coverage under the CEA unless 
            it calls for delivery point in the U.S. or is transacted on 
            a U.S. terminal. An FBOT could list a cash-settled energy 
            contract and allow U.S. traders access from websites in the 
            U.S. and not be subject to the CEA. May actually cut back 
            on CFTC authority, making transparency and market 
            surveillance harder to achieve.

      (d) Misapprehends that CFTC FBOT no-actions have relied on 
            Section 4(c) exemptions (which bill seeks to nullify absent 
            public comment). No-actions are not 4(c) exemptions.

    4. H.R. 6130 (Barton)--Requires CFTC within 6 months to determine 
        whether to adopt a rule regarding how the CFTC determines a 
        foreign futures authority regulates its exchanges and markets 
        in a way comparable to the CFTC.

      (a) Developing regulatory standards for determining comparability 
            in different regulatory structures may limit CFTC 
            discretion. But providing notice to market participants and 
            FBOTs of the factors the CFTC would take into account in 
            making a comparability determination may not be 
            problematic.

      (b) May remove CFTC flexibility by requiring FBOTs to have 
            certain specific regulatory tools to achieve comparability. 
            Better approach would be to determine whether anti-
            manipulation protections are adequate and how well sharing 
            of surveillance data on competing contracts could work.

    5. H.R. 6279 (Chabot)--Same as bills covered under Part I above, 
        but adds that FBOT margin requirements must be comparable to 
        U.S. and ``sufficient to reduce excessive speculation.''

      (a) DCMs in U.S. have considerable flexibility in imposing 
            margin, as they should. They operate under core principles 
            subject to CFTC oversight.

      (b) Under U.S. law, margin is not generally designed to curb 
            excessive speculation. Margin is largely a credit risk 
            issue. FBOTs should not be held to a different, higher 
            standard.

    6. H.R. 6372 (Hill)--No board of trade may be an FBOT if it has a 
        U.S. affiliate, trades a commodity other than an exempt 
        commodity or trades a significant price discovery contract.

      (a) No ``U.S. affiliate'' test artificially restricts cross-
            border exchange mergers with U.S. entities. Why limit the 
            commercial maneuverability of U.S. trading facilities when 
            foreign counterparts are not similarly restricted? Also 
            allows board of trade a fairly painless way to evade U.S. 
            law.

      (b) Energy and metals are exempt commodities. Trading in those 
            kinds of commodities would be not be affected by this bill. 
            Trading in agricultural commodities and financial 
            commodities (excluded commodities) like interest rates, 
            currencies and equities would be affected. Not sure that 
            was intent.

      (c) SPDC determination in farm bill was not developed with 
            foreign or global markets in mind. Not sure how well SPDC 
            determination can be adapted to this context. Also SPDC is 
            not self-executing; it requires an affirmative CFTC 
            determination. Why would Congress want to make it illegal 
            to trade a contract that businesses are relying on for 
            significant price discovery.

    7. S. 3122 (Cantwell)--Makes into a DCM any trading facility that 
        (a) ``operates one or more trading terminals'' in U.S.; (b) 
        trades contracts that serve a price discovery function for a 
        commodity delivered in the U.S.; and (c) is regulated by a 
        foreign regulatory agency. Terminates existing exemptions from 
        DCM registration.

      (a) FBOTs today operate under a CFTC-approved no-action process, 
            not Section 4(c) exemptions.

      (b) FBOTs do not need to operate ``trading terminals'' in the 
            U.S. Web access is world-wide. Also servers that facilitate 
            the pace of execution of U.S. customer orders on FBOTs are 
            not considered to be trading terminals. Servers are not 
            trading terminals.

      (c) Price discovery function is an undefined, new term. To the 
            extent it is different than the ``significant price 
            discovery contract'' definition from the 2008 Farm Bill, it 
            is not clear why a new phrase is needed. To the extent it 
            is the same as the farm bill formulation, it is not self-
            executing, adds administrative cost to CFTC regulation, and 
            may not be applicable to energy markets traded overseas. 
            Also has the perverse consequence of penalizing a foreign 
            exchange for developing an energy contract (Brent) which a 
            U.S. exchange later copies.

    The Chairman. Thank you very much.
    Mr. Peniket.

 STATEMENT OF DAVID J. PENIKET, PRESIDENT AND COO, ICE FUTURES 
                 EUROPE, LONDON, UNITED KINGDOM

    Mr. Peniket. Chairman Peterson, Members of the Committee, 
it is a privilege to appear before you today in respect to the 
issue of regulation of foreign boards of trade.
    I am David Peniket, President and Chief Operating Officer 
of ICE Futures Europe. ICE Futures Europe is the largest 
regulated futures exchange for energy trading in Europe and the 
second largest in the world. We trade a number of energy 
contracts which are used as pricing benchmarks both in Europe 
and internationally. Our Brent crude futures contract is the 
leading benchmark for the oil traded outside the United States. 
Our gasoil futures contract is the main European middle 
distillate benchmark.
    Since February of 2006, we have offered financially settled 
WTI crude oil futures, giving our customers the ability to 
trade the main U.S. and European crude oil futures on a single 
platform.
    In conjunction with our partners at the Chicago Climate 
Exchange, we operate the market for the European Climate 
Exchange, which is the largest carbon market in the world.
    ICE Futures Europe was founded as the International 
Petroleum Exchange in 1980. It was acquired by 
IntercontinentalExchange in 2001 and was subsequently renamed. 
But ICE Futures Europe remains a U.K.-recognized investment 
exchange subject to the regulation of the U.K. Financial 
Services Authority. ICE Futures Europe is a U.K. company with 
its own board, on which I sit, and which is chaired by Bob 
Reid, former Chairman Shell U.K.
    The contracts we trade are subject to U.K. law and the 
jurisdiction of the English courts. All the contracts are 
cleared through a U.K. clearinghouse, currently LCH.Clearnet, 
shortly to be ICE Clear Europe.
    Our headquarters are an international house near Tower 
Bridge, where a team of nearly 70 exchange staff are based. All 
our regulation compliance and market supervision staff are 
based in London.
    Since 1999, we, in common with many other exchanges, have 
operated screens in the United States under a No Action letter 
from the CFTC. This is the regime that all international 
derivatives exchanges use to achieve access to the U.S. market. 
The regime has been highly successful in helping to promote the 
growth of derivative markets around the world. A framework of 
mutual cooperation between derivatives regulates this. This 
meant that markets have grown strongly and without the 
disruption that has been present in other parts of the 
financial services industry.
    Since we launched our WTI contract, the CFTC has been 
concerned to understand its implications of the WTI market as a 
whole. We collect large trader reports to the contract on a 
daily basis, and this information has been shared regularly 
with the CFTC, at first informally and then subject to a 
Memorandum of Understanding between the CFTC and the FSA. That 
Memorandum of Understanding was strengthened 2 months ago when 
we agreed to provide additional large trader information to the 
CFTC and to alert them when certain position accountability 
levels were exceeded.
    On the 17th of June, 2008, the CFTC amended the No Action 
letter under which we operate. This amendment further 
formalized the information-sharing arrangements and required 
that we impose position limits and position accountability 
levels in respect of WTI. We will comply in full with the terms 
of this letter subject to the approval of the U.K. Financial 
Services Authority.
    In the normal course of our operations, we receive 
information requests from the CFTC via the FSA from time to 
time. We have always cooperated with such requests. In our 
view, the CFTC now has all the information it needs to fulfill 
its role as overseer of the WTI futures markets. We will 
continue to operate closely with them.
    Mr. Chairman, it is in our interest and the interest of our 
market participants to ensure that the energy markets are fair, 
orderly and free of manipulation. The only way in today's 
global, interconnected world that we will we be able to ensure 
this is through active cooperation between regulators and 
exchanges around the world. We respectfully submit that the 
effective regulation of today's global commodity markets is 
best served by measures that promote and enhance such 
regulatory cooperation.
    Thank you for your time, Mr. Chairman. I would be happy to 
take any questions.
    [The prepared statement of Mr. Peniket follows:]

Prepared Statement of David J. Peniket, President and COO, ICE Futures 
                     Europe, London, United Kingdom
    Chairman Peterson, Ranking Member Etheridge. I am David Peniket, 
President and Chief Operating Officer of ICE Futures Europe.
    I very much appreciate the opportunity to appear before your 
hearing today to share ICE Futures Europe's views on foreign boards of 
trade. The United States' approach to the regulation of foreign boards 
of trade is an important issue for the global trading community.
Executive Summary

    1. ICE Futures Europe is a 27 year old London-based fully regulated 
        futures exchange. ICE Futures Europe is one of the largest 
        European energy markets. It offers a ``cash-settled'' WTI crude 
        oil contract, meaning positions in the contract do not result 
        in taking physical barrels of oil off of the market or permit a 
        price squeeze.

    2. 85% of the open positions for the WTI crude futures and options 
        market are held on the NYMEX, which establishes the price of 
        WTI crude oil due to the physical nature of the NYMEX market. 
        ICE Futures Europe prices its contract, which has a 15% market 
        share, based on the settlement price discovered in the NYMEX 
        WTI market.

    3. ICE Futures Europe, as a fully regulated exchange, monitors 
        positions daily and has enforcement powers as does the FSA to 
        detect and punish attempts a manipulation.

    4. Pursuant to amended CFTC and FSA agreements in May and June of 
        2008, the ICE WTI contract will be subject to the same U.S. 
        regulatory provisions as the NYMEX WTI contract, including 
        position reporting and position accountability and limits

    5. Finally, ICE Futures Europe margin rates have tripled from May 
        2007, while prices have approximately doubled. The use of 
        margining as a tool for controlling price movements or market 
        participation, which is one of the proposed market alterations, 
        could have extremely negative consequences for market 
        participants and consumers and could result in excessive 
        volatility, the hoarding of oil or the departure of regulated 
        markets from the U.S.
Background
    ICE Futures Europe (the ``Exchange''), formerly the International 
Petroleum Exchange of London Ltd, is the leading regulated energy 
futures exchange outside the United States of America. The Exchange was 
formed in 1980 and operated as a mutual exchange until 2001 when it was 
acquired by IntercontinentalExchange, Inc. The Exchange's primary mode 
of operation was open outcry trading until 2005, when we converted our 
markets to fully electronic trading. ICE Futures Europe is the home of 
the Brent Crude Futures contract, a North Sea blend of crude oil. The 
Brent complex, of which our futures contract is a part, forms the basis 
for pricing--directly or indirectly--\2/3\ of world traded crude 
oil.\1\ We also offer a Gas Oil futures contract which serves as the 
primary pricing benchmark for European middle distillate products, as 
well as UK natural gas and electricity contracts. In conjunction with 
our partners at the Climate Exchange we operate the futures market for 
the European Climate Exchange, which is now the largest carbon futures 
market in the world.
---------------------------------------------------------------------------
    \1\&Source: Brent: A User's guide to the Future of the World Price 
Marker (Liz Bossley, CEAG, 2007).
---------------------------------------------------------------------------
    The customers of ICE Futures Europe's market, like those of most 
major exchanges, are based around the world. Even when ICE Futures 
Europe was an open outcry exchange, customers from around the world 
used its markets by phoning their orders in to the trading floor in 
London. Today the trading floor is a virtual one, with orders being 
sent to the market through computer terminals--but the global nature of 
our markets has not changed. We have regulatory clearance for our 
screens to operate in over fifty jurisdictions globally.
    Responding to customer demand, in February 2006, ICE Futures Europe 
launched a cash settled futures contract for West Texas Intermediate 
(WTI) crude oil to complement our Brent crude oil contract since both 
are similar ``light sweet'' grades of crude oil. We chose to offer a 
financially settled WTI contract at a time when NYMEX was committed to 
retaining and promoting open outcry trading rather than pursuing 
electronic trading despite market demand. As the first exchange to 
launch a fully electronically-traded WTI contract on an around-the-
clock trading platform, our contract was successful in taking market 
share from NYMEX. Since the subsequent launch of electronic trading by 
NYMEX in September 2006, NYMEX's WTI contract has grown more rapidly 
than the ICE market. Today, ICE has a relatively small 15% share of 
total WTI futures and options open interest, while NYMEX retains the 
remaining 85%. Nevertheless, the ICE WTI contract is an important 
contract for ICE Futures Europe, as it is used by commercial 
participants to hedge exposure to small differences in WTI and Brent 
prices. Notably, NYMEX similarly offers a cash-settled Brent crude oil 
futures contract that settles on ICE Futures Europe's final settlement 
price for precisely the same reason.
Regulatory Framework: ICE Futures Europe's Operations
    ICE Futures Europe is a Recognized Investment Exchange which 
operates under a legislative framework set out in the Financial 
Services and Markets Act 2000. This framework gives the exchange an 
equivalent regulatory status under UK law to the status that U.S. 
Exchanges have under U.S. law. The Exchange is subject to supervision 
by the Financial Services Authority, which has a designated team whose 
responsibility is to oversee the work of UK exchanges and other 
recognized bodies. The financial services regulatory regime in the 
United Kingdom is well-established and has been used as a model in the 
design of other regulatory systems around the world.
    ICE Futures Europe is a UK corporate entity that files that is 
registered with Companies House, whose principal place of business is 
in the UK and which is subject to UK law. All contracts traded on ICE 
Futures Europe are subject to UK law and regulation. For European 
market participants, this is important for a variety of reasons, 
including the applicability of UK bankruptcy and insolvency laws in the 
event of a contract default. All of ICE Futures Europe's contracts are 
cleared in London by LCH.Clearnet Limited, which acts as central 
counterparty to all trades on the Exchange. Clearing of such contracts 
will shortly be transferred to our own new London-based clearing house, 
ICE Clear Europe.
    At all times since it became a subsidiary of ICE, Inc., ICE Futures 
Europe has been headquartered in London and has operated as a 
Recognised Investment Exchange. At all times during this period, ICE 
Futures Europe has been governed by a separate board of directors which 
is accountable to the Financial Services Authority for the operation of 
ICE Futures Europe's markets. The board is chaired by Sir Bob Reid, a 
former Chairman of Shell UK, and also includes three independent 
European-based board members: Lord Fraser of Carmyllie, Robert Mabro 
and Peter Nicholls. Jeff Sprecher, Chairman and Chief Executive Officer 
of IntercontinentalExchange and Scott Hill, ICE Chief Financial Officer 
are also members of the Board. A Subcommittee of the Board, the Risk 
Committee, made up of the independent directors, meets separately to 
consider financial and operational risk issues, including financial 
resources. This separate governance structure and degree of 
independence within the ICE, Inc. group is mandated by the Financial 
Services Authority in order for ICE Futures Europe to maintain its 
status as a Recognised Investment Exchange and a self regulatory 
organization. ICE Futures Europe has approximately seventy full-time 
employees, all of whom are based in the United Kingdom.
Our Role
    Our role as a Recognised Investment Exchange is to provide a fair 
and orderly market in which the interaction of market participants is 
allowed to determine prices. We strive to be strictly neutral and 
independent. Our role is neither to be on the side of the producer nor 
the consumer; we are dedicated to ensuring that price formation is 
fair.
A Fair and Orderly Market
    Being a fair and orderly market means operating within a framework 
laid down by law and regulation. The ultimate decision-making body of 
the Exchange is its board of directors. The rule-making functions are 
fulfilled by the Authorization, Rules and Conduct Committee under 
delegation from the board. Changes of significance are brought back to 
the board for approval. There is an independent disciplinary framework 
which is followed in circumstances where the Exchange pursues 
disciplinary action against members.
    The ICE electronic trading platform has sophisticated audit 
facilities which allow it to record extensive information about every 
trade on the platform. Compliance staff monitors trading patterns and 
price movements to identify circumstances which warrant further 
investigation. They seek to identify improper conduct, and in 
particular, any attempt to manipulate the market.
    As well as receiving information about transactions, the Exchange 
also receives information about any large positions held by members, 
including details of the customer(s) responsible for such positions. 
While ICE Futures does not presently impose formal position limits (but 
recently has agreed to do so with respect to its WTI contract at the 
request of the CFTC), the Exchange receives daily reports from all 
members who hold large positions in the front 2 months of any contract 
detailing who is responsible for holding such positions. The Exchange 
has the regulatory authority to require that members reduce positions 
in any contract if they judge them to be unduly large, and has the 
power to compulsorily close out positions.
    There is a particular focus on physically-delivered contracts--in 
particular the Gas Oil contract--where it is possible for delivery 
squeezes to occur, for example by a single participant obtaining 
control of most of the oil due for delivery in a particular month. In 
financially-settled contracts such as WTI this risk of a squeeze or a 
``corner'' does not exist in the same way because physical delivery 
does not occur.
    The Exchange has the power to bring disciplinary proceedings 
against its members. Where an investigation identifies issues beyond 
its direct control, the Exchange will notify the Financial Services 
Authority and, if appropriate, relevant overseas regulators such as the 
CFTC.
Cooperation With the CFTC
    As noted above, the ICE WTI contract is financially-settled, which 
narrows the area of risk in comparison with a physically-delivered 
contract. Nonetheless it is clearly important that the CFTC has the 
opportunity to have an overview of the market to ensure that there is 
no activity across NYMEX and ICE that might be construed as price 
manipulation or market abuse. In November 2006, ICE Futures Europe, 
through the Memorandum of Understanding between the FSA and the CFTC, 
began providing trader position data on WTI for the prompt 2 months. On 
29 May 2008, we agreed with the CFTC and FSA on an extension of this 
information sharing to encompass position information across the entire 
expiry horizon, on a daily basis. Portions of this agreement have 
already been instituted--the CFTC already receives an analysis of 
positions in the WTI contract on a member by member basis for every 
contract month. Full implementation of the expanded information sharing 
agreement is due in the near term.
    Furthermore, on 17 June 2008, the CFTC announced an amendment of 
the conditions under which the Exchange is permitted to operate through 
direct screen based access in the United States. In addition to 
formalizing the information sharing arrangements announced in May, the 
amended letter conditions direct screen access on ICE Futures Europe's 
adoption of equivalent U.S. position limits and accountability levels 
on the ICE WTI Crude Oil futures contract. The Exchange will follow 
similar U.S. hedge exemption requirements and will report violations of 
any position limits to the CFTC. In addition, ICE Futures Europe will 
provide data identifying commercial and noncommercial participants that 
will allow the CFTC to incorporate the ICE Futures WTI contract into 
the CFTC's Commitments of Traders report, its weekly report on the 
level of commercial and speculative activity in a given market.
    The revised Commission staff foreign access conditions must be 
satisfied by ICE Futures Europe within 120 days. Rule changes to 
implement the program are subject to the approval of the UK Financial 
Services Authority.
Rising Oil Prices
    Oil prices are at historically high levels. The cause of these 
price increases are complex and much has been written about them, 
particularly in recent weeks. Many commentators have asserted that the 
bulk of the recent increase in oil prices is related to depreciation in 
the value of the dollar and supply and demand fundamentals.
    In a report published earlier this month, the International Energy 
Agency said, ``supply growth so far this year has been poor and higher 
prices are needed to choke off demand to balance the market.'' It went 
on to say that abnormally high prices are largely explained by the 
fundamentals.
    Jeffrey Harris, the Chief Economist of the CFTC said in a recent 
Senate testimony that he did not see any evidence that the growth of 
speculation in oil has caused the price to rise. Rising prices might 
have stimulated the growing investment rather than the other way round, 
Harris noted. In the oil futures market, investment can flow in without 
driving up the price because the speculators are not buying actual 
crude to be able to hold onto it or keep it off the market. These 
contracts are either traded out of prior to expiration or, in the case 
of a financially settled contract, held to expiry with an exchange of 
cash flows between the buyer and seller in connection with the open 
contract. Trading in futures contracts allow market participants to 
take a view on future price direction, but the number of views being 
expressed through this trading does not affect the amount of oil 
available to be consumed in the marketplace.
    Some have asserted that the primary cause of recent oil price rises 
is speculation. ``Speculation'', however, needs to be distinguished 
from manipulation, which is to deceive investors by controlling or 
artificially affecting a market. A central role of a regulated 
marketplace such as ours is to take steps to prevent and detect such 
manipulation.
    We prefer the term ``financial participation'' to ``speculation''. 
Such participation helps to increase liquidity, which makes it easier 
for market participants to get in and out of positions at a given 
price, and, in fact, makes it more difficult for any individual 
participant to manipulate the market by creating an artificial price. 
Financial participants are the counterparties to the commercial 
entities who hedge their production or consumption. Such participants 
can take either `long' or `short' positions depending on their 
expectations of the way in which prices will change.
Recent Oil Price Movements
    The increase in oil prices has been particularly marked since 
January 2007, when oil prices stood at $58 per barrel. During the 
period from 2000 to 2007 we had seen a steady upward movement in oil 
prices, but over the past 6 months in particular we have seen a 
breakout from those price levels. Importantly, during this time, the 
dollar has been significantly devalued, supplies have decreased, and 
demand has remained constant or even grown by many accounts.
    Some have asserted that the change in WTI prices since the 
beginning of 2007 has been driven by speculative traders building large 
positions in the ICE WTI contract. The facts, however, indicate 
otherwise as ICE Futures Europe's share of global WTI open interest has 
declined from about 20% to 15% over that same period. Furthermore, the 
total WTI open interest, on both the Nymex and ICE contracts has not 
increased materially over the past year, and indeed is significantly 
lower than its peak levels. 


Margin Levels
    One proposal currently under consideration is to require the CFTC 
to substantially increase the margin requirement on crude oil futures 
trades. It is the responsibility of a futures market to be a neutral 
venue for the setting of prices. Margins are required by clearing 
houses for the purpose of ensuring that they have adequate security in 
the event of the default of a market member. Margins are used by a 
clearing house to manage risk and should be set on the basis of the 
needs of risk management and of risk management alone. The level of 
margin is calculated by clearing houses on the basis of calculations 
carried out in accordance with a proven margining methodology such as 
SPAN--an approach which was developed by the Chicago Mercantile 
Exchange and is also used by Nymex and LCH.Clearnet and will be used by 
ICE Clear Europe. Changes in margin levels tend to be driven by changes 
in price levels and levels of volatility.
    Artificially increasing margin levels on regulated futures markets 
would drive business either to futures markets in other jurisdictions 
where there are no such constraints, or to off-exchange OTC 
marketplaces where clearing is not available. Moving business away from 
cleared markets is precisely the opposite of what should be done at a 
time of highly volatile prices and systemic financial risk. Clearing 
provides a valuable function in the mitigation of financial risk and 
has been a tried and tested source of risk mitigation at a difficult 
time for financial markets.
    Even if margins were to be increased it is not clear that such 
increases would reduce price levels. Such steps could actually drive up 
prices, particularly in circumstances where commercial participants 
found it more difficult to meet higher margins than financial 
participants, or where financial participants with short positions were 
forced to buy them back.
    Margin levels have in fact been increasing over recent months. 
Margin levels today are over 3.5 times margin levels at the start of 
2007. They have been set at those levels because of the higher 
volatility that we have seen in oil markets. We have not seen evidence 
that this increase in margins has reduced prices.


 recognizing the benefits of regulatory cooperation and mutual 
    recognition.\2\&CFTC Release: 5252&06 issued October 31, 2006.
---------------------------------------------------------------------------
    The basis of this approach is that markets, particularly oil 
markets, are global. Participants are based all over the world and 
cooperation between regulators is crucial in this context. The concept 
that each exchange be subject to the jurisdiction of one primary 
regulator has avoided duplication and conflicting regulations that 
would have made it unduly burdensome and expensive for participants to 
conduct their trading activities within the current arrangements. Other 
regulators with an interest in the activities of the exchange can 
exercise secondary oversight and jurisdiction through consents to 
jurisdiction, and through information sharing with the correspondent 
regulator.
    ICE Futures Europe has cooperated fully with the CFTC and will 
continue to do so. As well as supplying position information on a 
regular basis ICE has provided extensive transaction information to 
CFTC to assist in investigations. We share the CFTC's desire to see 
that markets are fair, orderly and free of manipulation.
Conclusion
    We recognize the severe impact of high crude oil prices on the U.S. 
economy and understand the Congressional desire to ``leave no stone 
unturned.'' However, with a 15% share of global WTI futures and options 
open interest; we feel it is highly unlikely that our WTI contract is 
the primary driver of WTI prices. This ``inconvenient truth'' clearly 
contradicts any notion of a ``London loophole''.
    Our view, Mr Chairman, is therefore that the current regulatory 
regime works well, and that greater regulation is not the answer. The 
priority for regulators in our increasingly interconnected world should 
be increasing cooperation with their counterparts in other countries. 
This is best promoted and developed by the establishment of 
international best practices in the context of a framework of 
regulatory mutual recognition. This is a framework in which the CFTC 
and the FSA take a leading role, and one which they should seek further 
to build upon in the future.

    The Chairman. Thank you.
    Now Mr. Ramm.

STATEMENT OF GERRY RAMM, SENIOR EXECUTIVE, INLAND OIL COMPANY, 
 EPHRATA, WA; ON BEHALF OF PETROLEUM MARKETERS ASSOCIATION OF 
              AMERICA; NEW ENGLAND FUEL INSTITUTE

    Mr. Ramm. Mr. Chairman and Members of the Committee, I 
appreciate the opportunity to provide some insight on this 
extreme energy crisis that could well cost human lives this 
winter. I am an officer with Petroleum Marketers Association of 
America. I represent real businesses delivering gas and diesel 
to real people.
    PMA has communicated for the past 3 years on the urgency 
and has specifically testified before Congress seven times on 
the grave need to address this issue. Before I address the 
foreign boards of trade issue, PMA recommends that Congress 
acts immediately to end excessive speculation in the energy 
commodities market, and if strong legislative action cannot be 
executed now, that the CFTC needs to exercise its emergency 
authority. Specifically CFTC must respond and suspend 
speculative long positions for noncommercial traders until this 
market returns to functional behavior.
    Just yesterday the price of heating oil on the futures 
market went up 16 cents. In my home State of Washington, diesel 
moved up as much as 17 cents a gallon, with no supply 
disruption and no event that should have caused that pricing.
    Excessive speculation on the energy trading facilities is 
the fuel that is driving the runaway train in crude oil prices, 
which has dragged every petroleum refined product up with it.
    Recently several Big Oil executives testified before 
Congress that oil should be about half the price that it is 
today. Our marketers are facing a crisis due to the dramatic 
run-up of gasoline, diesel and heating oil, and have lost faith 
in the ability to hedge for the benefit of our customers. For 
that reason, PMA has implemented a Stop Oil Speculators 
Campaign which will be showing up at all the gas stations and 
convenience stores throughout this nation.
    First and foremost, there must be full market transparency. 
Over the last 8 years, energy commodities have been exempt from 
Federal oversight due to a series of legal and administrative 
loopholes. This has led to excessive speculation being driven 
on exchanges that are not fully transparent and accountable to 
U.S. rules of law.
    Certain boards of trade that are operating here in the 
United States are virtually exempts from CFTC regulation. 
Because these are unregulated trades, there is no record. These 
trades, if they were manipulative in nature, it would increase 
the cost of the American consumer, and it would increase the 
cost of the commodities sold. Such trading would leave no 
public data, and there would be no fingerprints. Why would the 
CFTC not want to exercise its authority over the trading 
platforms that are operating within the United States and 
trading U.S.-delivered commodities?
    In response to the comment the traders will simply move 
overseas, 20 percent of the world consumption takes place here 
in the U.S., and foreign boards of trade need access to U.S. 
markets, as evidenced by the fact that they have sought No 
Action letters issued by the CFTC.
    PMA supports efforts to increase domestic supply. They 
support alternative fuels and conservation that will help ease 
prices in the long term; however, time is running out. Our 
businesses are at risk, and our consumers are hurting. Congress 
and the President must rein in excessive speculation which is 
driving gasoline and heating oil prices to the levels that 
aren't justified by simple fundamentals of supply and demand.
    Again, until Congress can get a handle on the commodity 
markets, the Petroleum Marketers Association of America 
recommends that Congress acts immediately to end excessive 
speculation in the energy commodity markets. And if strong 
legislative action cannot be executed now, specifically CFTC 
should--must suspend speculative long positions for 
noncommercial traders until the markets return to functional 
behavior.
    If Congress does not take immediate action to close all the 
loopholes and apply aggregate position limits on controlled 
entities set by commercial hedgers and imposed by the CFTC, 
some people will not be able to heat their homes this winter 
and may freeze to death. Some people will lose their jobs 
because they can't afford to drive to their jobs. And Congress 
will not be able to say that they were not warned of this 
impending problem.
    PMA strongly supports the free exchange of commodities on 
an open, fair, regulated, transparent market. PMA also supports 
consumers' need to fuel their cars, to buy food and heat their 
homes. Reliable futures markets are crucial to the entire 
petroleum industry and to consumers. Let's make sure that these 
markets are competitively driven by supply and demand.
    We want to thank you for the opportunity to speak to you 
today, and I would answer any questions that you may have.
    [The prepared statement of Mr. Ramm follows:]

Prepared Statement of Gerry Ramm, Senior Executive, Inland Oil Company, 
 Ephrata, WA; on Behalf of Petroleum Marketers Association of America; 
                       New England Fuel Institute
    Honorable Chairman Peterson and Ranking Member Goodlatte and 
distinguished Members of the Committee, thank you for the invitation to 
testify before you today. I appreciate the opportunity to provide some 
insight on the extreme volatility and record setting prices seen in 
recent months on the energy commodity markets.
    I am an officer on the Petroleum Marketers Association of America's 
(PMAA) Executive Committee. PMAA is a national federation of 46 state 
and regional associations representing over 8,000 independent fuel 
marketers that collectively account for approximately half of the 
gasoline and nearly all of the distillate fuel consumed by motor 
vehicles and heating equipment in the United States. I also work for 
Inland Oil Company in Ephrata, Washington. Today we operate seven gas 
stations and convenience stores and we also supply fuel to eight 
independent dealers. Also, supporting my testimony here today is the 
New England Fuel Institute who represents over 1,000 heating fuel 
dealers in the New England area.
The Competitiveness of the Retail Motor Fuel and Heating Fuels Industry
    The state of the petroleum marketing and the retail gasoline 
industries are in their most critical environment ever. Last year, 
gasoline and heating oil retailers saw profit margins from fuel sales 
fall to their lowest point in decades as oil prices surged. The retail 
motor fuels industry is one of the most competitive industries in the 
marketplace, which is dominated by small, independent businesses. 
Retail station owners offer the lowest price for motor fuels to remain 
competitive, so that they generate enough customer traffic inside the 
store where station owners can make a modest profit by offering 
beverage and snack items. For instance, even as gasoline wholesale 
prices rise with each jump in crude oil prices, station operators are 
reluctant to be first on their corner to go up a penny because every 
station's prices are posted on huge signs. To highlight the 
competitiveness of the retail gasoline station industry, one does not 
need to look any further than to the recent ExxonMobil Corp. 
announcement which said that it plans to sell its remaining company-
owned gas stations due to falling profit margins and significant 
competitive growth in the industry.
    Because petroleum marketers and station owners must pay for the 
inventory they sell, their lines of credit are approaching their limit 
due to the high costs of gasoline, heating oil and diesel. Due to high 
gas prices, marketers are having a hard time paying invoices before the 
due date which causes a significant strain on cash flow. Furthermore, 
credit card interchange fees are now the second biggest expense item on 
a marketers' profit margin which collect anywhere from 8 cents to 
10 cents per gallon. Couple all of this with banks who are less 
amenable to lend money, marketers are now wondering how they are going 
to stay in business. I have heard from marketers' across the country 
that the dealers they supply are having to borrow against equity in 
their business to keep operating. If gas prices continue to rise, these 
dealers may eventually go out of business.
    Below is from a petroleum marketer that shared his story on how 
high gas prices are affecting his business.

        ``Our jobbership (petroleum marketer business) has been around 
        since 1926. A couple of years ago we had about 25 dealers and 
        were running 11 convenience stores. The high prices caused our 
        carrying costs and financial requirements for accounts 
        receivable and inventory to go up dramatically. The high cost 
        has also caused our credit card fees to soar. Suppliers are 
        unwilling to up credit lines with the instability in the 
        industry. I have had to sell four of my convenience stores just 
        to try and stay afloat. I am attempting to sell three more and 
        will let the lease run out on two more. I have cut my staff to 
        the bones. Three of my dealers have closed operations and I 
        don't expect them to be the last.''

    From a petroleum marketer in Arkansas:

        ``If we didn't have a Line of Credit at the bank we would be 
        out of business. The Line of Credit costs my company 
        approximately $8,000 per month. This also limits the growth of 
        our company because we don't have the capital for new projects. 
        Another problem is that our smaller `Mom & Pop' country 
        convenience stores simply don't have the money to operate under 
        these conditions. They have charge accounts and when their 
        customer pays them late then our payment is delayed as well. 
        Smaller farm deliveries are also taking a toll on our industry. 
        The farmers and ranchers can't afford the high diesel prices so 
        instead of filling their 500 gallon tank they only order 200 
        gallons.''

    Stories like these above are very common right now. Something must 
be done to curb energy costs. PMAA, along with several other trade 
associations, have come to the conclusion that excessive speculation is 
behind the recent run-up in prices.
Excessive Speculation Is Driving Energy Costs
    Excessive speculation on energy trading facilities is the fuel that 
is driving this runaway train in crude oil prices. The rise in crude 
oil prices in recent weeks, which reached $145.85 on July 3, 2008, has 
dragged with it every single refined petroleum product. According to 
the Department of Energy, the cost of crude accounts for roughly 75 
percent of the pump price, up from 62 percent in January of 2008.\1\ 
Wholesale heating oil prices from March 5, 2008&July 1, 2008 have risen 
from $2.97 to $3.92.\2\ The spike comes despite it being summer in the 
Northeast. The data doesn't add up.
---------------------------------------------------------------------------
    \1\&Energy Information Administration, ``Gasoline and Diesel Fuel 
Update,'' May 2008.
    \2\&Energy Information Administration, ``U.S. No. 2 Heating Oil 
Wholesale/Resale Prices,'' March 5&July 1, 2008.
---------------------------------------------------------------------------
    According to a 2006 Senate Permanent Subcommittee on Investigations 
bipartisan report by Chairman Carl Levin (D&MI) and Ranking Member Norm 
Coleman (R&MN) entitled, The Role of Market Speculation in Rising Oil 
and Gas Prices: A Need to Put the Cop Back on the Beat, ``Several 
analysts have estimated that speculative purchases of oil futures have 
added as much as $20&$25 per barrel to the current price of crude oil, 
thereby pushing up the price of oil from $50 to approximately $70 per 
barrel.'' Who would have thought that crude oil futures would rise to 
over $145 a barrel?
    Commodity futures exchanges were predominately created for oil 
producers and consumers to offset price risk by entering into a futures 
contract for future delivery. Over the years, PMAA members have noticed 
a disconnect between commodity prices and supply and demand 
fundamentals. For instance, Colonial Pipeline had 150,000 barrels of 
surplus heating oil available for auction on May 7. On that same day 
heating oil futures on the NYMEX settled at another record-high with 
its June contract closed with a 9.3ct gain at $3.38/gal with New 
England temperatures averaging in the high 70s. PMAA has lost faith in 
the ability to hedge for the benefit of their customers.
There Must Be Full Market Transparency and Accountability
    U.S. destined crude oil contracts could be trading DAILY at a rate 
that is multiple times the rate of annual consumption, and U.S. 
destined heating oil contracts could be trading daily multiple times 
the rate of annual consumption. Imagine the impact on the housing 
market if every single house was bought and sold multiple times every 
day. An October 2007 Government Accountability Office report, Trends in 
Energy Derivatives Markets Raise Questions about CFTC's Oversight,  
determined that futures market speculation could have an upward effect 
on prices; however, it was hard to quantify the exact totals due to 
lack of transparency and record-keeping by the CFTC.
    To be able to accurately ``add up'' all of the numbers, you must 
have full market transparency. This is perhaps the biggest barrier to 
obtaining an accurate percentage calculation of the per barrel cost of 
noncommercial speculative investment in crude oil, natural gas and 
other energy products. Much of the noncommercial (i.e., speculators 
that have no direct contact with the physical commodity) involvement in 
the commodities markets is isolated to the over-the-counter markets and 
foreign boards of trade, which, due to a series of legal and 
administrative loopholes, are virtually opaque.
    PMAA would like to thank Congress for passing the farm bill (H.R. 
2419), specifically, Title XIII, which will bring some transparency to 
over-the-counter markets. However, the farm bill is only a first step.
Closing the Administrative Foreign Board of Trade Loophole
    What the farm bill language does not do is repeal a letter of ``no 
action'' issued by the CFTC to the London based International Petroleum 
Exchange (IPE) which was subsequently purchased by the 
IntercontinentalExchange (ICE). The letter of no action was issued 
since the IPE was regulated by the United Kingdom's Financial Services 
Authority (FSA), which theoretically exercised comparable oversight of 
the IPE as CFTC did to NYMEX. Recently, however, whether or not the FSA 
exercises ``comparable oversight'' was brought into question by CFTC 
Commissioner Bart Chilton. Congress needs to investigate whether or not 
oversight by foreign regulators is ``comparable.'' Currently, FSA 
doesn't monitor daily trading to prevent manipulation, publish daily 
trading information, or impose and enforce position limits that prevent 
excessive speculation.
    ICE is the exchange most often utilized by those who exploit the 
Enron Loophole. ICE is a publicly traded exchange whose shareholders 
are primarily investment funds. In recent years ICE's trading volume 
has exploded at the expense of the regulated NYMEX. According to the 
Securities and Exchange Commission filings, traders on ICE made bets on 
oil with a total paper value of $8 trillion in 2007, up from $1.7 
trillion in 2005.\3\ ICE purchased IPE and will continue to claim 
exemptions on various contracts whether or not the Farm bill becomes 
law since they effectively have a ``get out of jail free card.''
---------------------------------------------------------------------------
    \3\&Herbst, Moira; Speculation--but Not Manipulation: Financial 
News, Business Week, May 30, 2008.
---------------------------------------------------------------------------
    While PMAA applauds the recent CFTC announcement that it will 
expand information sharing with the U.K.'s Financial Services Authority 
and ICE Futures Europe to obtain large trader positions in the West 
Texas Intermediate crude oil contract, more needs to be done to prevent 
and deter market excessive speculation and manipulation on all foreign 
boards of trade.
    PMAA urges Congress to close the administrative Foreign Boards of 
Trade Loophole via review or elimination of CFTC ``No Action letters'' 
to overseas energy trading platforms. PMAA supports any legislative 
remedy that would ensure that all off-shore exchanges be subject to the 
same level of oversight and regulation as domestic exchanges such as 
the NYMEX when those exchanges allow U.S. access to their platforms, 
trade U.S. destined commodities, or are owned and operated by U.S. 
based companies.
Institutional Investor Influence on Energy Commodity Prices
    I also would like to discuss the influence institutional investors 
have on commodity markets. Last month, Michael Masters, Managing Member 
and Portfolio Manager of Masters Capital Management, LLC, a hedge fund, 
argued before the Senate Committee on Homeland Security and Government 
Affairs that institutional investors are the cause of the recent run-up 
in commodity prices. Institutional investors are buying all the 
commodity contracts (going long), especially energy commodities, and 
are not selling, thereby causing the demand for contracts to increase 
and putting further pressure on commodity prices.
    The institutional investment ``buy and hold'' strategy has further 
inflated crude oil price because index speculators do not trade based 
on the underlying supply and demand fundamentals of the individual 
physical commodities. When institutional investors buy an initial 
futures contract, that demand drives up the price. This has the same 
effect as the additional demand for contracts for delivery of a 
physical barrel today which drives up the price for oil on the spot 
market. Thus, this ``buy and hold'' strategy distorts the futures 
markets price discovery function.
    Institutional investors are not traditional speculators who profit 
when prices go up or down. Institutional investor's ``buy and hold'' 
strategy only profit when prices continue to rise which can have 
serious consequences. Because the speculation bubble might soon burst, 
pension funds and endowment funds will likely suffer the greatest 
losses because they are notoriously slow to react to quickly changing 
market conditions. When the market corrects, hedge funds will quickly 
reduce holdings and cut their losses.
    Masters also stated that since commodities futures markets are much 
smaller than equity markets, billions invested into commodity markets 
will have a far greater impact on commodity prices than billions of 
dollars invested in equity markets. Masters testified that while some 
economists point to China's demand for crude oil as the cause for the 
recent rise in energy costs, he disclaims that assumption. In fact, 
Masters' testimony highlights a Department of Energy report that annual 
Chinese demand for petroleum has increased over the last 5 years by 920 
million barrels. Yet, over the same 5 year period, index speculators' 
demand for petroleum futures has increased by 848 million barrels, thus 
the increase in demand from institutional investors is almost equal to 
the increase in demand from China! Wouldn't this demand by 
institutional investors have some effect on prices?
The Weak Dollar Can Not Explain the Recent Run-Up in Energy Costs
    Also, many economists and financial analysts report that the weak 
dollar has put pressure on crude oil prices. While the weak dollar 
explanation is partly true because crude oil is denominated in dollars 
which reduces the price of oil exports for producers, leading them to 
seek higher prices to make up for the loss, this does not justify crude 
oil's move beyond $145 a barrel. On May 1, 2008, the front month NYMEX 
WTI crude oil contract closed just under $113 per barrel. Three weeks 
later the same front month NYMEX WTI contract was trading at over $132 
per barrel. In that same period of time the dollar traded between $1.50 
to $1.60 against the Euro. While the Euro strengthened against the 
dollar, it doesn't justify that crude oil should have increased $19. 
There were no significant supply disruptions during this time period.
    While the depreciation of the dollar and geopolitical risk have put 
pressure on energy prices, PMAA believes these factors do not justify 
the drastic run-up in crude oil prices over the last few months. 
Congress and the Administration have a responsibility to ensure that 
commodity futures exchanges are fully transparent and accountable to 
the rules of law.

    PMAA urges both Congress and the President to consider the 
following:

    1. Closing the Administrative Foreign Boards of Trade Loophole via 
        review or elimination of CFTC ``No Action letters'' to overseas 
        energy trading platforms. PMAA supports any legislative remedy 
        that would ensure that all off-shore exchanges be subject to 
        the same level of oversight and regulation as domestic 
        exchanges such as the NYMEX when those exchanges allow U.S. 
        access to their platforms, trade U.S. destined commodities, or 
        are owned and operated by U.S. based companies.

    2. Raising margin requirements (or necessary collateral) for 
        noncommercial entities or so-called ``non-physical players,'' 
        i.e., commodities traders and investors that do not have the 
        ability to take physical possession of the commodity, or 
        otherwise incurs risk (including price risk) associated with 
        the commodity either in connection with their business or that 
        of a client. In other words, anyone who does not meet the 
        definition of ``eligible commercial entity'' under 7 U.S.C. 
        &1a(11). Currently, margin requirements in futures trading are 
        as low as three percent for some contracts. To buy U.S. 
        equities, margin requirements are a minimum of 50 percent.

    3. Requiring noncommercial traders (e.g., financial institutions, 
        insurance companies, commodity pools) to have the ability to 
        take physical delivery of at least some of the product. (Rep. 
        John Larson (D&CT) has introduced legislation H.R. 6264 that 
        would require anyone trading oil to have the capacity to take 
        physical delivery of the product).

    4. Banning from the market any participant that does not have the 
        ability to take direct physical possession of a commodity, is 
        not trading in order to manage risk associated with the 
        commodity, or is not a risk management or hedging service 
        (again, anyone that does not meet the statutory definition of 
        ``commercial entity'' under 7 U.S.C. &1a(11).

    5. Significantly increase funding for the CFTC. The FY 2009 
        President's budget recommendation is for $130 million. While 
        this is an increase from previous years, CFTC staff has 
        declined by 12 percent since the commission was established in 
        1976; yet total contract volume has increased over 8,000 
        percent. Congress should appropriate sufficient funding to keep 
        up with the ever changing environment of energy derivatives 
        markets.

    We and our customers need our public officials, including those in 
Congress and on the CFTC, to take a stand against excessive speculation 
that artificially inflates energy prices. PMAA strongly supports the 
free exchange of commodity futures on open, well regulated and 
transparent exchanges that are subject to the rule of laws and 
accountability. Many PMAA members rely on these markets to hedge 
product for the benefit of their business planning and their consumers. 
Reliable futures markets are crucial to the entire petroleum industry. 
Let's make sure that these markets are competitively driven by supply 
and demand.
    Thank you again for allowing me the opportunity to testify before 
you today.

    The Chairman. Thank you very much.
    Mr. Greenberger, welcome again.

 STATEMENT OF MICHAEL GREENBERGER, J.D., PROFESSOR, UNIVERSITY 
            OF MARYLAND SCHOOL OF LAW, BALTIMORE, MD

    Mr. Greenberger. Thank you, Mr. Chairman and Members of the 
Committee.
    One of the nice things about this hearing is I have run 
into people I haven't seen in well over a decade, including Mr. 
Young, with whom I had many happy experiences when I was at the 
CFTC. I am a little intimidated by the fact that he teaches a 
derivatives course at Georgetown because I don't know whether 
you realize this, Mr. Young, but I am trying to encourage the 
Chairman to attend one at the University of Maryland. I have 
even offered to run the course in Washington to make it easy 
for him to attend.
    Mr. Young. I think the Chairman could be a guest lecturer 
in either of our courses.
    Mr. Greenberger. Well, another option is for him to take my 
position at the University of Maryland, and I would gladly 
chair the Agriculture Committee.
    It is a pleasure to be back here today to discuss this 
issue. The one thing I do want to say with regard to Mr. 
Young's references about excessive speculation is I believe 
that excessive speculation is still very much a part of this 
statute. As the Chairman knows, I have had my little problems 
with the Permanent Subcommittee on Investigations on the Senate 
side. At one time when we were all happily working together, 
they issued a report in June of 2007, and I would reference 
pages 44 to 45 where they did an investigation of the Amaranth 
collapse, and they outlined the important role that excessive 
speculation plays in the Commodity Futures Modernization Act.
    The other thing I would like to say is that I was the evil 
genius who wrote the template for the No Action letters that 
allowed foreign board trades to come into the country. And I 
did so--it was a very controversial position. The Commissioners 
could not reach a conclusion about how to--we had a proposed 
rule, and they couldn't do a final rule. It was decided to 
defer to the staff, and there were many issues. Germany had 
gotten in before anybody had thought about it, and they became 
the biggest exchange in the world by virtue of having trading 
terminals in the United States. You can well imagine that every 
other major foreign exchange lined up at my door saying, that 
is not fair. They are in, we want to be in.
    The Commission realized this is an important issue. We 
should have standards, et cetera, et cetera. They couldn't 
agree on a rule. So I wrote a template for a No Action letter 
with their permission, and that we began to allow exchanges in, 
like the International Petroleum Exchange, which the 
IntercontinentalExchange purchased and now stands in their 
place.
    Those No Action letters were clearly contemplated to be for 
truly foreign exchanges that were in foreign countries selling 
foreign commodities. The fact of the matter is if we allowed 
them to sell something like the WTI contract, that No Action 
letter would never have been issued. The United States 
exchanges would not have allowed that kind of competition 
without the same kind of regulation. In fact, in June of 2006, 
when the IntercontinentalExchange listed the WTI contract, Dr. 
Newsome, was very upset about that. And for a year and a half 
he urged the Commission to have--I remember correctly most 
recently his testimony on June 2007 before this very same joint 
Committee, he wanted to have a level playing field. And he, if 
I remember his testimony correctly, because it certainly is 
acted out in the very effective ways that he has run NYMEX, he 
said, if I can't beat them, I will join them. For example, he 
now has an application in to have a London NYMEX. And he has 
said in his testimony that he will now apply for a No Action 
letter to have London NYMEX come to the United States and 
operate the same way the IntercontinentalExchange does.
    Now, Dr. Newsome has said to me he is not sure what 
contracts he is going to list, and they haven't announced that. 
It just shows the evil ways within which this system works, 
that a U.S. exchange would go to London and come back through a 
No Action letter. Of course, you have the Dubai Mercantile 
Exchange having done the same thing, and they have announced 
they are going to list the WTI contracts.
    In closing, I will say the CFTC, by virtue of its June 17th 
letter and its letter to the Dubai Mercantile Exchange a few 
days ago, has tightened up considerably the conditions it is 
imposing on the ICE, on Dubai and presumably on NYMEX when it 
comes back as NYMEX London. I applaud that. I think a lot of 
what they have done is consistent with Mr. Etheridge's bill, 
which now as I read it would codify what the CFTC has done.
    My personal view is that when you have trading terminals in 
the United States, trading 30 percent--there are arguments over 
what, but a lot of the WTI contract--that that operation should 
be regulated by the United States Government. If it causes 
duplicative regulation, ICE has been very clever in setting up 
subsidiaries. They could set up another subsidiary in the 
United States that would be for selling WTI, which would be 
regulated by the CFTC.
    I think when you have a system that allows this kind of 
running to London and coming back here--ICE, as you know, is 
run in Atlanta, and the ICE Futures Europe is a wholly owned 
subsidiary--I really even think that is irrelevant. The 
question, I would say, when you have people like Mr. Ramm here 
hanging on by their fingernails, it doesn't look good to have 
the U.S. trading terminals in the United States, trading our 
WTI product, but being regulated by the United Kingdom. It 
doesn't allow real-time emergency authority for the CFTC. It 
does not allow for the kind of self-surveillance that we insist 
on by our exchanges.
    My final point would be Dr. Newsome spent $6\1/2\ million 
on self-surveillance and has 40 employees. I am told by many, 
and maybe I can stand corrected, that ICE has ten people 
surveilling their crude oil thing. And they trade Brent, so 
they trade more than that. That is about 47.8 percent of 
world's crude oil product, as I understand it, ten surveillance 
people. I think if we keep the template we are now operating 
under, we lose a lot, but I do say that the CFTC has made 
dramatic strides in this regard. Thank you.
    [The prepared statement for July 10 and 11 of Mr. 
Greenberger is located on page 100.]

    The Chairman. Thank you very much, and we thank all of the 
panel for that outstanding testimony.
    I am going to yield now to the Chairman of the General Farm 
Commodities and Risk Management Subcommittee, who has done a 
lot of work on this, Mr. Etheridge from North Carolina. And I 
am going to unfortunately keep you to 5 minutes.
    Mr. Etheridge. I will stick to it, Mr. Chairman.
    Let me thank each of you for being here. I will be quick, 
and I will ask that you be very succinct in your answers if we 
can.
    Let me get something on the record, if I may. On Wednesday 
we had testimony from some Members who were here stating, ``We 
know the Enron loophole for the London market, 64 percent of 
the WTI of West Texas Intermediate crude has been traded on 
that market.''
    Now, has ICE Futures Europe ever controlled 64 percent of 
the world's market share of WTI contracts?
    Mr. Peniket. We have never had a 64 percent market share.
    Mr. Etheridge. If not, what is the highest market share 
that ICE has achieved in that market?
    Mr. Peniket. Our market share grew from the launch of the 
contract in February 2006. I can't remember precisely how high 
it was. Last year it was about 30 percent in terms of futures. 
Our share now in terms of the open interest on a like-for-like 
basis, including futures and options of futures equivalent, is 
15 percent, and the market share at the moment is running at 
about 25----
    Mr. Etheridge. But it is growing?
    Mr. Peniket. The market share has declined over the last 3 
months because NYMEX has been growing slightly faster than we 
have.
    Mr. Etheridge. Thank you.
    Mr. Ramm, your testimony included several legislative 
recommendations. We thank you for that. Many of them weren't 
the topic that we are covering today, but I did notice that you 
did not advocate elimination of energy over-the-counter 
derivatives as Professor Greenberger had talked about or as has 
shown up in a couple of the other pieces of legislation. Do 
your remember if you used the swap transactions to hedge risk, 
or did you use them previously? And does PMA support their 
elimination?
    Mr. Ramm. We do have members that do hedge in the futures 
markets. Whether or not they use the swaps or derivatives, they 
usually do that directly through a broker.
    Mr. Etheridge. So you do not recommend elimination of 
those?
    Mr. Ramm. No. What we would recommend is position limits 
that are controlled and set by physical hedgers, though.
    Mr. Etheridge. Okay. Thank you, sir.
    Professor Greenberger, you want ICE Futures Europe to rest 
with a designated contract market such as NYMEX. Does it need 
to be that everything traded on that exchange, which one of the 
bills before us has recommended does, or favor energy 
commodities traded on that exchange, which one of the other 
bills does, or just every energy commodity delivered to the 
United States?
    Mr. Greenberger. First of all, I think they would be 
eligible to be a designated transaction execution facility. 
They wouldn't necessarily, because they don't have retail 
customers, as I understand it--they wouldn't have to be a DCM. 
They could have a lighter regulation.
    I would be happy with bringing their U.S.-delivered or 
price-based on U.S.-delivered products under a DTF system. I 
know many of the bills want every foreign board of trade to 
register whether they trade U.S. or not. Mr. Lukken says there 
are 20 of them. I do not go that far. I would just say if you 
are a foreign board of trade trading U.S.-delivered products or 
based on U.S.-delivered products on U.S. terminals, you should 
have some form of registration with the CFTC.
    Mr. Etheridge. Through the CFTC.
    Mr. Greenberger. Yes. And that would mean, if Mr. Lukken's 
figures are right, two out of 18 would have to register for 
those products.
    Mr. Etheridge. If they don't supply the proper information, 
then your recommendation is we talked about that terminal would 
be pulled.
    Mr. Greenberger. Well, that is what Mr.--it is not Mr. 
Lukken, but the staff letters to both ICE and Dubai say if you 
don't follow our conditions, we are going to end our No Action 
letter and ask--and recommend enforcement to register under our 
laws. I mean, they are giving them the option of registering; 
they don't necessarily have to pull them.
    Mr. Etheridge. Sure.
    Let me thank each of you. I will defer other questions. The 
one thing that we all are about here, and we want to make good 
policy in the end, but it came up to me very starkly several 
weeks ago when we had a large operation close that put 800 
people out of work. These are real, live bodies. People have 
lost their jobs in a tough time. And it wasn't just energy, but 
it was a combination of energy tied to a run-up in commodity 
prices that were so fast that they could not adjust. And these 
are the kinds of things that we want to make good policy.
    I think at the same time we want to make sure these markets 
are working the way they should work for the producer, for the 
consumer and for those who are looking for an opportunity to 
invest. I think it is a critical piece.
    Thank you, Mr. Chairman. I yield back.
    The Chairman. I thank the gentleman.
    The gentleman from Texas.
    Mr. Conaway. Thank you, Mr. Chairman.
    I appreciate the witnesses being here. Don't be discouraged 
by the lack of Members. The Agriculture Committee has two CPAs 
on it, and we are both here today.
    Mr. Peniket, on June 23rd, there was reference in the 
London press in reaction to some of the bills that have been 
introduced, some retaliation by the London regulators and the 
Brits, something referred to as the ``Balls clause'' being 
implemented. If you would comment on that as well as being 
described as a participant in evil ways; you want to respond to 
your regulatory scheme or your self-regulatory scheme that you 
have in place? Is it accurate from the description of Mr. 
Greenberger?
    Mr. Peniket. If I could take the second part of the 
question first, we are a recognized investment exchange in the 
U.K. We are subject to the Financial Services and Markets Act 
and oversight of the FSA. We have our own compliance and market 
oversight arrangements.
    On a like-for-like basis, in terms of comparison with 
NYMEX, I think we would need to do quite a detailed exercise to 
work out the exact equivalence in terms of numbers. In terms of 
oversight and market supervision staff, we have around 22 or 
23. We, of course, have fewer contracts on our market than the 
number of contracts traded on the New York Mercantile Exchange.
    I think the regulatory regime under the FSA is very similar 
to the regime under the CFTC. They are both principle-based 
regimes. They both put a lot of emphasis on the responsibility 
of the exchange as a regulated body. And the exchange itself 
takes power and responsibility as a regulator in terms of 
carrying out enforcement actions against its own members and 
oversight over its own members. And we have a series of 
procedures and oversight mechanisms that are followed on a 
regular basis to prevent market manipulation and to detect 
market manipulation if it occurs.
    In terms of the publicity in the London press over the 
Balls clause, the ``Balls clause'' is the Investment Exchanges 
and Clearing Houses Act of 2006, which is a piece of 
legislation designed to prevent regulatory changes being--
disproportionate regulatory changes being imposed on U.K. 
exchanges as a result of regulatory changes overseas. We will 
have to notify certain changes in rules that we intend to make 
in order to comply with the CFTC's rules to the FSA. We do not 
believe that the rule changes that we are going to be notifying 
are disproportionate. We think they are entirely reasonable, 
and we don't see that that Act should come into play.
    Mr. Conaway. The idea of regulating that activity here in 
the United States for terminals in the United States, if we 
made it so tough mechanically, can all of that trading activity 
be moved overseas, conducted somewhere else? Do you have to 
have, at the end of the day, a U.S. terminal to actually be 
doing what you are doing?
    Mr. Peniket. We don't have to have U.S. terminals to do 
what we do, but we wish to continue to have terminals in the 
U.S.; because the U.S. is an important part of the global crude 
oil market. It is not a simple question of establishing a 
separate subsidiary or doing something of that kind. We have 
open positions on the WTI contracts and our Brent contract 
which goes a number of years. They are traded on an U.K. 
exchange which has market participants around the world.
    It is very important for us to be able to give market 
participants certainty in terms of the legal regime and the 
contractual regime under which they are trading. It is 
therefore very important for us to continue to have the same 
regulatory status that we have today tomorrow. And it is not 
simply a question of moving contracts from one legal entity to 
another.
    Mr. Conaway. Mr. Greenberger, in the time that is left, can 
Congress go too far with this regulatory reform or change?
    Mr. Greenberger. Yes, it can go too far. I would say it 
would go too far if it ordered foreign boards of trade 
competing with our U.S. product to come under the regulation. 
As Mr. Etheridge has said, there seems to be some legislation 
to that effect.
    My own view is if a foreign board of trade is bringing 
terminals in the United States and competing directly with the 
U.S. contract markets here, there should be a level playing 
field, and they should be regulated the same way.
    I believe the IntercontinentalExchange is headquartered in 
Atlanta. They have several U.S. subsidiaries, the old New York 
Board of Trade, they are over-the-counter markets. I recognize 
the problems that Mr. Peniket had said with existing contracts. 
I would not object to a grandfather clause or grace period that 
would take into account existing contracts.
    Mr. Conaway. Thank you, Mr. Chairman.
    The Chairman. Thank you.
    The gentleman from Pennsylvania.
    Mr. Holden. Mr. Young, your written testimony states a 
concern that if Congress were to require a foreign board of 
trade to register as a U.S. exchange like NYMEX or CME, then 
U.S. firms could face liability through customers should the 
foreign board of trade fail to comply with the CFTC's 
regulations. Could you explain this in a little more detail? 
And would this liability exist only if we regulated FBOT, or 
does it exist already? And how does this risk compare with the 
risk U.S. firms face if the U.S. exchange fails to comply with 
the CFTC's regulations?
    Mr. Young. That covers a lot of ground. Let me try it this 
way. Under the proposals that you are considering, there is a 
theme that the foreign boards of trade will have new 
obligations to the CFTC. Some of those obligations you just 
heard discussed in the context of the No Action letters. Let us 
just say there is an obligation on a foreign board of trade to 
report daily position information, and instead of reporting 
that information daily, the foreign board of trade misses a day 
or two, or reports every other day; maybe trading is light, and 
that is what they do.
    The way some of these proposals work, because the U.S. FCM 
executes or is involved in executing or confirming the 
execution of a trade on a foreign board of trade, whether it is 
for a customer in the United States or sometimes outside the 
United States, that FCM can be found to be liable under section 
4(a) of the Commodity Exchange Act. We think it would be an 
unfair result, and we don't think it is an intended result, to 
have the FCM ensure the foreign board of trade's compliance 
with the CFTC's requirements. And so we would ask the Committee 
to work with us to make sure that there is language crafted to 
avoid that result.
    Mr. Holden. Thank you, Mr. Chairman.
    The Chairman. Thank you.
    The gentleman from Georgia.
    Mr. Marshall. Thank you, Mr. Chairman.
    We have now had hours and hours of testimony concerning the 
possible impact of passive law on commodities money in the 
futures market. It has been really quite an education for me, 
and my thinking has evolved substantially as a result of all of 
the testimony that we have received.
    I find myself now thinking that it would be appropriate to 
suggest possible action that we might take, not that I am able 
to compel that by any stretch of the imagination, so that the 
industry generally can react and tell us whether or what effect 
this will have if we were to do something like that.
    These markets, the markets that we regulate, the futures 
market, were never intended as devices to permit entities or 
individuals to hold commodities. They were originally designed 
to assist commercial hedging, and liquidity was added in the 
form of speculation in order to assist commercial hedging and 
in order to assist price discovery.
    It seems to me, based on the testimony we have heard, that 
those who say the influx of--possibly long or short really 
doesn't matter, I suspect--money that is simply designed to 
hold commodity positions is distorting the price discovery 
mechanism. Frankly it may well have increased prices in all 
commodities, particularly energy recently, in ways that have 
hurt all kinds of Americans and damaged the credibility of the 
markets.
    So if we conclude that that is the case, and we want to 
make sure that this money doesn't come into the market in this 
form, it seems to me we should do a number of different things. 
One, anybody doing business in the United States, whether it is 
over-the-counter or unregulated markets, we need to have some 
transparency. It doesn't have to be public. The CFTC needs to 
have information. We should have reporting and record 
maintenance for everybody. And the CFTC's experts can figure 
out what kind of reporting is needed in order for the CFTC to 
see the markets, not just the regulated markets, but the 
unregulated markets as well.
    Hedging: Hedge exemptions should only be permitted to hedge 
commercial risk, not to lay off any other kind of risk. Laying 
off other kinds of risk simply distorts the price discovery 
mechanism and lessens the confidence that investors can have in 
our markets. Federal position limits should probably be 
established for energy markets, for energy commodities, just as 
they have been established in ag commodities, and probably 
fairly similar. We should be working with industry and experts 
trying to figure out what those should be in order to maximize 
the likelihood that we have the right kind of liquidity in the 
market and the right kind of speculation so that hedging, 
commercial hedging, and price discovery works as efficiently as 
possible, and there isn't distortion where price discovery is 
concerned.
    Finally, a number of witnesses have said, ``Yes, that is 
great, and that is exactly what you should be doing,'' but it 
won't work because people will simply go over-the-counter into 
what I refer to as opaque or dark markets and circumvent the 
position limits.
    It seems to me that we might solve that problem by 
providing that it is a felony and violation of Federal law, 
punishable up to a certain amount of time in jail, plus fines, 
by any device or mechanism to intentionally circumvent position 
limits that are established on the exchanges. It seems to me 
that we ought to hear from industry and from those who are 
advocating that there is a problem here, and we need to fix 
this problem before more people are hurt. We need to hear from 
both sides whether or not an approach like that would make 
sense and what impact it would have.
    My sense is that it would diminish, but not eliminate 
altogether, the avenues that various investors, pension funds 
and others would have in order to take positions in 
commodities. It would diminish that. But overall, confidence in 
our markets would go up. This would be a healthy move, not an 
unhealthy move. And it seems to me, based upon the testimony I 
have heard, it is something we should consider.
    So we need to have feedback. And if I am way off base in 
these suggestions, I need to know it. And obviously my time is 
up. You can take this in the form of a question, requesting 
comments, but not comments right at the moment.
    Mr. Young. Mr. Marshall, would you like a quick response?
    Mr. Marshall. No.
    The Chairman. Sorry, I was in another discussion.
    The gentlelady from South Dakota.
    Ms. Herseth Sandlin. Thank you, Mr. Chairman. I don't want 
to yield my entire time, but I am very interested in the 
witnesses' comments on the very thoughtful suggestions that Mr. 
Marshall has put forward in light of the testimony he has heard 
over the last couple of days. I have at least one question I 
want to pose, so if you could very quickly, those of you who 
are interested in commenting on Mr. Marshall's statement.
    Mr. Greenberger. Mr. Marshall, I would tell you I think in 
10 minutes Senators Lieberman and Collins are introducing 
legislation that does much of what you say, would aggregate 
speculation limits across all markets. If you are a speculator, 
wherever you went, if you are under U.S. jurisdiction or you 
are trading in the U.S., you would get a certain amount of 
speculation you could do, and you could apply it to any market 
you wanted to apply. And I was at a meeting last night on the 
Senate side and I think there is a lot of steam behind that, 
and I think that bill is very similar to much of what you said.
    Mr. Ramm. Congressman Marshall, I think you are spot on on 
the fact the commodity markets were not designed for investors. 
They were designed for price discovery and risk management for 
commercial hedgers, commercial users. And it has completely 
gotten blown out of proportion. Speculators have three times 
the participants in those markets today. Seven years ago it was 
actually just the opposite. So I think you are spot on.
    Mr. Peniket. Very quickly, in terms of the CFTC seeing the 
market and having an overview of everything that is going on, 
absolutely in that the CFTC should have a view of all the 
trading that is going on on regulated markets and potentially 
beyond that that.
    In terms of hedge exemptions to hedge commercial risk, I 
think there is a danger around that proposal and also around 
too severe position limits of creating circumstances where it 
becomes difficult for people to trade on regulated markets, and 
trading will move off those markets. And the devil is in the 
details of the construction of proposals like that. I feel that 
if you have too severe penalties of people circumventing 
position limits, that does run a danger that you will 
discourage people from trading in the U.S.
    Mr. Young. I am a lawyer, not an economist, but I will 
venture an opinion, that is a lay opinion, as a result of that. 
I am not sure I understand the evidence behind the predicate to 
Mr. Marshall's proposals, because what I have heard in the 
testimony this week is that at least on NYMEX they have 
testified that the so-called passive investors have been net 
short this year, which would have tended to drive down the 
price if they were moving the price. And as a result, when you 
see a price rise in light of that net short activity, I can't 
make logical sense out of pointing the finger at them and 
saying, that is the problem.
    I also think the CME's testimony on this has made some very 
good points that should be taken into account, and I find that 
important.
    Last, I know the CFTC is conducting an investigation and is 
looking at more data and more granularity at this point. And 
until they finish, I don't really want to speculate about what 
the role of speculators has been. I would like to see the data.
    Having said that, I think every idea should be considered, 
because I know that these are serious times, and I am a little 
concerned about one aspect of the proposal, and that is does 
this make it harder for hedgers who are looking at a time 
horizon of a year or 2 years out to hedge their positions if 
you remove some of the liquidity from the market that passive 
investors provide?
    Ms. Herseth Sandlin. Mr. Ramm, has the PMA endorsed any of 
the legislative proposals introduced to date or any specific 
provisions in any of those proposals that, based on your 
testimony, would help restore the connection between commodity 
prices and supply and demand fundamentals?
    Mr. Ramm. The portions of the bills presented to us 
currently are aggregate position limits set by the commercial 
entities that are then enforced by the CFTC. We think that by 
the markets getting back to the people that they were designed 
for--they talk about liquidity. I don't think a commercial 
would want a lack of liquidity. And I think that they would be 
able to and be the best people to set those position limits.
    So with that, we think that a lot of--by doing that will 
take care of a tremendous amount of more of the problems, the 
swaps loophole, we think the FBOT loophole. If everybody was 
subject to those position limits, then we feel that that would 
take care of itself. I think it is time for the commodity 
markets to be given back to the people they were designed for. 
They weren't designed for Wall Street.
    Ms. Herseth Sandlin. Thank you, Mr. Chairman.
    The Chairman. Thank you.
    The gentlelady from Kansas.
    Mrs. Boyda. Thank you very much, Mr. Chairman.
    To Mr. Marshall I say, amen. I am glad to hear what you 
say. We wake up to news this morning about Fannie and Freddie, 
and we have had to have a Bear Stearns bail-out because they 
have gotten too big. Fannie and Freddie are so close, it is 
frightening the American people.
    I will tell you, the American people want us to be very, 
very prudent in what we are doing. And I think the reason that 
we are having all of these hearings is each one of us 
understands that we can overstep. And so I would say to you on 
the commodities side, on the market side, that you need to be 
working with us, because as--we are representative of the 
American people, and the American people are pretty sick and 
tired of hearing that the market fundamentals are all intact 
and not to worry. So to the extent that you can say, here is 
what we can do, you will gain credibility with us, you will 
gain credibility with the American people, and, quite honestly, 
will come up with a better solution.
    I would ask you, again, and to each one of you, Mr. 
Greenberger and Mr. Ramm, of the bills that we heard discussed 
among the House proposals, which one of those were you most 
worried about, came closest to what you all were thinking? Are 
you two in agreement by any chance, pretty close?
    Mr. Greenberger. I don't know the answer to that. I know I 
like Mr. Ramm very much.
    Mrs. Boyda. And Mr. Young and Mr.--we all like each other.
    Mr. Greenberger. Let me just say there are lots of pieces 
of legislation. I would tend to support those that call for the 
greatest regulation. And the PUMP Act is one of them, the Van 
Hollen-DeLauro bill is another.
    But I will say where I am sitting right now, I think there 
is a lot of momentum behind the kind of proposals that Mr. 
Marshall made, and I think those proposals would have a 
tremendous therapeutic effect.
    Mrs. Boyda. Help me understand this. Is what Mr. Marshall 
saying closest to one of the bills that we heard?
    Mr. Greenberger. There are some bills--for example, there 
is a bill on the House side that has aggregated speculation 
limits, and what that essentially means----
    Mrs. Boyda. Which one was that?
    Mr. Greenberger. Part of Mr. Stupak's bill. It is a part of 
it, it is not the bill. Senator Lieberman and Senator Collins 
on the Senate side, this has been a big mission of theirs. They 
have held several hearings.
    Mr. Marshall. Would the gentlelady yield?
    Mrs. Boyda. Sure.
    Mr. Marshall. I wasn't talking about aggregate position 
limits applying to all markets.
    Mr. Greenberger. Okay.
    Mr. Marshall. And that consequently--there are two 
possibilities here. An aggregate position limits applying to 
all markets would be one. Another would be position limits as 
it affects the futures markets alone, the regulated markets. 
And the advantage of not doing an aggregated position limit 
affecting all markets is it leaves the market participants free 
to--if people are willing to take the risks, they are big boys, 
what have you, in a soft market, that is okay. They just can't 
lay that risk that is noncommercial, nonphysical, they can't 
lay it off in the futures market, regulated futures market.
    Mr. Greenberger. Thank you for the clarification.
    Mrs. Boyda. I want to reclaim my time, too. I think we will 
come back to it. Are we going to do one round or more?
    The Chairman. Well, probably one.
    Mrs. Boyda. There were some things that I don't understand. 
When you look in 2005, it looked like the annual or the average 
world supply daily, these are the figures I have: 84.63 million 
barrels a day. That is what we were producing. I think the 
actual production capacity is more like 86\1/2\, has been. In 
2007, it actually went down a few hundred, so it is not 
dramatic. But the fact that it didn't go up is pretty dramatic, 
and today it is still right around in that area. And yet we 
have seen gas or oil go up from about $37 to close to $150 
without any real--the Americans cut back. China, India have 
moved forward some, but we haven't seen any big tilt.
    One thing we keep saying, this is all about the dollar, and 
I definitely am concerned about the weak dollar, don't get my 
wrong, but we have seen--in the last 6 months we have seen the 
dollar decline by less than eight percent against the Euro, and 
yet there is an unexplainable 50 percent increase in the price 
of oil.
    I am kind of with Mr. Marshall. I was really--if you had 
given me a pop quiz and said you had to choose, a few weeks ago 
I would have said this is market-driven. The more you look into 
it, some of this just doesn't hold. Do you have any comments on 
how I can get that straight?
    Mr. Young. Well, I don't know that I have a perfect answer, 
but I would just suggest the following. If you looked at the 
dollar decline over time, so let us say go back 2 years, and 
you apply the value of the dollar to the price of crude oil 
today, from 2 years ago to today's price, you would have a 
lower price by around 20, 25 percent.
    Now, Mr. Greenberger--I think, Mike, I have this right--I 
think there was some quantification or attempt to quantify what 
the so-called speculator premium was in the price today. And I 
think you said something like four or five percent yesterday. 
Maybe I got that wrong.
    Mr. Greenberger. No. What I said yesterday was even if it 
was just four or five percent, it shouldn't be----
    Mr. Young. That is just to give you an order of magnitude, 
it is not that I know these numbers cold. My real point is 
unfortunately it is a more complicated issue than it has ever 
been before because of the globalization of our marketplace.
    Mrs. Boyda. In January we had about $450 million going into 
the speculation in a week, and by March it went up to $3.4 
billion. That is just in terms of orders of magnitude about 
one.
    Mr. Young. Did you say in wheat?
    Mrs. Boyda. No, no, no. In oil.
    Mr. Young. But that speculation was long and short.
    Mrs. Boyda. I understand.
    Mr. Young. So if it is long and short----
    Mrs. Boyda. No, I understand. You have a buyer and a seller 
and all of that. I understand.
    Mr. Young. It shouldn't have that much of an effect on 
price.
    Mrs. Boyda. I agree it shouldn't have, but empirical data--
--
    Mr. Young. People must think the price is going up, that is 
the problem.
    Mr. Peniket. I think we are at the stage where the market 
is fundamentally readjusting its expectations. I think you had 
an interaction between three key things that have happened. We 
can all discuss how much the movement in the dollar has had an 
impact on the price of oil. Clearly it is a significant factor.
    I think there are two other things. First, the supply is 
pretty constrained, and demand has not responded to the price 
signals that have come to the market in any significant way in 
the last 12 months. It may be that that starts to happen now. 
The market doesn't expect that to happen.
    The other factor is that the market is looking ahead seeing 
very strong rates of growth in India and China, extrapolating 
that out over the next few years, and expecting the oil prices 
are going to move progressively higher. Not as a result of what 
is going on in the United States or Europe particularly, but 
because of very substantially increasing demand coming out of 
Asia. So it does come back to a market view that is being taken 
in terms of the expectation about the supply and demand 
fundamentals.
    Mr. Ramm. One thing, if you lay up the price of the risk of 
the dollar off on oil, it distorts the price discovery system 
for oil. They are using it as the hedge for the dollar instead 
of the oil itself, the commodity itself. That is one of the 
problems we have. The currency shouldn't be--the oil commodity 
market shouldn't be used as a hedge against the dollar, oil 
should be. That wasn't designed to do that.
    Mrs. Boyda. I see.
    Mr. Ramm. That is what it is being used for.
    Mrs. Boyda. I would love to continue, but I yield back.
    The Chairman. I thank the gentlelady. Maybe I will jump in 
here.
    This kind of goes to what I have been wondering about. The 
more I hear about this, I think I agree with Mr. Marshall that 
there is something going on here. I am not exactly sure what. I 
get the sense that a lot of people are trying to have the 
futures market regulate something they don't like, which is 
these crazy--all these credit swaps and derivatives and all the 
other stuff that is been invented out there by all the geniuses 
that you guys hire. My question is why aren't we regulating 
that stuff? Why did we let these credit swaps destroy the 
housing market? Who in the hell was watching the store?
    And the more I look into these things, I wonder if we 
should even have some of these products. And you know this is 
not our jurisdiction. We can't do anything about this if we 
wanted to. And like pension money, I don't think it should be 
in the commodity market. But we can't control that because we 
don't control ERISA.
    So people are coming in here wanting us to put all these 
parameters on things to try to keep people from doing this 
stuff when maybe we ought to be looking at the source of this. 
And I think we can have some effect here and maybe we will 
have. But I guess I would like any of you that might have any 
comments on that, should we be doing some of this stuff? Are we 
luring people into things that are going to be a big problem, 
blow up in our face and then we get blamed?
    Mr. Greenberger. Mr. Chairman, we----
    Mr. Young. Mr. Chairman----
    Mr. Greenberger. With regard to credit default swaps, I 
don't know how that--what the originator of that was. But that 
was in the Commodity Futures Modernization Act. Swaps, 
financial swaps were deregulated from Federal law and almost 
all state law. In fact, the New York Insurance Superintendent 
has taken the position, the swap involved is to give the bank a 
premium and the bank will guarantee the financial assets. Bear 
Stearns never set aside a capital reserve.
    The Chairman. Right.
    Mr. Greenberger. That was allowed by section 2(g) of the 
Commodity Futures----
    The Chairman. Well, I understand that. So that created an 
opportunity for that market. But there are other Committees, 
and there are people in the United States Government that have 
the ability to look at these things and decide whether they 
make sense or not, right?
    Mr. Greenberger. Mr. Chairman, I think a lot of people 
think that that is your jurisdiction.
    Mr. Young. Mr. Chairman, I would have hated to have been on 
The Gong Show with Mr. Greenberger. Let me try to add some 
history to this.
    Before Congress ever thought about the 2000 Act, there were 
swaps. And some of them were called equity swaps. And some of 
those swaps, a lot of those swaps were done not in the United 
States, they were done overseas because of legal uncertainty in 
the United States. And as a result of that, our regulators had 
less transparency, less access to information about that 
trading activity. The 2000 Act, by creating the very legal 
certainty that Mr. Greenberger just attacked, brought those 
swaps back to the United States, gave regulators a better 
handle on them----
    The Chairman. Maybe brought them back but we don't 
understand--we don't have enough information to know what is 
going on with these things.
    Mr. Young. I understand. And that is my second point. And 
allowing for well-established time-tested systems like clearing 
systems and additional price transparency in those markets that 
have made those markets safer. Now, the credit default swap 
market is not yet subject to exchange trading. It is not yet 
subject to a clearing system. I know that the Chicago 
Mercantile Exchange testified this week in favor of doing that. 
That seems like a very solid idea based on the history in this 
area. But to say that Congress in 2000 somehow allowed the 
credit default swap to blossom--market to blossom I think is 
just inaccurate.
    The Chairman. I understand that. And a lot of people don't 
and I agree with you.
    Mr. Greenberger. Well, let me just say I don't agree with 
that. I am not going to take time.
    The Chairman. Well, I know there is a disagreement here. 
But my staff tells me that this stuff was going on before 2000.
    Mr. Greenberger. In the United States in, the United States 
it was going on.
    The Chairman. Yes.
    Mr. Greenberger. But that was the problem. It wasn't legal 
so they deregulated it.
    Mr. Young. Well, it was legal. Excuse me. It was legal. 
That is not accurate.
    The Chairman. Well, bottom line, my concern as Chairman of 
this Committee is if this thing blows up, I would rather--I 
don't care if it is in a foreign country. They are the ones 
that screwed it up, not us. What I want to do is make sure that 
whatever we do here, that we don't let something happen on our 
watch in this Committee similar to what happened with these 
securitized mortgages.
    Somebody should have been watching that. There is no way 
they should have ever let them sell those things. And the guys 
that sold them made a fortune and they are out in the Virgin 
Islands having a good time and the government is bailing them 
out. And I don't know exactly how much of this is heading for 
that kind of a situation. But I don't want it to happen on my 
watch. So that is where I am coming from.
    Mr. Ramm. Mr. Chairman, I believe that if you apply capital 
market fundamentals to the commodity market, you are going to 
have trouble. They aren't capital markets.
    The Chairman. Well, I understand that. That is what I am 
saying. This is not our business. Somebody in the Congress here 
should be watching this--in the Energy and Commerce Committee 
or the Financial Services Committee that actually have the 
jurisdiction over these instruments. We don't. That is my 
point, is that this Committee is not--our job is to make sure 
that the futures market works properly and that this is not 
manipulation. And maybe we do allow some of these things to 
develop because of some of these loopholes that we have 
allowed, and that is what we are going to look at. But it is 
mixed up in more than just what we are doing.
    Mr. Ramm. Mr. Chairman, and I hope you would agree that the 
commodity markets formed for beginning farmers.
    The Chairman. For what?
    Mr. Ramm. For farmers.
    The Chairman. Yes. I understand.
    Mr. Ramm. And for the people that actually touch the 
physical commodity.
    The Chairman. Right.
    Mr. Ramm. And we have to get it back into their hands. Say 
if all farmers and all oil producers decide that the markets 
are completely gone, these guys don't have a market anymore.
    The Chairman. No. And that is the other concern of this 
Committee. What is going on in energy, bottom line my biggest 
concern is that if we do something here that you know they say, 
``Well, we are going to do this with energy, and we are not 
going to do it in agriculture, don't worry about it,'' that 
this thing is going to morph over to the agriculture market and 
screw us up. Because I am not an oil guy. I don't have any oil. 
We would love to discover oil in Minnesota, but I don't think 
it is going to happen.
    Mr. Ramm. You never know.
    The Chairman. My concern is that we protect the 
agriculture. But I have gone over my time. Who is next? Mr. 
Kagen.
    Mr. Kagen. Thank you, Mr. Chairman. I appreciate all the 
expert testimony here today. And I would like to help everyone 
to begin to think a little bit differently. I would like you to 
consider that oil might just be, as essential as it is, make 
the analogy that it might be the essential medication that 
every one of my constituents in northeast Wisconsin requires 
just to survive. We do, after all, live in our cars in a rural 
area. We live in our cars to go to work, live in our cars to 
get to business. The oil distributors need to be able to 
purchase the oil at a price they can afford to pay, just as the 
consumers, the people I represent, hard-working people in 
Wisconsin, have to dig deeper and deeper into their pocket to 
pay the $4 plus per gallon for the gasoline just to get to 
work.
    So if you would begin to think with me that oil is not 
really a commodity but an essential pill, it is a medication 
that every single person in my district requires. Now who 
should be able to buy that pill? If this pill were available 
for sale to people that didn't need it, and now somebody in the 
ICE Futures or somebody in another country has purchased a 
whopping 75 percent of that available medication. Now it is not 
available for the people that really need it, what are people 
doing buying that medication if they don't have to take it? So 
why would we allow people to purchase the oil if they are not 
going to use it in their business or use it as a consumer? The 
people that are investing and making money or losing money in 
these markets are making and losing money on the change in the 
price of this product. But at the same time, the people I 
represent need it to survive. It gets cold in northern 
Wisconsin. People need the energy to put in their car, to fuel 
their homes and make sure that they can survive. What are we 
going to do when we come to the point where somebody corners 
the market for essential heart medication or an asthma 
medication like Albuterol? What are the asthmatics going to do 
if it is just not available because they cannot afford the 
medication they need? It is already happening in health care. 
People go to the pharmacy, stand at the counter, see the 
medication they need, and they can't afford to buy it. And that 
is happening at the gas stations. And it is happening in the 
industry of oil delivery of the people I represent.
    So I don't know where the solution is going to be on this. 
But I do have some questions as to who is messing with the 
markets and cornering the market, taking positions in oil, 
locking it up in their computer and not making it available at 
prices we can afford to pay.
    So Mr. Peniket, I have a question for you. What effect 
would it have on your business, on the price of oil? And what 
effect would it have on the transparency of the markets, the 
dynamics of what is going on, if everyone who is purchasing oil 
contracts had to take possession of the oil that they buy?
    Mr. Peniket. In terms of the business that we do around 
crude oil, both of our crude oil contracts, Brent and WTI, are 
cash settled contracts. So nobody is buying any oil. They are 
transferring risk around the future movements in the price of 
oil.
    Mr. Kagen. But they are not in the business of buying the 
oil for distribution to 1,200 or 1,500 gas stations, are they?
    Mr. Peniket. Many of the people who use our marketplace are 
in the business of supplying oil or in the business of using 
oil and they are hedging price risk as they go forward. People 
are coming into the market and taking on some of that risk.
    On your point in respect to the hoarding of the commodity, 
clearly if there was hoarding of a commodity that would point 
to market manipulation. There is no evidence----
    Mr. Kagen. Let me interrupt because I only have another 
minute and 5 seconds. Why would they be buying a pill if they 
didn't intend to take it, if only to mark up the price and they 
could profit by acquiring it?
    Mr. Peniket. People speculate around future price movements 
in order to make a profit.
    Mr. Kagen. Well, at some point don't you think it is the 
role of government to step in and say, ``Look, you need this 
medication and you don't, you don't have the right to keep that 
medication from the very patients that require it. You don't 
have the right to own the oil that people need to heat their 
homes.''
    Mr. Peniket. But going back to the role of the futures 
market, the role of the futures market is for participants in 
the market to manage their price risk. If people are unable to 
manage that price risk, then there is going to be no benefits 
to the consumer around that. If somebody is hoarding oil, that 
is a different question, and that is away from the role of the 
oil futures market.
    Mr. Kagen. Mr. Ramm, do you have another opinion on this?
    Mr. Ramm. Well, I would say that today that the futures 
market dictates price and that price--and I think there was an 
example of it yesterday. Heating oil went up 16 cents--around 
the United States it went up from 15 cents to 16 cents to 
17 cents a gallon. That futures price was influenced by 
investors' money. It wasn't influenced on that day by any 
supply disruption. Maybe something in the news that happened in 
Iran, that might happen. But it affected the American consumer 
today.
    Approximately, 924 trucking companies went out of business 
in the first quarter of this year. There is going to be over 
that in the second quarter. Our trucking industry is getting 
destroyed. People are not going to be able to heat their homes 
in northern Wisconsin because they won't be able to afford it. 
They are going to have to pick between food and fuel. That is a 
terrible thing that is starting to happen.
    The price of fuel, the price of crude today does not need 
to be at $140 a barrel. It doesn't need to be that high. The 
thing that is forcing it to be that high is the price discovery 
system that is happening in a dysfunctional futures market. We 
need to get something done about this now.
    Mr. Kagen. I see my time has elapsed, and I will yield 
back.
    The Chairman. We thank the panel for their testimony and 
call on panel two.
    We have Mr. Terrence Duffy, Executive Chairman, CME Group, 
Chicago. Mr. Kendell Keith, President of the National Grain and 
Feed Association, Washington, D.C. And Mr. John Johnston, 
independent trader from Morristown, New Jersey.
    Mr. Duffy, when you are ready, you may proceed.

 STATEMENT OF TERRENCE A. DUFFY, EXECUTIVE CHAIRMAN, CME GROUP 
                       INC., CHICAGO, IL

    Mr. Duffy. Thank you. I am Terrence Duffy, the Executive 
Chairman of the Chicago Mercantile Exchange. I want to thank 
the Committee for giving this opportunity to present our views.
    The CME Group exchanges are a neutral marketplace. They 
serve the global risk management needs of our customers, 
producers, and processors who rely on price discovery provided 
by our competitive markets to make important economic 
decisions. We do not profit from higher food or energy prices. 
Our Congressionally mandated role is to operate fair markets 
that foster price discovery and the hedging of economic risks 
in a transparent self-regulated environment overseen by the 
CFTC.
    My theme today is direct and indisputable. Even if every 
economist and every Member of Congress had genuine evidence 
that excessive speculation was distorting prices, it would be a 
monumental mistake to try to cure that problem by mandating an 
arbitrary increase in performance bond, commonly called margin, 
above prudent levels.
    First, the impact would be more likely to drive prices in 
favor of the speculators and counter to the desired outcome. 
Second, arbitrarily high performance bond is the equivalent of 
a toll or a tax on the use of regulated markets. Its effect 
would be to drive trading offshore or into unregulated venues 
in clear contravention of the purpose of having well-regulated 
markets in this country.
    For the record, it is essential to report that we see no 
evidence whatsoever that excessive speculation in futures 
markets is distorting prices. We renewed our research on this 
topic earlier this year when we were inundated with unverified 
claims that driving speculators from futures markets will bring 
commodity prices, in particular oil, back to some correct lower 
level. Fortunately, in addition to our own research findings, 
enough time has passed to permit a strong counter from 
economists and editorial writers, debunking these false claims.
    Nonetheless, legislation has been proposed to mandate 
margin increases which would require hedgers and speculators to 
increase the level of performance bond required to guarantee 
performance of their contractual obligations to the clearing 
house.
    One bill attempts to limit the increase to speculators who 
are not the counterparties to hedgers. The questionable theory 
behind this legislation is that the increased cost will drive 
speculators out of the futures markets. That prices will 
retrench to more comfortable levels because speculators with 
long positions are assumed to have caused price escalation in 
the first place.
    This idea is seriously flawed and reflects a lack of 
understanding on the role of margin in futures markets. Given 
the critical juncture of policy deliberations, it is imperative 
that Congress recognize the falsities behind the demand to use 
margin increases to control commodity prices.
    First, advocates of arbitrarily raising margins assume that 
speculators are all on the wrong side of the market, and this 
herd approach to trading has driven prices above their 
legitimate equilibrium level. All of the leading academic work 
in the field as well as our extensive studies support the 
opposite view; namely, that speculators are about equally 
divided on both sides of the market.
    Second, increasing margins to artificially high levels will 
most likely cause a price spike rather than systemically lessen 
commodity prices. Moreover, mandated price by direct price 
control or by indirect actions distort future production and 
cause costly misallocation of resources of production.
    Third, the imposition of an artificially high performance 
bond is a tax on trading as it raises traders' costs. This has 
been repeatedly demonstrated and even more so as markets have 
become electronic and available from anywhere around the globe. 
Indeed, excessive performance bond levels drives users away 
from transparent, regulated U.S. futures markets into opaque, 
unregulated over-the-counter markets. And remember, OTC markets 
have less liquidity, less price transparency and no public 
accounting for traders' positions. This is a net loss to the 
Congressionally defined purpose of creating fair, efficient and 
well-functioning energy and commodity markets.
    Raising the margin to drive speculators on the wrong side 
of the market out of the market in a time in upward trending 
prices does not work. The speculators who have been wrong have 
been collecting the profits on their positions. They are in an 
especially strong position to meet any additional margin calls. 
Moreover, they are well aware that commercial hedgers on the 
short side of the market have been losing money and probably 
have been forced to borrow to support their short hedges. 
Therefore, they will be pressed to meet increasing margin calls 
and forced out of the markets. Furthermore, there is no 
evidence that artificially increased performance bonds will 
drive well-capitalized index funds or other passive long only 
investors to sell, nor is there any evidence that the impact of 
any such selling would be beneficial and positive for hedgers 
and commercials using the futures market.
    Long index traders will not be driven from the market 
because they already have a fully collateralized account that 
is held on behalf of their clients. By increasing the amount of 
those funds that are required to be posted for margin, the 
index trader just transfers Treasury bills from one account to 
an account accessible to the clearinghouse. There is no cost to 
this class of trader.
    One of the pending bills attempts to deal with the adverse 
impact on hedgers by giving relief to the speculator on the 
opposite side of the hedger. There is no such person. Every 
hedge transaction invites a chain of speculators as 
counterparties over its lifetime. In fact, the counterparty to 
every futures contract is a clearinghouse, not any identifiable 
speculator. Therefore, this approach will not work.
    While the suggestion that margin increases can cure 
inflation and reduce the cost of oil by 30 to 40 percent is 
understandably seductive on a political level, Congress can ill 
afford to make a misstep in this regard. The downside risk of 
arbitrarily mandating increased margin for futures is enormous. 
Congress' credibility is at risk in adopting simplistic, ill-
conceived responses that are destructive to U.S. futures 
markets and those legitimately relying on those markets.
    I thank you for your time this morning.
    [The prepared statement of Mr. Duffy follows:]

Prepared Statement of Terrence A. Duffy, Executive Chairman, CME Group 
                           Inc., Chicago, IL
    I am Terrence Duffy, Executive Chairman of Chicago Mercantile 
Exchange Group (``CME Group'' or ``CME'') Thank you, Chairman Peterson 
and Ranking Member Goodlatte, for this opportunity to present our 
views.
    CME Group was formed by the 2007 merger of Chicago Mercantile 
Exchange Holdings and CBOT Holdings. CME Group is the parent of CME 
Inc. and The Board of Trade of the City of Chicago (the ``CME Group 
exchanges''). The CME Group exchanges are neutral market places. They 
serve the global risk management needs of our customers, producers and 
processors who rely on price discovery provided by our competitive 
markets to make important economic decisions. We do not profit from 
higher food or energy prices. Our Congressionally mandated role is to 
operate fair markets that foster price discovery and the hedging of 
economic risks in a transparent, self-regulated environment, overseen 
by the CFTC.
    The CME Group exchanges offer a comprehensive selection of 
benchmark products across all major asset classes, including futures 
and options based on interest rates, equity indexes, foreign exchange, 
agricultural commodities, energy, and alternative investment products 
such as weather and real estate. We also offer order routing, execution 
and clearing services to other exchanges.
I. Increased transparency through imposition of reporting requirements 
        for foreign boards of trade and other platforms is appropriate.
    We unequivocally support your efforts to materially improve the 
enforcement capabilities and machinery of the CFTC and to do so in a 
manner that does not increase the costs of trading on fully regulated 
U.S. contract markets. We also are enthusiastic supporters of broadly 
expanding the mandatory reporting of energy trading and position 
information to the Commission. We share the view of regulators and 
legislators most famously expressed by Justice Louis Brandeis:

        ``Publicity is justly commended as a remedy for social and 
        industrial diseases. Sunlight is said to be the best of 
        disinfectants; electric light the most efficient policeman.''

        --Justice Louis Brandeis, Other People's Money, and How the 
        Bankers Use It, 1933.

    We believe that disclosure of trading and position information to a 
regulator with sufficient resources to analyze and act on unusual or 
suspicious activities will deter most potential manipulators and assure 
punishment of those foolish enough to attempt a manipulation when all 
of their actions are visible to the regulator. This is the philosophy 
upon which our internal market regulation has been based and why it has 
been so successful.
    We also clearly understand that the recent surge in the prices of 
many commodities, particularly energy, has inspired Congress to look 
for assurance that the only price drivers are legitimate supply and 
demand factors. Some who claim expertise or special knowledge have 
asserted that the entire price inflation can be laid at the door of 
speculators and/or passive index funds that have invested billions in 
commodity contracts. The more cautious critics have suggested that 
there may be a froth of inflation caused by speculation. Our careful, 
up-to-date evaluation of market participants and trading patterns in 
the commodities traded at CME and CBOT are to the contrary. We have 
placed relevant information on our website, which will permit others to 
review our findings to date respecting the impact of speculation on our 
markets.
    Our economists make convincing arguments that neither speculators 
nor index funds are distorting commodity prices. Previous studies have 
concluded that speculation has not been responsible for any 
significant, persistent volatility in futures markets. Nonetheless, we 
are strong proponents of securing all of the relevant information from 
all sources and fairly testing the hypothesis and reconfirming previous 
academic studies. While we expect that the evidence respecting the 
impact of speculation and index trading in energy markets will parallel 
the results we have found in our own markets, we agree that there is no 
reason to rely entirely on economic theory when the data is or can be 
made available. We support the efforts of the CFTC and Congress to 
secure this data and to assure that a thorough analysis informs any 
subsequent legislative or administrative efforts to deal with 
uneconomic price inflation.
    Increased reporting on swaps transactions would provide much needed 
transparency to these unregulated markets. The CFTC should have access 
to this data so that it can make an informed decision that speculation 
is not leading to a premium in the price of energy commodities. We 
recommend that the reporting requirement not be linked to exchange-
traded transactions so as not to drive business off fully-regulated 
exchanges.
II. Position limits on foreign boards of trade listing clones of U.S. 
        DCM listed contracts.
    Position limits are a device to promote liquidation and orderly 
delivery in physical contracts. If two markets share the same physical 
delivery contract it is consistent to apply a single limit across both 
markets. However, we are not aware of a foreign board of trade that 
lists a physically deliverable futures contract that is a clone of a 
U.S. designated contract market's (DCM) listed contract.
    The ICE U.K. market lists a WTI crude oil contract that is traded 
and settled based on the settlement prices of the NYMEX WTI contract. 
The ordinary reasons for imposing position limits on futures markets do 
not apply in such a case. It is possible to imagine a trader who is 
long a limit position at NYMEX and double that position at ICE U.K. 
That trader might expect to profit, if not caught, by driving up the 
settlement price on the final day of trading on NYMEX by standing for 
delivery, even though he would be required to store and then sell the 
oil back at a loss, in the hope to profit from the settlement on ICE. 
Of course, such behavior will be obvious to the regulators and the 
markets and the manipulator would neither enjoy the profits nor much 
additional freedom. Moreover, the impact on the price of oil would be 
transitory.
    Setting aside theoretical understanding, we support a temporary 
imposition of position limits on the ICE Futures U.K. WTI contract 
until the CFTC is able to secure and analyze a more complete data set 
respecting the impact of speculation and/or indexed commodity trading 
on price inflation. We do not imagine that any harm will be done and 
this action will allay concerns.
III. The exemption for commercial markets in energy products, even as 
        limited by the recent amendment of the CEA, is unnecessary and 
        creates information gaps.
    In the aftermath of the Amaranth controversy, Congress provided 
CFTC new authorities in the recently enacted farm bill to regulate 
``significant price discovery contracts'' on platforms like ICE by 
requiring those platforms to meet certain core principles drawn from 
the longer list applicable to fully regulated exchanges. It is clear 
that when Congress wants to ensure fair dealing and regulatory 
propriety, it uses as its comparative yardstick the regulatory regime 
imposed on America's fully regulated exchanges.
    Trading that is conducted on fully regulated exchanges is an open 
book to which you already have complete access and accountability. 
Indeed, CFTC monitors that exchange trading daily and has repeatedly 
opined that speculation on those fully regulated exchanges does not 
raise regulatory concerns. But that is not the case with the other 
forms of energy commodity trading, which lie outside the reach of CFTC 
regulation and are far larger in size in terms of trading volume.
    Section 5(b) of the Commodity Exchange Act charges the Commission 
with a duty to oversee ``a system of effective self-regulation of 
trading facilities, clearing systems, market participants and market 
professionals'' and ``to deter and prevent price manipulation or any 
other disruptions to market integrity; to ensure the financial 
integrity of all transactions subject to this chapter and the avoidance 
of systemic risk; to protect all market participants from fraudulent or 
other abusive sales practices.''
    These ``purposes'' and the statutory exemption for Commercial 
Markets found in Section 2(h)(3) are in conflict. The key purposes 
mandated by Congress in Section 5(b) are jeopardized if trading 
facilities for contracts in exempt commodities are permitted to coexist 
with regulated futures exchanges that list those same commodities. 
Exempt Commercial Markets (ECMs) do not have any system of ``effective 
self regulation'' of their facilities or of their market participants. 
Their contracts are traded based on the prices of commodities that have 
limited supplies and that have often been the subject of manipulative 
activity and disruptive market behavior. There is no mechanism in place 
``to deter and prevent price manipulation or any other disruptions to 
market integrity.'' The Commission cannot track the build up of 
dominant positions. At best, the Commission has power to punish such 
conduct after the fact. We find this to be a serious problem that is at 
odds with Congress' intent behind the CFMA, which, if left unaddressed, 
jeopardizes the public's confidence in the CFTC's ability to do its 
job.
    The Section 2(h)(3) exemption for unregulated commercial markets 
should be eliminated. You cannot fix the problem by merely changing 
reporting requirements. In order to secure accurate reports, a market 
needs an effective surveillance and compliance system. This requires 
that an effective system of self regulation must be put in place. The 
logical conclusion is you must implement at least the core principles 
required of a derivatives transaction execution facility (DTEF) to get 
a useful result.
IV. Mandating an arbitrary increase in margin for futures above 
        prudential levels is counterproductive and potentially 
        destructive to U.S. futures markets and Congress should reject 
        calls to do so.
    Beginning several weeks ago, there was a strong suggestion that 
driving speculators from the markets will bring commodity prices, in 
particular oil, back to some ``correct'' level below what exists today. 
Worse still, these critics argue for driving speculators from the 
market by government-mandated increases in margins. The most prominent 
witness before Congressional Committees was a large speculator in 
airline and automobile stocks that may have benefited from the 
precipitous actions he advocated. Fortunately, enough time has passed 
to permit a strong counter-current from economists and editorial 
writers debunking those claims.\1\
---------------------------------------------------------------------------
    \1\&Attached to our testimony are four noteworthy pieces published 
in recent days. (1) ``Oil Speculation.'' Financial Times. Retrieved 
July 3, 2008 from www.FT.com.; (2) ``For Love of Speculators.'' Chicago 
Tribune. Retrieved July 2, 2008 from www.chicagotribune.com., this 
document is copyrighted and available for a fee from The Chicago 
Tribune; (3) Nocera, Joe. (June 28, 2008) ``Easy Target, but Not the 
Right One.'' New York Times.; (4) Samuelson, Robert J. (July 1, 2008) 
``Who's Behind High Prices.'' Washington Post, A11.
---------------------------------------------------------------------------
    Nonetheless, legislation has been proposed to mandate margin 
increases, which would require hedgers and speculators to increase the 
level of performance bonds required to guarantee performance of their 
contractual obligations to the clearing house. The theory behind the 
legislation is this: increased costs will drive speculators out of the 
futures markets and prices will retrench to more comfortable levels, 
because speculators with long positions are assumed to have caused 
price escalation in the first place. This idea is seriously flawed and 
reflects a lack of understanding of the role of margin in futures 
markets.
    The discussion of margin increases during recent congressional 
hearings makes it abundantly clear that many legislators wrongly assume 
the concept of margin in futures markets is similar to that in equity 
markets. In other words, they think of it as an extension of credit or 
a down payment on the cost of a security. However, the notion of 
``credit'' has nothing to do with the concept of margin as used in 
futures markets. In futures markets, margin is not an extension of 
credit. Rather, margin is the equivalent of a performance bond designed 
to ensure that contractual obligations are met and that clearing houses 
can fulfill their responsibilities. Margins are not intended to create 
incentives or disincentives for trading decisions.
    In futures markets, margin--aka performance bond--is set at a level 
to cover, with a high degree of confidence, any change in the 
underlying value of a futures contract during a single day of trading. 
It has nothing to do with the notional or face amount of the contract. 
For example, performance bond on a $36,700 CBOT corn contract is 
currently set at $2,025, while performance bond on a $100,000 thirty 
year bond contract is set at $3,510. In each case, the holder of the 
contract must make good on his losses and conversely gets credit for 
his gains on a daily basis. Our clearing system continuously holds 100 
percent collateral for a near worst case loss scenario. The cost of 
depositing collateral or cash with the clearing house is considered a 
cost of trading.\2\
---------------------------------------------------------------------------
    \2\&We have attached hereto an article titled ``SPAN: The First 20 
Years'' that succinctly describes CME's Standard Portfolio Analysis 
risk methodology for determining margin based on actual volatility 
risk, which revolutionized the management of futures and options risk 
world-wide and is the industry standard around the world today. Futures 
Industry Magazine, pages 32&35 (March/April 2008).
---------------------------------------------------------------------------
    Based on our strong track record of zero credit defaults in the 100 
plus year history of CME Clearing, we believe our current system for 
calculating margin is the most prudent and sound approach to margining. 
So do the rest of the world's futures markets, a majority of which 
utilize the same concept of margin created by CME Group. Mandating 
arbitrary margin levels would not improve the functioning of energy and 
commodity futures markets and would interfere with the prudential risk 
management practices of central counterparty clearing houses. To urge 
Congress to arbitrarily interfere with this well-functioning system of 
margin invites substantial risk to the proper functioning of futures 
markets. Given the critical juncture of policy deliberations, it is 
imperative that Congress recognize the fallacies and misunderstandings 
that are prompting calls to meddle artificially with this time-tested 
margin concept.
    First, advocates of arbitrarily raising margin assume that 
speculators are all on the long side of the market and that this herd 
approach to trading has driven prices above their legitimate 
equilibrium level. All of the leading academic work in the field, as 
well as our extensive internal studies, support the opposite view--
namely, that speculators are about equally divided on both sides of the 
market.
    Second, the imposition of artificially high performance bonds is a 
tax on trading as it raises a trader's cost. This has been repeatedly 
demonstrated, and ever more so as markets have become electronic and 
available from anywhere around the globe. Indeed, excessive performance 
bond levels drive users away from transparent, regulated U.S. futures 
markets and into opaque, unregulated OTC markets. And remember, the OTC 
markets have less liquidity, less price transparency and no public 
accounting for traders' positions. This is a net loss to the 
Congressionally defined purpose of creating fair, efficient and well-
functioning energy and commodity markets.
    Our extensive market regulation experience--and our experience with 
previous efforts to control commodity prices by means of adjusting the 
level of performance bond--have established the fact that artificially 
increasing margins is not effective. Raising margins to drive 
speculators on the long side of the market out of the market in a time 
of upward trending prices does not work. The speculators who have been 
long have been collecting the profits on their positions. They are in 
an especially strong position to meet any additional margin call. 
Moreover, they are well aware that traders on the short side of the 
market have been losing money and probably have been forced to borrow 
to support their short hedges. Therefore, they will be pressed to meet 
increased margin calls and forced out of the markets.
    A North Dakota farmer who sold corn futures at a new high of $5 a 
bushel and locked in a $2 per bushel profit needs to be able to carry 
his hedge until his crop is harvested. A single contract is 5,000 
bushels and margin is now set at $1,000 per contract. Assume the farmer 
had sold 100 contracts. Corn was $7 this morning and the farmer has 
been forced to go to his bank to borrow $2 \ 5,000 \ 100=$1,000,000 to 
continue to carry the position. If margins are artificially raised to 
some arbitrary level, the long speculator will be in a very favorable 
position knowing that the short hedger is going to have to go to the 
bank and borrow millions more to hold his hedge position until his crop 
is harvested. The cost to hedgers can be even more drastic when the 
country is in the midst of a severe credit crunch.
    Moreover, there is no evidence that artificially increasing 
performance bonds will drive well-capitalized index funds or other 
passive long-only investors to sell. Nor is there evidence that the 
impact of any such selling would be beneficial or positive for hedgers 
and commercial users of futures markets. Generally, these investors are 
not leveraged and are in the best position to margin up to 100 percent. 
Long index traders will not be driven from the market, because they 
already have a fully collateralized account that is held on behalf of 
their clients. By increasing the amount of those funds that are 
required to be posted for margin, the index trader just transfers 
treasury bills from one account to an account accessible to the 
clearing house. There is no cost to this class of trader.
    One of the pending bills attempts to deal with the adverse impact 
on hedgers by giving relief to the speculator on the opposite side of 
the hedger. There is no such person. Every hedge transaction invites a 
chain of speculators as counterparties over its lifetime. In fact, the 
counterparty to every futures contract is the clearing house, not any 
identifiable speculator. This approach will not work.
    Though it is tempting to view the current commodity market 
situation as unique historically, Congress may find it valuable to 
recognize the lessons arising from a period not so long ago when 
speculation in agricultural markets raised similar concerns as we are 
experiencing today. In a study published in June 2008,\3\ University of 
Illinois Professors Sanders, Irwin and Merrin examined the agricultural 
markets of 1972 through 1975, the last period with comparable episodes 
of structural change marked by all-time high commodity price increases. 
The researchers indicated that the commodity environment was influenced 
by structural shifts such as oil embargoes, Russian grain imports, and 
the collapse of the Bretton Woods fixed exchange rate system. Their 
findings have particular relevance to the current situation facing our 
nation. Indeed, in the troubled context of the agricultural commodity 
markets of 1972&1975, commodity price increases were often blamed on 
speculative behavior associated with the tremendous expansion of 
futures trading in a wide range of commodities.
---------------------------------------------------------------------------
    \3\& Sanders, D.R., S.H. Irwin, and R.P. Merrin. ``The Adequacy of 
Speculation in Agricultural Futures Markets: Too Much of a Good 
Thing?'' Marketing and Outlook Research Report 2008&02, Department of 
Agricultural and Consumer Economics, University of Illinois at Urbana--
Champaign, June 2008. [http://www.farmdoc.uiuc.edu/marketing/reports]
---------------------------------------------------------------------------
    We find the conclusions reached by Sanders et al. to be very useful 
with regard to today's hearing:

        The complex interplay between these factors and how they impact 
        price expectations is often difficult to grasp in real-time. 
        So, much like the mid-1970's, the scapegoat for commodity price 
        increases seems to have become the speculator. The present 
        research suggests that current levels of speculation--given 
        hedging needs--are at historically normal levels. Indeed, 
        Working's T [an objective index of speculative activity] in 
        many agricultural futures markets is at levels associated with 
        `inadequate' speculation in the past. If this is the case, then 
        policy decisions aimed at curbing speculation may well be 
        counter-productive in terms of price levels and market 
        volatility. In particular, these policy initiatives could 
        severely compromise the ability of futures markets to 
        accommodate hedgers and facilitate the transfer of risk.

    As in the 1972&1975 period, we can certainly understand how 
appealing it would be for Members of Congress to believe that 
increasing margin is a sure-fire, fast-track way to lower commodity 
speculation and in turn lower commodity prices--by perhaps 50 percent 
in 30 days. While the allure of this suggestion is understandably 
seductive on a political level, Congress can ill afford to make a 
misstep in this regard. The downside risk of arbitrarily mandating 
increased margin for futures is enormous. Congress's credibility is at 
risk in adopting simplistic, ill-conceived responses that are 
destructive to U.S. futures markets and those who legitimately rely on 
those markets.
V. Speculation is essential to efficient, liquid markets. Congress 
        should do everything in its power to avoid responses that 
        threaten the vitality of futures markets.
    Current fuel and food prices are shocking and painful to consumers 
and the economy. Unfortunately, the pressure to reverse rising prices 
has led some to look for a simple, causal agent that can be neutralized 
with the stroke of a pen. The favored culprit is the traditional 
villain--speculators. But speculators sell when they think prices are 
too high and buy when they think prices are too low. They are not a 
unified voting block and are on both sides of every market. Speculative 
selling and buying send signals to producers and processors that help 
keep our economy on an even keel. High futures prices for corn induce 
farmers to bring new acreage to market. High forward energy prices 
encourage exploration and new technology to capture existing untapped 
reserves and foster conservation and other behavioral changes to adjust 
demand.
    Futures markets perform two essential functions--they create a 
venue for price discovery and they permit low-cost hedging of risk. 
Futures markets depend on short- and long-term speculators to make 
markets and provide liquidity for hedgers. Futures markets could not 
operate effectively without speculators, and speculators will not use 
futures markets if artificial barriers or tolls impede their access. 
Most important, blaming speculators for high prices diverts attention 
from the real causes of rising prices and does not contribute to a 
solution.
    The weight of the evidence and informed opinion confirms that the 
high prices are a consequence of normal supply and demand factors. The 
Wall Street Journal surveyed a significant cross-section of economists 
who agreed that: ``The global surge in food and energy prices is being 
driven primarily by fundamental market conditions, rather than an 
investment bubble . . . .''&\4\
---------------------------------------------------------------------------
    \4\&``Bubble Isn't Big Factor in Inflation,'' By Phil Izzo (May 9, 
2008; Page A2).
---------------------------------------------------------------------------
    The traditional production/consumption cycle that has governed 
prices in commodity markets is stressed by the confluence of a number 
of factors. David Hightower, author of The Hightower Report, summed up 
the supply/demand situation in corn last year as follows: ``We have 
experienced 3 consecutive years of record corn production and 3 
consecutive years of declining ending reserves. Supply has put its best 
team on the field and demand keeps winning.''
    The headlines that are grabbing the greatest attention these days 
derive from the cost of energy commodities primarily traded elsewhere 
than CME Group's markets. Nevertheless, a review of our experience in 
the agricultural future markets that we do operate illustrates the 
predominant roles that non-speculative forces, and particularly the 
fundamentals of supply and demand, play in the economic challenges 
Americans face today. Based on our expertise in agricultural markets, 
we have identified five significant factors that are influencing the 
supply and demand for grains and oilseeds:

    1. Weather/disease/pestilence.

    2. Increasing per capita consumption in the emerging markets.

    3. The dramatic impact of the demand for grain and oil seeds as 
        feed stock for biofuel.

    4. Reactionary governmental trade policies.

    5. Financial Market turmoil, including a weakened dollar.

    These factors combine to create volatile markets and increased 
prices.
    1. Weather/Disease/Pestilence: This is of course a traditional 
factor in the grain markets. Wheat recently attained all-time record 
prices, coincident with 60 year lows in world stockpiles. In the past 2 
years there have been production shortfalls in Australia, Argentina, 
Europe, North America, and the Ukraine due to a combination of drought 
in some places, untimely rains in others, and even infestation by the 
Eurygaster beetle.
    2. Per Capita Consumption in Emerging Markets: Despite that some 
projections imply a slowing population growth during this century, 
global population is still growing, and from an ever increasing base. 
In the short-run, GNP and personal income levels in the large, 
emerging-market countries such as India, China, Russia and Brazil are 
creating unprecedented per capita demand growth for animal protein. 
Commonly in human history, as a society grows richer, its diet expands 
to include additional animal protein in the form of meat and dairy. 
According to a report on Bloomberg.com, worldwide meat consumption is 
forecast to increase by more than half by 2020. Most of the new demand 
will come from China. The implications for grain demand will be 
staggering. Already in just the past 12 years, China has gone from a 
net exporter of soybeans to the world's largest importer of soybeans, 
with soybean imports exceeding 30 million tons in 2007. Never before in 
history have we witnessed the impact of two billion people asking for a 
higher standard of living at the same time.
    3. Growth in Biofuels: The mandate to produce biofuels created 
additional market stress. The expectation is for continued growth in 
biofuel use/demand; politics rather than logic is at work--resulting in 
continued demand growth for feed grains and vegetable oils. To 
illustrate this point, the 2005 Energy Bill in the United States 
spurred the rush to plant approximately 93 million acres of corn in 
2007, the highest level since World War II. The USDA recently reported 
that corn-based ethanol production will continue to rise, placing 
additional demands on the crop: ``driven by continued expansion in 
ethanol production capacity, corn use for ethanol is projected at 4.1 
billion bushels 2008&2009, up 28 percent from the current year 
projection. Ethanol corn will now account for 31 percent of total corn 
use, up from a projected 25 percent for 2007&2008.'' The amount of corn 
used in ethanol production just 5 years ago was approximately ten 
percent. In addition to the U.S. initiative, the EU enacted legislation 
that will require significantly increased use of biofuel fuel by 2010. 
The problem is that there simply is not enough land to set aside in the 
entire EU to meet these ambitious requirements. They will need to 
import significantly higher levels of either finished product or higher 
levels of oilseeds in order to produce the needed biofuel.
    4. Reactionary Government Trade Policies: During the last 3 months, 
there has been an ever expanding pattern of increasing export tariffs 
and decreasing import tariffs on grains and oilseeds by foreign 
governments. Russia extended a grain export tariff from April 30 to 
July 1. In addition, Russia has placed an export ban upon its grain to 
the four CIS (Commonwealth of Independent States) members designed to 
prevent re-export of Russian grain to third countries. Argentina 
extended its wheat export closure through April 8, and announced a new, 
higher soy export tax that will rise by 7&9 percentage points based 
upon current prices. India increased its grain export tariffs while 
lowering import tariffs on edible oils. China has announced a further 
increase in edible oil imports in 2007&2008 with projections currently 
up an additional 14 percent. South Korea announced the emergency 
lifting of import tariffs on 70 price-sensitive products, including 
wheat and corn in an effort to confront rising inflation. The pattern 
we are witnessing is one of keeping domestic production off the global 
market while lowering barriers for the acquisition of grains and oils 
from the global market. This trend results in increased demand for U.S. 
grain and oil seed products.
    5. Financial Market Turmoil: The events that began in the subprime 
sector of the financial markets are now spreading out with very serious 
and negative consequences throughout the nation's banking sector. 
Restrictive lending policies are having deleterious effects within our 
marketplace. High volatility leads to higher margins, large directional 
price moves require significant continuing variation deposits, and all 
of this comes at a time when money is difficult to obtain.
    The non-speculative factors summarized above all have a material 
impact on supply and demand in energy and agricultural commodity 
markets. Given these factors, it would be wise for Congress to examine 
rigorously any assertions that speculation is driving up prices in food 
or energy markets--before enacting any legislation in response. 
Policies that are based on factually invalid assumptions of 
speculation's role could be disastrous and impose additional, perhaps 
even greater, economic dislocation than the current impact of high food 
and energy prices themselves.
VI. Participation in commodity markets by index funds, hedge funds and 
        pension funds.
    We strongly oppose any effort to eliminate index funds from 
participating in the commodities markets. Index funds may rely on no-
action risk-management exemptions to exceed position limits or they may 
enter into OTC transactions with a swaps dealer to gain exposure to 
commodities by benchmarking their OTC transaction to a broad-based 
commodity index. For index funds that obtain market access through a 
swaps dealer, the swaps dealer is often granted a hedge exemption as 
described above. For index funds that agree to track an index (as 
opposed to holding a swaps position directly linked to the price of an 
index), CFTC has determined that these index-based positions differ 
enough that a hedge exemption is not appropriate. Instead, the fund is 
granted no-action relief from speculative position limits for this 
otherwise legitimate investment strategy (subject to conditions to 
protect the markets).
    Others have suggested excluding pension funds and index funds from 
participating in commodity futures markets. These funds are using 
commodity exposure to decrease volatility in their portfolios. Barring 
them from regulated U.S. futures markets will only push them offshore 
or into over-the-counter trading. These funds will continue to need 
commodities as an asset class and will need to find ways to invest on 
behalf of their clients. Certainly a number of foreign commodity 
futures exchanges offer comparable and liquid ag product alternatives 
in particular and could easily become the benchmark in these 
commodities should unreasonable barriers be placed on the U.S. markets. 
We believe it would be prudent public policy to ensure this investment 
occurs on a domestic regulated market instead of driving this capital 
overseas or into opaque markets.
    CME Group has conducted a thorough review of the impact of index 
trading and speculative trading on its primary agricultural markets. We 
have found a negative correlation between price increases and index 
fund buying.
    While we favor a broader study of the impact of index fund trading, 
we do not think it is appropriate to cast those funds as a villain in 
price inflation until the study is completed, especially since in 
theory it is not likely that the index funds are having a detrimental 
impact. Index funds buy and hold. They may have some small impact on 
days when new money enters the market and they create additional net 
long positions, but those changes are transitory. The important 
statistic in this regard is new net positions, not overall positions.
    After the flow of new money into the market from the index funds, 
the price will, in the absence of other factors, revert to the 
equilibrium dictated by current supply and demand factors because the 
index traders simply sit and hold the positions until they roll to the 
next delivery month. Traders making informed trades should be expected 
to drive the market to equilibrium.
    All price changes take place at the margin as those traders with 
information, meaning that they are hedging or expressing an opinion 
based on knowledge, buy and sell. Even if 20 percent of the open 
interest in a particular contract month of a commodity is held by index 
funds, buying and selling by a few traders based on need and knowledge 
drive the market to its fair equilibrium price. The open positions of 
the index traders have no impact on prices driven by informed trading 
activity.
    Beyond being subjected to the criticisms leveled at speculators in 
general, there have been more specific suggestions that money managers 
and hedge funds that operate under defined strategies may have impaired 
the price discovery process. The CFTC's staff responded to questions 
implying that managed money traders, particularly hedge funds, ``may 
exert undue collective influence on markets and thus move prices in 
ways that hinder the market's price discovery role, reduce the 
effectiveness of hedges constructed with contracts from those markets 
and raise trading costs.'' CFTC's professional staff conducted an 
analysis in 2005 which came to the following conclusions:&\5\
---------------------------------------------------------------------------
    \5\&http://www.cftc.gov/opa/press05/opa5074-05.htm.

        Using a unique set of data from the Commodity Futures Trading 
        Commission (CFTC), the staff studied the relationship between 
        futures prices and the positions of managed money traders 
        (MMTs), commonly known as hedge funds, for the natural gas and 
        crude oil futures markets. The staff also examined the 
        relationship between the positions of MMTs and positions of 
        other categories of traders (e.g., floor traders, merchants, 
---------------------------------------------------------------------------
        manufacturers, commercial banks, dealers) for the same markets.

        The results suggest that on average, MMT participants do not 
        change their positions as frequently as other participants, 
        primarily those who are hedgers. The staff found that there is 
        a significant correlation (negative) between MMT positions and 
        other participant's positions (including the largest hedgers), 
        and results suggest that it is the MMT traders who are 
        providing liquidity to the large hedgers and not the other way 
        around.

        The staff also found that most of the MMT position changes in 
        the very short run are triggered by hedging participants 
        changing their positions. That is, the price changes that 
        prompt large hedgers to alter their positions in the very short 
        run eventually ripple through to MMT participants who will 
        change their positions in response. The staff also found no 
        evidence of a link between price changes and MMT positions 
        (conditional on other participants trading) in the natural gas 
        market, and find a significantly negative relationship between 
        MMT position changes and price changes (conditional on other 
        participants trading) in the crude oil market.

    In recent Congressional testimony, the CFTC has reaffirmed the 
validity of this 2005 analysis.\6\ It is instructive that CFTC's 
analysis parallels the conclusions of many other economists who have 
also studied the issue of causation in the context of speculators and 
commodity futures prices.\7\
---------------------------------------------------------------------------
    \6\&During his appearance before the Senate Appropriations 
Committee on May 7, 2008, CFTC Acting Chairman Walt Lukken stated that 
the CFTC's recent revisitation of the 2005 study using more current 
data for energy market trading affirmed the conclusions reached in the 
2005 study. This conclusion mirrors the views of the majority of 53 
economists surveyed by The Wall Street Journal in May 2008 which 
indicated that the global surge in food and energy prices is being 
driven primarily by fundamental market conditions, rather than an 
investment bubble. Wall Street Journal, May 9, 2008, page A&2. 
Similarly, the U.S. Department of Energy's Energy Information Agency's 
most recent ``Short Term Energy Outlook'' published May 6, 2008, 
evidenced the tightness in world oil markets, with growth in world oil 
consumption outstripping growth in production in non-OPEC nations by 
over 1 million bbls/day, and dramatically increased demand coming from 
China, India and other parts of the developing world.
    \7\&See, for example, Antoshin and Samiei's analysis of the IMF 
research on the direction of the ``causal arrow'' between speculation 
and commodity prices in ``Has Speculation Contributed to Higher 
Commodity Prices?'' in World Economic Outlook (September 2006):

      On the other hand, the simultaneous increase in prices and in 
investor interest, especially
  by speculators and index traders, in commodity futures markets in 
recent years can poten-
  tially magnify the impact of supply-demand imbalances on prices. Some 
have argued that high
  investor activity has increased price volatility and pushed prices 
above levels justified by fun
  damentals, thus increasing the potential for instability in the 
commodity and energy markets.

      What does the empirical evidence suggest? A formal assessment is 
hampered by data and
  methodological problems, including the difficulty of identifying 
speculative and hedging-re-
  lated trades. Despite such problems, however, a number of recent 
studies seem to suggest that
  speculation has not systematically contributed to higher commodity 
prices or increased price
  volatility. For example, recent IMF staff analysis (September 2006 
World Economic Outlook,
  Box 5.1) shows that speculative activity tends to respond to price 
movements (rather than the
  other way around), suggesting that the causality runs from prices to 
changes in speculative
  positions. In addition, the Commodity Futures trading Commission has 
argued that specula-
  tion may have reduced price volatility by increasing market 
liquidity, which allowed market
  participants to adjust their portfolios, thereby encouraging entry by 
new participants.

    Similarly, James Burkhard, managing director of Cambridge Energy 
Research Associates testified to the Senate Energy Committee on April 
3, 2008 that: ``In a sufficiently liquid market, the number and value 
of trades is too large for speculators to unilaterally create and 
sustain a price trend, either up or down. The growing role of 
noncommercial investors can accentuate a given price trend, but the 
primary reasons for rising oil prices in recent years are rooted in the 
fundamentals of demand and supply, geopolitical risks, and rising 
industry costs. The decline in the value of the dollar has also played 
a role, particularly since the credit crisis first erupted last summer, 
when energy and other commodities became caught up in the upheaval in 
the global economy. To be sure, the balance between oil demand and 
supply is integral to oil price formation and will remain so. But `new 
fundamentals'-- new cost structures and global financial dynamics--are 
behind the momentum that pushed oil prices to record highs around $110 
a barrel, ahead of the previous inflation-adjusted high of $103.59 set 
in April 1980.''
---------------------------------------------------------------------------
    Regulated futures markets and the CFTC have the means and the will 
to limit speculation that might distort prices or distort the movement 
of commodities in interstate commerce. Acting Chairman Lukken's recent 
testimony before the Subcommittee on Oversight and Investigations of 
the Committee on Energy and Commerce United States House of 
Representatives (December 12, 2007)&\8\ offers a clear description of 
these powers and how they are used:
---------------------------------------------------------------------------
    \8\&http://www.cftc.gov/stellent/groups/public/@newsroom/documents/
speechandtestimony/opalukken-32.pdf.

        CEA Section 5(d)(5) requires that an exchange, ``[t]o reduce 
        the potential threat of market manipulation or congestion, 
        especially during trading in the delivery month . . . shall 
        adopt position limitations or position accountability for 
---------------------------------------------------------------------------
        speculators, where necessary and appropriate.''

        All agricultural and natural resource futures and options 
        contracts are subject to either Commission or exchange spot 
        month speculative position limits--and many financial futures 
        and options are as well. With respect to such exchange spot 
        month speculative position limits, the Commission's guidance 
        specifies that DCMs should adopt a spot month limit of no more 
        than \1/4\ of the estimated spot month deliverable supply, 
        calculated separately for each contract month. For cash settled 
        contracts, the spot month limit should be no greater than 
        necessary to minimize the potential for manipulation or 
        distortion of the contract's or underlying commodity's price. 
        For the primary agricultural contracts (corn, wheat, oats, 
        soybeans, soybean meal, and soybean oil), speculative limits 
        are established in the Commodity Exchange Act and changes must 
        be approved via a petition and public rulemaking process.

        With respect to trading outside the spot month, the Commission 
        typically does not require speculative position limits. Under 
        the Commission's guidance, an exchange may replace position 
        limits with position accountability for contracts on financial 
        instruments, intangible commodities, or certain tangible 
        commodities. If a market has accountability rules, a trader--
        whether speculating or hedging--is not subject to a specific 
        limit. Once a trader reaches a preset accountability level, 
        however, the trader must provide information about his position 
        upon request by the exchange. In addition, position 
        accountability rules provide an exchange with authority to 
        restrict a trader from increasing his or her position.

        Finally, in order to achieve the purposes of the speculative 
        position limits, the Commission and the DCMs treat multiple 
        positions held on a DCM's market that are subject to common 
        ownership or control as if they were held by a single trader. 
        Accounts are considered to be under common ownership if there 
        is a ten percent or greater financial interest. The rules are 
        applied in a manner calculated to aggregate related accounts.

        Violations of exchange-set or Commission-set limits are subject 
        to disciplinary action, and the Commission, or a DCM, may 
        institute enforcement action against violations of exchange 
        speculative limit rules that have been approved by the 
        Commission. To this end, the Commission approves all position 
        limit rules, including those for contracts that have been self-
        certified by a DCM.

        It is clear that speculation is an important component of the 
        futures markets, but there is a point when excessive 
        speculation can be damaging to the markets. As a result, the 
        CFTC closely monitors the markets and the large players in the 
        markets, in addition to position and accountability limits, to 
        detect potentially damaging excessive speculation and potential 
        manipulative behavior.

    On June 26, 2008, the House passed overwhelmingly H.R. 6377, 
directing the CFTC to utilize fully its authority, including its 
emergency powers, to investigate the potential role of excessive 
speculation in any CFTC regulated market. The CFTC was also directed to 
take appropriate action to curb any excessive speculation that may be 
found to exist that results in prices diverging from those reflecting 
the forces of supply and demand. In our view, H.R. 6377 is an 
understandable and appropriate response given the circumstances facing 
the markets. The bill respects the need to have dispassionate expert 
analysis of this highly technical matter before action is taken. 
Congress is not well-equipped to make these technical assessments and 
the public interest will be advanced and better protected by CFTC's 
careful and meticulous analysis. Moreover, our sense is that the CFTC 
well understands the urgency that underlined passage of H.R. 6377. We 
are confident that the CFTC is the right agency with the expertise to 
analyze the relevant derivatives markets in an expeditious and 
thoughtful manner and to take appropriate action commensurate with what 
the facts may dictate.
VII. The CFTC's exclusive jurisdiction over trading on CFTC regulated 
        markets must be preserved.
    CME Group recently joined with other leading participants in the 
financial services industry to respond to the Federal Trade 
Commission's (FTC) request for comments regarding its proposed rule 
respecting false reporting and manipulative activities in the wholesale 
oil market. We are concerned that the FTC's jurisdictional reach could 
come into conflict with the CFTC's exclusive jurisdiction respecting 
futures trading. While the statute very clearly limits the FTC's 
jurisdiction to conduct in connection with ``the purchase or sale of 
crude oil, gasoline or petroleum distillates at wholesale,'' the 
Federal Energy Regulatory Commission (FERC), which has similar 
authority, has read ``in connection with'' to give it authority over 
conduct that took place entirely on a futures exchange. This latest 
opportunity for incursion into CFTC's exclusive jurisdiction should be 
of high concern to the Agriculture Committee.
    In 1974, Congress recognized the overriding importance of 
entrusting to the expertise of the CFTC the exclusive regulatory 
authority over the nation's futures markets. Congress preempted other 
Federal and state rules that would either assert parallel jurisdiction 
over the futures markets or produce conflicts with the CFTC regulatory 
regime. This system has produced the best regulated, most innovative 
and efficient futures market in the world.
    As markets evolve and become more interrelated, such agency 
``boundary disputes'' can be expected and, for the most part, the 
agencies usually take pains to accommodate one another and allow each 
to accomplish the mission Congress mandated for it. We are concerned by 
the FERC's claim of jurisdiction in the Amaranth case, where the 
alleged manipulative trading took place on a futures exchange. FERC has 
refused to recognize and yield to the CFTC's exclusive jurisdiction. 
The result is that participants in the natural gas futures markets no 
longer have legal certainty as to the legal standard governing their 
transactions.
    By the same token, we have been concerned by recent calls to have 
other Federal agencies--the Department of Energy and the FTC in 
particular--take leading roles in investigating commodity markets that 
fall primarily within the exclusive jurisdiction of the CFTC. We 
strongly urge the Agriculture Committee to take special care in 
articulating the public policy wisdom of the exclusive jurisdiction 
bestowed long ago on the CFTC and the invaluable contribution that the 
CFTC's expertise can play in sifting fact from fiction amid the 
turbulence of the current market situation.
    The recently enacted farm bill demonstrates the continued vitality 
of the CFTC's exclusive jurisdiction. Congress reauthorized the CFTC 
for another 5 years and granted the CFTC new authority to regulate 
certain exempt commercial markets that are active enough to constitute 
price discovery markets.
VIII. Congress should increase the CFTC's resources.
    The spate of recent congressional hearings has established that the 
CFTC is working at staffing and resource levels that could inhibit 
attainment of the agency's Congressionally mandated statutory mission. 
Given that the CFTC is now expected to be even more aggressive in its 
oversight and enforcement, Congress should provide CFTC with additional 
funding to hire more personnel, acquire more technology, and do 
everything necessary to police the derivatives markets effectively. The 
enormous value that accrues to the public from effective CFTC activity 
warrants the investment of additional financial resources from general 
revenues.
Conclusion
    CFTC regulated futures markets have demonstrated their importance 
to the economy, the nation's competitive strength, and America's 
international financial leadership. Imposing arbitrary increases in 
margins in these markets, as has been suggested as a way to control 
prices, will result in the exportation of these markets to overseas 
competitors and to unregulated and non-transparent over-the-counter 
markets. We have the means and the power to protect markets against 
speculative excesses on our markets and are committed to doing so.
                              Attachments
Oil Speculation
Financial Times
Published: July 3 2008 12:40
Last updated: July 3 2008 12:42

    What would you do if you were a senator? Explain to Americans that 
reducing the oil price will involve trading in that truck for a Mini? 
Or blame it all on ``speculators'' and promise a quick regulatory fix?
    No prizes for guessing which way sentiment is leaning in 
Washington. Those blaming speculators for high crude prices reason that 
the marginal cost of producing a barrel is about $75. The current oil 
price is almost double that figure. Clearly, much money has gone into 
commodities recently. Therefore, speculation explains the ``excess'' 
and clamping down on it should push prices down.


    It's not our government's fault for failing to come up with a 
credible energy policy--that can't be it. Nor is the problem the weak 
dollar, or the voracious energy appetite of the Chinese, or those pesky 
rebels in Nigeria who are trying to blow up their country's oil 
pipelines. And it's certainly not the fault of you and me for driving 
gas-guzzling S.U.V.'s. It has to be those speculators. They are the 
only villains in sight.
    This was ``first let's kill all the speculators'' week on Capitol 
Hill, and it was not a pretty sight. On Monday, the House Oversight and 
Investigations Subcommittee held an 8 hour hearing (!), the sole 
purpose of which was to decry ``excessive speculation.'' ``Have 
speculators hijacked trading on the futures exchange?'' asked the 
Michigan Democrat Bart Stupak. His answer throughout the day--as he 
``grilled'' an array of sympathetic academics and futures market 
critics--was a resounding yes.
    On Tuesday, the action moved to the Senate, where the Homeland 
Security and Governmental Affairs Committee held its hearing. 
``Speculation in the food and fuel markets is not illegal,'' Senator 
Joe Lieberman of Connecticut conceded, ``but that does not mean it is 
not very hurtful.'' He continued: ``They are artificially inflating the 
price of food and oil and causing real suffering for millions and 
millions of people and businesses.''
    There were yet more hearings on Wednesday, and by Thursday evening, 
the House had passed, by a wide margin, a bill calling on the Commodity 
Futures Trading Commission to curtail ``excessive speculation.'' 
Indeed, the C.F.T.C. spent the week being raked over the coals for 
allowing all this rampant speculation to take place. On Monday 
afternoon, for instance, Representative John Dingell of Michigan took 
unseemly glee in going after Walter L. Lukken, the agency's Chairman.
    Jabbing his pencil at Mr. Lukken, Mr. Dingell described the 
founding of the agency as an effort to prevent farmers and consumers 
from being ``screwed'' by ``those folks in the futures markets.''
    ``Now,'' he said, ``we find that those good-hearted folks in the 
futures market have figured out how not just to screw the farmers and 
the consumers in the city, but they figured out how to screw the 
farmers and the consumers in the city on a whole new product--oil.'' As 
Mr. Dingell sneered triumphantly, Mr. Lukken seemed to shrivel in his 
seat.
    Yes, it was wonderful theater, and great blood sport. And it had 
absolutely nothing to do with the price of oil.
    It's not just Congressmen who are railing about speculators, of 
course. As oil prices have doubled in the last year, I've gotten e-mail 
messages from readers decrying speculators, who, many believe, are 
manipulating the futures market. More than once this week, legislators 
used that same word their constituents were using: ``manipulation.''
    So let's take a closer look at what the speculators' critics are 
saying. First, despite the loose use of the word ``manipulation,'' that 
is really not what is being alleged here, at least not in the classic 
sense. Remember how the Hunts tried to corner the silver market? They 
bought up silver and took it off the market, thereby creating an 
artificial shortage. I suppose OPEC could do something like that--one 
could even argue that OPEC does that already--but no mere speculator 
could.
    I can already hear your rejoinder: what about Enron and its famous 
manipulation of energy prices in California? But remember, Enron was 
manipulating electricity prices, not oil, which was possible mainly 
because electricity can't be stored. By getting power plants to shut 
down for hours at a time, Enron was able to create artificial shortages 
and jack up the price.
    Instead, the critics' thesis is that speculators are creating an 
energy bubble the same way investors created the Internet bubble. As 
speculative bets on energy have grown drastically in recent years, the 
sheer amount of money being thrown at energy futures is making those 
bets a self-fulfilling prophecy. All that money, in other words, pushes 
prices higher than they would go if the market simply consisted of the 
actual buyers and sellers of oil.
    In addition, because of something called the ``London loophole'' 
and the ``Enron loophole,'' which allow speculators to use unregulated 
exchanges, they can evade the limits of the New York Mercantile 
Exchange, as well as C.F.T.C. scrutiny.
    The leading proponent of this theory is a portfolio manager based 
in the Virgin Islands named Michael W. Masters. When I caught up with 
him on Thursday afternoon, after his week of testimony, he said that 
the problem was that institutional investors had stopped seeing energy 
as a commodity the world relies on and instead saw it as an ``asset 
class'' for their portfolios. ``I am opposed to thinking about 
commodities as an asset class,'' he said.
    Several years ago, he continued, he began to notice that increasing 
cash flows were moving into commodities index funds. This was, he said, 
``long-only money''--meaning that it was a pure bet that prices would 
go up. By now, he told me, there is $240 billion in commodity index 
funds, up from $13 billion 5 years ago. As he also noted in his 
testimony before Congress, ``the prices of the 25 commodities that 
compose these indices have risen by an average of 183 percent in those 
5 years!'' He claims that energy prices will fall by 50 percent if the 
speculators can only be driven out of the futures market.
    There are so many holes in this argument I scarcely know where to 
start. The C.F.T.C. says that some $5 trillion worth of futures and 
options transaction trades take place every day; can an influx of $240 
billion, spread over 5 years, really propel prices upward to the extent 
that he and others claim? Then there's the fact that the commodities 
markets don't work like equity markets, where a small amount of trading 
can lift every share of a company's stock. In commodities trading, 
every contract has a buyer and a seller, meaning that for every bet 
that prices are going up, somebody else is betting they are going down. 
Why doesn't that short interest depress prices?
    And what about all those commodities, like coal or barley or 
sulfur, that don't trade on any futures market but have risen as fast 
as or faster than oil? Or how about the recent decline in cash flows 
into many commodity funds--why have prices kept going up if the money 
has stopped pouring into those funds? My speculator friends tell me 
that in the last 2 weeks, trading volumes have been cut in half. 
Indeed, what I hear is that much of the speculative money that remains 
in the market is betting against higher oil prices.
    As for the London and Enron loopholes, I can pretty much guarantee 
they will be closed soon. There are some eight bills aimed at curbing 
speculation, and virtually every one of them calls for an end to the 
loopholes. That is probably a good thing--but I'd lay odds the price 
will not drop as a result. The loopholes are not the reason prices are 
going up.
    In fact, I'd be willing to go a step further. Even if you 
eliminated speculation entirely, the price of oil wouldn't fall. 
Thankfully, no one is proposing to go that far (though Senator 
Lieberman was toying with the idea), because even Members of Congress 
understand that futures markets serve a crucial purpose. They help 
companies hedge their oil prices, and they help energy companies manage 
their risk, for starters.
    The energy speculators I spoke to say that Congress has it exactly 
backward: the futures market is actually taking its cues from the 
physical market, where the buyers and sellers of oil do their business. 
Last week, the Saudis promised to produce an extra 200,000 barrels a 
day. But it is pricing that oil so high that oil companies are balking 
at paying for it. The Saudis didn't arrive at their price by looking to 
the futures market--but if they get that price, it will certainly 
affect the futures market.
    Both speculators and oilmen say that supply and demand is the real 
culprit. ``Our supply is pathetic,'' said Gary Ross, the chief 
executive of the PIRA Energy Group, and a well-known energy consultant. 
``Look at the data,'' he continued. ``The world economy is growing by 
3.9 percent a year. World oil demand should grow by 2.3 percent just to 
keep pace. That's an extra two million barrels a day. We don't have it! 
It's obvious.''
    I also think there is something else at play. After years of 
ignoring the rather obvious fact that oil is a finite resource, the 
world has suddenly become acutely aware of that reality. Everyone in 
the oil markets is attuned to every little twitch that has the 
potential to damp supply or increase demand. That's why, for instance, 
when Libya announced on Thursday that it might cut oil production, oil 
jumped more than $5. Meanwhile, when Brazil discovers a huge new oil 
field, the market shrugs. That is not speculation at work--it's market 
psychology. There's a big difference. If there is indeed a bubble, 
that's what is causing it.
    ``Speculators have always been an easy target,'' said Leo Melamed, 
the man who founded the futures markets. As Ron Chernow, the great 
business historian put it, ``At times in history when you have vast and 
impersonal forces wreaking havoc in markets, there is always a 
temptation to villainize someone.'' Centuries ago, it was Shylock; now 
it's the speculator and the short-seller.
    In his book ``The House of Morgan,'' Mr. Chernow has a description 
of Herbert Hoover, ``moody and isolated,'' convinced that short-sellers 
were behind the market's horrendous downturn in 1929. ``He came to 
believe in a Democratic conspiracy to drive down stocks by selling them 
short,'' Mr. Chernow writes, adding that Hoover ``began to compile 
lists of people in the bear cabal and even claimed to know they met 
every Sunday afternoon to plot the week's destruction!''
    I wonder whether Mr. Dingell has heard about them.
Who's Behind High Prices
The Washington Post
By Robert J. Samuelson
Tuesday, July 1, 2008; Page A11

    Tired of high gasoline prices and rising food costs? Well, here's a 
solution. Let's shoot the speculators. A chorus of politicians, 
including John McCain and Barack Obama, blames these financial 
slimeballs for piling into commodities markets and pushing prices to 
artificial and unconscionable levels. Gosh, if only it were that 
simple. Speculator-bashing is another exercise in scapegoating and 
grandstanding. Leading politicians either don't understand what's 
happening or don't want to acknowledge their own complicity.
    Granted, raw materials prices have exploded across the board. From 
2002 to 2007, oil rose 177 percent, corn 70 percent, copper 360 percent 
and aluminum 95 percent. But that's just the point. Did ``speculators'' 
really cause all those increases? If so, why did some prices go up more 
than others? And what about steel? It rose 117 percent--and has 
increased further in 2008--even though it isn't traded on commodities 
futures markets.
    A better explanation is basic supply and demand. Despite the U.S. 
slowdown, the world economy has boomed. Since 2002, annual growth has 
averaged 4.6 percent, the highest sustained rate since the 1960s, says 
economist Michael Mussa of the Peterson Institute. By their nature, raw 
materials (food, energy, minerals) sustain the broader economy. They're 
not just frills. When unexpectedly high demand strains existing 
production, prices rise sharply as buyers scramble for scarce supplies. 
That's what happened.
    ``No one foresaw that China would grow at a ten percent annual rate 
for over a decade. Commodity producers just didn't invest enough,'' 
says analyst Joel Crane of Deutsche Bank. In industry after industry, 
global buying has bumped up against production limits. In 1999, surplus 
world oil capacity totaled five million barrels a day (mbd) on global 
consumption of 76 mbd, reckons the U.S. Energy Information 
Administration. Now, the surplus is about two million barrels per day--
and much of that is high-sulfur oil not prized by refiners--on 
consumption of 86 mbd.
    Or take nonferrous metals, such as copper and aluminum. ``You had a 
long period of under-investment in these industries,'' says economist 
John Mothersole of Global Insight. For some metals, the collapse of the 
Soviet Union threw added production--previously destined for tanks, 
planes and ships--onto world markets. Prices plunged as surpluses grew. 
But Mothersole says ``the accelerating growth in India and China 
eliminated the overhang.'' China now accounts for up to 80 percent of 
the world's annual increased use of some metals.
    Commodity price increases vary because markets vary. Rice isn't 
zinc. No surprise. But ``speculators'' played little role in these 
price run-ups. Who are these offensive souls? Well, they often don't 
fit the stereotype of sleazy high rollers: Many manage pension funds or 
university and foundation endowments.
    Their trading might drive up prices if they were investing in 
stocks or real estate. But commodity investing is different. Investors 
generally don't buy the physical goods, whether oil or corn. Instead, 
they trade ``futures contracts,'' which are bets on what prices will be 
in, say, 6 months. For every trader betting on higher prices, another 
is betting on lower prices. These trades are matched. In the stock 
market, all investors (buyers and sellers) can profit in a rising 
market, and all can lose in a falling market. In futures markets, one 
trader's gain is another's loss.
    Futures contracts enable commercial consumers and producers of 
commodities to hedge. Airlines can lock in fuel prices by buying oil 
futures; farmers can lock in selling prices for their grain by selling 
grain futures. The markets work because numerous financial players--
``speculators'' in it for the money--can take the other side of 
hedgers' trades. But the frantic trading doesn't directly affect the 
physical supplies of raw materials. In theory, high futures prices 
might reduce physical supplies by inspiring hoarding. But that's not 
happening now. Inventories are modest. World wheat stocks, compared 
with consumption, are near historic lows.
    Recently, the giant mining company Rio Tinto disclosed an average 
85 percent price increase in iron ore for its Chinese customers. That 
affirmed that physical supply and demand--not financial shenanigans--is 
setting prices: Iron ore isn't traded on futures markets. The crucial 
question is whether these price increases will continue or ease as 
demand abates and investments in new capacity expand supply. Prices for 
some commodities (lead, nickel) have receded. Could oil be next?
    Politicians promise to tighten regulation of futures markets, but 
futures markets aren't the main problem. Scarcities are. Government 
subsidies for corn-based ethanol have increased food prices by 
diverting more grain into biofuels. A third of this year's U.S. corn 
crop could go to ethanol. Restrictions on oil drilling in the United 
States have limited global production and put upward pressure on 
prices. If politicians wish to point fingers of blame, they should 
start with themselves.


     Thank you, Mr. Duffy.Mr. Keith.

    STATEMENT OF KENDELL KEITH, PRESIDENT, NATIONAL GRAIN AND FEED 
                     ASSOCIATION, WASHINGTON, D.C.

    Mr. Keith. Good morning, Mr. Chairman and Members of the Committee. 
I am Kendell Keith of the National Grain and Feed Association. We 
appreciate the opportunity to participate here today.
    First, I would like to comment on financial liquidity in our 
industry. The very rapidly rising commodity prices have created an 
unprecedented financial squeeze in our industry. While the banking 
industry has been very supportive, banks do have limits on long 
capacity and in some cases have restricted ownership positions for our 
companies out of necessity. This changing capital need has led to a 
major pullback in our industry on offering forward grain contracting, 
which is very unfortunate both for our industry, companies, and the 
farmers that we serve.
    We are at work on solutions to this issue. One idea that has 
emerged that could help is one that has been developed by the Merchants 
Exchange of St. Louis. It would permit a financial swap to be sold by a 
party holding a long position to a short hedger that in essence would 
fund the margin calls as the market goes up. This has yet to be proven, 
but in the next few weeks there is going to be a pilot for that project 
and we think that it does hold some promise.
    Next, I would like to comment on market performance. There is no 
question that there has been less consistent convergence in cash and 
futures and the commodity markets that we participate in than we have 
experienced in the past. This has led to more of a disconnect between 
cash and futures, and the futures price is a less reliable measure of 
the true underlying value of commodities in our business. The situation 
has led to much more volatility in basis levels and partially 
contributes to a substantial widening in basis in particular for wheat.
    How can we improve market performance? Well, we are working with 
the CME Group and others on evaluating storage rate levels that might 
enhance the market's ability to converge at expiration and other 
concepts, such as index markets, making more delivery points available 
and compelling the taker of delivery to load out. All of these issues 
are being reviewed.
    While we are concerned about market performance, I want to assure 
this Committee that NGFA continues to receive outstanding cooperation 
from both exchanges and the CFTC in working as quickly as possible 
toward possible solutions.
    Regarding the setting of margins, we hold the philosophy that the 
exchanges and the clearing corporations are still in the best position 
to establish and assess risk and establish margins in volatile 
conditions. As markets change daily, adjustments in margins are always 
necessary, and the exchanges remain in the best position to evaluate 
those needed changes.
    Finally, we have some comments and recommendations regarding 
futures market transparency that we would like this Committee to 
consider.
    First, we recommend that swaps dealers, index and pension funds, 
exchange traded funds, and issuers of exchange traded notes and other 
similar nontraditional participants be required to report to CFTC to 
justify their futures market positions. In essence, we think this would 
level the playing field. It would cause these traders that are not 
considered to be speculators and therefore not restricted by speculator 
limits to have the same reporting requirements as large commercial 
hedgers in our industry who have to report cash positions on a monthly 
basis. Though nontraditional participants don't have cash positions per 
se, we would like to see them report their analogous positions 
regarding which ag futures serve as a financial hedge.
    Our second recommendation would increase the usefulness of the 
CFTC's weekly Commitment of Traders report which our industry relies on 
to assess who is participating in the markets. We would like to see the 
CFTC require the large nontraditional participants to disaggregate data 
so it clearly shows activity that should be reported in the index 
category of the COT report. Currently CFTC is unable to report some 
index activity because positions are being netted out prior to being 
reported to the Commission. We would also like to urge that the CFTC 
make another review of its breakout of various categories of the 
Commitment of Traders report to ensure the definitions of categories 
are clear and stated in ways that prevent large nontraditional hedgers 
or investors from reclassifying themselves or self-selecting categories 
within the reported framework. Making such reporting regular and 
permanent by the nontraditional hedgers we think would shed more light 
on speculative investment capitals, participation in ag futures and 
related OTC activity, and also help the CFTC basically to do its job.
    Thank you for the opportunity to participate today.
    [The prepared statement of Mr. Keith follows:]

Prepared Statement of Kendell Keith, President, National Grain and Feed 
                     Association, Washington, D.C.
    Thank you, Mr. Chairman, and Mr. Goodlatte, for calling today's 
hearing to examine activity in agricultural futures markets. The 
National Grain and Feed Association (NGFA) appreciates the opportunity 
to testify.
    I am Kendell Keith, President of the NGFA. Our members include over 
900 companies, including grain elevators, feed manufacturers, oilseed 
processors, flour mills, biofuels producers and marketers and many 
other related commercial businesses. We estimate that these member 
firms operate more than 6,000 facilities nationwide. The NGFA's member 
firms have relied for years on U.S. agricultural futures markets to 
hedge their price and inventory risk, and to aid them in assisting 
producers to market their commodities and manage risk. As first-
purchasers of grains and oilseeds from producers, these firms rely on 
efficient and well-functioning futures markets for price discovery and 
risk management, and to help them provide marketing options for their 
producer customers.
Financial Liquidity Crisis
    On May 15, the NGFA testified before the Subcommittee on General 
Farm Commodities and Risk Management that grain elevators were feeling 
financial stresses due to historically large borrowing to finance grain 
inventory and margins necessary to maintain hedges. Today, spiraling 
commodity futures prices have brought additional challenges to our 
industry. If grain and oilseed prices continue to advance, we will 
experience a further crunch on liquidity among grain hedgers that could 
force companies to reduce cash grain-buying activities and could 
ultimately cause additional company consolidation.
    Typically, when producers want to market their crops, one of the 
primary tools they utilize is forward cash contracts written with their 
local elevator. When the elevator contracts with the producer to 
purchase cash grain--often for delivery many months later--the elevator 
hedges its cash position by selling futures on an exchange like the 
Chicago Board of Trade, the Kansas City Board of Trade, or the 
Minneapolis Grain Exchange. The elevator performs a valuable service 
for the producer by assuming price risk on his behalf.
    The problem this year is that futures prices for agricultural 
commodities have reached record levels, spurred upward by historically 
tight supplies, flooding in the Midwest, and an influx of speculative 
investment capital. An elevator that forward contracted with a producer 
last year and sold futures on-exchange--a tried-and-true, prudent risk 
management strategy--now has seen futures prices advance to record 
levels. As the gap between the elevator's short futures position and 
the current futures price has grown, the elevator has been obligated to 
meet ever-growing margin requirements established by a futures 
exchange--margin requirements that we recognize as legitimately needed 
to protect the financial well-being of the exchange and its clearing 
corporation. Add to this the increasingly expensive financing of grain 
and oilseed inventories and the elevator's borrowing needs have become 
immense.
    To illustrate the heightened harvest borrowing needs of a typical 
country elevator today, the following simulation is derived from an 
aggregate of the customer base of an NGFA-member firm that provides 
futures and option brokerage services to the agricultural industry, 
along with offering hedging education and merchandising risk-management 
services. It arrives at an ``average'' case that is illustrative of 
conditions faced by a ``typical'' commercial grain hedger today to 
purchase inventory--increased borrowing needs in the range of 250&300%.



    To help further understand the financial stresses a ``typical'' 
elevator might face when hedging forward purchases, a separate but 
related exercise looked at a selected group of elevators for whom the 
actual weighted average per bushel ``loss'' on open 2008 crop, 2009 
crop and 2010 crop hedges were $1.46 for corn, $4.47 for soybeans and 
$3.51 for wheat, for a total weighted average hedging loss of $2.49 per 
bushel (Figure 2). Applying those averages to several real-world 
elevators who buy grain from producers and hedge on-exchange shows that 
a ``typical'' country elevator's hedges could be ``under water'' in 
amounts ranging from just less than $1 million to almost $8 million, as 
a consequence of forward contracting with its producer-customers. 
(Note: these figures are not specific to any one elevator; they are 
illustrative in nature but believed to be indicative of actual hedging 
results.)


Figure 3):


    Looking at these numbers, it is not difficult to understand that 
one consequence of this financial liquidity squeeze is that many 
elevators have been forced to restrict or even eliminate forward 
contracting with producers. This is a very unfortunate situation given 
that many producers rely exclusively on cash forward contracts to 
manage price risks. Many elevators are unable to access enough funding 
to finance hedges on new-crop forward purchases, and many view the 
risks of forward purchases in an increasingly volatile marketplace as 
being unmanageable. This is a significant shift in the way our industry 
does business, and has frustrated producers who would like to lock in 
attractive prices for this fall's harvest.
    We believe the lenders who do business with our industry have done 
a good job to date in responding to borrowing needs that are several 
multiples of normal, expected levels. However, we are hearing from our 
member companies that some lenders are at or near their lending limits, 
while other lenders may have access to sufficient funds but are 
reaching the upper bounds of the business risk they are willing to 
assume. In our current tight stocks situation, additional price 
advances likely would result in elevators being unable to access 
sufficient funds for operations and for margining. In a worst case 
situation, another weather event or other supply disruption this summer 
could drastically deepen the financial difficulties for our industry, 
cause further consolidation, and further reduce cash grain bids 
available to farmers.
    The NGFA is not requesting any specific action by this Committee or 
by Congress at this time to respond to the financial liquidity crisis 
our industry is facing. However, we do want the Committee to be aware 
of the situation, and we would like to keep you apprised as we move 
into the critically important summer growing season.
    I would add one final observation regarding our industry's 
financial liquidity crisis and escalating commodity and food prices. At 
its core, the problem goes back to supply and demand fundamentals. 
Today, U.S. grain and oilseed production is having trouble keeping up 
with growing demand driven by increasing consumption in developing 
countries like China and India; the continuing growth of the U.S. 
biofuels sector; and other factors. Grain stocks have declined in 6 of 
the last 7 years. We have seen market disruptions this year due to 
weather problems in the Midwest. The current very tight supply/demand 
situation is bound to result in higher commodity prices that will be 
attractive to non-traditional market participants. One much-needed 
response, for which the NGFA has called for many months, is for 
Secretary of Agriculture Ed Schafer to announce a penalty-free early-
out from Conservation Reserve Program contracts on cropland that can be 
farmed in an environmentally sustainable way.
Futures Market Transparency
    The NGFA's legislative priority with regard to futures markets is 
to enhance transparency. Knowing who is participating in agricultural 
futures markets and being able to gauge the impact of participants is 
critically important to grain hedgers. The CFTC made an important 
advance in this respect early last year when it implemented a new 
``Index'' category in the weekly Commitments of Traders report. 
However, with the continuing influx of speculative investment capital 
into agricultural futures markets, and the advent of new market 
participants like exchange-traded funds (ETFs) and exchange-traded 
notes (ETNs) we believe additional reporting and transparency is 
needed.
    The challenge is identifying all market participants that should be 
subject to enhanced reporting and, in turn, that should be reported on 
by CFTC. Index funds, pension funds, swaps dealers, ETFs, and ETNs all 
participate primarily on the long side of futures markets, and we 
believe they should be required to report to CFTC on their exchange-
traded positions. However, there may be other new and developing 
participants who should be subject to reporting too; the challenge is 
how best to describe all the players correctly.
    We would advise Congress against overly prescriptive approaches, as 
it is difficult to anticipate outcomes and reactions of market 
participants. It is not sufficient simply to require reporting from 
``passive, long-only'' participants. Some of the above players may 
currently have short positions in futures markets; and some of them 
might ``go short'' in a few small positions just to avoid reporting 
requirements. In addition, as the market adjusts and likely goes into a 
downward price trend at some point in the future, these participants 
may adopt investing strategies that call for greater percentages of 
commodity assets in short positions. We need to look to the future and 
try to craft legislation that foresees these possibilities, and we look 
forward to working with Congress in this effort.
    We also would caution against Congress attempting to legislate 
things like margin requirements or the share of futures positions that 
certain types of participants can hold in agricultural futures markets. 
These kinds of proposals have been made by various Members of Congress 
with regard to energy markets. For agricultural markets in particular, 
we believe the establishment of appropriate margins for various market 
circumstances is best left to the exchanges and their clearing 
corporations, which are in the optimal position to make determinations 
about what is needed to safeguard their financial integrity. We would 
also fear the ``law of unintended consequences'' might apply in this 
case, and that attempts to regulate ``speculators'' could overreach and 
affect participants who are very important to providing liquidity in 
agricultural futures markets.
Futures Market Performance Issues
    The NGFA's final major concern revolves around the performance of 
U.S. agricultural futures markets. It is of paramount importance that 
futures exchanges continue to serve their long-established roles of 
price discovery and risk management for traditional users like grain 
hedgers. We are deeply concerned that agricultural futures markets are 
not satisfactorily performing those functions today.
    In our May 15 testimony to the Subcommittee, we submitted evidence 
that cash and futures convergence in grain and oilseed contracts, a 
bedrock principle for the hedging efficiency of futures markets, has 
been compromised in recent months. That remains true today. Genuine 
convergence occurs less often and only for short periods of time. The 
band, or range, of convergence has widened due to several factors, 
including: (1) higher and more volatile transportation costs, including 
higher fuel costs; (2) demand for storage created by biofuels growth; 
and (3) the futures market running ahead of cash values due to the 
infusion of speculative investment capital.
    This lack of convergence--or ``divergence'' as some are calling 
it--is evident in wider basis levels between cash and futures. Cash 
bids to producers at any given location and time still reflect the true 
value of physical commodities, but rapid advances in futures price 
levels have widened basis to levels not historically expected.
    As mentioned above, many factors are at work to influence price 
levels and basis: transportation and fuel costs; changes in supply/
demand fundamentals; carry-over inventory levels; farmer selling; 
storage rates; and more. Changes in any of these factors can result in 
significant changes to basis levels, and today we are seeing many 
changes occurring simultaneously. However, we believe that the 
participation of large amounts of speculative investment capital like 
index and pension funds into agricultural futures markets is causing 
disruption in markets and resulting in futures prices that no longer 
reflect true supply/demand fundamentals.
    In today's marketplace, it is critically important that all market 
participants--including farmers and grain elevators--be able to see and 
understand the impacts of non-traditional participants like index funds 
and others mentioned above. With supplies tight, demand high and 
volatility increasing, proper identification and reporting of 
speculative investment capital in agricultural futures markets should 
be a priority.
    Thank you again for the opportunity to participate in today's 
hearing. I would be happy to respond to any questions, and to assist 
this Committee in development of any legislation that may move forward.

    The Chairman. Thank you, Mr. Keith.
    Mr. Johnston.

   STATEMENT OF JOHN L. JOHNSTON, INDEPENDENT TRADER, IB AND 
     PRECIOUS METALS AND ENERGY CONSULTANT, MORRISTOWN, NJ

    Mr. Johnston. Good morning. I am John Johnston. I am a 
trader. I would say there are very few days in the last 20 
years where I haven't had a crude position. And I am going to 
speak like a trader.
    I believe the passive long investor through the use of 
commodity index derivatives has unwittingly cornered the WTI 
light sweet crude oil market.
    The NYMEX futures are not oil. They are a 17th century 
financial creation whose use has been, until recently, to help 
a small community of producers, consumers, trading brokers or 
exchange locals and speculators manage their price risks. All 
futures have historically been limited by their own supply and 
demand rules. If a trader is short in NYMEX, there is no 
substitute. He either buys or covers the futures contracts or 
the trader must deliver the physical material. Since the 
passive investor never liquidates his position, the short must 
find another seller or the physical commodity to make a 
conforming delivery.
    Note, the passive long investor does roll a transitory and 
equal amount periodically as the futures contract expire. But 
the sale is a linked part of a calendar spread. For all intents 
and purposes, the passive long never contributes liquidity to 
the futures markets.
    Here is the rub. The passive long position, as reported by 
credible sources, is estimated to be a weighted AIG/GSCI 
equivalent of 1.4 million contracts of crude oil, heating oil, 
gasoline and gasoil of NYMEX and/or NYMEX/ICE futures. 
Combined, NYMEX and ICE, crude oil, heating oil, gasoil and 
gasoline open interest is equal to approximately 3.5 million 
contracts. Therefore, the passive long-only index position is 
equal to 40 percent of the combined long NYMEX and ICE open 
interests. Otherwise stated, 40 percent of the long open 
interest has effectively ceased to exist from the liquidity 
pool. Therefore, there are only .6 longs available for every 
one short.
    Think of it like six girls and ten guys at a dance. This 
imbalance is dynamic. As the market goes down, the active 
number of longs gets smaller. They sell. And the number of 
passive longs gets larger. They buy. The relative ratio of 
shorts to passive longs goes up and creates a supply void. 
Traditional supply and demand fundamentals are subordinate to 
this elementary math. One contract wanted, .6 offered. As long 
as this architecture is in place, the market for paper barrels 
of WTI light sweet crude oil on the NYMEX or ICE cannot go 
down. The buyer is facing a chronic deficit in the daily 
auction supply of futures, and the resulting outcome in terms 
of price is certain.
    What is happening in energy markets is not much different 
in result than an old-fashioned commodity squeeze. The passive 
longs own a critical percentage of the stock or supply of daily 
liquidity. But the cast of players and the motives driving 
prices are as different as the definition of each found in my 
opening paragraphs. It is not important why or if the motives 
are legal or moral. It only matters that the opposing shorts 
must auction and exit from their losses by paying a premium to 
another seller who will risk, take the former's place. But the 
passive long never sells. And the new short faces the same 
structural imbalance as the price spirals higher and higher, 
ever replacing one group of short sellers with another. The 
auction resets over and over again at higher prices, but the 
architecture does not change.
    The remedy in my opinion; the most effective way to deal 
with a problem is to raise the cost of being long and 
derivative exposure to all commodities on all venues, futures, 
OTCs, ETFs and options. If the cost of being long changes, 
investment committees will recognize the change and adjust 
their allocations.
    I am certain if margins and credit requirements were raised 
on long positions only, except consumer hedges, crude oil would 
fall immediately and precipitously. I do not suggest inhibiting 
normal daily use of futures by bona fide hedgers who need 
protection from unforeseen negative events and prices. I do 
suggest a deliberate clear message: The party is over.
    Let's see, I only have 40 seconds left. There is no such 
thing as a free market. Any intervention is designed to produce 
a specific result whether it is the Fed lowering the funds rate 
or the BOJ buying Yen in the open market.
    Thank you.
    [The prepared statement of Mr. Johnston follows:]

  Prepared Statement of John L. Johnston, Independent Trader, IB and 
         Precious Metals and Energy Consultant, Morristown, NJ
    Many years ago, when I first became a member of the NYMEX, I read a 
quote by Mark Twain that described a gold mine as ``a hole in the 
ground with a liar standing next to it.'' I have always remembered that 
wise adage and whenever there is some question about money in the 
commodity markets I tend to keep an eye out for the hole and the liar. 
There is a lot of murky information in this debate about index length 
and there are billions of dollars at stake, so I am careful to remind 
myself that those things which I am not allowed to see are probably 
hidden for a reason. Transparency is the key to unlocking the mystery 
of rising energy prices, and the sooner we can see who has what 
position and how big it is, the sooner this episode will be a part of 
history.
    I have been working in the commodity futures industry for 33 years 
and I have been a member of the COMEX and/or NYMEX for 31 years. The 
opinions I intend to offer on the challenges of the commodities markets 
are not unlike the views of a sailor discussing the challenges of the 
sea: there are great natural forces at work and a good deal of 
intuition is needed to chart a safe course.
    Pundits and journalists have recently demonized `the speculator' as 
the root cause of high oil prices. I would like to be clear at the 
outset that I do not believe speculators deserve to be blamed for the 
current situation. Rather, I propose the root cause of high oil prices 
is the Commodity Index Investor or the ``Passive Long'' investor. I 
believe the passive long investor, through the use of commodity index 
derivatives, has unwittingly cornered the WTI light sweet crude oil 
futures market. The following discussion will make a case for 
understanding this blameless, yet extremely dangerous condition on 
futures exchanges and in leveraged derivative markets.
    The market activities of the passive long investor and the 
speculator are polar opposites. The speculator has an investment 
strategy that relies on responding to market conditions. He manages and 
assesses his risk by evaluating changing market conditions and 
information. He will be either long or short, without bias. Conversely, 
a passive long investor invests a set allocation of assets as directed 
by a risk Committee, following a long only investment model. It is 
important to note that although the portfolio may be rebalanced, or the 
percentage of total assets increased or decreased, this investment 
model is always long. In the case of the passive long investor, the 
commodity index investment is used to stabilize total returns to the 
portfolio and not to achieve them. Thus the position remains completely 
passive; the investor is not seeking returns or managing risk and the 
index length will remain in the portfolio until the entire fund is 
liquidated. The long-only commodity index position merely exists and 
requires no measure of active management or maintenance other than 
periodic rollovers.
    There are a lot of estimates as to the size of the commodity index 
position held by these passive long investors. The numbers most 
commonly accepted are about $250 billion dollars, of which a weighted 
AIG/GSCI energy allocation of 48% equals about 1.4 billion barrels of 
crude oil, heating oil, gasoline and gas oil. If the current estimated 
passive long energy position were to be sold at the rate it has taken 
to acquire, it would add in the neighborhood of one million barrels to 
daily supply for ^4 years. It should be noted that during the period of 
liquidation, the net effect of a loss of one million barrels in demand 
(they stop buying) and an addition of one million barrels in supply 
(they start selling) would mean an increase of two million daily 
barrels to the supply and demand equation. It does not take much 
imagination to estimate the effect such liquidation would have on 
prices. Personally, I believe the positions of the passive long 
investors are much larger than estimated above.
    Because crude oil and crude oil products require tremendous 
physical resources to transport and store, the supply/demand equation 
is tightly balanced. Elasticity in the physical system is limited to 
storage, shipping, and tankage. If total world consumption is 85 
million barrels per day, then the system must produce at least 85 
million barrels or the marginal excess demand will become apparent in 
market prices spontaneously. Conversely, because the economics of the 
infrastructure supporting physical crude oil impose limitations on 
excess commercial supplies, any surfeit will become equally apparent in 
the board price at the futures exchanges. This is the primary function 
for which futures exchanges were created: to buffer price volatility 
caused by short term gaps in the production/consumption chain. They 
were never intended to provide a long term leveraged liquidity venue 
for an investment community abstractly allocating of hundreds of 
billions of dollars.
The Problem
    Oil futures are not oil.
    The core problem is in the daily auction of futures. If you have 50 
futures offered and 50 futures wanted, you have a balanced auction. If 
you have 48 futures offered and 52 futures wanted and you have an 
imbalance. The discovery of a price for the futures contract in 
question is not found in the transaction of the 48 which are balanced; 
rather it is the four demanded that have yet to be satisfied by a 
seller that set the price. In sum, it is the marginal excess of supply 
or demand which defines the benchmark price in the daily auction.
    NYMEX futures are not oil. They are a 17th century financial 
creation whose use has been, until recently, to help a small community 
of producers, consumers, trading brokers (or exchange locals) and 
speculators (as defined above) manage their price risks. All futures 
have historically been limited by their own supply and demand rules. If 
a trader is short NYMEX futures there is no substitute: either he buys 
or covers the futures contracts or the trader must deliver the physical 
material. Since the passive investor never liquidates his position, the 
short must find another seller or the physical commodity to make a 
conforming delivery. Note: the passive long investor does roll a 
transitory and equal amount periodically as the futures contracts 
expire but the sale is a linked part of a calendar spread. For all 
intents and purposes, the passive long never contributes liquidity to 
the futures markets.
    Here is the rub:

    (1) The passive long position, as reported by credible sources, is 
        estimated to be a weighted AIG/GSCI equivalent of 1.4 billion 
        barrels of WTI light sweet crude heating oil, gasoline and gas 
        oil or equal to 1.4 million contracts of crude oil, heating 
        oil, gasoline and gas oil of NYMEX and/or ICE futures.

    (2) Combined NYMEX and ICE crude oil, heating oil, gasoil, and 
        gasoline open interest is equal to approximately 3.5 billion 
        barrels or 3.5 million contracts.

    (3) Therefore: the passive long only index position is equal to 40% 
        of the total combined long NYMEX and ICE open interest. 
        Otherwise stated 40% of the open interest has effectively 
        ceased to exist from the liquidity pool.

    (4) Therefore: there are only .60 longs are available for every 1 
        short.

    Think of it like six girls and ten guys at a dance.

    This imbalance is dynamic: as the market goes down the active 
        number of longs gets smaller (they sell) and the number of 
        passive longs gets larger (they buy). The relative ratio of 
        shorts to passive longs goes up and creates a supply void. 
        Traditional supply and demand fundamentals are subordinate to 
        this elementary math: one contract wanted, .60 offered. As long 
        as this architecture is in place the market for paper barrels 
        or for WTI light sweet crude on NYMEX or ICE cannot go down. 
        The buyer is facing a chronic deficit in the daily auction 
        supply of futures and the resulting outcome in terms of price 
        is certain.

    (5) What is happening in energy markets is not much different in 
        result than an old fashioned commodity squeeze. The [passive] 
        longs own a critical percentage of the stock or supply of daily 
        liquidity, but the cast of players and the motives driving 
        prices are as different as the definition of each found in my 
        opening paragraphs. It is not important why, or if the motives 
        are legal or moral. It only matters that the opposing shorts 
        must auction an exit from their losses by paying a premium to 
        another seller who will [risk] take the former's place. But the 
        passive long never sells. And the new short faces the same 
        structural imbalance as price spirals higher and higher ever 
        replacing one group of short sellers with another. The auction 
        resets over and over again at higher prices but the 
        architecture does not change.

    (6) There has been a. 99% positive correlation between the NYMEX 
        crude contract and the Goldman Sachs commodity index over the 
        last 2 years. This means that the market prices the entire 
        Goldman Sachs Commodity Index at nearly at par with the NYMEX 
        crude oil contract every day It begs one to ask if the 
        estimates of 48% of the index being allocated to energy are 
        perhaps low.

    (7) It is ironic, but there are no criminals violating laws or 
        rules. And . . . there are no winners: the overall portfolio 
        that the commodity index was intended to defend suffers at an 
        exponentially greater rate with each uptick in crude prices. 
        Higher energy prices mean lower prices for stocks and bonds.

The Remedy
    In my opinion, the most effective way to deal with the problem is 
to raise the cost of being LONG in derivative exposure to commodities 
on all venues: futures, OTC, ETFs, and options.
    If the cost of being LONG changes, investment committees will 
recognize the change and adjust their allocations. This can be done by 
raising margins on LONGS, demanding and enforcing greater transparency 
of OTC swap positions and reporting the same to the market.
    I am certain if margins and credit requirements were raised on all 
LONG POSITIONS ONLY except consumer hedges, crude oil would fall 
immediately and precipitously. I do not suggest inhibiting the normal 
daily use of futures by bona fide hedgers who need protection from 
unforeseen negative events and prices. I do suggest a deliberate clear 
message that the party is over.
    Asking to raise margins on longs only may seem prejudicial, but if 
margins are raised on longs and shorts equally, prices will explode. In 
an up market rising margins put increasing pressure on the short. 
Margins have traditionally been increased in rising markets to assure 
performance rather than influence behavior, but the crude market is a 
moving target and American citizens are getting hurt. I suggest the 
first order of business is to inhibit buyers through tighter credit and 
higher margins on longs. Investment Banks, passive investors, and 
producers don't need to be coddled and any complaints of encroachment 
on free and fair markets would be disingenuous to say the least. There 
is no such thing as a ``free market''. Any intervention is designed to 
produce a specific result, whether it is the FED lowering the funds 
rate or the BOJ buying Yen in the open market.
    In my opinion, the slightest hint that the Congress might be moving 
to deleverage energy derivatives would have a chilling effect on 
prices.
    Finally, so much information is hidden it is impossible to be 
accurate unless changes are made to allow greater transparency. I would 
ask the banks who have been a part of the debate to stop making a case 
for right or wrong. I don't think anyone has a perfect answer but 
stubbornly insisting that only one side of the debate is correct is not 
the beginning of a solution. It seems reasonable that institutions who 
have relied on the American people for solvency in recent months might 
be willing to oblige the government in its efforts to understand and 
deal with the effects of rising energy prices rather than arguing the 
truth lies only with them. I would also suggest the congress and its 
Committees contact passive investors directly and inform them that it's 
possible some of their investment objectives might be doing serious 
damage to the nation and its citizens. I think an effort like that 
might be well received. Maybe we just need a time out to get a better 
look at things. Handicapping margins on LONGS and I mean a hard sharp 
increase on all long positions (including Wall Street trading desks, 
day traders, and producers) will create that pause and oil prices will 
go down and stay down for quite a while.
    Allow me to thank you for the opportunity to discuss these issues 
and offer my opinions.

    The Chairman. Thank you, Mr. Johnston.
    Mr. Duffy, you are right. Several of our colleagues have 
put forth legislation to increase margins. So can you tell us a 
little bit about the process of what is their purpose? How are 
they determined? And do all players play by the same rules in 
the marketplace when it comes to margins?
    Mr. Duffy. Absolutely. When it comes to margin, just so the 
Committee understands, in the futures industry it is a 
performance-based margin unlike that in an equity market where 
you are buying an asset. So if you were to be buying CME stock, 
you would need to put up 50 percent of the margin. If you are 
buying a Euro, dollar, or a corn contract on a CME exchange, 
you are not buying anything except for price for a later date. 
So what the margin is put in place for is to protect the 
integrity of the clearinghouse on any 1 single day's loss. So 
from one participant to the other can be paid in cash, which we 
do settle twice daily. We hold several billion dollars each day 
and we move $6 billion back and forth from market participants.
    So performance-based bond margin and futures are completely 
different than the equity markets of margin, if that answers 
your question, sir.
    Mr. Holden [presiding.] Thank you. Mr. Keith, as Chairman 
Peterson mentioned to the previous panel, we are very much 
concerned on this Committee about stability in the futures 
market for agriculture commodities. If we were to increase 
margins primarily because we are looking at speculation in the 
oil market, what would that do to the ag commodity futures 
market? How would that affect the players and the producers, 
and so forth?
    Mr. Keith. Well, I think from our perspective, if the 
approach is only in the energy markets, we would just be 
concerned about precedent. We just think it is--the margin 
setting authority has traditionally been with the commercial 
marketplace, and it is not intended to curb any types of 
activity necessarily. There has been a difference in 
speculative margins and hedge margins, and that is 
understandable. But it is really up to the exchange and the 
people that have the money at risk, as Mr. Duffy said, it is to 
ensure a performance on the contract. It is not a credit 
transaction.
    Mr. Holden. I guess what I was trying to say, Mr. Keith, we 
understand that if--we don't want to do something just on the 
energy side because if there is speculation, it will move over 
to the commodity side. But if we did something universally----
    Mr. Keith. Yes.
    Mr. Holden.--would the small guy be able to have the 
security in the market and would he be able to play if margins 
were increased? The ability?
    Mr. Keith. Well, if the hedgers from our industry, in 
effect, are faced by artificially higher margin requirements 
than what the exchange thinks is necessary, then yes, it would. 
And this would be the worst time ever to increase margins 
artificially in our industry. We are having a difficult time as 
it is to meet margin calls set by the exchange on the basis of 
market risk.
    Mr. Holden. Thank you.
    Mr. Conaway.
    Mr. Conaway. Thank you, Mr. Chairman. Mr. Keith, just to 
flush that out, I am told by ag participants that given these 
higher prices which drive higher margin calls, that just the 
mere function of the price going up makes it difficult for them 
to be able to use the markets in ways to meet their price risk. 
Is that sort of the mechanics of what happens? The price goes 
up, the margin requirement goes up?
    Mr. Keith. For the most part, our industry is long on cash 
and short on the board and the board of trade. And yes, when 
the prices go up, you have to set up margins to cover.
    Mr. Conaway. Thank you. We are hearing an awful lot about 
excess speculation in the oil markets driving the prices up. 
But we have seen dramatic increases in grain and other ag 
commodities. Where is the hue and cry to eliminate the excess 
speculation there?
    Mr. Keith. Well, we think that--based on my testimony, we 
think that we have to measure the participants in the 
marketplace better than what we have to date to understand what 
is going on.
    Mr. Conaway. You are talking about the ag markets?
    Mr. Keith. Yes. Until we do that, we don't really think we 
can make a lot of judgments. But if you ask the majority of my 
membership, they would probably agree that the new players in 
the marketplace have had some effect on prices. In essence, 
though, we think if we solve our convergence issues in those 
markets, then ultimately cash and futures have to go back to 
tracking each other better than they are today. And that would 
solve--if there is excess speculation, that is a solution to 
it.
    Mr. Conaway. But don't we see that convergence in the oil 
markets now? There is not a divergence in the oil market, 
right?
    Mr. Keith. I am not an expert on oil markets. But we are 
having difficulty in terms of consistency in convergence today. 
We get it occasionally, but it is not like it used to be. With 
the volatility that we have in ag markets and oil markets 
today, you can't expect the kind of convergence that we had 
when corn was $2 and varied within 25 cents for the whole 
season. It is just not going to happen.
    Mr. Conaway. Thank you, sir.
    Mr. Duffy, Mr. Johnston laid out some specifics and 
fortunately warned us that he was going to talk like a trader, 
so much of what he was saying I think I understood. And it is 
not a debate but could you give us your sense of, have these 
passive long folks actually cornered the market in paper 
barrels?
    Mr. Duffy. I guess I could put my 25 year trader hat on 
myself, too. I spent a lot of time on the exchange before I got 
into the management of the business. The passive long investor, 
what the gentleman was referring to, that they don't sell is 
absolutely erroneously wrong. They do sell. They come to 
expiration each and every quarterly or whenever the contract is 
at maturity and they sell. It is indisputable: they sell. And 
they then move forward with the next contract.
    Now I believe Dr. Pirrong gave very strong testimony 
yesterday citing how futures markets work. When they come to 
maturity, if the commercials don't believe that that price is 
appropriate, they will either act on that by either making or 
taking delivery or liquidating their position and going on to 
the next month. And that is exactly what we are seeing. And I 
am not speaking just to the energy markets but to the ag 
markets also.
    So I disagree with what the gentleman said. It is just 
wrong. In futures contracts, sir, as you all know, there is an 
unlimited supply for futures contract. For every new long there 
is a new short. So you can constantly create new participants 
in the marketplace. And if you have 60 percent that are not 
even participating, they are not affecting the market up or 
down. So if the market was to go down, they are not selling 
either. So I think they provide a very vital role to the 
liquidity of the marketplace. So I disagree with most of the 
statements.
    Mr. Conaway. Mr. Johnston, you want to kind of flush out 
what your comments were?
    Mr. Johnston. They don't sell. They roll. That means they 
affect a simultaneous purchase and sale on a calendar spread. 
Once they entered the long, that is it. They are long. They are 
long forever. And that long position never goes away. When you 
are trading----
    Mr. Conaway. Well, technically that contract has an 
expiration.
    Mr. Johnston. Well, it expires. But it is simultaneously 
translated into the next month, as everybody else is. So you 
have a summary amount of length and shorts, whatever the open 
interest is. Let's just say it is a million longs. You have a 
million longs, a million shorts.
    Mr. Conaway. Sure.
    Mr. Johnston. The passive long is constantly acquiring a 
greater and greater percentage of the long side of that market. 
And passive means passive. It means he is unresponsive to 
price. It means he doesn't care if you are starving, it means 
he doesn't care if you are freezing. He has a mandate set by a 
risk committee. A year ago----
    Mr. Conaway. Excuse me. He does not care about the price? 
So if the price went down, he doesn't care?
    Mr. Johnston. He is going to acquire the length required in 
order to fill his investment mandate, and he will maintain it.
    Mr. Conaway. So he cannot lose money on those contracts?
    Mr. Johnston. It doesn't mean that he can't lose money. It 
means that he doesn't care because his investment----
    Mr. Conaway. He doesn't care if he loses----
    Mr. Johnston. Not at all. The whole idea, the paradigm of 
passive investing is to stabilize returns, not to achieve 
returns. It is a noncorrelating asset class. So if stocks and 
bonds are going up, usually commodities are going down. That is 
the theory. Right now stocks and bonds are going down. 
Commodities are going up. So from that point of view, the 
paradigm is performing. But where it mixes things up in 
commodities is the passive long is virtually indifferent to 
price discovery, liquidity. He makes no contribution to that. 
What he does is he owns a huge stock of the daily liquidity 
supply and he does not contribute that ever.
    Mr. Conaway. So squeezing additional liquidity out of the 
market would be helpful? 
    Mr. Johnston. He doesn't even know he is squeezing 
anything. What he has done is he has made a decision in 
Committee. Here is a good example. Last February a lady came on 
TV from CalPERS and said, ``We had $500 million in commodities 
for the last few years. It has been great. We are going to 
raise it sixteen-fold this year and go to $7 billion.'' You do 
the math on that. GSCI website says it is 77.5 percent energy. 
That meant that they were going to pick a window of liquidity 
this year and buy 55,000 lots of energy. I know everybody is 
kind of grappling with, is a million big, is this small? Take 
it from me, a 55,000 lot buy order going into energy is 
massive. It is huge. And you can pick the dates. You can call 
CalPERS. I suggest you do that and say, hey, when did you make 
this announcement? And look what happened to crude oil. There 
was a frantic tormented demand for liquidity in crude following 
in the next 4 weeks.
    Mr. Conaway. So if CalPERS had said, we are going to buy--
--
    Mr. Johnston. We are going to buy $7 billion worth of 
commodities.
    Mr. Conaway. But if CalPERS had said we are going to buy 
that much in stocks, wouldn't that have been the same thing?
    Mr. Johnston. Stock is different.
    Mr. Duffy. With all due respect, sir, if I could just 
clarify--55,000 contracts is the number I think you stated. The 
volume on the New York Mercantile Exchange on any given day is 
about two million contracts. So you are talking about a very 
small percentage of an order going into the marketplace. We are 
not ever saying that one large buy order or one large sell 
order cannot have a short-term effect on a market. But it 
always goes back to equilibrium.
    So I think that it is very misleading when he is trying to 
tell the Committee 55,000 is a lot of contracts. It is not. CME 
Group trades 15 million contracts a day.
    Mr. Johnston. Okay.
    Mr. Conaway. Thank you, Mr. Chairman.
    The Chairman [presiding.] The gentleman from North 
Carolina.
    Mr. Etheridge. Thank you, Mr. Chairman. Let me thank each 
of you for being here.
    For those who are watching this today who are probably not 
familiar with this, they all think they are short if they are 
consumers. I guarantee you, my folks at home, the farmers, the 
merchants, everyone really believes they are being short, and 
so they are trying to get to this so we get some balance back 
in this thing.
    Mr. Johnston, let me ask you a question. Mr. Duffy 
described the purpose of margins as a performance bond designed 
to ensure that contractual obligations are met and that the 
clearinghouses can fulfill their responsibilities. My question 
to you, do you agree with this description, or do you think 
margins serve another purpose?
    Mr. Johnston. I think they serve another purpose.
    Mr. Etheridge. And would you explain.
    Mr. Johnston. Well, if we were in the 19th century, I would 
say that is true, it was a true statement. But since the 1980s, 
when we had managed futures and there was a great concentration 
of capital in and around futures and it has morphed into this 
marketplace that it is now, margins can and should mean more. 
And right now we need some form of intervention rate in order 
to stop what is happening to energy.
    And when I suggest saying, just raise margins on the longs, 
I guarantee you, that will have an impact. It will soften what 
is going on in terms of the up move. It will actually make it 
go down. Because you are taking a situation where there is 
tremendous asymmetry of resources, where you have this 
community of people who have trillions of dollars to allocate. 
And they are not really thinking that well. They are saying, 
``Okay, well, let's throw a few billion here, and we will put a 
few billion there and we will see what the returns are.'' Well, 
in the little world where people are actually working and 
buying this stuff, it is having tremendous impact. So I am 
saying, let's have an ascending rate of margins. If you have 
10,000, you pay a minimum margin. If you have 20,000, well, you 
pay 50 percent. So you think, gee, do I really want 20,000? And 
if you are going to go to the area where you are carrying 
30,000&50,000 contracts of futures, I think you should be 
putting up the full amount cash. If they have the bills, let's 
see 'em. Bring 'em in. Let's see 'em. Put them up.
    Mr. Etheridge. Let me follow that with the following 
question, and I will let the others comment if we have time 
left. You advocate, as you just said, margin requirements for 
over-the-counter transactions as well, given the over-the-
counter participants separately negotiating the credit risks 
associated with the swap and the swaps often are, as you well 
know, unique tailored estimates and agreements that differ from 
each other. I guess my question would be, how would the CFTC 
impose the appropriate margins on each over-the-counter 
transaction? And if they do, do you think the CFTC has the 
resources to perform these functions? Or what should we do to 
deal with that?
    Mr. Johnston. I don't know. And I don't know.
    Mr. Etheridge. I guess that is an answer. Do either one of 
you want to comment on the previous two questions?
    Mr. Keith. I would like to comment on the concept of having 
higher margins on the longs.
    Mr. Etheridge. Longs. Thank you.
    Mr. Keith. We don't think that is the right approach. We 
think we are going to run into situations where we have funds 
that are net short. And some people are going to accuse the 
funds then of forcing prices lower more quickly than they would 
be otherwise. And what are we going to do? We are going to 
switch on the downside and penalize the people that are going 
short with higher margins? I think that that is just not good 
Federal policy.
    Mr. Duffy. I would like to echo those comments. Margins, as 
in my testimony, is no way to effectuate price whatsoever. We 
have seen prices increase in crude oil, we have seen price goes 
up in grain products. And the margin goes up but the price 
doesn't come down. It is strictly there based on volatility to 
protect the integrity of the clearinghouse. It has nothing to 
do to affect the price and I completely agree with Mr. Keith. 
You have people on both sides of this market. You are going to 
create yourself an issue. I guarantee you, if corn starts to go 
down, and these funds are big shorts and start to add onto 
positions, you will be sitting in this room trying to figure 
out how to get rid of $1.50 corn then. Now what are we going to 
do? We are going to raise the margin for the shorts again. Then 
we will get back to the gentleman on the left to fix his 
problem again. It is just ludicrous to think that margins have 
anything to do with price.
    Mr. Johnston. Can I respond to that?
    Mr. Etheridge. We have about 20 seconds.
    Mr. Johnston. I think it is essential you weigh out the 
effect of what is happening to people in energy right now. Like 
you say, they are losing their jobs, they are losing their 
businesses and we need to deal with this. We need to get this 
price to stop doing what it is doing, and through margins we 
will do that cheaply and quickly.
    Mr. Etheridge. Thank you. Mr. Johnston, just a final point. 
You are making proposals dealing with margins, and you didn't 
know on the other one. I would suggest you go back and research 
that. We would appreciate having a response on that in writing 
because you made some pretty broad proposals here, and then you 
don't know what those proposals do.
    Mr. Johnston. I don't have any experience in OTC.
    Mr. Etheridge. Well, I would appreciate you taking a look 
at that and getting back because that would have an impact just 
like it did on the other markets.
    I yield.
    The Chairman. The gentleman from Georgia.
    Mr. Marshall. Thank you, Mr. Chairman. I find myself in 
agreement with Mr. Duffy's remarks concerning the purpose of 
margins and the likely effect of different proposals that have 
been made. It just seemed to me that risk management models 
that have been developed by CME and others are truly models for 
the industry generally. Frankly I think the SEC and that entire 
side of the financial services industry is well behind the 
times in appropriate management of risk.
    I don't, however, agree, Mr. Duffy, with your assessment of 
the impact of this passive money. I think Mr. Johnston has a 
better case there based on what I have been hearing for several 
days now. It is not that I feel like I have a complete handle 
on this. I don't think anybody really does have a complete 
handle on this. I think that in a sort of abstract theoretical 
world somebody like Dr. Pirrong could feel like he has got an 
abstract--a perfect handle on this. But I don't think we live 
in that abstract theoretical world. I think Mr. Johnston's 
description is consistent with the description we are getting 
from any number of other people, the impact of this, and it 
makes common sense. It just seems to me the burden is on others 
to suggest that money like this wouldn't have an impact. It is 
the burden on them to prove it. Because just common sense and 
the way markets typically work, money like this does have 
impacts like that. So I just don't think that, Mr. Johnston, 
this is the solution, that it would have all the negative 
impacts that Mr. Duffy suggests it would have, and frankly Mr. 
Keith agrees.
    Mr. Keith, I find most of your suggestions to be quite 
reasonable, things we ought to be doing. I think we ought to be 
considering those things.
    Mr. Johnston, let's assume that you are right and that 
there is the problem present that you described, and many 
others described, and that we need to make some action quickly 
to deal with it. I think you were here earlier. You heard me 
suggest that perhaps the way to do this is to have federally 
set position limits that apply to all the players and then to 
provide that it will be a Federal criminal penalty, a felony 
subject to jail time by any device or mechanism to attempt to 
circumvent those federally set limits; with the idea that 
anybody is welcome to come and play in the futures market for 
whatever reasons but only to a certain extent.
    Would that have the same beneficial effect that you are 
looking for?
    Mr. Johnston. If I had known you were going to say that, I 
would not have gotten up at 2 this morning to drive all the way 
down here to talk to you.
    Mr. Marshall. Wait a minute. I am just one voice here.
    I think I was a voice all along who--and I still think that 
the long-term fundamentals where supply and demand on oil, 
where price is concerned, are absolutely heading toward higher 
prices. There is just no doubt about it. We have to take some 
action. The dollar's a big problem. I mean, there are a lot of 
things that are causing this. But part of it, I am persuaded, 
is what you are describing. How much, I don't know. But these 
markets were never intended as a place to park your money and 
just have a position in.
    The price discovery function is disserved by that. The 
confidence that people have in the market is disserved by that, 
which is bad generally for American markets, for all of our 
financial markets. I think that a simple solution might be what 
I described. That is what we did years ago with ag commodities 
once we started having these same problems where the ag 
commodities are concerned. And the reason for Federal criminal 
penalties, frankly, there are all kinds of devices to 
circumvent this if you want to. But if it is a criminal problem 
to circumvent it, then maybe you won't. What do you think?
    Mr. Johnston. I think it is a great idea. My concern is how 
long will it take to put it in place? And the risk of the 
market right now is not unlike sugar in the 1970s or silver in 
early 1980. I mean, there is an inadequate amount of liquidity 
for whatever reason to satisfy the buyers. And the slightest 
thing, whatever it could be crude could go up $20 in 1 day and 
go up another $20 the next day. I think it is up $10 in the 
last 24 hours. 
    Mr. Marshall. Well, it seems to me the market is very 
savvy, much savvier than we are about its business. And if it 
sees Congress heading in the direction I described, don't you 
think it is that savvy? It seems to me people are going to 
start thinking about liquidating their positions.
    Mr. Johnston. It is not going to change the architecture in 
the market right now. This setup that we have doesn't happen 
all the time. It used to happen when some guys would get 
together in plaid pants and foot-long cigars and say, hey, 
let's squeeze orange juice. This is an accident. It was a great 
idea; 15 years ago some smart guys got together and said, ``If 
we do this, it will be good for the overall portfolios.'' But 
it has morphed. It has turned into this massive growing 
monster. And the liquidity that is available facing the market 
now, I mean it is in the background of a very of positive 
supply-demand fundamental anyway. There is growth. There is use 
of energy. You add this kind of turbo-charging absence of 
liquidity to the market, and you are risking something that 
only commodity markets can do.
    If I sat here last November and said we would be trading 
$150, would you believe that? Would you have said, that guy is 
crazy. We are not going to $150. Well, here we are at $150. 
There is no sign that this is going to change at all. Not any 
amount of, like, down the road we are going to do something 
with limits. That is not going to stop it. That is not going to 
stop it. You have to be able to do something now. Otherwise 
what we are hearing from these people is that there are going 
to be people that are starving and freezing and dying and all 
that other stuff. And that is not what it is about. That is not 
what the market, the free market is for.
    Mr. Marshall. Mr. Johnston, thank you, sir. I yield back.
    The Chairman. I thank you the gentleman. The gentlelady 
from South Dakota.
    Ms. Herseth Sandlin. Before the hearing today, I had been 
persuaded by conversations I had been having that higher 
margins were not the answer, and I still find fairly persuasive 
Mr. Duffy's explanation for why that would cause some problems.
    But Mr. Johnston, you are putting forward some interesting 
analysis, and I think my colleagues on the Committee have done 
a good job of exploring some of this with you. Rather than the 
back-and-forth that we have had here, though in terms of where 
we need to go with further evaluating this particular issue, I 
do want to go back to a more general question for all of you. I 
think that Mr. Keith, you may have answered it in a comment 
that you had made with regard to transparency for 
nontraditional participants. But what are each of your thoughts 
on how important it is to examine and redefine who is in the 
markets? I guess that will include both on and off-exchange and 
the decision of whether an update of these definitions and 
players is needed. And if you think that it is needed, how do 
we best accomplish that goal? And if you don't think it is 
needed, why not?
    Mr. Duffy. I would be happy to take that, Congresswoman. 
You know, we as the largest regulated futures exchange not only 
in the U.S. but in the world, we agree with that. We agree with 
transparency. It has been something we have been on the record 
for many years here in Congress calling for more transparency. 
We have called for the elimination of the exempt commercial 
market over the years. We have been doing all that.
    I think the CFTC has done a terrific job. You heard Mr. 
Greenberger make some comments earlier where he thought the 
steps that they have taken have addressed a lot of the issues. 
And that is the first time I have agreed with Mr. Greenberger, 
but there are a lot of things that have gone on lately that are 
the right things. But we have been abiding by this all the 
along, and that is what a regulated futures exchange does.
    So the makeup of the participants, we have commercials 
versus noncommercials; on the hedge fund stuff, the exemptions. 
I just wanted to make one other comment about that because it 
is a class of traders that I think is important from the CME 
Group's perspective. As we have seen the price of wheat, corn 
and soybeans go to $18, $16 and houses floating down streets, 
we can understand why these products are doing what they are 
doing. But we have seen a decrease in the participants of these 
so-called passive long onlys and these products in face of 
grain products doing what they are doing.
    So the arguments to my left just don't make any sense. So I 
am sorry to get off topic a little bit, but I think that the 
makeup of the participants is being watched carefully and 
effectively on regulated exchanges.
    Ms. Herseth Sandlin. I am glad you went off topic a little 
bit because as you did, it sort of raises the issue that we are 
trying to get at and that is the immediacy of this issue. I 
agree the CFTC has taken some important steps. But I also 
believe strongly they wouldn't have, absent the Congressional 
pressure to do so, because for weeks they claimed that there 
was no problem. The fundamentals were solid. They didn't need 
any additional authorities; resources maybe but authorities, 
no.
    Well, again, as I mentioned, I am persuaded by a lot of 
what you say about the potential effect of higher margins. What 
is the best solution? Because we can't sit back--I think there 
has to be some Congressional action here.
    Mr. Duffy. We are not disputing what you are saying, 
Congresswoman. I am not going to defend the CFTC on what their 
actions were. We were on the record going back as far as 2002 
calling for some of the exemptions that were put into place. So 
there is no disagreement from CME Group.
    Ms. Herseth Sandlin. So in addition to agreeing that 
greater transparency about all the players in the market but 
disagreeing that higher margins, whether it is higher rate of--
--
    Mr. Duffy. Absolutely.
    Ms. Herseth Sandlin. What else do you think based on the 
legislative proposals that have been introduced to date? Do you 
agree with any of the other provisions in addition to enhanced 
transparency or authorities for CFTC? What else do you think 
might be a good tool to use to address this issue and the 
problems for our constituents that were best articulated so far 
today by Mr. Kagen?
    Mr. Duffy. Again, I will go to the one single word which I 
think makes the most amount of sense, and that is transparency 
and reportability and accountability. That is what a regulated 
futures market does, that is what the New York Mercantile 
Exchange does, that is what the CME Group does. So those are 
the only exchanges I can speak to as the regulated exchanges. I 
think we are doing exactly what Congress has mandated us to do 
through the 2000 Act.
    Ms. Herseth Sandlin. So on the accountability issue, what 
are your thoughts on Mr. Marshall's suggestion about criminal 
penalties?
    Mr. Duffy. Mr. Marshall very well knows as the rest of the 
Agriculture Committee knows, position limits in agricultural 
products at the CME Group are set by the United States 
Government, not by any particular entity. So we agree with him 
on the limits as it relates to our grain products. As it 
relates to energy products, there are accountability limits 
until the last 3 days, and then they go into hard limits. Pre-
2000, I believe those were all hard limits going into that. So 
I am assuming that is where Congress is going to take a look. I 
am assuming that is what Mr. Marshall is referring to.
    Ms. Herseth Sandlin. Thank you.
    The Chairman. I thank the gentlelady. The gentlelady from 
Kansas.
    Mrs. Boyda. Thank you very much. I am going back to the 
same kind of question that I had earlier. If you think this is 
mainly market-driven, then why has the price of a barrel of oil 
tripled in a year and a half?
    Mr. Duffy. Why has the cost of corn tripled in a year?
    Mrs. Boyda. You could say because oil has tripled.
    Mr. Duffy. We can see why these are happening in 
agricultural products. I don't think there is anybody denying 
in this room or anywhere else why we are seeing the price of 
agriculture doing what it is doing. We have every foreign 
government putting tariffs on the United States on exports----
    Mrs. Boyda. Excuse me. I have just a little bit of time 
here. Let me go back to oil. We have seen oil basically triple. 
Demand hasn't really substantially changed. The price of the 
dollar, cost of the dollar, the valuation of the dollar hasn't 
changed that much. What would you say is causing oil to 
basically triple?
    Mr. Duffy. I think the market in all honesty is 
anticipating higher prices down the road and that is what it 
does. If you look at a futures market----
    Mrs. Boyda. This is mainly psychological?
    Mr. Duffy. On WTI, the market is anticipating both 
commercials and processors and users. In 2012, for delivery on 
the NYMEX, they are looking at the crude oil at $140 a barrel. 
So in turn, the spot goes there. If you could fix problems 
today, that may take us several years and take the deferred 
price down, I am assuming that would affect the spot price 
also. So it is just anticipation of what the future looks like.
    Mrs. Boyda. But there isn't anything that is really----
    Mr. Duffy. I don't know. I am hearing that there is a 
finite amount of this supply and there is an appetite for more 
of it. I am not an oil expert, ma'am. So I will be somewhat 
careful. I just understand how futures markets work and what 
people are telling you what they think.
    Mrs. Boyda. Do you think----
    Mr. Duffy. Those aren't just speculative----
    Mrs. Boyda. Do you think when the oil companies say, ``By 
the way, we don't have one piece of equipment to drill 
anymore,'' what do you think that does to the price of a barrel 
of oil? Is that the sort of thing you are talking about?
    Mr. Duffy. I find that hard to believe actually, but----
    Mrs. Boyda. What?
    Mr. Duffy. That they don't have any money to buy one piece 
of oil to drill----
    Mrs. Boyda. Well, they have the money. They have a lot of 
money. Obviously we know that. No. There is not a rig around. 
The American Petroleum Institute said here a couple of weeks 
ago that, ``No, we don't have any drilling equipment. We have 
leases out the Ying Yang, but we don't have any drilling 
equipment.''
    Mr. Duffy. What was their answer?
    Mrs. Boyda. There wasn't an answer. That was just stated as 
a given. What you are saying is if this is market driven, then 
basically what you have done--we all know now we have 68 
million acres of land on shore, as well as millions of acres of 
land on the Outer Continental Shelf as well as in Alaska, apart 
from ANWR, that are drillable today with larger resources than 
any of this ANWR stuff that people are trying to--so what you 
are saying is that ultimately panic is driving the marketplace.
    I know you are not an expert; but what you are really 
saying is that this is driven by some fear. So, when the oil 
companies say, ``Gee, we don't have any more equipment,'' then 
that is what you would say would be driving the market. Mr. 
Johnston would say it is actually more boys at the party than 
girls at the party. But you are saying that it is this fear 
that we are not going to have a supply.
    Mr. Duffy. It is anticipation of price. And it is no 
different if it is up or down. That is what the futures markets 
do. They give people an opportunity to manage the risk into the 
future and that is what the WTI market is telling us today, 
that they believe----
    Mrs. Boyda. You think it is the oil companies--I am just 
speculating here myself. And I am just having a kind of 
conversation and I know you are not the oil company. But if you 
think they said, ``Oh, my gosh, we just took ownership of ten 
new rigs and we are going to start drilling,'' do you think the 
market, in fact, would come down? So this is just in 
anticipation?
    Mr. Duffy. I do not know if that is something----
    Mrs. Boyda. But what you are telling me is that that is why 
the market has gone up.
    Mr. Duffy. No. What I read from the President of Gulf Oil 
in his op-ed yesterday in The Wall Street Journal is saying 
that if they were to do certain things, they believe the market 
would come down. But right now they are not doing it. Certain 
things mean drilling.
    Mrs. Boyda. They don't have any drills. They don't have any 
rigs. They said that.
    Mr. Duffy. I don't know if that is what Gulf Oil is saying. 
I am just telling you what I read yesterday in The Wall Street 
Journal, and he is talking about the deferred futures price of 
oil being at $140 a barrel. He is saying it is because of the 
supply equation that we know we have today. He says if you 
start to do things that could affect the price 5 years out, he 
believes that will affect the spot price of today's market. And 
that's reporting from him.
    Mrs. Boyda. I will yield back in a minute. But what you are 
saying again is if I were an oil company and I wanted to drive 
supply down and constantly be out there in the market talking 
about that, that that would be enough then to drive the prices 
of oil up--because, in fact, you are limiting supply. They can 
drill until the cows come home. I am from Kansas, I can state 
that. I think it is a very compelling argument, but what you 
are ultimately saying is that the supply and demand hasn't 
changed very much, the dollar hasn't changed.
    Mr. Duffy. I did not say that.
    Mrs. Boyda. I am saying that. It hasn't changed enough to 
warrant a threefold increase. But if you have somebody out 
there beating the drum, saying this is all supply driven, then 
you are saying it is that fear of it that is going up because 
you haven't yet given me anything that I can really bite my 
teeth into and say this is the supply and demand future that I 
can now take home. It is all basically this fear of what is 
going to happen.
    Mr. Duffy. I think you stated the fact earlier there were 
88 million barrels a day----
    Mrs. Boyda. Sixty-eight.
    Mr. Duffy. Whatever the number was.
    Mrs. Boyda. Sixty-eight million acres of land that are----
    Mr. Duffy. I am sure you are also aware that we planted 94 
million acres of corn in 2007 and according to the government 
mandate for ethanol program, by 2017 a third of those acres 
will go away just for the ethanol program. So we want to go to 
talking about how we are going to feed our people. We have 
other issues associated with it. So there are a lot of issues 
in this energy and I don't think I can solve them in this 
hearing right now for you.
    Mrs. Boyda. All right. Mr. Johnston, I don't understand the 
six girls and four boys. I think I am beginning to understand 
some other things. Thank you.
    The Chairman. I thank the gentlelady. The gentleman from 
Wisconsin.
    Mr. Kagen. Thank you, Mr. Chairman. Mr. Duffy, thank you 
for complying with all the Federal guidelines. I know how 
difficult it is. We don't mean to make your job any more 
difficult or challenging. And I appreciate the services that 
you offer. One of the essential elements in my colleague Mr. 
Etheridge's bill has to do with transparency. So can you tell 
me what percent of the contracts in the CME are being purchased 
and sold by pension funds?
    Mr. Duffy. I don't have an exact number. Pension funds have 
a limit of a percentage of how much they can invest and 
diversify into our marketplace. I think it is roughly four to 
five percent. So that would be in several different products. 
We have asset classes from everything from interest rates, to 
foreign exchange, to equities, to agricultural products and 
alternative investments such as real estate and weather.
    Mr. Kagen. From the information that you are aware of, are 
the pension funds a major investor in oil commodities?
    Mr. Duffy. I would not have that information, sir.
    Mr. Kagen. So we don't have that information?
    Mr. Duffy. I would not have it. We don't run the oil 
business.
    Mr. Kagen. So you don't keep that information. Your friend 
and colleague, Mr. Johnston, has suggested that perhaps 
increasing the margins, the limits--let us call it the limits--
on longs and passive longs is a meaningful way to control this 
herd mentality. What do you think about that?
    Mr. Duffy. Well, I respectfully disagree and I agree with 
what Mr. Keith said. I think if we have a problem to the down 
side of the market, are we going to impose higher margin 
requirements for the short side of the market because they are 
taking the price too low.
    So I just completely disagree with it. I don't believe in 
two-tier markets. I don't believe they are effective and I 
don't think they suit the needs of what everybody has said in 
this room. They are intended to be there for the commercial use 
and now they are going to have a lopsided approach to it. So 
you could hurt the liquidity. In all honesty, sir, that will 
hurt the processor, the producer and everybody else involved 
with their product.
    Mr. Kagen. Do you have an opinion as to whether or not 
pension funds should be allowed to invest in commodities?
    Mr. Duffy. They do today, sir. I think that diversification 
is critically important for anyone's portfolio. I am a member 
of the Federal Retirement Thrift Savings Plan. I am a fiduciary 
for the government in that respect. And when you are sitting 
there with just long haul equities and the market is going 
down, I mean, it is a very painful event. I think people should 
have the opportunity to diversify into asset classes such as 
commodities to offset some of the inflationary needs. And that 
is what exactly what they are doing.
    Mr. Kagen. Earlier today there were references made to the 
CFTC extending a letter on July 3rd to apply some additional 
rules and regulations to ICE and Dubai markets. Do you feel 
that that letter that I am holding here, that this letter 
would, in action, be effective at all in reducing the oil 
prices?
    Mr. Duffy. To give them increased--I am sorry, sir. What 
was that for?
    Mr. Kagen. Would the recent action of CFTC have any 
implication to bringing down oil prices?
    Mr. Duffy. The CFTC requiring ICE to comply with the same 
rules that the NYMEX has?
    Mr. Kagen. Yes.
    Mr. Duffy. I don't believe that affects the price one bit, 
sir, no.
    Mr. Kagen. Does it help with transparency?
    Mr. Duffy. I think it does help with transparency.
    Mr. Kagen. Okay. Mr. Johnston, do you care to comment on 
any of the questions I've asked?
    Mr. Johnston. Yes. First of all, when Bear Stearns was in 
trouble and it looked like there was going to be a big problem 
on Wall Street, there was an intervention policy to deal with 
the crisis. And I think crude is in the same type of crisis. So 
when I say we should raise margins on longs, I am not trying to 
just inhibit pension fund behavior. I say pension fund behavior 
is essentially a part of the cast of players causing the 
problem. We need to understand that and I have tried to give 
you a new look or a new point of view on what is happening 
there. But when I say raise margins on longs, I want you to 
consider doing something that will be effective immediately, 
now. And I want you to hand them a weight, a handicap. The 
asymmetry which is now occurring and it occurs occasionally, it 
doesn't always happen in crude. It happened with beans in the 
1970s. Every now and then, things get out of hand.
    Mrs. Boyda. Will the gentleman yield?
    Mr. Kagen. Not right now. You are looking for immediate 
action as everyone is. I have asked the President as has the 
leadership of this Congress to immediately release 500,000 or 
so barrels a day of our SPR to put more onto the market. 
Wouldn't that immediately drive prices down?
    Mr. Johnston. Let me think. In the past the long position 
was equal to about two billion barrels right now. So yes, that 
would add up. It would take time, but it would add up.
    Mr. Kagen. It is a temporary measure.
    Mr. Johnston. It is temporary. Two things would happen. If 
you could persuade the pension funds either through moral 
persuasion or otherwise that what they are doing is self-
immolating, that every time they buy another barrel of crude 
oil, they are destroying the stock portfolio they are trying to 
defend. So maybe they would say that makes sense. We have 
enough, we will stop. That has happened before.
    Mr. Kagen. Wouldn't it also be a wise move to have a 
national energy policy?
    Mr. Johnston. I agree with that 100 percent. I think 
anything you can do now--maybe I am wrong on margins. It is not 
something that I was trained to do. I trade. And I am only 
talking about that from the point of view as a trader. If I 
heard you were raising margins on longs from four percent to 50 
percent, I would say that is it, I am not trading crude 
anymore. I just wouldn't do it. I don't know of a single trader 
that I know--and I know hundreds--that would say, okay, I am 
going to trade crude today. They would just stop. That is it. 
If a guy was going to sit down at Morgan Stanley or JPM, and he 
was planning on buying a million barrels of crude today and he 
had to put up a million barrels of crude, $150 million--he had 
to put up $70 million, his trading manager would probably say 
``No, you are not doing that.''
    Mr. Kagen. Thank you very much for your response. I see my 
time has expired and I will yield back.
    Mrs. Boyda. Mr. Chairman, could I ask one more quick 
question?
    The Chairman. If you are quick.
    Mrs. Boyda. What would a temporary--would there be any 
temporary margin increase that----
    Mr. Johnston. How does it start and how does it stop?
    Mrs. Boyda. Right. And how long--if you made it temporary, 
what would be the shortest time that you could do this in order 
to--and what would the effect of that be?
    Mr. Johnston. This is guessing. I have seen the effect of 
raising margins. Ultimately, if you raise them equally as Mr. 
Duffy said, it would be toxic. It would just cause crude to 
explode because it would put tremendous pressure on the short. 
And since we have asymmetry in the auction as it is, where it 
is really the long side that is the problem, coming from the 
passive long----
    Mrs. Boyda. If we went with your proposal for what you are 
talking about, what is the shortest amount of time and what 
would be the effect be of a short drive?
    Mr. Johnston. Depending on how high you are willing to 
raise the margins, I think it would go below $100 almost 
immediately.
    Mr. Duffy. No.
    Mr. Johnston. I think it would go straight down.
    Mr. Duffy. Mr. Chairman, could I respond real quickly, sir? 
One second. Two things. First of all, there are business plans 
in this country that have long hedges on energy that you would 
be distorting their whole business plan that they put into 
place many months or years in advance. One being Southwest 
Airlines. I don't know if they are still technically long 
hedged crude oil to protect their business model, but you would 
be distorting an American business model, changing the rules of 
the game after they did it and they are in a very fragile 
situation also.
    That is irresponsible for someone to testify on that and to 
say that is a good business plan. Second of all, we have no 
evidence that margins on long investors would affect the market 
whatsoever. We have clearly shown in our testimony that these 
passive long onlys already put up the full value of this 
contract today, it is just held in a separate account. So they 
would shift that money over right to the other account, you 
would not affect the price one bit. You would affect business 
models that are based on long hedging already.
    The Chairman. I just want to weigh in and let people know 
that I am totally against this idea because it is going to be a 
negative for my farmers and they already have enough problems 
out there with the margin situation. Mr. Keith, I would guess 
you agree with that.
    Mr. Keith. Yes.
    The Chairman. I have farmers that can't get a forward 
contract right now because the elevator can't afford the margin 
calls. So the last thing we need to do is raise these margins. 
I agree. I don't think it is going to affect the price one way 
or the other. Now, my question is, can't you accomplish the 
same thing by putting position limits, getting rid of the hedge 
exemption and putting position limits on these vehicles? 
Couldn't you do the same thing?
    Mr. Johnston. Me?
    The Chairman. Yes.
    Mr. Johnston. Yes, you could if you could do it now.
    The Chairman. Pardon?
    Mr. Johnston. Can you do it now?
    The Chairman. Sure. We can pass a bill that says--well, we 
can set them ourselves, which I think would be a dumb idea 
because we don't--I guess we could get together and figure out 
amongst ourselves what the position limit of oil should be. 
That would be an interesting experiment. But, more likely we 
would give the CFTC a short period of time to develop position 
limits. We have them in agriculture; they work. As I understand 
it, people get together, the folks that are involved in this, 
and give advice to the CFTC and they set these limits, right?
    Mr. Duffy. The government does, yes.
    The Chairman. Or we could do that with oil. We would do it 
short order. We could give them 90 days and tell them to look 
at this and do it. We are going to have information back that 
is finally being collected by the CFTC right now. By the first 
part of September, we are going to know this information about 
these swaps and what all is going on here with all of this 
stuff that is now in the dark market. We are going to know that 
information in September. So I think there are other ways to 
get at this. I think what you are proposing would work, but one 
of my bottom-lines of this whole situation is I am still not 
totally convinced how much effect the speculators are having on 
this price. I understand people don't like to pay this price 
for gas and they are looking for somebody to blame and the 
speculators might be part of it. They probably are some part of 
it.
    But the bottom-line for me is that in agriculture, we are 
the people that started this whole thing in the first place. We 
depend on this. The last thing I want to do is to do something 
here in response to some political pressure in gasoline that is 
going to screw up the agriculture markets. And bottom-line, 
that is where I am coming from. I think these margin ideas will 
screw up the ag market eventually--potentially.
    Mr. Marshall. Mr. Chairman, over here. May I just add on to 
one thing?
    The Chairman. Sure. Briefly.
    Mr. Marshall. Mr. Johnston, I wouldn't expect you to know 
this, but our laws currently provide for criminal penalties for 
fraud or market manipulation. Basically we don't want somebody 
going out there and intentionally skewing things in order to 
affect prices. In a sense, if we did something as odd as step 
in and target longs in some specific way, we the government--of 
course, we can get away with it, because we are the ones that 
make the laws and they don't apply to us--but we the government 
would be guilty of going in there and doing exactly what we 
provide criminal penalties for others doing.
    So I just don't think we are going to head in the direction 
of fooling with frankly a great risk management model that has 
been developed here. The direct way to deal with this, to me at 
least, is with position limits that work. The testimony is they 
don't work because people just go off-exchange and circumvent 
them and so we just make criminal penalties for circumvention. 
I just don't think the industry is going to be interested in 
subjecting itself to criminal penalties. Going back to price 
discovery, market confidence and people who want whole 
commodities, there are other mechanisms for doing that. This 
never was intended for that purpose.
    The Chairman. I thank the gentleman. I thank this panel. 
You did an excellent job. We appreciate your making your 
expertise and time available to us. We will call the next 
panel, which is called the miscellaneous and general panel. We 
have Mr. Tim Lynch, the Senior Vice President of the American 
Trucking Association; Mr. Daniel Roth, President and CEO of the 
National Futures Association; Mr. Tyson Slocum, the Director of 
Public Citizen's Energy Program; and Captain John Prater, 
President of the Air Line Pilots Association.
    Welcome to the Committee. Mr. Lynch, all your statements 
will be made part of the record. And any Members that have 
statements will also be made part of the record. We would ask 
you to summarize and try to limit to 5 minutes and I appreciate 
your being with the Committee. Mr. Lynch.

STATEMENT OF TIMOTHY P. LYNCH, SENIOR VICE PRESIDENT, AMERICAN 
              TRUCKING ASSOCIATION, ARLINGTON, VA

    Mr. Lynch. Thank you, Mr. Chairman and Members of the 
Agriculture Committee for giving us this opportunity to present 
our views on the impact of escalating prices on our industry 
and our suggestions for addressing the problem, including those 
related to the Commodity Exchange Act. The trucking industry is 
the backbone of the nation's economy, accounting for more than 
80 percent of the nation's freight bill. The U.S. trucking 
industry is comprised of over 211,000 for hire carriers and 
more than 277,000 private carriers. Over 80 percent of all 
communities in the United States are served exclusively by the 
trucking industry. Diesel fuel is the lifeblood of the trucking 
industry. We will consume some 39 billion gallons of diesel 
fuel this year. The national average price of diesel is now 
over $4.70 per gallon, which is nearly $2 more than just 1 year 
ago. While most of us feel the pain of higher fuel prices when 
the gas pump reads $60 or $70, it costs a trucker approximately 
$1,400 to fill up and he or she gets to do that twice a week. 
In fact, fuel has now surpassed labor as the single largest 
operating expense for most truck companies. These costs have a 
dramatic impact. In the first quarter of 2008, 935 trucking 
companies with at least five trucks closed their doors. It is 
very likely that an even greater number of single truck 
operators have also turned in their keys. This is the largest 
number of trucking closures since the third quarter of 2001. 
According to the Department of Labor, over 10,000 individuals 
employed in the trucking industry have lost their jobs since 
the first of the year. Beyond the trucking industry, these 
costs will have a ripple effect throughout the economy. Trucks 
transport virtually 100 percent of groceries, medicine, 
clothing, appliances and even the fuel that is pumped at the 
local service station. We believe that the dramatic run-up in 
petroleum product prices is the result of a confluence of 
factors, including increases in worldwide demand, failure to 
have a supply to keep pace with demand, the risks associated 
with geopolitical instability and weather, and certainly the 
dramatic decline in the value of the dollar.
    But taking all those factors into account, we find 
ourselves still asking the question, why now? All of the items 
I just mentioned have been in play for an extended period of 
time, and certainly did not begin on January 1 of this year. 
Yet on January 1, petroleum was selling for under $100 a 
barrel. Today it is selling for over $140 a barrel or roughly 
40 percent higher in just 6 months. During the past 5 years, 
the assets allocated to commodity index trading strategies have 
risen from $13 billion to $260 billion. We have been told that 
this figure represents only a fraction of assets, primarily 
from pension funds, but certainly other large institutional 
investors that could come into the commodities markets. Perhaps 
as much as $1 trillion.
    So here is a very simple concern. If $260 billion can move 
the price of petroleum, even by the lowest of percentage 
estimates, then what will $1 trillion do and at what cost to 
the economy, to American businesses and certainly to thousands 
of truck companies large and small that simply cannot take that 
risk. Mr. Chairman, Members of the Committee, we cannot 
quantify the extent to which speculation is responsible for the 
recent dramatic increase in the price of crude oil. But we do 
believe that excessive speculation is part of the problem. For 
this reason, we believe that Congress should take steps to 
increase the transparency of the petroleum exchanges and 
establish reasonable position limits to prevent excessive 
speculation. Balancing the need for an efficient petroleum 
market with a desire to limit petroleum speculation could help 
burst any speculative bubble that has formed in the petroleum 
markets.
    In conclusion, Mr. Chairman, we in the trucking industry 
generally talk in terms of equipment and tools. We view this as 
a tool in the toolbox. And we believe there are three of those. 
One is a saw to help us reduce demand. One is a hammer to help 
try and control some of these markets, and the third is the 
drill for more domestic supply. Thank you for giving me the 
opportunity to appear. We look forward to working with the 
Committee and we would be happy to answer any questions you may 
have.
    [The prepared statement of Mr. Lynch follows:]
    
    
     Thank you, Mr. Lynch.Mr. Roth.

   STATEMENT OF DANIEL J. ROTH, PRESIDENT AND CEO, NATIONAL 
                FUTURES ASSOCIATION, CHICAGO, IL

    Mr. Roth. Thank you, Mr. Chairman. My name is Dan Roth, and 
I am the President of National Futures Association. Over the 
years, I have testified at hearings before this Committee a 
number of times; and I have sat through a whole bunch more. And 
I know from sitting through those hearings that it is always 
sort of a tradition for every Member of the Committee and the 
witnesses to thank the Chairman for holding these hearings. 
Today that is a lot more than just a perfunctory gesture. The 
issues before this Committee today are profound, they are 
difficult, they are complex and they are very, very important 
to all of us.
    I am glad that this Committee is taking such a leadership 
role because this Committee by far has the most experience with 
these markets, has, by far, the best understanding of how 
futures markets operate and how important they are to our 
industry. So again, thank you for the tremendous commitment of 
time and energy over the last couple of days from both the 
Committee Members and their staff. NFA is a self-regulatory 
organization for the futures industry. We regulate 
intermediaries, not markets themselves. We don't regulate the 
markets. We regulate the intermediaries that bring customers to 
the markets; the brokerage houses; the trading advisors; any 
category of registration under the Act that does business with 
the public, we regulate them.
    A real cornerstone of the regulatory approach to these 
intermediaries is full disclosure. We require them to make full 
disclosure of risks to all their customers. The reason we 
wanted to be heard here today is, the issues you are discussing 
aren't directly NFA issues, but we became concerned over the 
last couple of weeks that maybe Congress wasn't receiving full 
disclosure of some of the risks of some of the proposals that 
were being described and discussed over the last couple of 
weeks. In our written testimony, we try to describe what some 
of those risks might be.
    I thank you for letting us incorporate that written 
testimony into the record. Today, I have been asked to talk 
about CFTC resources. I am happy to do that. I am happy to do 
that because as a regulator, I have some firsthand experience 
of just how difficult it is for a regulatory body to keep up 
with changes in an industry that changes as quickly and 
dramatically as the futures industry. I know it is difficult 
and I know it is even more difficult for the CFTC because they 
don't just oversee the intermediaries like we do. They oversee 
the markets as well. It is a difficult proposition.
    It is even more difficult--and I think the most telling 
statistic I have seen over the last couple of weeks on this 
issue, is the fact that since the Commission opened its doors 
in 1974, trading volume on the exchanges has increased by 8,000 
percent and during that same period of time, Commission staff 
has dropped by 12 percent. There is something about that 
picture that just isn't right. Now, regulators are like 
everybody else on God's green Earth. We are supposed to be able 
to do more with less because of technology and I know that is 
true.
    But still at some point, there is just no substitute for 
people. I know that at NFA, for example, we are certainly a 
technology driven organization. But in the last 2 years alone, 
we have increased the size of our compliance department by 25 
percent because of problems we were having in our neck of the 
woods. I know for a fact that over the last 5 years, the CFTC 
has been getting appropriations of about 80 percent of what it 
has been asking for. So it is a difficult situation to keep up 
with the industry under the best of circumstances. It is a 
whole lot harder when you can't get the resources that you 
need. I know Chairman Lukken has testified they could use an 
additional 100 people. I know, Congressman Etheridge, your bill 
calls for an emergency appropriation for the CFTC. What I am 
here to tell you is that NFA as a regulatory body is fully 
sympathetic with their situation and strongly supportive of any 
legislation that would get them the additional resources they 
need.
    Mr. Chairman, I have mentioned that I have been here a 
number of times before. This is the first time I think I 
finished my testimony and the red light hasn't gone off. I have 
watched enough C&SPAN to say if I could, I yield back the 
balance of my time.
    [The prepared statement of Mr. Roth follows:]

   Prepared Statement of Daniel J. Roth, President and CEO, National 
                    Futures Association, Chicago, IL
    My name is Daniel Roth, and I am President and Chief Executive 
Officer of National Futures Association. Thank you Chairman Peterson 
and Members of the Committee for this opportunity to appear here today 
to present our views on some of the proposals that have been introduced 
in recent weeks. NFA is the industry-wide self-regulatory organization 
for the U.S. futures industry. NFA is a not for profit organization, we 
do not operate any markets, we are not a trade association. Regulation 
and customer protection is all that we do. I should also point out that 
NFA does not regulate markets--we regulate the intermediaries that 
bring customers to those markets.
    Our customer protection rules are all designed to ensure that 
customers have enough information to make fully informed investment 
decisions. That's why we prohibit our members from making wildly 
exaggerated claims of performance and why we require members to provide 
customers with full disclosure of all of the risks. I think full 
disclosure of risks is a good idea in Congress too, but as I have 
followed the debate here in recent weeks about how to deal with energy 
prices, I've seen a lot more wild claims than I have seen disclosure of 
risks.
    I have seen a number of witnesses testify that Congress can reduce 
the price of energy by 50% within 30 days just by cracking down on 
futures markets. I have not heard even a shred of data or empirical 
information to support that claim, but it's interesting that once a 
third witness agrees with that proposition it moves from testimony to 
conventional wisdom to a God given truth with the speed of light. Other 
witnesses, including a Pulitzer Prize winning author and economic 
researcher, have cited extensive economic and geopolitical factors to 
caution against the fallacy of a quick fix. My point is that it is a 
lot easier to make wild claims than it is to back them up, and I 
appreciate this Committee's efforts to explore these issues in a 
careful, thoughtful manner. This is especially important since various 
proposals under consideration could have dire unintended consequences.
    I should also point out that I usually view the ``unintended 
consequences'' argument with a fair degree of skepticism. It seems like 
every time we propose a new customer protection rule at NFA or propose 
customer protection legislation before this Committee, someone throws 
the ``unintended consequences'' argument at us. Usually, people are 
pretty vague about what those unintended consequences might be or why 
they might happen or why they would be so bad. That's not the case 
here. Various supposed quick fix solutions under consideration could 
have unintended consequences that are specific, foreseeable and very 
likely to do much more harm than good.
Risky Business--Areas Where Congress Must Be Careful
Increasing Margins
    Take margins, for example. As I mentioned above, some have 
suggested that margins for energy futures contracts be raised to as 
high as 50%, with the prediction that with this simple stroke energy 
prices will fall by 50% within 30 days. Not so fast, please. First, we 
should recognize that in the futures industry margin is a performance 
bond designed to ensure that traders meet their financial obligations. 
Clearing organizations set margin levels with great care to cover the 
potential movement in the value of the futures contract in 1 day's 
trading. Used for its intended purpose, the margin setting process has 
been a huge success over the last 150 years in preventing defaults and 
insolvencies. Using margins to try to artificially lower the price of a 
futures contract is another thing altogether and could have the 
directly opposite result.
    The apparent theory of these proposals is that index funds, pension 
funds and other institutional investors have predominantly long 
positions in the futures market that are driving energy prices up. 
These are precisely the investors, though, that have the deepest 
pockets and could easily meet any increased margin requirements. A 
dramatic increase in margins could be much more likely to drive more 
short positions from the market than longs. Fewer sellers with the same 
number of buyers means prices go higher, not lower. I do not know for 
sure that prices would go higher, but neither do you and neither do 
those that promise that energy prices will drop by 50%. That's the 
point. No one knows for sure and that's why there is risk. It is 
imperative that you recognize that risk, know that it is real, that it 
is substantial and know that you are being asked to roll the dice with 
the American economy.
    We may not know for sure whether raising margins will cause energy 
prices to go up, but we do know for sure that it will not reduce 
trading activity--it will simply move it to off-shore or over-the-
counter markets. The energy market is global and complex. Participants 
that seek to speculate can do so in centralized markets around the 
world or through over-the-counter transactions. Those investment 
decisions are based on numbers. If the cost of executing trades on 
regulated futures markets soars because of increased margins, those 
trades will simply move to a different market. And it's not just 
speculators that will be moving. Hedgers need liquid markets to manage 
their risks and they will go where the liquidity is, whether it's off-
shore or off-exchange. The trading will still take place and the impact 
on prices will not diminish. The risk here is not a loss of profit for 
U.S. markets, it's a loss of transparency, of information, of 
regulatory authority. The notion that you can build a fence around this 
country to keep institutional, sophisticated market participants from 
trading the way they want to is simply detached from reality.
    Finally, Congress should be aware that raising margins could 
increase systemic risk. No one knows with certainty whether increasing 
margins would cause a temporary drop in oil prices or drive prices 
higher. What we do know is that governmental actions would dramatically 
increase market volatility during a time when credit is tight, 
particularly in the U.S. No one can predict with certainty the 
consequences of such actions, but they would certainly subject the 
financial markets to turmoil and stress and a much greater risk of 
financial failures.
Limiting Access to the Futures Markets
    Other proposals have been discussed that would either limit or 
completely block access to the futures markets for certain classes of 
investors. Completely apart from the question of whether Congress 
should, in effect, be making investment decisions for these market 
participants, hasty congressional action could again produce some very 
unattractive results. Many swaps dealers, including some of the most 
important banking institutions in the country, use futures markets to 
hedge the risk of their net exposure to their customers. Those 
customers may be speculating or may be commercial users that are 
hedging their own risks. When these swap dealers use futures markets to 
cover their exposure to their customers, they are generally not subject 
to speculative position limits and accountability levels because those 
firms are managing their risk. Some have suggested that these 
exemptions for swaps dealers should be eliminated, supposedly to reduce 
energy prices.
    The CFTC has issued a special call for information to the largest 
swap dealers in the country to better understand the extent to which 
the customers of the swap dealers are engaging in speculative trading 
or commercial hedging transactions. Congress should not take any action 
regarding the swap dealers exemption until the CFTC has carefully and 
thoughtfully analyzed that information and reported its findings. Rash 
action at this time could limit the ability of both swap dealers and 
their commercial user clients to manage their risk at a time when risk 
management is more critical than ever. All too often in the recent past 
we have seen what happens when major firms fail to effectively manage 
their risk, with significant repercussions for the whole economy.
    Others have proposed barring large pension funds from diversifying 
their portfolios by investing in agricultural and energy commodities. 
The health of their pension funds is critically important to literally 
millions of retirees. The health of their pension funds, in turn, 
depends on the ability of the fund managers to effectively diversify 
their portfolios. Barring pension funds from doing so by locking them 
out of certain markets makes no sense at all when retirees have to rely 
more and more on their pensions and less and less on Social Security.
Things That Congress Should Do
    Obviously, the proposals discussed above each carry the substantial 
risk of making a very difficult situation much, much worse. Doing 
nothing, however, carries risks of its own. NFA strongly supports a 
number of proposals that would be constructive, positive steps.
CFTC Resources
    CFTC staffing levels are at historical lows while trading volume is 
at historical highs. Something here is not right. It is always a 
struggle for a regulator to keep up with an ever changing market place, 
but that becomes harder and harder to do when you have fewer people on 
hand to do more work. NFA strongly supports proposals for emergency 
appropriations to the CFTC to hire more people and upgrade its 
technology.
    As an aside, I know that regulators make convenient punching bags 
when bad things happen. That just comes with the territory. But the 
CFTC is an independent Federal agency, independent so that it can 
withstand external pressure from any source and try to do what is 
right. That's precisely what the CFTC has been doing throughout this 
process. In enhancing its information sharing agreements with FSA, 
working with Congress to close the Enron loophole in the farm bill, 
issuing its special call for information to major swaps dealers, 
forming an interagency task force to evaluate changes in commodity 
markets and undertaking revisions to its commitment of traders reports 
to improve transparency, the CFTC has worked tirelessly to do the right 
thing. The Commission has been hard at work in the enforcement area as 
well, bringing 39 actions involving energy markets alone and working 
with the Department of Justice on 35 criminal prosecutions involving 
energy market misconduct. I would like to recognize and applaud the 
CFTC's continuing efforts in this area.
Foreign Boards of Trade
    The CFTC's recent agreement with ICE ensures that any exchange 
located in another jurisdiction that trades energy contracts with U.S. 
delivery points or that are linked to U.S. exchanges will provide the 
CFTC with the same type of information it gets from U.S. contract 
markets for surveillance purposes. We support proposals to codify that 
agreement. Drafting such legislation, though, can be a tricky business. 
The stroke of a bureaucrat's pen could change a foreign board of trade 
authorized to offer trading screens in the U.S. into an unregistered 
contract market. That could, in turn, make the positions held on that 
exchange illegal futures contracts, voidable at the customer's choice. 
Customers with losing positions could simply walk away, leaving an FCM 
holding the bag, and a very expensive bag at that. I know that others, 
including the FIA, are working on language to avoid that result and NFA 
supports those efforts.
Commitment of Traders Report
    Transparency is everything in futures regulation. Congress should 
require the CFTC to enhance transparency in our markets by revising its 
monthly Commitment of Traders reports to ensure that trading by 
commercial users of the underlying commodity is listed separately from 
trading by index funds and hedge funds. The CFTC has indicated its 
intention to do so, but legislation to support that initiative would be 
helpful.
Concluding Remarks
    In sum, Mr. Chairman, at NFA we constantly advise customers to 
beware of anyone that is selling a trading program guaranteed to 
produce dramatic profits with little or no risk. We offer the same 
advice to this Committee. The quick fix solutions currently being 
pitched to Congress carry with them substantial risks of unintended 
consequences that are real, that are foreseeable and that are 
potentially devastating. To enact these proposals would be to roll the 
dice on the American economy and would make the Congress of the United 
States the biggest speculator in our futures markets.
    As always, we look forward to working with the Committee and would 
be happy to answer any questions.

    The Chairman. Mr. Roth, we appreciate that very much. I 
want you to know that.
    Mr. Slocum.

  STATEMENT OF TYSON SLOCUM, DIRECTOR, ENERGY PROGRAM, PUBLIC 
                            CITIZEN

    Mr. Slocum. Hi, my name is Tyson Slocum. I am Director of 
the Energy Program at Public Citizen. We are one of America's 
largest public interest consumer advocacy groups. I am speaking 
today on behalf of the 100,000 households who are dues paying 
members of my organization. Members of the Committee, thank you 
so much for the opportunity to testify today. I am going to be 
talking about an issue that has not unfortunately been touched 
on by a number of the other panelists and that is concerns that 
my organization has raised about potential anti-competitive 
relationships that exist between affiliates that own or control 
physical energy assets, like pipelines, storage facilities and 
energy trading affiliates.
    Now, we all know that the number one issue in markets is 
access to information. If you have access to information, 
particularly important information before anyone else, whether 
that is hours before, minutes or even seconds before, you can 
parlay that access to information into huge gains, whether you 
are investing in the stock market or whether you are investing 
in commodities. We have noticed a trend of investment banks, 
hedge funds snapping up ownership over America's and North 
America's energy infrastructure assets; Goldman Sachs now owns 
an oil refinery. In 2006, Goldman Sachs completed the 
acquisition of over 40,000 miles of petroleum products and 
natural gas pipelines in North America.
    We have all read about hedge funds and investment banks 
snapping up leasing rights over storage facilities. Now, why on 
Earth would investment banks and hedge funds invest money in 
relatively low return infrastructure assets like pipelines and 
storage facilities? It is because control over those assets 
provides them with enormous information advantages about 
products that are moving through that system or moving into 
storage. As we have discovered, there are little to no code of 
conduct rules governing communications between crude oil and 
petroleum product facilities and energy trading. This presents, 
in our opinion, a serious problem. I served as an expert 
witness in the State of California before the Public Utilities 
Commission challenging certain aspects of Goldman Sachs' 
acquisition of two petroleum product pipelines in the State of 
California. We raised the issue of wanting to erect firewalls, 
prohibiting communications between the California pipeline 
affiliates and Goldman's energy trading affiliates. It is 
important to note that Goldman at no time challenged our 
assertions by saying Public Citizen's proposal is redundant 
because we already have effective controls at the Federal level 
prohibiting this. That is because no effective controls exist. 
There are extensive code of conduct rules prohibiting such 
communications in the natural gas infrastructure industry, as 
headed by the Federal Energy Regulatory Commission. But they do 
not exist at the same level for crude oil and petroleum 
products.
    There is unfortunately precedent for abuses within these 
types of relationships as last year's over $300 million 
settlement against the oil giant, BP, where BP was forced to 
pay over $300 million to settle allegations that it single 
handedly manipulated the United States propane markets by 
having its propane, pipeline and storage affiliates communicate 
with its energy traders. Those energy traders embarked on a 
strategy to corner the propane market. This strategy was not 
discovered because of the due diligence of America's regulatory 
environment. It was because an internal whistle-blower 
discussed the practice of the company, exposed the scheme and 
took it to regulators who were able to force BP into the 
settlement.
    And so, in addition to many of the other things about 
increasing transparency over markets, I urge the Committee to 
examine this fairly recent trend of large energy traders and 
speculators obtaining ownership control or effective control 
through temporary leasing rights over oil and petroleum product 
infrastructure. Thank you so much.
    [The prepared statement of Mr. Slocum follows:]

 Prepared Statement of Tyson Slocum, Director, Energy Program, Public 
                       Citizen, Washington, D.C.
    Thank you, Mr. Chairman and Members of Committee on Agriculture for 
the opportunity to testify on the issue of energy futures regulation. 
My name is Tyson Slocum and I am Director of Public Citizen's Energy 
Program. Public Citizen is a 37 year old public interest organization 
with over 100,000 members nationwide. We represent the needs of 
households through research, public education and grassroots 
organizing.
    American families are reeling under the weight of sustained high 
energy prices. Congress can take two broad actions to provide relief: 
providing incentives to households to give them better access to 
alternatives to our dependence on oil, and restoring transparency to 
the futures markets where energy prices are set. The former option is 
of course the best long-term investment, as providing incentives to 
help families afford the purchase of super fuel efficient hybrid or 
alternative fuel vehicles, solar panel installation, energy efficient 
improvements to the home and greater access to mass transit would all 
empower households to avoid the brunt of high energy prices.
    But the second option--restoring transparency to the futures 
markets where energy prices are actually set--is also important. 
Stronger regulations over energy trading markets would reduce the level 
of speculation and limit the ability of commodity traders to engage in 
anti-competitive behavior that is contributing the record high prices 
Americans face.
    Of course, supply and demand has played the primary role in the 
recent rise in oil prices. Although gasoline demand in America is down 
one percent from a year ago, global demand--particularly in emerging 
economies like China, India and oil exporting nations in the Middle 
East--has skyrocketed at a time when the mature, productive and easily-
accessible oil fields are in decline. Claims of Saudi spare capacity 
are questioned due to the Kingdom's refusal to allow independent 
verification of the country's oil reserve claims. Simply put, oil is a 
finite resource with which the world has embarked on unprecedented 
increased demand.
    But there is no question that speculators and unregulated energy 
traders have pushed prices far beyond the supply-demand fundamentals 
and into an era of a speculative bubble in oil markets. While some 
speculation plays a legitimate function for hedging and providing 
liquidity to the market, the exponential rise in market participants 
who have no physical delivery commitments has skyrocketed, from 37 
percent of the open interest on the NYMEX West Texas Intermediate (WTI) 
contract in January 2000 to 71 percent in April 2008.\1\
---------------------------------------------------------------------------
    \1\&http://energycommerce.house.gov/Investigations/
EnergySpeculationBinder_062308/15.pdf.
---------------------------------------------------------------------------
    Rather than demonize speculation generally, the goal is to address 
problems associated with recent Congressional and regulatory actions 
that deregulated energy trading markets that has opened the door to 
these harmful levels of speculation. Removing regulations has opened 
the door too wide for speculators and powerful financial interests to 
engage in anti-competitive or harmful speculative behavior that results 
in prices being higher than they would otherwise be (at least $30 of 
the current $140 of a barrel of oil--or about 70 cents of a gallon of 
gasoline--is pure speculation, unrelated to supply and demand.
    While the Commodity Futures Trading Commission (CFTC) has taken 
recent small steps in the right direction--such as asking the United 
Kingdom to set limits on speculative trading of WTI contracts, 
proposing stronger disclosure for index traders and swap dealers, and 
proposing an interagency task force to more closely monitor energy 
markets--Congress must do more to protect consumers.
    Public Citizen recommends four broad reforms to reign in 
speculators and help ensure that energy traders do not engage in anti-
competitive behavior:

    1. Increase the level of disclosure that market participants must 
        submit to Federal regulators. Requiring investment banks, hedge 
        funds and other market participants to provide more information 
        to the government will provide regulators and policymakers with 
        the data necessary to quickly determine the exact cause of 
        price swings. Subjecting all energy traders to submit Large 
        Trader Reports that discloses key information of a trader's 
        activities is critical to ensure that a market is adequately 
        transparent.

    2. Raise margin requirements so market participants will have to 
        put up more of their own capital in order to trade energy 
        contracts. Currently, margin requirements are too low, which 
        encourages speculators to more easily enter the market by 
        borrowing, or leveraging, against their positions.

    3. Require foreign-based exchanges that trade U.S. energy products 
        to be subjected to full U.S. regulatory oversight.

    4. Impose legally-binding firewalls to limit energy traders from 
        speculating on information gleaned from the company's energy 
        infrastructure affiliates or other such insider information, 
        while at the same time allowing legitimate hedging operations. 
        Congress must authorize the FTC and DOJ to place greater 
        emphasis on evaluating anti-competitive practices that arise 
        out of the nexus between control over hard assets like energy 
        infrastructure and a firm's energy trading operations.
Energy Trading Abuses Require Stronger Oversight
    Two regulatory lapses are enabling anti-competitive practices in 
energy trading markets where prices of energy are set. First, oil 
companies, investment banks and hedge funds are exploiting recently 
deregulated energy trading markets to manipulate energy prices. Second, 
energy traders are speculating on information gleaned from their own 
company's energy infrastructure affiliates, a type of legal ``insider 
trading.'' These regulatory loopholes were born of inappropriate 
contacts between public officials and powerful energy companies and 
have resulted in more volatile and higher prices for consumers.
    Contrary to some public opinion, oil prices are not set by the 
Organization of Petroleum Exporting Countries (OPEC); rather, they are 
determined by the actions of energy traders in markets. Historically, 
most crude oil has been purchased through either fixed-term contracts 
or on the ``spot'' market. There have been long-standing futures 
markets for crude oil, led by the New York Mercantile Exchange (NYMEX) 
and London's International Petroleum Exchange (which was acquired in 
2001 by an Atlanta-based unregulated electronic exchange, ICE). NYMEX 
is a floor exchange regulated by the U.S. Commodity Futures Trading 
Commission (CFTC). The futures market has historically served to hedge 
risks against price volatility and for price discovery. Only a tiny 
fraction of futures trades result in the physical delivery of crude 
oil.
    The CFTC enforces the Commodity Exchange Act, which gives the 
Commission authority to investigate and prosecute market 
manipulation.\2\ But after a series of deregulation moves by the CFTC 
and Congress, the futures markets have been increasingly driven by the 
unregulated over-the-counter (OTC) market over the last few years. 
These electronic OTC markets have been serving more as pure speculative 
markets, rather than traditional volatility hedging or price discovery. 
And, importantly, this new speculative activity is occurring outside 
the regulatory jurisdiction of the CFTC.
---------------------------------------------------------------------------
    \2\&7 U.S.C. &9, 13b and 13(a)(2).
---------------------------------------------------------------------------
    Energy trading markets were deregulated in two steps. First, in 
response to a petition by nine energy and financial companies, led by 
Enron,\3\ on November 16, 1992, then-CFTC Chairwoman Wendy Gramm 
supported a rule change--later known as Rule 35--exempting certain 
energy trading contracts from the requirement that they be traded on a 
regulated exchange like NYMEX, thereby allowing companies like Enron 
and Goldman Sachs to begin trading energy futures between themselves 
outside regulated exchanges. Importantly, the new rule also exempted 
energy contracts from the anti-fraud provisions of the Commodity 
Exchange Act.\4\ At the same time, Gramm initiated a proposed order 
granting a similar exemption to large commercial participants in 
various energy contracts that was later approved in April 2003.\5\
---------------------------------------------------------------------------
    \3\&The other eight companies were: BP, Coastal Corp (now El Paso 
Corp.) Conoco and Phillips (now ConocoPhillips), Goldman Sachs' J. Aron 
& Co, Koch Industries, Mobil (now ExxonMobil) and Phibro Energy (now a 
subsidiary of CitiGroup).
    \4\&17 CFR Ch. 1, available at www.access.gpo.gov/nara/cfr/
waisidx_06/17cfr35_06.html.
    \5\&``Exemption for Certain Contracts Involving Energy Products,'' 
58 Fed. Reg. 6250 (1993).
---------------------------------------------------------------------------
    Enron had close ties to Wendy Gramm's husband, then-Texas Senator 
Phil Gramm. Of the nine companies writing letters of support for the 
rule change, Enron made by far the largest contributions to Phil 
Gramm's campaign fund at that time, giving $34,100.\6\
---------------------------------------------------------------------------
    \6\&Charles Lewis, ``The Buying of the President 1996,'' p. 153. 
The Center for Public Integrity.
---------------------------------------------------------------------------
    Wendy Gramm's decision was controversial. Then-Chairman of a House 
Agriculture Subcommittee with jurisdiction over the CFTC, Rep. Glen 
English, protested that Wendy Gramm's action prevented the CFTC from 
intervening in basic energy futures contracts disputes, even in cases 
of fraud, noting that that ``in my 18 years in Congress [Gramm's motion 
to deregulate] is the most irresponsible decision I have come across.'' 
Sheila Bair, the CFTC Commissioner casting the lone dissenting vote, 
argued that deregulation of energy futures contracts ``sets a dangerous 
precedent.''&\7\ A U.S. General Accounting Office report issued a year 
later urged Congress to increase regulatory oversight over derivative 
contracts,\8\ and a Congressional inquiry found that CFTC staff 
analysts and economists believed Gramm's hasty move prevented adequate 
policy review.\9\
---------------------------------------------------------------------------
    \7\&``Derivatives Trading Forward-Contract Fraud Exemption May be 
Reversed,'' Inside FERC's Gas Market Report, May 7, 1993.
    \8\&``Financial Derivatives: Actions Needed to Protect the 
Financial System,'' GGD&94&133, May 18, 1994, available at http://
archive.gao.gov/t2pbat3/151647.pdf.
    \9\&Brent Walth and Jim Barnett, ``A Web of Influence,'' Portland 
Oregonian, December 8, 1996.
---------------------------------------------------------------------------
    Five weeks after pushing through the ``Enron loophole,'' Wendy 
Gramm was asked by Kenneth Lay to serve on Enron's Board of Directors. 
When asked to comment about Gramm's nearly immediate retention by 
Enron, Lay called it ``convoluted'' to question the propriety of naming 
her to the Board.\10\
---------------------------------------------------------------------------
    \10\& Jerry Knight, ``Energy Firm Finds Ally, Director, in CFTC Ex-
Chief,'' Washington Post, April 17, 1993.
---------------------------------------------------------------------------
    Congress followed Wendy Gramm's lead in deregulating energy trading 
contracts and moved to deregulate energy trading exchanges by exempting 
electronic exchanges, like those quickly set up by Enron, from 
regulatory oversight (as opposed to a traditional trading floor like 
NYMEX that remained regulated). Congress took this action during last-
minute legislative maneuvering on behalf of Enron by former Texas GOP 
Senator Phil Gramm in the lame-duck Congress 2 days after the Supreme 
Court ruled in Bush v. Gore, buried in 712 pages of unrelated 
legislation.\11\ As Public Citizen pointed out back in 2001,\12\ this 
law deregulated OTC derivatives energy trading by ``exempting'' them 
from the Commodity Exchange Act, removing anti-fraud and anti-
manipulation regulation over these derivatives markets and exempting 
``electronic'' exchanges from CFTC regulatory oversight.
---------------------------------------------------------------------------
    \11\&H.R. 5660, an amendment to H.R. 4577, which became Appendix E 
of P.L. 106&554 available at http://frwebgate.access.gpo.gov/cgi-bin/
getdoc.cgi?dbname=106_cong_public_laws&docid=f:publ554.106.pdf.
    \12\&Blind Faith: How Deregulation and Enron's Influence Over 
Government Looted Billions from Americans, available at 
www.citizen.org/documents/Blind_Faith.pdf.
---------------------------------------------------------------------------
    This deregulation law was passed against the explicit 
recommendations of a multi-agency review of derivatives markets. The 
November 1999 release of a report by the President's Working Group on 
Financial Markets--a multi-agency policy group with permanent standing 
composed at the time of Lawrence Summers, Secretary of the Treasury; 
Alan Greenspan, Chairman of the Federal Reserve; Arthur Levitt, 
Chairman of the Securities and Exchange Commission; and William Rainer, 
Chairman of the CFTC--concluded that energy trading must not be 
deregulated. The Group reasoned that ``due to the characteristics of 
markets for nonfinancial commodities with finite supplies . . . the 
Working Group is unanimously recommending that the [regulatory] 
exclusion not be extended to agreements involving such 
commodities.''&\13\ In its 1999 lobbying disclosure form, Enron 
indicated that the ``President's Working Group'' was among its lobbying 
targets.\14\
---------------------------------------------------------------------------
    \13\&``Over-the-Counter Derivatives Markets and the Commodity 
Exchange Act,'' Report of The President's Working Group on Financial 
Markets, p. 16. www.ustreas.gov/press/releases/docs/otcact.pdf.
    \14\&Senate Office of Public Records Lobbying Disclosure Database, 
available at http://sopr.senate.gov/cgi-win/opr_gifviewer.exe?/1999/01/
000/309/00030933130, page 7.
---------------------------------------------------------------------------
    As a result of the Commodity Futures Modernization Act, trading in 
lightly-regulated exchanges like NYMEX is declining as more capital 
flees to the completely unregulated OTC markets, such as those run by 
the IntercontinentalExchange (ICE). Trading on the ICE has skyrocketed, 
with the 138 million contracts traded in 2007 representing a 230 
percent increase from 2005.\15\ This explosion in unregulated trading 
volume means that more trading is done behind closed doors out of reach 
of Federal regulators, increasing the chances of oil companies and 
financial firms to engage in anti-competitive practices. The founding 
members of ICE include Goldman Sachs, BP, Shell and Totalfina Elf. In 
November 2005, ICE became a publicly traded corporation.
---------------------------------------------------------------------------
    \15\&Available at www.theice.com/exchange_volumes_2005.jhtml.
---------------------------------------------------------------------------
    Goldman Sachs' trading unit, J. Aron, is one of the largest and 
most powerful energy traders in the United States, and commodities 
trading represents a significant source of revenue and profits for the 
company. Goldman Sachs' most recent 10&k filed with the U.S. Securities 
and Exchange Commission show that Fixed Income, Currency and 
Commodities (which includes energy trading) generated 35 percent of 
Goldman's $46 billion in revenue for 2007.\16\ In 2005, Goldman Sachs 
and Morgan Stanley--the two companies are widely regarded as the 
largest energy traders in America--each reportedly earned about $1.5 
billion in net revenue from energy trading. One of Goldman's star 
energy traders, John Bertuzzi, made as much as $20 million in 2005.\17\
---------------------------------------------------------------------------
    \16\&www.sec.gov/Archives/edgar/data/886982/000095012308000857/
y46519e10vk.htm.
    \17\&http://frwebgate.access.gpo.gov/cgi-bin/
getdoc.cgi?dbname=109_cong_senate_committee_prints&docid=f:28640.pdf, 
pages 24 and 26.
---------------------------------------------------------------------------
    In the summer of 2006, Goldman Sachs, which at the time operated 
the largest commodity index, GSCI, announced it was radically changing 
the index's weighting of gasoline futures, selling about $6 billion 
worth. As a direct result of this weighting change, Goldman Sachs 
unilaterally caused gasoline futures prices to fall nearly 10 
percent.\18\
---------------------------------------------------------------------------
    \18\&Heather Timmons, ``Change in Goldman Index Played Role in 
Gasoline Price Drop,'' The New York Times, September 30, 2006.
---------------------------------------------------------------------------
    A recent bipartisan U.S. Senate investigation summed up the 
negative impacts on oil prices with this shift towards unregulated 
energy trading speculation:

        Over the last few years, large financial institutions, hedge 
        funds, pension funds, and other investment funds have been 
        pouring billions of dollars into the energy commodity markets--
        perhaps as much as $60 billion in the regulated U.S. oil 
        futures market alone . . . The large purchases of crude oil 
        futures contracts by speculators have, in effect, created an 
        additional demand for oil, driving up the price of oil to be 
        delivered in the future in the same manner that additional 
        demand for the immediate delivery of a physical barrel of oil 
        drives up the price on the spot market . . . Several analysts 
        have estimated that speculative purchases of oil futures have 
        added as much as $20&$25 per barrel to the current price of 
        crude oil . . . large speculative buying or selling of futures 
        contracts can distort the market signals regarding supply and 
        demand in the physical market or lead to excessive price 
        volatility, either of which can cause a cascade of consequences 
        detrimental to the overall economy . . . At the same time that 
        there has been a huge influx of speculative dollars in energy 
        commodities, the CFTC's ability to monitor the nature, extent, 
        and effect of this speculation has been diminishing. Most 
        significantly, there has been an explosion of trading of U.S. 
        energy commodities on exchanges that are not regulated by the 
        CFTC . . . in contrast to trades conducted on the NYMEX, 
        traders on unregulated OTC electronic exchanges are not 
        required to keep records or file Large Trader Reports with the 
        CFTC, and these trades are exempt from routine CFTC oversights. 
        In contrast to trades conducted on regulated futures exchanges, 
        there is no limit on the number of contracts a speculator may 
        hold on an unregulated OTC electronic exchange, no monitoring 
        of trading by the exchange itself, and no reporting of the 
        amount of outstanding contracts (``open interest'') at the end 
        of each day.\19\
---------------------------------------------------------------------------
    \19\&The Role Of Market Speculation In Rising Oil And Gas Prices: A 
Need To Put The Cop Back On The Beat, Staff Report prepared by the 
Permanent Subcommittee on Investigations of the Committee on Homeland 
Security and Governmental Affairs of the U.S. Senate, June 27, 2006, 
available at http://frwebgate.access.gpo.gov/cgi-bin/
getdoc.cgi?dbname=109_cong_senate_committee_prints&docid=f:28640.pdf.

    Thanks to the Commodity Futures Modernization Act, participants in 
these newly-deregulated energy trading markets are not required to file 
so-called Large Trader Reports, the records of all trades that NYMEX 
traders are required to report to the CFTC, along with daily price and 
volume information. These Large Trader Reports, together with the price 
and volume data, are the primary tools of the CFTC's regulatory regime: 
``The Commission's Large Trader information system is one of the 
cornerstones of our surveillance program and enables detection of 
concentrated and coordinated positions that might be used by one or 
more traders to attempt manipulation.''&\20\ So the deregulation of OTC 
markets, by allowing traders to escape such basic information 
reporting, leave Federal regulators with no tools to routinely 
determine whether market manipulation is occurring in energy trading 
markets.
---------------------------------------------------------------------------
    \20\&Letter from Reuben Jeffrey III, Chairman, CFTC, to Michigan 
Governor Jennifer Granholm, August 22, 2005.
---------------------------------------------------------------------------
    One result of the lack of transparency is the fact that even some 
traders don't know what's going on. A recent article described how:

        Oil markets were rocked by a massive, almost instant surge in 
        after-hours electronic trading 1 day last month, when prices 
        for closely watched futures contracts jumped 8% . . . this 
        spike stands out because it was unclear at the time what drove 
        it. Two weeks later, it is still unclear. What is clear is that 
        a rapid shift in the bulk of crude trading from the raucous 
        trading floor of the New York Mercantile Exchange to anonymous 
        computer screens is making it harder to nail down the cause of 
        price moves . . . The initial jump ``triggered more orders 
        already set into the system, and with prices rising, people 
        thought somebody must know something,'' Tom Bentz, an analyst 
        and broker at BNP Paribas Futures in New York who was watching 
        the screen at the time, said the day after the spike. ``The 
        more prices rose, the more it seemed somebody knew 
        something.''&\21\
---------------------------------------------------------------------------
    \21\&Matt Chambers, ``Rise in Electronic Trading Adds Uncertainty 
to Oil,'' The Wall Street Journal, April 10, 2007.

    Oil companies, investment banks and hedge funds are exploiting the 
lack of government oversight to price-gouge consumers and make billions 
of dollars in profits. These energy traders boast how they're price-
gouging Americans, as a recent Dow Jones article makes clear: energy 
``traders who profited enormously on the supply crunch following 
Hurricane Katrina cashed out of the market ahead of the long weekend. 
`There are traders who made so much money this week, they won't have to 
punch another ticket for the rest of this year,' said Addison 
Armstrong, manager of exchange-traded markets for TFS Energy 
Futures.''&\22\
---------------------------------------------------------------------------
    \22\&Leah McGrath Goodman, ``Oil Futures, Gasoline In NY End 
Sharply Lower,'' September 2, 2005.
---------------------------------------------------------------------------
    The ability of Federal regulators to investigate market 
manipulation allegations even on the lightly-regulated exchanges like 
NYMEX is difficult, let alone the unregulated OTC market. For example, 
as of August 2006, the Department of Justice is still investigating 
allegations of gasoline futures manipulation that occurred on a single 
day in 2002.\23\ If it takes the DOJ 4 years to investigate a single 
day's worth of market manipulation, clearly energy traders intent on 
price-gouging the public don't have much to fear.
---------------------------------------------------------------------------
    \23\&John R. Wilke, Ann Davis and Chip Cummins, ``BP Woes Deepen 
with New Probe,'' The Wall Street Journal, August 29, 2006.
---------------------------------------------------------------------------
    That said, there have been some settlements for manipulation by 
large oil companies. In January 2006, the CFTC issued a civil penalty 
against Shell Oil for ``non-competitive transactions'' in U.S. crude 
oil futures markets.\24\ In March 2005, a Shell subsidiary agreed to 
pay $4 million to settle allegations it provided false information 
during a Federal investigation into market manipulation.\25\ In August 
2004, a Shell Oil subsidiary agreed to pay $7.8 million to settle 
allegations of energy market manipulation.\26\ In July 2004, Shell 
agreed to pay $30 million to settle allegations it manipulated natural 
gas prices.\27\ In October 2007, BP agreed to pay $303 million to 
settle allegations the company manipulated the propane market.\28\ In 
September 2003, BP agreed to pay NYMEX $2.5 million to settle 
allegations the company engaged in improper crude oil trading, and in 
July 2003, BP agreed to pay $3 million to settle allegations it 
manipulated energy markets.\29\
---------------------------------------------------------------------------
    \24\&``U.S. Commodity Futures Trading Commission Assesses Penalties 
of $300,000 Against Shell-Related Companies and Trader in Settling 
Charges of Prearranging Crude Oil Trades'' available at www.cftc.gov/
newsroom/enforcementpressreleases/2006/pr5150-06.html.
    \25\&``Commission Accepts Settlement Resolving Investigation Of 
Coral Energy Resources,'' available at www.ferc.gov/news/news-releases/
2005/2005-1/03-03-05.asp.
    \26\&``Order Approving Contested Settlement,'' available at 
www.ferc.gov/whats-new/comm-meet/072804/E-60.pdf.
    \27\&``Coral Energy Pays $30 Million to Settle U.S. Commodity 
Futures Trading Commission Charges of Attempted Manipulation and False 
Reporting,'' available at www.cftc.gov/opa/enf04/opa4964-04.htm
    \28\&www.cftc.gov/newsroom/enforcementpressreleases/2007/pr5405-
07.html.
    \29\& ``Order Approving Stipulation and Consent Agreement,'' 104 
FERC &61,089, available at http://elibrary.ferc.gov/idmws/common/
opennat.asp?fileID=10414789. 
---------------------------------------------------------------------------
    In August 2007, Oil giant BP admitted in a filing to the Securities 
and Exchange Commission that ``The U.S. Commodity Futures Trading 
Commission and the U.S. Department of Justice are currently 
investigating various aspects of BP's commodity trading activities, 
including crude oil trading and storage activities, in the U.S. since 
1999, and have made various formal and informal requests for 
information.''&\30\
---------------------------------------------------------------------------
    \30\&www.sec.gov/Archives/edgar/data/313807/000115697307001223/
u53342-6k.htm
---------------------------------------------------------------------------
    In August 2007, Marathon Oil agreed to pay $1 million to settle 
allegations the company manipulated the price of West Texas 
Intermediate crude oil.\31\
---------------------------------------------------------------------------
    \31\&www.cftc.gov/newsroom/enforcementpressreleases/2007/pr5366-
07.html.
---------------------------------------------------------------------------
    There is near-unanimous agreement among industry analysts that 
speculation is driving up oil and natural gas prices. Representative of 
these analyses is a May 2006 Citigroup report on the monthly average 
value of speculative positions in American commodity markets, which 
found that the value of speculative positions in oil and natural gas 
stood at $60 billion, forcing Citigroup to conclude that ``we believe 
the hike in speculative positions has been a key driver for the latest 
surge in commodity prices.''&\32\
---------------------------------------------------------------------------
    \32\&The Role Of Market Speculation In Rising Oil And Gas Prices: A 
Need To Put The Cop Back On The Beat, Staff Report prepared by the 
Permanent Subcommittee on Investigations of the Committee on Homeland 
Security and Governmental Affairs of the U.S. Senate, June 27, 2006, 
available at http://frwebgate.access.gpo.gov/cgi-bin/
getdoc.cgi?dbname=109_cong_senate_committee_prints&docid=f:28640.pdf.
---------------------------------------------------------------------------
    Natural gas markets are also victimized by these unregulated 
trading markets. Public Citizen has testified before Congress on this 
issue,\33\ and a March 2006 report by four state attorneys general 
concludes that ``natural gas commodity markets have exhibited erratic 
behavior and a massive increase in trading that contributes to both 
volatility and the upward trend in prices.''&\34\
---------------------------------------------------------------------------
    \33\&``The Need for Stronger Regulation of U.S. Natural Gas 
Markets,'' available at www.citizen.org/documents/
Natural%20Gas%20Testimony.pdf.
    \34\&The Role of Supply, Demand and Financial Commodity Markets in 
the Natural Gas Price Spiral, available at www.ago.mo.gov/pdf/
NaturalGasReport.pdf.
---------------------------------------------------------------------------
    While most industry analysts agree that the rise in speculation is 
fueling higher prices, there is one notable outlier: the Federal 
Government. In a widely dismissed report, the CFTC recently concluded 
that there was ``no evidence of a link between price changes and MMT 
[managed money trader] positions'' in the natural gas markets and ``a 
significantly negative relationship between MMT positions and prices 
changes in the crude oil market.''&\35\
---------------------------------------------------------------------------
    \35\&Michael S. Haigh, Jana Hranaiova and James A. Overdahl, 
``Price Dynamics, Price Discovery and Large Futures Trader Interactions 
in the Energy Complex,'' available at www.cftc.gov/files/opa/press05/
opacftc-managed-money-trader-study.pdf.
---------------------------------------------------------------------------
    The CFTC study (and similar one performed by NYMEX) is flawed for 
numerous reasons, including the fact that the role of hedge funds and 
other speculators on long-term trading was not included in the 
analysis. The New York Times reported that ``many traders have scoffed 
at the studies, saying that they focused only on certain months, 
missing price run-ups.''&\36\
---------------------------------------------------------------------------
    \36\&Alexei Barrionuevo and Simon Romero, ``Energy Trading, Without 
a Certain `E','' January 15, 2006.
---------------------------------------------------------------------------
    The CFTC has a troublesome streak of ``revolving door'' 
appointments and hiring which may further hamper the ability of the 
agency to effectively regulate the energy trading industry. In August 
2004, CFTC Chairman James Newsome left the Commission to accept a $1 
million yearly salary as President of NYMEX, the world's largest energy 
futures marketplace. Just weeks later, Scott Parsons, the CFTC's Chief 
Operating Officer, resigned to become Executive Vice President for 
Government Affairs at the Managed Funds Association. Former CFTC Lead 
Prosecutor Tony Mansfi left the Commission to join the D.C. firm Heller 
Ehrman, where he will work for Geoff Aronow--his old boss at CFTC. Such 
prominent defections hamper the CFTC's ability to protect consumers. As 
a result, a revolving door moratorium must be established to limit CFTC 
decision makers from leaving the agency to go to entities under its 
regulatory jurisdiction for at least 2 years.
Latest Trading Trick: Energy Infrastructure Affiliate Abuses
    Energy traders like Goldman Sachs are investing and acquiring 
energy infrastructure assets because controlling pipelines and storage 
facilities affords their energy trading affiliates an ``insider's 
peek'' into the physical movements of energy products unavailable to 
other energy traders. Armed with this non-public data, a company like 
Goldman Sachs most certainly will open lines of communication between 
the affiliates operating pipelines and the affiliates making large bets 
on energy futures markets. Without strong firewalls prohibiting such 
communications, consumers would be susceptible to price-gouging by 
energy trading affiliates.
    For example, In January 2007, Highbridge Capital Management, a 
hedge fund controlled by JP Morgan Chase, bought a stake in an energy 
unit of Louis Dreyfus Group to expand its oil and natural gas trading. 
Glenn Dubin, Co-Founder of Highbridge, said that owning physical energy 
assets like pipelines and storage facilities was crucial to investing 
in the business: ``That gives you a very important information 
advantage. You're not just screen-trading financial products.''&\37\
---------------------------------------------------------------------------
    \37\&Saijel Kishan and Jenny Strasburg, ``Highbridge Capital Buys 
Stake in Louis Dreyfus Unit,'' Bloomberg, January 8, 2007, 
www.bloomberg.com/apps/news?pid=20601014&sid=aBnQy1botdFo. 
---------------------------------------------------------------------------
    Indeed, such an ``information advantage'' played a key role in 
allowing BP's energy traders to manipulate the entire U.S. propane 
market. In October 2007, the company paid $303 million to settle 
allegations that the company's energy trading affiliate used the 
company's huge control over transportation and storage to allow the 
energy trading affiliate to exploit information about energy moving 
through BP's infrastructure to manipulate the market.
    BP's energy trading division, North America Gas & Power (NAGP), was 
actively communicating with the company's Natural Gas Liquids Business 
Unit (NGLBU), which handled the physical production, pipeline 
transportation and retail sales of propane. A PowerPoint exhibit to the 
civil complaint against BP details how the two divisions coordinated 
their manipulation strategy, which includes ``assurance that [the] 
trading team has access to all information and optionality within [all 
of
BP] . . . that can be used to increase chance of success [of market 
manipula
tion] . . . Implement weekly meetings with Marketing & Logistics to 
review trading positions and share opportunities.''&\38\
---------------------------------------------------------------------------
    \38\&www.cftc.gov/files/enf/06orders/opa-bp-lessons-learned.pdf.
---------------------------------------------------------------------------
    And in August 2007, BP acknowledged that the Federal Government was 
investigating similar gaming techniques in the crude oil markets.
    BP is not alone. A Morgan Stanley energy trader, Olav Refvik, ``a 
key part of one of the most profitable energy-trading operations in the 
world . . . helped the bank dominate the heating oil market by locking 
up New Jersey storage tank farms adjacent to New York Harbor.''&\39\ 
Again, control over physical infrastructure assets plays a key role in 
helping energy traders game the market.
---------------------------------------------------------------------------
    \39\&http://frwebgate.access.gpo.gov/cgi-bin/
getdoc.cgi?dbname=109_cong_senate_committee_prints&docid=f:28640.pdf, 
page 26.
---------------------------------------------------------------------------
    This shows that the energy traders were actively engaging the 
physical infrastructure affiliates in an effort to glean information 
helpful for market manipulation strategies. And it is important to note 
that BP's market manipulation strategy was extremely aggressive and 
blatant, and regulators were tipped off to it by an internal whistle-
blower. A more subtle manipulation effort could easily evade detection 
by Federal regulators, making it all the more important to establish 
firewalls between energy assets affiliates and energy trading 
affiliates to prevent any undue communication between the units.
    Financial firms like hedge funds and investment banks that normally 
wouldn't bother purchasing low-profit investments like oil and gasoline 
storage have been snapping up ownership and/or leasing rights to these 
facilities mainly for the wealth of information that controlling energy 
infrastructure assets provides to help one's energy traders manipulate 
trading markets. The Wall Street Journal reported that financial 
speculators were snapping up leasing rights in Cushing, OK.\40\
---------------------------------------------------------------------------
    \40\&Ann Davis, ``Where Has All The Oil Gone?'' October 6, 2007, 
Page A1.
---------------------------------------------------------------------------
    In August 2006, Goldman Sachs, AIG and Carlyle/Riverstone announced 
the $22 billion acquisition of Kinder Morgan, Inc., which controls 
43,000 miles of crude oil, refined products and natural gas pipelines, 
in addition to 150 storage terminals.
    Prior to this huge purchase, Goldman Sachs had already assembled a 
long list of oil and gas investments. In 2005, Goldman Sachs and 
private equity firm Kelso & Co. bought a 112,000 barrels/day oil 
refinery in Kansas. In May 2004, Goldman spent $413 million to acquire 
royalty rights to more than 1,600 natural gas wells in Pennsylvania, 
West Virginia, Texas, Oklahoma and offshore Louisiana from Dominion 
Resources. Goldman Sachs owns a six percent stake in the 375 mile 
Iroquois natural gas pipeline, which runs from Northern New York 
through Connecticut to Long Island. In December 2005, Goldman and 
Carlyle/Riverstone together are investing $500 million in Cobalt 
International Energy, a new oil exploration firm run by former Unocal 
executives.
    In 2003, Morgan Stanley teamed up with Apache Corp to buy 26 oil 
and gas fields from Shell for $500 million, of which Morgan Stanley put 
up $300 million in exchange for a portion of the production over the 
next 4 years, which it used to supplement its energy trading desk.\41\
---------------------------------------------------------------------------
    \41\&Paul Merolli, ``Two Morgan Stanley M&A deals show bullish 
stance on gas,'' Natural Gas Week, Volume 19; Issue 28, July 14, 2003.
---------------------------------------------------------------------------
Conclusion
    This era of high energy prices isn't a simple case of supply and 
demand, as the evidence suggests that weak or non-existent regulatory 
oversight of energy trading markets provides opportunity for energy 
companies and financial institutions to price-gouge Americans. Forcing 
consumers suffering from inelastic demand to continue to pay high 
prices--in part fueled by uncompetitive actions--not only hurts 
consumers economically, but environmentally as well, as the oil 
companies and energy traders enjoying record profits are not investing 
those earnings into sustainable energy or alternatives to our addiction 
to oil. Reforms to strengthen regulatory oversight over America's 
energy trading markets are needed to restore true competition to 
America's oil and gas markets.
Solutions

   Re-regulate energy trading markets by subjecting OTC 
        exchanges--including foreign-based exchanges trading U.S. 
        energy products--to full compliance under the Commodity 
        Exchange Act and mandate that all OTC energy trades adhere to 
        the CFTC's Large Trader reporting requirements. In addition, 
        regulations must be strengthened over existing lightly-
        regulated exchanges like NYMEX.

   Impose legally-binding firewalls to limit energy traders 
        from speculating on information gleaned from the company's 
        energy infrastructure affiliates or other such insider 
        information, while at the same time allowing legitimate hedging 
        operations. Congress must authorize the FTC and DOJ to place 
        greater emphasis on evaluating anti-competitive practices that 
        arise out of the nexus between control over hard assets like 
        energy infrastructure and a firm's energy trading operations. 
        Incorporating energy trading operations into anti-trust 
        analysis must become standard practice for Federal regulatory 
        and enforcement agencies to force more divestiture of assets in 
        order to protect consumers from abuses.

    The Chairman. Thank you, Mr. Slocum. And I would just share 
with you some of the issues that you have covered may be beyond 
the jurisdiction of this Committee. But that doesn't mean they 
shouldn't be looked at. Captain Prater.

  STATEMENT OF CAPT. JOHN PRATER, PRESIDENT, AIR LINE PILOTS 
          ASSOCIATION, INTERNATIONAL, WASHINGTON, D.C.

    Mr. Prater. Good morning, Mr. Chairman, and Members of the 
Committee. As President of the Air Line Pilots Association, the 
largest airline pilot union in the world, I would like to thank 
you for the opportunity on behalf of our 55,000 members who fly 
for 40 airlines in the United States and Canada.
    ALPA pilots do not declare Mayday at the first sign of a 
storm. We do not divert from our destination at the first sign 
of a snowflake. ALPA pilots, working with other industry 
workers, safely deliver passengers and cargo around our country 
and around the world every hour of every day. We help keep the 
economy running. In fact, the aviation industry alone generates 
$690 billion for America's bottom line and airline pilots play 
a pivotal role in that economic engine.
    That said, our community is once again in an economic 
crisis that rivals the events that followed 9/11. Many airlines 
are in no position to handle the excessive jet fuel expenses 
that now cost more than anything else, exceeding labor and 
taxes by a wide margin. As a result of this burden, eight 
airlines have ceased operations this year. Two others have 
filed for Chapter 11 and several more are on the brink. 
Approximately 29,000 airline workers have lost their jobs this 
year and more will come this fall.
    This hits pilots especially hard because they have already 
taken several economic blows to help save their airlines from 
the brink of extinction following 9/11. In the last 7 years, 
pilots have sacrificed pay, work rules, benefits and pensions 
to keep their airlines flying. Many of our members are still 
working under those concessions. They did this with the hope 
for the future that they would see their lost wages and their 
pensions returned. But with the rising cost of fuel, pilots are 
now more concerned than ever that their chosen profession is 
not one which will provide them with the compensation and 
retirement benefits that they need for their families.
    Analysts forecast that airlines will lose as much as $10 
billion this year. Continental, Delta, United, and Northwest 
have already announced further cuts in capacity and reductions 
in the workplace. Meanwhile, several other airlines are ready 
to announce. Nearly 30 small cities across our nation have 
already lost scheduled airline service and numerous larger 
cities are experiencing the cutbacks already. We will lose more 
transportation in this country.
    Unlike other industries, which may have a choice of 
whatever type of energy to power its operations, the airliners 
that we fly have just one energy option, petroleum-based jet 
fuel. The FAA, the industry is working on alternatives to jet 
fuel, but it is going to take several years at best before a 
viable, renewable alternative meets the exacting specifications 
required to operate our jet engines safely.
    We believe that rampant speculation in the oil commodities 
market is a serious situation that is negatively impacting the 
price of aviation fuel. ALPA, as part of a broad coalition with 
industry and business partners, has urged Congress for 
immediate reforms in the wildly speculative energy commodity 
futures markets. We fully support Representative Bart Stupak's 
PUMP Act, which would apply a much needed break on the surging 
oil prices that are crippling our industry and our economy. We 
would encourage any legislation that brings rationality to the 
oil markets.
    The CFTC needs a nightstick if it helps to police 
speculators' trades in U.S. energy commodity markets. 
Unregulated swap trades and the so-called Enron loophole, among 
other weaknesses in the system, encourage speculators to trade 
U.S. energy supplies up to 20 times for each barrel of oil that 
is actually consumed. But with strong provisions that will 
bring over-the-counter energy commodities within CFTC's 
oversight, speculators will at long last be held accountable 
for their swaps.
    The U.S. pilots who stand to lose their jobs due to the 
airlines going out of business are taking their skills abroad. 
We are starting to work for airlines overseas because the jobs 
aren't back home anymore. Many other young and old experienced 
pilots are leaving the industry altogether.
    Simply put, in order for our industry to survive and 
continue to provide the world's safest transportation system, 
we must address this problem now. It is time to rein in rampant 
oil speculation.
    In conclusion, a long-term, rational energy policy, 
including increased domestic supply and energy independence, is 
our ultimate goal, but bipartisan, near-term solutions to the 
market frenzy are critical now. We urge Congress to pass 
legislation before the August recess that will help rein in 
these rampant costs.
    Thank you.
    [The prepared statement of Capt. Prater follows:]

  Prepared Statement of Capt. John Prater, President, Air Line Pilots 
              Association, International, Washington, D.C.
    Good morning, Mr. Chairman, Ranking Member Goodlatte, and Members 
of the Committee. I am Captain John Prater, President of the Air Line 
Pilots Association, International (ALPA). ALPA represents nearly 55,000 
professional pilots who fly for 40 passenger and all-cargo airlines in 
the United States and Canada. On behalf of our members, I want to thank 
you for the opportunity to testify today about the urgent need to 
address speculation in the fuel commodities market which we believe has 
contributed to the sharp jump in fuel prices that is greatly impacting 
our industry.
    The rising cost of oil is of concern to everyone in this country 
today. Many are worried that they will be forced to choose between 
filling their automobile gas tanks and purchasing groceries, and we are 
already seeing the negative impact that the escalating price of oil is 
having on the economy. Our members--the working men and women safely 
flying our nation's airliners--have another, more dire concern: will 
they lose their jobs--again--because their airline is forced to park 
airplanes or even go out of business?
    After the horrific terrorist attacks of 9/11, pilots and other 
employees in the airline business suffered through thousands of job 
furloughs and pay cuts. In fact, between 2002 and 2011, workers at the 
seven largest U.S. airlines have given back $75 billion in concessions. 
Almost $30 billion has come from pilots in the form of reduced wages, 
revised work rules, and reduced or eliminated benefits. Terminated 
pensions totaled another $5+ billion. A brief period of airline profits 
in 2007 promised some hope that these massive concessions which helped 
save the industry could be returned to workers and their families.
    Instead, the recent rise in energy costs has caused a flood of red 
ink and analysts now forecast an industry operating loss of as much as 
$7 billion or more in 2008, one of the largest losses in the industry's 
history and rivaling that experienced shortly after the events of 9/11. 
The magnitude of this impact can already be seen in the recent 
bankruptcies and/or discontinued operations of ATA, Aloha, Champion, 
Skybus, Eos, Frontier, Skyway and Air Midwest. Other airlines have 
parked airplanes and either furloughed employees, or plan to do so in 
the near future.\1\ This industry contraction is leading to the loss of 
thousands of skilled jobs and puts U.S. carriers at a disadvantage in 
the world marketplace. Ironically, the current industry fuel crisis 
also stifles progress to reduce fuel burn and emissions--at this time 
an unstable airline industry cannot afford to invest in new more fuel 
efficient aircraft&\2\ or invest in alternative fuel research.
---------------------------------------------------------------------------
    \1\&American Airlines is reducing 4th qtr. 2008 mainline domestic 
capacity by 11&12% year-over-year. Continental is cutting 4th qtr. 2008 
domestic capacity by 11.4% and reducing its workforce by 3,000. Delta 
is reducing its workforce by 3,000 and cutting 4th qtr. 2008 domestic 
capacity by 11%. United is cutting 4th qtr. 2008 domestic capacity by 
14% and reducing the number of salaried employees by 1,400 to 1,600. 
Nearly 30 cities have lost scheduled airline service in the past year 
and more service cuts are on the horizon. USAirways is reducing 
mainline capacity 6&8% and reducing its workforce approximately 1,700. 
Air Tran cut employee salaries by 10% and many airlines are delaying 
starting new service because of fuel prices. This week, Northwest 
announced 2,500 job cuts.
    \2\&There are currently no major aircraft manufacturer plans to 
produce a next generation narrow body aircraft. We are at least a 
decade away from aircraft capable of significantly less fuel burn than 
our current fleet.
---------------------------------------------------------------------------
    A few salient facts about the current state of jet fuel expense, 
and industry reactions to that expense, help explain the airlines' 
predicament. Unlike many other industries which have a choice of 
electricity, natural gas, coal, heating oil or other sources of 
requisite energy, airlines have just one energy option for aircraft 
operations--petroleum-based jet fuel which must meet an exacting 
specification. Despite great technology-driven reductions in jet engine 
fuel consumption and airline pilot fuel conservation practices, jet 
fuel expenses have recently become the airlines' largest operating 
cost, now consuming as much as 40% of every airline revenue dollar, up 
from 15% in 2000. Jet fuel prices are expected to remain at extremely 
high levels; already increasing 67% from approximately $90.90 per 
barrel in 2007 to $151.72 per barrel in 2008. Every $1 increase in 
crude oil prices increases the industry's fuel expense by approximately 
$465 million, before considering the impact of any hedging. Because our 
carriers compete globally and fuel is priced in the weak U.S. dollar, 
our European counterparts have not experienced as dramatic of an 
increase in fuel costs, giving them a competitive advantage over the 
U.S. industry.
     Airline pilots are working every day to conserve precious fuel 
during both ground and flight operations. Within the constraints of 
safety and hamstrung by an antiquated air traffic control system, 
pilots routinely shut down engines while taxiing and select optimal 
fuel-conservation altitudes and speeds. Further, pilots are working 
with the industry to help develop the NextGen air traffic management 
system that will further increase fuel efficiency. But all of those 
fuel-saving measures combined are incapable of compensating for the 
exorbitant fuel prices that we have experienced over the past year. No 
airline business plan can be successful with fuel topping $145 per 
barrel, and many will not survive in their present form at 
significantly less per barrel. Every day brings news of more airline 
worker layoffs, airplanes being grounded and air service to communities 
being cut. The U.S. aviation industry is a critical part of our 
national economy generating approximately 11% of Gross Domestic Product 
through airline travel and all related industries. Absent decisive and 
effective leadership on this issue, the airline industry's fortunes 
will continue to plummet and harm the national economy, in general, and 
airline workers, in particular, in the process.
    Experts agree that today's surging oil prices are beyond those 
warranted by supply-demand fundamentals. In fact, just yesterday the 
International Energy Agency announced that annual demand is projected 
to increase at an annual rate of only 1.6% and that demand will be 
actually lower this year, growing only 1%, given declining economic 
conditions. Instead, surging oil prices are due, in some measure, to 
rampant investor speculation. In early June, speculators traded more 
than 1.9 billion barrels of crude oil--22 times the size of the 
physical oil market, including $150 billion traded on the New York 
Mercantile Exchange alone. Sophisticated ``paper'' speculators, 
including large pension fund managers, who never intend to use oil are 
driving up costs for consumers and making huge profits. This high 
amount of activity by ``paper'' speculators is having a grossly 
perverse impact on oil prices. Recently, ALPA and a broad coalition of 
consumer, labor, and business organizations joined to advocate 
immediate reforms in the widely-speculative energy commodity futures 
markets. While a long-term, rational energy policy including increased 
domestic supply and energy independence is our ultimate goal, 
bipartisan, near-term solutions to the market frenzy are absolutely 
critical.
    With your leadership, we see an end to the current unwarranted 
escalation in oil prices which market speculation is helping to drive. 
ALPA has endorsed and pledged our support for the prompt enactment of 
Congressman Stupak's H.R. 6330, the ``Prevent Unfair Manipulation of 
Prices Act of 2008.'' The PUMP Act will apply a much needed brake on 
rampant energy commodity speculation to help drive down unprecedented, 
surging oil prices that are crippling the economy. We are aware of 
several other proposed bills in both the House and Senate that share 
the same goal and we believe that they all have merit as a means of 
reducing the fuel speculation that is harming our industry.
    The heart of the PUMP Act is Section 2 that extends CFTC 
jurisdiction over energy commodities that now enjoy a host of trading 
loopholes. The bill will open up the market to greater transparency and 
fairness to level the playing field for all traders by:

   bringing over-the-counter energy commodities within CFTC's 
        oversight responsibilities;

   closing the ``swaps loophole'' by extending CFTC regulatory 
        authority to swaps involving energy transactions, another 
        important step towards needed transparency;

   extending CFTC regulatory authority to energy transactions 
        on foreign boards of trade that provide for delivery points in 
        the United States, a common sense measure as other products 
        delivered in the United States are subject to the full panoply 
        of United States regulation, save energy commodities; and

   requiring CFTC to set aggregate position limits on energy 
        contracts for a trader over all markets, ensuring that traders 
        do not corner markets by amassing huge positions and playing 
        one exchange off another.

    Unregulated swaps trades and the so-called ``Enron loophole,'' 
among other weaknesses in the system, allow our most important energy 
supplies to be traded up to 20 times for each barrel of oil consumed. 
Why should oil future traders not have oversight similar to that of 
other security markets? Can we, as a nation, continue to stand idly by 
while speculators wreak havoc on our economy with the potential to 
destroy the air transportation links to many of our small and medium 
sized communities?
    We strongly urge Congress to pass legislation to address the mostly 
unregulated futures trading of fuel before the August recess.
    I thank you for the opportunity to testify today and look forward 
to your questions.

    Mr. Etheridge [presiding.] I thank the gentleman. I yield 5 
minutes to the gentleman from Georgia, Mr. Marshall.
    Mr. Marshall. Thank you, Mr. Chairman. Thank you all for 
being here.
    Mr. Slocum, that is the first time I have heard of what you 
described. Do your concerns go so far as to worry that the 
financial incentives could conceivably be so large, that 
someone holding the kind of interests in the actual underlying 
assets that control or produce the commodity could 
intentionally fool with those underlying assets in order to 
create a move in the market that could give it an awful lot of 
profit?
    Mr. Slocum. Absolutely. And it is not just Public Citizen 
making that assertion. As part of the 2006 Senate Subcommittee 
on Permanent Investigations report, they provided information 
about how a single trader at Morgan Stanley was able to make 
huge successful bets in the futures markets based upon his 
company's acquisition of leasing rights over nearly all of the 
home heating oil storage facilities in New York Harbor, which 
obviously is a major import area. And this is something that 
the CFTC does have jurisdiction over.
    BP admitted in a Securities and Exchange Commission filing 
in the summer of 2007 that the CFTC was looking into market 
manipulation related to BP's crude oil infrastructure assets 
and its energy trading division.
    But the issue here is whether or not there is improper 
sharing of information that would not be captured under 
standard definitions of market manipulation.
    Mr. Marshall. As a matter of fact, we have intentionally 
permitted individuals to trade on inside information in our 
futures markets because they serve such an important price 
discovery function for us. So not only do we not have a 
prohibition, it almost looks as if we encourage that kind of 
sharing.
    Mr. Slocum. And there are absolutely legitimate reasons for 
owners of infrastructure assets, particularly large refiners 
that have to acquire crude oil. And they need to go out and 
hedge and participate in these markets. So there are legitimate 
functions for entities involved in energy infrastructure to be 
involved in the markets. The question, and this is where it is 
going to be tricky, is defining what is a legitimate hedging 
function and what is a speculative function and what decreases 
the level of competitiveness.
    Mr. Marshall. Thank you, sir. In the limited amount of time 
I have, I want to move to a different subject. Mr. Roth, if we 
headed in the direction of providing at least in ag 
commodities, no hedge exemption unless it is intended to cover 
a legitimate commercial--it is a legitimate commercial hedge 
and it is laying off risk from an actual physical market hedge 
that has occurred in the over-the-counter markets. We do that, 
we put in position limits and we direct the CFTC to put in 
position limits for energy that is similar to the position 
limits that exist for ag. And then with regard to all position 
limits, we say buy, buy these; if you don't and you are guilty 
of, directly or indirectly, intentionally circumventing these, 
you are liable for criminal penalties. Would that have any 
effect and----
    Mr. Roth. I think those are all viable options. They are 
serious ideas that I wouldn't rule out of hand at all. I would 
offer just the following quick observations.
    With respect to position limits and again bearing in mind 
that I don't regulate markets, with respect to position limits, 
I understand how position limits work in a centralized 
marketplace because you can see everything. The imposition and 
implementation of position limits in a decentralized, bilateral 
sort of market like swaps are, would be a much more difficult 
thing to implement and monitor. It is not to say it can't be 
done, but I think you would have to think that through.
    Mr. Marshall. You were here earlier, I noted. There is one 
possibility and it is the Lieberman aggregate position limits 
across all markets. There is another position limit simply in 
the futures markets that are regulated. Information provided 
across all markets to the regulator, to enable the regulator to 
see what people are doing and to see whether or not there is 
any circumvention of the position limits----
    Mr. Roth. I am just telling you monitoring compliance in a 
centralized market is one thing. Monitoring compliance in a 
decentralized, bilateral sort of series of agreements is a much 
more complex undertaking.
    Mr. Marshall. Very challenging.
    Mr. Roth. The second point with respect to the swaps 
exemption, if I could. I think that is another idea that really 
needs to be explored, and that is why I was glad that the CFTC 
has made the special call for information, to really understand 
better what the underlying book of the swaps dealers is and 
what business they are turning to the futures market to hedge. 
The only danger that I see there is if we act now before we 
have the facts, before we have the results of that study, I 
think you want to be leery of doing anything that could limit 
the ability of either major financial institutions or their 
commercial users to manage their risk. So by all means, let us 
get the CFTC's data. Let us get it as quickly as we can and let 
us see if your option is warranted.
    Mr. Etheridge. I thank the gentleman very much. The 
gentleman from Texas, 5 minutes.
    Mr. Conaway. Thank you, Mr. Chairman. Mr. Lynch and Captain 
Prater, you both paint some very stark pictures about the 
industries you represent and participate in. And speaking for 
somebody who is going to get on an airplane this afternoon and 
fly with a couple of your members, I am hoping they continue to 
do their job really well, at least until we get to the other 
end.
    We have heard strong, committed, bright people on both 
sides of the issue in terms of what impact speculators are 
having. Our role is to try to figure out how that is happening. 
You did mention that your pilots are going overseas because 
there are jobs overseas. Is that because jet fuel is cheaper in 
Europe or Asia than it is here?
    Mr. Prater. Sir, the amount of concessions that we took 
following the 9/11 period has driven many people away from the 
job here in the U.S. The fact is a lot of people speak about 
prices and what goes into an airline ticket. We all know the 
major component is oil. If you fly on a flight this evening, 
maybe a 70 passenger jet and you are one of 70 passengers and 
you fly an hour, out of that ticket, about $1 will go to the 
captain and about 50 cents will go to the first officer. If you 
got on my airplane to fly to London, you would spend less than 
75 cents an hour for my services, less than 50 cents an hour. 
So the jobs are better overseas.
    Mr. Conaway. And that is because the airlines there charge 
more? I mean, the jet fuel prices are about the same there that 
they are here.
    Mr. Prater. Different economic systems possibly. Certainly 
we have a----
    Mr. Conaway. But you are not aware that jet fuel is cheaper 
in Europe?
    Mr. Prater. No, I think that--while we know that the value 
of the dollar has played a part in this, I don't think that is 
the reason we are losing pilots here. The fact is pilots are 
getting out of the business because it just doesn't pay well.
    Mr. Conaway. Sure. And that is kind of all of our 
opportunities as Americans. I do want to just briefly comment 
about Mr. Roth's plea to get the facts on the table first. We 
in Congress have a wonderful history of ready, fire, aim and 
the Chairman of this Committee, though, has attempted with 
these hearings to not let us run off that ledge. I want to also 
thank him for taking the time extensively. Other than the farm 
bill, these are the most extensive hearings we have had on a 
particular issue, and I appreciate his willingness to do that.
    So I don't have any other questions, and I yield back.
    The Chairman [presiding.] I thank the gentleman. The 
gentlelady from South Dakota.
    Ms. Herseth Sandlin. Thank you, Mr. Chairman. Mr. Roth, I 
appreciated your response to Mr. Marshall's question about your 
thoughts on position limits and how they are easier or more 
difficult to administer in a certain context. I would be 
interested in your thoughts on the discussion of the prior 
panel on margin requirements. There are a number of us on this 
Committee that are concerned about unintended consequences with 
higher margin requirements, versus dealing with transparency, 
accountability and position limits as perhaps a different 
alternative to approach the issue.
    Mr. Roth. That is a real concern of ours, the margin issue. 
Because as I pointed out in my written testimony, that in our 
view, increasing the margins dramatically on energy products 
could have the effect of making prices higher rather than lower 
for the reasons that Mr. Duffy said that you could end up 
pushing more longs out of the market than shorts. And that will 
cause prices to go up. Mr. Johnston's idea of increasing 
margins on the long only is essentially a market manipulation 
on the part of the Congress which is going to have a 
potentially disastrous effect on people that have taken margin 
positions.
    In addition--I will just make two other points, one of 
which you have heard plenty of. If you increase margins on 
these U.S. markets, the business can go elsewhere. They can go 
OTC and they can go overseas and you really won't increase 
transparency or lower prices at all.
    And then the final point that I would make is that a 
dramatic increase in margins is going to result in a lot of 
margin calls and it is going to result in defaults. It is going 
to put a certain amount of stress on futures commission 
merchants and clearing organizations. It is going to increase 
market volatility and therefore increase financial stress 
during a time of tight credit. Now we are talking about 
systemic risk, and no one knows where that might take you.
    So the margin issue is a scary one for us because I think 
it has tremendous potential to do much greater harm than good.
    Ms. Herseth Sandlin. I appreciate your comments there and 
the concerns about a systemic risk. I understand that you 
regulate the intermediaries, but certainly your familiarity 
with the issues with futures trading that the Committee has 
grappled with and dealt with for years, primarily in 
agricultural commodities. We have talked to folks in all of our 
districts who are individual producers, who have used grain 
merchandisers, elevator operators who are having problems with 
not being able to use the exchanges to hedge their risk in the 
manner that they used to be able to. How comfortable are you 
with a proposal like Mr. Etheridge's--and I appreciate your 
comments about the CFTC needing more resources and more staff. 
I couldn't agree with you more. Do you think that transparency, 
reporting, accountability and perhaps addressing position 
limits for institutional investors and those that were exempt, 
is that going to help alleviate the problems that individual 
producers or our grain elevator operators or petroleum 
marketers are facing?
    Mr. Roth. Any time you increase transparency, you give 
people more information and they can govern their conduct 
accordingly. You make it less likely that there can be a market 
manipulation, less likely that there will be a distortion of 
free market forces. I can't sit here and tell you that an 
increase in transparency--I think one of the claims is it would 
reduce the price of energy by 50 percent in 30 days. If a 
member of ours made a claim like that, we would expel him. I 
can't sit here and tell you that increase in transparency and 
all those things are going to drive down the price of energy 
dramatically. I can tell you that they would provide greater 
assurances of at least certain instances of market integrity.
    Ms. Herseth Sandlin. Could you comment just briefly on Mr. 
Johnston's point in the last panel about how some of the 
passive longs have--there has sort of been an unwitting 
cornering of the market. I mean, what are your thoughts there?
    Mr. Roth. Again, recognizing that this is the deep end of 
the pool for me, too, and it is not what we regulate, the role 
of passive longs is a really interesting question. I would note 
that there are certain commodities where there is a great deal 
of index participation where you have relatively flat prices. 
There are other commodities where there is virtually no index 
participation and you have huge fluctuations in prices. I know 
Mr. Johnston says they stay flat. I think Mr. Duffy is right. 
They roll over--they are always selling in the near month. And 
I would expect that if they are having a significant impact on 
prices, that you would see it in the near month as well as in 
the far month. I can't sit here and tell you I know what the 
impact of those index funds are, but what I can tell you, 
though, is this--and I am sorry. I will wrap this up as quickly 
as I can. In the time that I have been around, the only 
financial products that succeed--and I don't care if they are 
new futures contract, I don't care if they are some sort of 
exotic swaps contract that someone comes up with or an index 
fund, the only way any of these things ever succeed is if they 
are filling a market need. These index funds exist because 
people want exposure, they want that investment to those 
commodity prices, they want that exposure.
    I can't conceive of a way to prevent them from doing that. 
If we try to foreclose their access to futures markets, that 
money will find another way to gain the exposure that they are 
looking for. I think transparency again, as I mentioned, always 
helps. It always helps ensure market integrity. But trying to 
put a jail offense around money and prohibiting money from 
being invested in a way that people want to invest it, I find 
that difficult.
    Ms. Herseth Sandlin. Thank you. I thank the panel. Thank 
you, Mr. Chairman.
    The Chairman. I thank the gentlelady. The gentlelady from 
Kansas.
    Mrs. Boyda. Thank you very much, Mr. Chairman. I direct my 
comments to the truckers and to the airline association here, 
too, and just say again thank you for coming. Both industries 
are very, very important to Kansas, as you can well imagine. 
And the people who support you are people who you know, the 
good working people of Kansas. I feel your pain, let me just 
say that, and I hear about your pain on a regular basis. I 
appreciate your coming to Congress and asking for help.
    What I would come back and ask you is what have you guys 
done? What I have heard in the last day--really 2 weeks--is for 
some reason the price of oil has tripled in the last year and a 
half, even though supply and demand really haven't changed, 
even though the dollar has gone down, but not anything that 
would affect a three-fold increase. What I have heard since the 
beginning of the spring was this drum beat that Democrats won't 
allow drilling. Have you ever recommended that you call your 
employees, your members and ask them to call oil companies, and 
I am truly asking you to do this. Were you in here during the 
earlier ones? Were you listening? There isn't a piece of 
equipment around. They have drilling capacity out the--they can 
drill and drill and drill. Could they be driving up the price 
of this? By just dealing with a constant fear in the 
marketplace and driving that? Why aren't they drilling? Call 
your Member of Congress for sure. Have you ever tried calling 
the oil companies and saying why don't you have any equipment, 
why aren't you drilling. As I said, there is more oil in the 
Alaskan oil preserve, National Petroleum Reserve than there is 
in the ANWR, and they have the ability to drill on it today. 
What is going on? It is accessible oil. I said over and over 
again, ``Public policy follows public opinion.'' And public 
opinion, I think people are beginning to understand now that 
the Governors of Florida happen to be Republicans for years and 
years and years and said, ``Over my dead body am I going to let 
you drill off of here,'' and the same in California. Is it 
possible that your lives are being wrecked--the lives of your 
members are being wrecked for political gain here?
    Now, we have one of two things going on. We have 
inexplicable change in the marketplace that just started to 
happen this spring. Or we have speculation and what we are left 
trying to figure out is which one of those it is that.
    Mr. Lynch. I will take a stab at that. There is a very good 
reason why I am on the miscellaneous panel. There are things 
that we know and there are things that we don't know. When the 
crisis really started to build, we were directed by our board 
to come up and look at a very comprehensive set of solutions, 
what can we do. Some of those involved supply, some of them 
quite frankly involved demand. I would suggest it is not a 
healthy thing to go to the Kansas Motor Truck Association and 
recommend that they adopt a 65 mile per hour speed limit in the 
State of Kansas, nor in a lot of other places. But yet we are 
doing that. I mean, we are trying to encourage our membership 
to do the kinds of things----
    Mrs. Boyda. And I saw the position that you took on that. I 
do not support it one way or the other. I think we should have 
a national debate about it. Why it is not even being discussed 
is bizarre. But you all took a strong position on that, and 
that is gutsy.
    Mr. Lynch. We are learning an awful lot about the ins and 
outs of the petroleum markets. We have had meetings with API. 
We have had meetings with the CFTC. Frankly, 2 years ago, I 
couldn't have told you where the CFTC's building was and yet we 
have gone down there to learn so that we don't step out too 
far.
    Mrs. Boyda. Let me reclaim my time with just about half a 
minute left. I would ask you to ask your members or to do your 
own homework and come up with why all of a sudden this is going 
on. Is somebody trying to manipulate a market that is 
ultimately really, really hurting you. I would ask the same 
thing of you, too, and say call your Member of Congress. But 
let us find out. Let us get to the bottom of why the supply--
there isn't anyone on either side of the aisle that says we 
shouldn't increase supply. So let us increase supply, let us go 
back and I think if API began to understand that at the 
grassroots level, people are going to be calling them and 
saying, what the heck are you doing, you will start to see some 
things change and then we will start to see if this is 
speculation or if another message gets out that the American 
people are going to demand. You have the capacity right now to 
drill. Why the heck aren't you using it? Maybe that will take 
the edge off of this kind of irrational exuberance that is 
going on in that market and start to mediate it.
    I apologize for interrupting you. I yield back.
    The Chairman. I thank the gentlelady. The gentleman from 
Wisconsin.
    Mr. Kagen. Thank you, Mr. Chairman. Mr. Slocum, on page 7 
of your prepared statement, I want to read a sentence and see 
if you still agree with it. ``Oil companies, investment banks 
and hedge funds are exploiting the lack of government oversight 
to price gouge consumers and make billions of dollars in 
profits.''
    You go on to identify that Shell Oil, British Petroleum, 
and Marathon Oil have paid millions of dollars in fines for 
violations of marketplace rules that the CFTC had brought them 
to some form of justice. You then also quote that in 2006 
Citicorp concluded, ``we believe the hike in speculative 
positions has been a key driver for the latest surge in 
commodity prices.''
    Then you identify several individuals who went through a 
revolving door between the oil industry and the CFTC itself. So 
I guess my question comes, you are questioning, really aren't 
you, whether there is a cop on the beat and whether or not 
there is anyone minding the store. Could you please amplify in 
that regard?
    Mr. Slocum. That is correct, we have long held a position 
that we do not have adequate disclosure requirements or 
transparency over these key markets. I began my statement by 
talking about how information is the key driver in markets. I 
think that it is bad policy for government regulators who are 
in charge of protecting households, my constituents as a 
representative of one of America's largest consumer groups, the 
government lacks access to the key data to understand what is 
driving these fluctuations in the marketplace.
    We always hear about the supply and demand, and everyone 
has acknowledged that a large segment of the energy trading 
goes on outside of the jurisdiction of Federal regulators. We 
have seen that in the cases where the government does have 
regulatory jurisdiction that they have caught very large, very 
sophisticated oil companies in market manipulation strategies. 
If market manipulation strategies are even occurring on 
regulated exchanges, we can only imagine what is going on on 
exchanges that are free from regulatory oversight.
    Mr. Kagen. Well, if you haven't had time, the opportunity 
to review some of the bills that are moving through this House 
and this Committee, I would appreciate if you would do so. Bart 
Stupak has a bill on the Energy Commerce side on the PUMP Act 
or PUMP Act II, as he sometimes refers to it. Mr. Etheridge has 
a bill that is moving forward. Do you think any of these 
measures will put a cop back on the beat and make certain that 
consumers have someone on their side of the equation?
    Mr. Slocum. Yes, absolutely. I testified before 
Representative Stupak's Committee last year where we talked 
about Public Citizen's concerns with regulation of markets. I 
believe that Representative Stupak's bill will be a great step 
in restoring some transparency.
    I do not believe some of the, to put it mildly, hysterical 
language that is coming out of some of the large energy 
traders, like Goldman Sachs. I just read today in The Wall 
Street Journal that Goldman Sachs is running around Congress 
trying to warn Congress not to tighten regulations over these 
markets. Well, of course Goldman Sachs is going to say that 
because they have massive financial interest in continuing to 
earn record profits off of under-regulated and nontransparent 
markets. That it might be great for the bottom line of Goldman 
Sachs and its shareholders and its top executives, but as folks 
on this panel have testified and others, and I am sure your 
constituents are saying, it is wrecking the American economy 
and causing great harm.
    And are oil prices high because of supply and demand? Yes. 
But I believe that speculation is adding insult to injury to 
these high prices and that there clearly is a disconnect 
between the supply/demand fundamentals and the current record 
high prices and a lot of that is due to the door being wide 
open to the ability of speculators. Whether that is----
    Mr. Kagen. I don't mean to cut you off, but Mr. Roth, do 
you have some comments about this, you have some history here.
    Mr. Roth. Just a point of clarification, the CFTC has and 
has exercised authority to prevent manipulation on commodities 
traded on futures exchanges. Even when the manipulative conduct 
occurred off-exchange. There have been any number of cases 
where the Commission has brought manipulation cases, where the 
activity involved occurred off-exchange but had an effect on-
exchange. So to suggest that there is no cop on the beat to 
guard against that type of manipulation of those futures 
exchanges is just incorrect.
    Mr. Kagen. Would it be more correct to say there is a slow 
cop on the beat because that litigation may take years to take 
effect and they have not been put in jail?
    Mr. Roth. I would suggest that those cases are, by their 
nature, incredibly complex. You don't bring a market 
manipulation case over a weekend. There are, in fact, intensive 
investigations. And as long as we have due process, it will 
take a while.
    Mr. Kagen. The same question to you, Mr. Roth, begging the 
Chairman's indulgence. Do you have an opinion as to the Stupak 
bill, the Etheridge bill or any other bill that is before the 
House that might help to remedy this situation?
    Mr. Roth. We are strongly supportive of this, Congressman. 
In Mr. Etheridge's bill there are provisions with respect to 
the codification of the CFTC's action to close the so-called 
London loophole that needs drafting work. I am sensitive to 
some concerns on that.
    With respect to Congressman Stupak's bill, I believe there 
are positions in his bill that have to do with margins. And I 
would be against any sort of precipitous action with respect to 
the swaps exemption until we get further information.
    Mr. Kagen. I appreciate your input and yield back my time.
    The Chairman. I thank the panel for sharing their expertise 
and time with us; we appreciate it. With that, we have 
concluded the hearing. Everybody, I appreciate you being here. 
Do you have anything to say before we adjourn?
    Mr. Conway. Thank you for having the hearings, they are 
productive and there are great people on both sides of the 
issue.
    The Chairman. Thank you. Under the rules of Committee, the 
record of today's hearing will remain open for 10 days to 
receive additional material and supplementary written 
responses; this will also apply to the two previous days' 
hearings as well, written responses from the witnesses to any 
question posed by a Member to the panel. This hearing of the 
Committee on agriculture is hereby adjourned.
    [Whereupon, at 12:15 p.m., the Committee was adjourned.]


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