[Senate Hearing 112-102]
[From the U.S. Government Publishing Office]



                                                        S. Hrg. 112-102


 BUILDING THE NEW DERIVATIVES REGULATORY FRAMEWORK: OVERSIGHT OF TITLE 
                       VII OF THE DODD-FRANK ACT

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

                                HEARING

                               before the

                              COMMITTEE ON
                   BANKING,HOUSING,AND URBAN AFFAIRS
                          UNITED STATES SENATE

                      ONE HUNDRED TWELFTH CONGRESS

                             FIRST SESSION

                                   ON

  CONTINUING THE OVERSIGHT OF THE IMPLEMENTATION OF TITLE VII OF THE 
                             DODD-FRANK ACT

                               __________

                             APRIL 12, 2011

                               __________

  Printed for the use of the Committee on Banking, Housing, and Urban 
                                Affairs







                 Available at: http: //www.fdsys.gov/




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            COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS

                  TIM JOHNSON, South Dakota, Chairman

JACK REED, Rhode Island              RICHARD C. SHELBY, Alabama
CHARLES E. SCHUMER, New York         MIKE CRAPO, Idaho
ROBERT MENENDEZ, New Jersey          BOB CORKER, Tennessee
DANIEL K. AKAKA, Hawaii              JIM DeMINT, South Carolina
SHERROD BROWN, Ohio                  DAVID VITTER, Louisiana
JON TESTER, Montana                  MIKE JOHANNS, Nebraska
HERB KOHL, Wisconsin                 PATRICK J. TOOMEY, Pennsylvania
MARK R. WARNER, Virginia             MARK KIRK, Illinois
JEFF MERKLEY, Oregon                 JERRY MORAN, Kansas
MICHAEL F. BENNET, Colorado          ROGER F. WICKER, Mississippi
KAY HAGAN, North Carolina

                     Dwight Fettig, Staff Director

              William D. Duhnke, Republican Staff Director

                       Charles Yi, Chief Counsel

                      Jeff Siegel, Senior Counsel

              Brian Filipowich, Professional Staff Member

                 Andrew Olmem, Republican Chief Counsel

                Hester Peirce, Republican Senior Counsel

                Mike Piwowar, Republican Chief Economist

                       Dawn Ratliff, Chief Clerk

                     Levon Bagramian, Hearing Clerk

                      Shelvin Simmons, IT Director

                          Jim Crowell, Editor

                                  (ii)







                            C O N T E N T S

                              ----------                              

                        TUESDAY, APRIL 12, 2011

                                                                   Page

Opening statement of Chairman Johnson............................     1

Opening statements, comments, or prepared statements of:
    Senator Shelby...............................................     2

                               WITNESSES

Mary L. Schapiro, Chairman, Securities and Exchange Commission...     4
    Prepared statement...........................................    40
    Responses to written questions of:
        Chairman Johnson.........................................    88
        Senator Shelby...........................................    88
        Senator Hagan............................................    89
Gary Gensler, Chairman, Commodity Futures Trading Commission.....     5
    Prepared statement...........................................    43
    Responses to written questions of:
        Chairman Johnson.........................................    90
        Senator Shelby...........................................    90
        Senator Reed.............................................    98
        Senator Hagan............................................   100
Daniel K. Tarullo, Member, Board of Governors of the Federal 
  Reserve System.................................................     6
    Prepared statement...........................................    47
    Responses to written questions of:
        Chairman Johnson.........................................   101
        Senator Shelby...........................................   101
        Senator Reed.............................................   102
        Senator Hagan............................................   104
Mary J. Miller, Assistant Secretary for Financial Markets, 
  Department of the Treasury.....................................     8
    Prepared statement...........................................    49
    Responses to written questions of:
        Senator Shelby...........................................   104
        Senator Reed.............................................   106
        Senator Hagan............................................   118
Thomas C. Deas, Jr., Vice President and Treasurer, FMC 
  Corporation....................................................    26
    Prepared statement...........................................    52
Lee Olesky, Chief Executive Officer, Tradeweb Markets LLC........    28
    Prepared statement...........................................    54
Terrence A. Duffy, Executive Chairman, CME Group Inc.............    29
    Prepared statement...........................................    59
Ian Axe, Chief Executive, LCH.Clearnet Group Limited.............    31
    Prepared statement...........................................    73
Jennifer Paquette, Chief Investment Officer, Colorado Public 
  Employees' Retirement Association..............................    33
    Prepared statement...........................................    79

                                 (iii)

 
 BUILDING THE NEW DERIVATIVES REGULATORY FRAMEWORK: OVERSIGHT OF TITLE 
                       VII OF THE DODD-FRANK ACT

                              ----------                              


                        TUESDAY, APRIL 12, 2011

                                       U.S. Senate,
          Committee on Banking, Housing, and Urban Affairs,
                                                    Washington, DC.
    The Committee met at 2:45 p.m., in room SD-538, Dirksen 
Senate Office Building, Hon. Tim Johnson, Chairman of the 
Committee, presiding.

           OPENING STATEMENT OF CHAIRMAN TIM JOHNSON

    Chairman Johnson. I would like to call this hearing to 
order. Due to the length of this afternoon's hearing, we will 
limit opening statements today to myself and Ranking Member 
Shelby, and I would ask the other Members of the Committee to 
please submit their opening statements for the record.
    Today we will review the implementation of the new 
regulatory framework for the OTC derivatives market required by 
the Dodd-Frank Act. This is our Committee's first oversight 
hearing on this issue since the passage of Dodd-Frank. While I 
know there are many other issues that Senators may like to 
raise with the regulators before us today, we should focus our 
questions on the subject of this hearing.
    The Dodd-Frank Act brings needed transparency and 
accountability to our derivatives market and addresses problems 
that greatly exacerbated the 2008 financial crisis. I commend 
all of the regulators here today and their staffs for their 
extraordinary work and long hours they have dedicated to these 
important reforms.
    Putting in a new framework to regulate the vast $600 
trillion swaps market in this age of instantaneous global 
capital movement is an enormously complicated task that demands 
close cooperation with international regulators. We must create 
new rules of the road to ensure that our financial markets 
remain the envy of the world. Our regulators should follow 
congressional intent to craft rules that are based on relevant 
data that reflect the unique structure of the swaps market 
while avoiding rulemaking for political expediency, and ask 
Chairman Gensler and Chairman Schapiro and all our regulators 
to work carefully to do what is necessary to get this right.
    This effort will require strong coordination both within 
and among regulators to review the full set of final rules in a 
holistic way before they are finalized. The regulators must 
also integrate meaningful public input into this review. I urge 
our regulators to work together to craft a streamlined, 
harmonized set of workable rules that protect the ability to 
hedge risks in a cost-effective manner and minimize unintended 
consequences that could send American jobs overseas.
    With that, I turn to Senator Shelby.

             STATEMENT OF SENATOR RICHARD C. SHELBY

    Senator Shelby. Thank you, Mr. Chairman.
    Today the Committee will examine the implementation of the 
Dodd-Frank Act's new derivatives regulatory scheme. There is 
particular need for oversight in this area because Dodd-Frank 
has needlessly, I believe, created widespread uncertainty about 
the regulation of derivatives and threatens to impose huge 
costs on Main Street businesses as well as on our overall 
economy.
    The irony is that the proponents of Dodd-Frank told us that 
the new law would bring certainty to the market and stimulate 
economic growth. Instead, Dodd-Frank has set in motion a 
massive regulatory rulemaking process that is on an unrealistic 
timetable. Predictably, the result has been regulatory 
confusion and market uncertainty.
    Regulators are hastily proposing rules to meet the 
extremely short deadlines without fully considering either 
their economic impact or how they interact with the rules 
proposed by other regulators. Meanwhile, market participants 
are scrambling to understand how the numerous and complicated 
rules will impact their businesses. In fact, they have filed 
thousands of comments on the proposed rules.
    The comments reveal the gravity of their concerns as well 
as their confusion about how the rules will work in practice. 
This process is a direct result of the poorly conceived 
regulatory structure created by the Dodd-Frank legislation. 
Although numerous studies have recommended consolidating our 
financial regulators, Dodd-Frank actually dispersed authority 
for derivatives regulation. Unfortunately, the danger of having 
multiple regulators involved is a process marked by disorder 
and confusion.
    For example, although regulators have proposed numerous new 
rules for derivatives, the CFTC and the SEC have still not 
proposed rules that clarify the definition of a swap. This 
omission alone has had serious ramifications for our markets 
and the implementation process. After all, if regulators do not 
know what the definition of a swap is, how can they finalize 
their own rules governing swap dealers or major swap 
participants since it is unclear exactly who is covered by 
these rules? And if market participants do not know if they 
will be classified as a swap dealer or a major swap 
participant, how can they be expected to know when to submit 
comments?
    This is just one example of how Dodd-Frank has created a 
confused derivatives rulemaking process that is not proceeding 
in a logical order and creates significant uncertainty in our 
markets.
    The regulatory process is further hampered by the fact that 
the Dodd-Frank Act was so poorly drafted. Here is just one 
example, a simple example that illustrates my point.
    One of the first Dodd-Frank rules promulgated by the CFTC 
was an interim final rule for ``reporting pre-enactment swap 
transactions.'' The stated purpose of the rule is to reconcile 
two conflicted Dodd-Frank provisions: Sections 723 and 729.
    The CFTC rule proposal specifically states, and I will 
quote, ``The inconsistencies between these two reporting 
provisions must be reconciled in order to eliminate uncertainty 
with respect to the actual reporting requirements for pre-
enactment swaps.'' In other words, our regulators have been 
forced to undertake additional rulemaking in an effort to 
correct the inconsistencies and errors in the Dodd-Frank Act. 
And although I am not sure how rules can alter statutory 
requirements, it is clear that Dodd-Frank has some fundamental 
flaws and should be revisited.
    Today I look forward to hearing how the regulators plan to 
improve this broken regulatory process, particularly how they 
will consider and incorporate comments from the public.
    Make no mistake. The unprecedented scale and scope of 
agency rulemakings mandated by the Dodd-Frank derivatives title 
make it impossible for regulators to engage in deliberative and 
rational rulemaking and still meet the unrealistic deadlines 
imposed by the act.
    I am also concerned that the regulators are not fully 
considering the costs and benefits of the rules and the effect 
that these rules could have on our markets and job creation in 
the country.
    As the American economy continues to struggle, this may be 
the most important facet of the current regulatory process. I 
think it must not be overlooked.
    Thank you, Mr. Chairman.
    Chairman Johnson. I would like to welcome and introduce the 
witnesses on our first panel:
    The Honorable Mary Schapiro is Chairman of the U.S. 
Securities and Exchange Commission. Previously, she was CEO of 
FINRA. Ms. Schapiro also served as Commissioner of the SEC from 
1988 to 1994 and Chairman of the Commodity Futures Trading 
Commission from 1994 to 1996.
    The Honorable Gary Gensler is Chairman of the Commodity 
Futures Trading Commission. Mr. Gensler previously served in 
the Treasury Department as Under Secretary of Domestic Finance 
and Assistant Secretary of Financial Markets. He also served as 
senior adviser to Chairman Paul Sarbanes.
    Daniel Tarullo is a member of the Federal Reserve Board of 
Governors. Prior to his appointment to the Board, Mr. Tarullo 
was a professor at the Georgetown University Law Center. He 
served as Assistant Secretary of State for Economic and 
Business Affairs as well as Deputy Assistant to the President 
for Economic Policy and Assistant to the President for 
International Economic Policy in the Clinton administration.
    Mary Miller is Assistant Secretary for Financial Markets in 
the Department of the Treasury. In that role she advises the 
Treasury Secretary on a variety of issues relative to domestic 
finance, financial markets, and other important policy matters. 
Previously, Ms. Miller worked as director of the Fixed Income 
Division for the T. Rowe Price Group and served as a research 
associate for the Urban Institute.
    Chairman Schapiro, you may proceed.

    STATEMENT OF MARY L. SCHAPIRO, CHAIRMAN, SECURITIES AND 
                      EXCHANGE COMMISSION

    Ms. Schapiro. Good afternoon, Chairman Johnson, Ranking 
Member Shelby, and Members of the Committee. Thank you for 
inviting me to testify today on behalf of the Securities and 
Exchange Commission regarding the implementation of Title VII 
and Title VIII of the Dodd-Frank Act regarding a regulatory 
framework for derivatives. It is a pleasure to appear with my 
colleagues Chairman Gensler, Governor Tarullo, and Assistant 
Secretary Miller.
    As you know, Title VII and VIII are intended to bring 
greater oversight and transparency to the derivatives markets 
and to payment, clearing, and settlement systems and activities 
and, with that, to increase the stability of our financial 
markets.
    While implementing these provisions is a complex and 
challenging undertaking, particularly in light of our other 
regulatory responsibilities, we recognize the importance of 
this task, and we are very committed to getting it right.
    These rules are intended, among other things, to reduce 
counterparty risk by bringing transparency and centralized 
clearing to security-based swaps, reduce systemic risk, protect 
investors by increasing disclosure, and establish a regulatory 
framework that allows OTC derivatives markets to continue to 
develop in a transparent, efficient, accessible, and 
competitive manner.
    Since passage of the legislation, we have been very engaged 
in an open and transparent implementation process, seeking 
input on the various rules from interested parties even before 
issuing formal rule proposals.
    Our staff has sought meetings with a broad cross-section of 
interested parties. We joined with the CFTC to hold public 
roundtables and hearings, and we have been meeting regularly 
with other financial regulators to ensure consistent and 
comparable definitions and requirements across the rulemaking 
landscape.
    To date, the SEC already has proposed a number of security-
based swap-related rules. Among them are rules that would 
address potential conflicts of interest at security-based swap 
clearing agencies, security-based swap execution facilities, 
and exchanges that trade security-based swaps; rules that would 
specify who must report security-based swap transactions, what 
information must be reported, and where and when it must be 
reported; rules that would require security-based swap data 
repositories to register with the SEC; rules that would define 
security-based swap execution facilities and establish 
requirements for their registration and ongoing operations; 
rules that would specify information that clearing agencies 
would provide to the SEC in order for us to determine if the 
swaps must be cleared and specify the steps that end users must 
follow to rely on the exemption from clearing requirements; and 
rules that establish standards for the operation and governance 
of clearing agencies. In addition, with the CFTC, we have 
proposed rules regarding the definitions of several of the key 
terms within the Dodd-Frank Act.
    Our staff also is working closely with the Federal Reserve 
Board and the CFTC to develop a common framework for 
supervising financial market utilities, such as clearing 
agencies, which are designated by the Financial Stability 
Oversight Council as systemically important. In the coming 
months, we expect to propose rules to establish registration 
procedures for security-based swap dealers and major security-
based swap participants and rules regarding business conduct, 
capital, margins, segregation, and record keeping requirements 
for security-based swap dealers and major security-based swap 
participants. We will also propose joint rules with the CFTC 
governing the definitions of swap and security-based swap, as 
well as the regulation of mixed swaps.
    We recognize the magnitude and interconnectedness of the 
derivatives market, and so we intend to move forward at a 
deliberate pace, continuing to thoughtfully consider issues 
before proposing and adopting specific rules and working 
closely with our domestic counterparts and international 
regulators.
    The Dodd-Frank Act provides the SEC with important tools to 
better meet the challenges of today's financial marketplace and 
fulfill our mission to protect investors, maintain fair, 
orderly, and efficient markets, and facilitate capital 
formation. As we proceed with implementation, we look forward 
to continuing to work closely with Congress, all the 
regulators, and members of the financial community, and the 
investing public.
    Thank you for inviting me to share with you our progress on 
and plans for implementation, and I look forward to answering 
your questions.
    Chairman Johnson. Thank you, Chairman Schapiro.
    Chairman Gensler, please proceed.

STATEMENT OF GARY GENSLER, CHAIRMAN, COMMODITY FUTURES TRADING 
                           COMMISSION

    Mr. Gensler. Good afternoon, Chairman Johnson, Ranking 
Member Shelby, and Members of this Committee. I thank you for 
inviting me here today. I am pleased to testify on behalf of 
the Commodity Futures Trading Commission, and I also thank my 
fellow Commissioners and all of the staff at the CFTC for their 
hard work and commitment in implementing the Dodd-Frank Act. I 
am pleased to testify along with my fellow regulators Chairman 
Schapiro and Governor Tarullo, who I had the honor to be 
announced with by then President-elect Obama 2\1/2\ years ago, 
so we get to be together, and Assistant Secretary Mary Miller. 
We have known each other now for about 15 years, so it is great 
to be here together.
    The CFTC is working very closely with the SEC, the Federal 
Reserve, and other regulators in the U.S. and overseas. We are 
coordinating and consulting with international regulators to 
harmonize oversight of the swaps market, and we have received 
thousands of comments today both before we have made proposals 
and after we have made proposals. At this point in the process, 
the CFTC has proposed rules in 29 of the 31 areas that the 
Dodd-Frank Act required us to do so, including proposing rules 
this morning on margin, which, of course, as well the Federal 
Reserve and other prudential regulators took up.
    Consistent with what Congress did in exempting nonfinancial 
end users from clearing, the proposed rule would not require 
margin to be paid or collected on transactions involving 
nonfinancial end users hedging or mitigating commercial risk.
    Over the next several weeks, it is our goal to largely 
complete the mosaic of proposed rules by proposing rules 
relating to capital as well as the joint product definition 
rule along with the SEC and segregation for cleared swaps. And 
it is our goal to try to complete that in the next several 
weeks.
    One component that we have asked the public about is 
phasing of implementation. We have not moved to any final rules 
yet. The whole mosaic will be out there, but implementation is 
very important. The SEC and the CFTC actually earlier today 
jointly announced that we would ask the public more on this. We 
have asked on every one of our rules, but we want to do it in a 
coordinated way. So early in May we are going to hold 2 days of 
public roundtables to hear about effective dates and 
implementation schedules, which compliance should come later, 
which may be earlier, how it should be phased, whether by asset 
class, by market participant, or by other characteristics.
    We have also put a dedicated comment file up on our Web 
site today so that people can comment on this very important 
issue.
    We will be considering final rules only after staff can 
analyze, summarize, and consider comments, after the 
Commissioners themselves can provide feedback, and after we can 
consult with other regulators not only here but around the 
globe.
    Before I conclude, I just want to briefly talk about 
resources. I appreciate any and all that this Committee did now 
that we are going to move forward and get some breathing room 
and certainty in 2011 funding. But the CFTC is a good 
investment, and it has been asked to take on a much more 
significant role than just overseeing the futures marketplace. 
The futures marketplace is about $40 trillion in notional size, 
maybe about $2.50 to $3 in futures for every dollar in the 
economy. But the swaps marketplace that we have been asked to 
oversee is $300 trillion in size here in the U.S. Give or take, 
$20 of swaps for every dollar in the economy. We share that 
role with the SEC, but clearly it is 7 times the futures 
marketplace.
    We are a good investment, even with what it just looks like 
Congress will be recommending this week, $202 million. It is 
dwarfed by the size of the financial industry itself, which is 
measured in the hundreds of billions of dollars in revenues. So 
the President has put forward a plan for us at $308 million 
next year. I look forward to working with this Committee and 
the appropriators on both sides of the aisle and in both Houses 
to see how we can assure that we have the resources to fulfill 
the mission.
    Thank you.
    Chairman Johnson. Thank you, Chairman Gensler.
    Governor Tarullo, please proceed.

 STATEMENT OF DANIEL K. TARULLO, MEMBER, BOARD OF GOVERNORS OF 
                   THE FEDERAL RESERVE SYSTEM

    Mr. Tarullo. Mr. Chairman, Senator Shelby, and other 
Members of the Committee, thank you for this opportunity to 
provide the Federal Reserve Board's views on the implementation 
of Title VII of Dodd-Frank. The Board's responsibilities fall 
into three broad areas. The first relates to coordination and 
consultation with other authorities, both domestic and foreign.
    As to domestic consultation, Dodd-Frank requires that the 
CFTC and the SEC consult with the Board on rules to implement 
Title VII. In providing comments to the two market regulators, 
we have tried to bring to bear our experience from supervising 
dealers and market infrastructures and our familiarity with 
markets and data sources.
    There are also very important international coordination 
activities related to derivatives. Most prominently, the Group 
of 20, or G-20 leaders, sometime ago established commitments 
related to reform of the OTC derivatives market that would form 
a broadly consistent international regulatory approach. In an 
effort to implement the various portions of that commitment, 
the Committee on Payment and Settlement Systems is working with 
the International Organization of Securities Commissions to 
update international standards for systemically important 
clearing systems, including central counterparties that clear 
derivatives instruments, and trade repositories.
    Even before the G-20 leaders initiative, the Basel 
Committee on Banking Supervision had established capital 
standards for derivatives. More recently, the committee has 
strengthened those standards and has created leverage and 
liquidity standards which will be applicable to them.
    The goal of all of these efforts should be a level playing 
field that will promote both financial stability and fair 
competitive conditions to the fullest extent possible. And I 
think for all of the agencies represented here today, the 
pursuit of this end is going to need to remain a priority for 
some time.
    The second task given to the Federal Reserve under Title 
VII relates to the strengthening of infrastructure. Central 
counterparties are given an expanded role in the clearing and 
settlement of swap and security-based swap transactions. If 
properly designed, managed, and overseen, central 
counterparties offer an important tool for managing 
counterparty credit risk, and thus reducing risk to market 
participants and to the financial system.
    Title VII of the act complements the role of central 
clearing by heightening supervisory oversight of systemically 
important financial market utilities. This heightened oversight 
is important because financial market utilities such as central 
counterparties concentrate risk and thus have the potential to 
transmit shocks throughout the financial markets.
    As part of Title VIII, the Board was given new authority to 
provide emergency collateralized liquidity in unusual and 
exigent circumstances to systemically important financial 
market utilities. We are at present carefully considering how 
to implement this provision in a manner that protects taxpayers 
and limits the rise in moral hazard.
    The third task committed to the Board by Dodd-Frank is that 
of supervision. Capital and margin requirements are central to 
the prudential regulation of financial institutions active in 
derivatives markets as well as to the internal risk management 
processes of those firms. The major rulemaking responsibility 
of the Board and the other prudential regulators is to adopt 
capital and margin regulations for the noncleared swaps of 
banks and other prudentially regulated entities that are swap 
dealers or major swap participants.
    The Board and the other U.S. banking agencies played an 
active role in developing the enhanced capital leverage and 
liquidity regime that I mentioned before. These requirements 
will strengthen the prudential framework for OTC derivatives by 
increasing risk-based capital and leverage requirements and 
requiring banking firms to hold an additional buffer of high-
quality liquid assets to address potential liquidity needs 
resulting from their derivatives portfolios.
    The statute also requires the prudential regulators to 
adopt rules imposing initial and variation margins on 
noncleared swaps to which swap dealers or major swap 
participants that they supervise are a party.
    The statute directs that these margin requirements be risk-
based. In accordance with the statutory instruction, the Board 
and other prudential regulators proposed to implement the 
margin provisions in a way that recognizes the low systemic 
risk posed by most end users. The proposed rule would not 
specify a minimum margin requirement. Rather, it would allow a 
banking organization that is a dealer or major participant to 
establish a threshold based on a credit exposure limit that is 
approved and monitored as a part of the normal credit approval 
process, below which the end user would not have to post 
margin.
    Finally, I would note that the proposed regulation provides 
that the margin requirement should be applied only to contracts 
entered into after the new requirement becomes effective.
    Thank you for your attention.
    Chairman Johnson. Thank you, Governor Tarullo.
    Assistant Secretary Miller, please proceed.

STATEMENT OF MARY J. MILLER, ASSISTANT SECRETARY FOR FINANCIAL 
              MARKETS, DEPARTMENT OF THE TREASURY

    Ms. Miller. Chairman Johnson, Ranking Member Shelby, and 
Members of the Committee, thank you for inviting me to testify 
today about Treasury's role in implementing Dodd-Frank's 
derivatives provisions.
    As you know, the President signed the Dodd-Frank Act into 
law almost 9 months ago. The act established a framework for 
the country to build a stronger, safer, and more competitive 
financial system. It creates safeguards to protect consumers 
and investors, end taxpayer bailouts, and improve the 
transparency, efficiency, and liquidity of U.S. markets. The 
derivatives provisions are a critical part of that framework, 
and the Administration strongly supports them. Dodd-Frank's 
derivatives provisions will shed light on a market that 
previously operated in the shadows. Central clearing, trade 
execution, and reporting requirements and business conduct 
standards will provide substantial benefits. The work that the 
Administration is undertaking in partnership with our 
colleagues at the CFTC, SEC, and Federal Reserve Board is vital 
in preventing the harmful buildup of risk that contributed so 
greatly to the financial crisis in 2008.
    As other Treasury officials have previously testified, 
several broad principles guide our implementation efforts. 
First, we are moving quickly to meet the statute's deadlines, 
but we are also moving carefully to make sure that as we 
implement the act we get it right.
    Second, we are bringing transparency to the process so that 
as many stakeholders as possible have a seat at the table, the 
American people know who is at that table, and anyone who wants 
to provide input on requests for comment and proposed 
rulemakings can do so.
    We are creating a more coordinated regulatory process. The 
Financial Stability Oversight Council is playing a key role by 
bringing together the financial regulatory agencies to help 
develop consistent and comparable regulations and supervisory 
regimes.
    Fourth, we are building a level playing field by setting 
high standards in the United States and working diligently with 
our international counterparts to follow our lead.
    Fifth, we are crafting rules of the road that will provide 
U.S. investors and institutions the conditions they need to 
invest capital, develop innovative products, and compete 
globally.
    Finally, we are committed to regularly keeping Congress 
informed about our progress. The Treasury Secretary has 
specific statutory responsibilities with respect to derivatives 
implementation and also has other responsibilities in his 
capacity as the Chairman of the FSOC.
    Starting with the specific, Congress gave the Secretary the 
authority to determine whether foreign exchange swaps and 
forwards should be exempt from the definition of swap in the 
Commodity Exchange Act. The Secretary must consider the 
statutory factors set forth by the Dodd-Frank Act, including 
the impact regulating FX swaps and forwards swaps under the CEA 
would have on systemic risk and financial stability; the 
existing regulatory regime and supervision of FX swaps and 
forward participants; and, finally, whether an exemption could 
lead to evasion of other regulatory requirements.
    We published a request for comments to solicit public input 
on a wide range of issues relating to a potential exemption. We 
received 30 comments in response, and Treasury staff has also 
conducted an independent analysis, including extensive 
discussions with a range of interested parties.
    We know that market participants, other stakeholders, and 
the Committee are closely following this issue. Regardless of 
the decision the Secretary makes, market participants need to 
be able to prepare for it. While we intend to move 
expeditiously, it is also critical that we take enough time to 
make the right decision for the safety and soundness of the 
markets.
    The Secretary also has derivatives implementation 
responsibilities in his capacity as FSOC Chairman. The FSOC 
recently approved the publication of a Notice of Proposed 
Rulemaking regarding the designation of systemically important 
financial market utilities. FMUs support and facilitate the 
transfer, clearing, and settlement of financial transactions, 
and they form a critical part of the Nation's financial 
infrastructure. The notice was published on March 28th and will 
be open for comments for 60 days.
    One final area I would like to touch on is the importance 
of comparable international standards, including derivatives 
oversight. The United States will set high standards, but 
today's financial system is highly interconnected, mobile, and 
global. We must work not only to protect the competitiveness of 
U.S. financial markets but also to ensure that the reforms we 
implement here are not undermined by lax standards elsewhere.
    We will continue to work at home and abroad to build a 
regulatory framework for derivatives that will help our 
financial system become safer and sounder and a platform on 
which we can build strong financial markets that will fuel our 
economic growth.
    Thank you.
    Chairman Johnson. Thank you, Assistant Secretary Miller. I 
will start off the questions. Thanks for your testimony.
    I will remind my colleagues that we will keep the record 
open for statements, questions, and any other material you 
would like to submit. As we begin questioning the witnesses, I 
will put 5 minutes on the clock for each Member's questions.
    Chairman Schapiro and Chairman Gensler, how do you plan to 
reconcile the different SEC and CFTC proposed rulemakings 
governing swap execution facilities, real time reporting, block 
trades, and other infrastructure consistent with Dodd-Frank's 
requirement to assure regulatory consistency and comparability 
and treat functionally or economically similar products or 
entities in a similar manner?
    Ms. Schapiro. Mr. Chairman, I would be happy to start. We 
are very, very focused, obviously, on the issues surrounding 
the fact that in a number of areas, and you just articulated 
several of them, we do have differences in our rule sets 
between the SEC and the CFTC. Some of those differences may 
actually be necessitated by the fact that the markets, while 
they are both derivatives markets, the products may trade 
differently, have different liquidity characteristics, and for 
that reason, some differences may actually be appropriate in 
order to continue to foster the development of these markets. 
But we have asked for comment on whether our understanding in 
that regard is correct.
    But I would also say that we are continuing to work 
extremely closely together through the proposing stage, and now 
that for a number of rules comment periods have closed, we were 
able to review the comments that have come in on our proposals 
as well as those that have come in on the CFTC's proposals 
where they have gone in a slightly different direction and we 
are very committed to continuing to work through those 
differences, and if they are not grounded in very good market 
structure reasons because of the nature of the products, trying 
to get them as consistent as we possibly can.
    Where we have proposed after the CFTC, I would just add, on 
some rules, we have actually sought explicitly to get comment 
on their approach to see if that might be a better way to go 
forward. So in a number of areas where we do have differences, 
I believe because we are still at the proposing stage and not 
at the adopting stage, we will be able to work through many of 
those differences. And then, of course, through implementation, 
it may be necessary for either or both of us to engage in some 
interpretation of our rules in order to ease implementation and 
make them consistent.
    Mr. Gensler. I will keep it brief. I agree with what 
Chairman Schapiro said. It is a lot of consultation and 
coordination. It is also in the context of there are some 
differences between the futures marketplace and the securities 
marketplace that either have existed in statute or in rules or 
just in market practice for decades, and so we are trying to be 
as close as we can between swaps and securities-based swaps 
while also not creating some regulatory arbitrage and undercut, 
for instance, in our case, a futures marketplace that has 
worked with a great deal of transparency and low risk to the 
American public, and not undercut that marketplace through some 
differences, as well. And I suspect the same issues on your 
side.
    Ms. Schapiro. If I could just add, it is critically 
important to us, as well, that because securities-based swaps 
can be economic equivalents to equity positions, that we want 
to make sure that we do not create, while we are trying to be 
more and more synched up with the swaps markets, between the 
security-based swaps and swaps markets, that we are not 
creating great distance between the security-based swap markets 
and the equity markets, as well.
    Chairman Johnson. Assistant Secretary Miller and Governor 
Tarullo, how are Treasury and the Fed working to harmonize 
international derivatives regulations through the G-20 and the 
Financial Stability Board, especially given the different 
international time frames for moving ahead on new rules? How 
are your efforts in this area being coordinated with the CFTC 
and the SEC to be sure that requirements for capital and other 
rules are both appropriate and consistent?
    Ms. Miller. Well, we are following this very closely, 
because as I said, we are very interested in having good 
harmonization globally on these rules. So in many settings, 
Treasury staff are engaging with their counterparts in 
different international groups. There are a number of working 
groups on derivatives that are occurring through the Financial 
Stability Board in Europe. We are also interested in things 
that are going on in Asia. So we are following both the 
rulemaking process in the U.S. and we are engaging regularly 
with our counterparts in other countries.
    Mr. Tarullo. Mr. Chairman, let me add a couple of thoughts 
there. As you can tell from the testimony today, the other 
rulemakings that the SEC and the CFTC have ongoing, dealing 
with the international equivalents of Title VII and Title VIII, 
are going to implicate a number of different regulatory 
authorities in other jurisdictions.
    So I think what was looked for by the G-20 was a framework 
of agreement or commitment on a set of goals that would then be 
pursued in the various appropriate international bodies. What 
we have got now, I think, is a good bit of very productive work 
on efforts to get agreement on central counterparties, on 
electronic trading, on transparency for those counterparties, 
on risk management standards. That is being done, I think, 
through a lot of cooperation among agencies, but in particular, 
the Fed and the SEC, because, in fact, we have got a Reserve 
Bank President and a Commissioner of the SEC who are chairing 
the key international committees on this point--President 
Dudley of the New York Fed and Commissioner Casey of the SEC.
    On capital, as I said in my prepared remarks, the Basel 
Committee on Banking Supervision has a set of capital 
requirements for derivatives in a part of its overall 
internationally recognized capital standards. They have been 
updated to take account of what was learned during the crisis, 
but they are already agreed among all the Basel Committee 
members, which constitutes not just the G-20 but some 
additional countries beyond the G-20.
    I think the one area where we probably need some more work 
now is on margins for noncleared derivatives and noncleared 
swaps. I think the fact that we, the prudential regulators and 
the market regulators are now moving toward a proposal for the 
U.S. is going to enable us to have a clear, coherent, and 
unified position internationally to try to move along some 
other countries which are actively, or in some cases not so 
actively, considering putting these requirements in place.
    With respect to coordination, I think it has been very 
good. As you can tell from just my recitation of the different 
committees, we need to have everybody involved because there 
are different expertises here, and from all accounts that I get 
from our staff and directly from talking to principals at other 
agencies, I think this is one area where the convergence of 
views and the cooperation among U.S. agencies has been quite 
good.
    Chairman Johnson. Senator Shelby.
    Senator Shelby. Thank you, Mr. Chairman.
    Assistant Secretary Miller, on our second panel today, we 
will hear from the Treasurer of FMC, a large manufacturing 
company here in the U.S., who has grave concerns, according to 
his testimony, about the excessive regulations mandated by 
Dodd-Frank. His testimony indicates that these regulations will 
increase operating costs, making it more difficult for his 
company to both create jobs and to manage risk. Do you believe 
that FMC Manufacturing Company, the end user, is the type of 
company that should be regulated under Dodd-Frank, and does 
Treasury have any concerns about the potential consequences of 
Dodd-Frank derivatives regulation on job creation? Have you 
done any work in this area?
    Ms. Miller. OK. Thank you for the question. We have heard a 
great deal from end users, nonfinancial and financial in the 
markets, and I think that there is sufficient flexibility in 
the Dodd-Frank legislation to work with a company like FMC in 
terms of providing flexibility under derivatives regulation.
    Senator Shelby. In other words, a company that is an end 
user that is managing risk but not in the pure financial 
speculation, is that right?
    Ms. Miller. Yes. We have not done any specific work on the 
economic impact on job creation of this particular title.
    Senator Shelby. Will you do some research, have Treasury do 
some research into that area?
    Ms. Miller. Well, we have worked----
    Senator Shelby. Because this could have ramifications for 
creating jobs, could it not, if it is----
    Ms. Miller. There were many studies mandated by Dodd-Frank 
and we have been diligently delivering the work that has been 
delivered under the statute. So we have put out quite a bit on 
the financial market ramifications.
    Senator Shelby. Foreign exchange swaps and another area. 
Treasury is charged with determining whether foreign exchange 
swaps and forwards should be subject to extensive Government 
regulation. In your testimony today, you stated that, quote--I 
will quote you--``we want to move expeditiously with respect to 
making the determination that the treatment of foreign 
exchange--about the treatment of foreign exchange and swaps.'' 
When will Treasury make its determination, in your judgment?
    Ms. Miller. So I regret that I do not have that decision to 
give you today for the hearing. I think we are very close. We 
have been working on that----
    Senator Shelby. Would you furnish that for the record and 
the other Committee Members when you get it?
    Ms. Miller. We absolutely will, and we would be delighted 
to come up and brief you on our decision either way.
    Senator Shelby. Are you at Treasury aware of any market 
failure in the foreign exchange market that would justify 
further regulation?
    Ms. Miller. There are many parts of the foreign exchange 
market. The FX swaps and forwards part that you just mentioned 
is one part of the foreign exchange market----
    Senator Shelby. Are you aware of any failures in that area 
that would justify further regulation?
    Ms. Miller. I think there are many parts of that market 
that were under severe stress during the financial crisis and 
some parts of it will be subject to Dodd-Frank regulation.
    Senator Shelby. To your knowledge, were any of the areas in 
derivatives where you are managing risk and you are an end user 
under extreme stress? I do not know of any.
    Ms. Miller. I would be happy to reply to that question with 
further research if you want specific examples----
    Senator Shelby. Will you do that for the record?
    Ms. Miller. Sure.
    Senator Shelby. OK. Governor Tarullo, central 
clearinghouses is an area which is very important. Last week, 
Chairman Bernanke of the Federal Reserve gave a speech about 
the importance of properly regulating clearinghouses. He noted 
that one of the reasons that clearinghouses have not had 
trouble to date is, quote, ``good luck.'' We cannot always 
count on good luck, as you know. Beyond relying on luck, what 
steps can we take, or can you take, to ensure that taxpayers 
are never called upon to bail out clearinghouses because that 
was a concern of a lot of us when we were debating the Dodd-
Frank legislation, as you will recall.
    Mr. Tarullo. Right. I do recall your questions on that 
topic, Senator, a year or two ago. So with respect to the 
central clearing parties that are designated as systemically 
important, there will be oversight by the appropriate market 
regulator, but the Federal Reserve has a role to play there as 
well. We have a consultative role. We hope to be involved in 
the exams, bringing to bear, if I can put it this way, a 
supervisory or prudential supervisory perspective on these 
institutions. So we would hope that they will all be subject to 
strong prudential requirements for credit risk, strong 
liquidity buffers----
    Senator Shelby. What does ``hope'' mean? Now, you said you 
would hope----
    Mr. Tarullo. The mechanism here is one--the primary 
regulators are the market regulators.
    Senator Shelby. I know. We know.
    Mr. Tarullo. We have a consultative role----
    Senator Shelby. Oversight role.
    Mr. Tarullo. We have an oversight role, that is correct, 
and in that capacity, I think we will hope to contribute to the 
perspective on the supervision of these organizations. I 
suspect that there will be convergence among the agencies on 
the kind of standards that are important, and, as I said, I 
think we are going to draw on our experience not just with 
market entities, which we do have, but also supervising from a 
prudential point of view, looking to safety and soundness and 
not simply market operations.
    Senator Shelby. In the same type area, the United Kingdom's 
Financial Services Authority wrote a comment letter in response 
to a rule proposed by the CFTC on risk management requirements 
for clearinghouses. The FSA, the United Kingdom's Financial 
Services Authority, warned the CFTC that lax eligibility 
requirements for firms to be members of clearinghouses could 
create new risk to the financial system. Do you agree with 
FSA's comments, or are you concerned about that, too?
    Mr. Tarullo. Senator, I have not seen the FSA comment on 
the proposed CFTC rule. I would say that an effective member 
qualification and default set of standards is very important to 
the integrity of any central clearing party.
    Senator Shelby. Should not you or we, we altogether, should 
not we do everything we possibly can do to ensure that there is 
no bailout of a clearinghouse?
    Mr. Tarullo. Absolutely, Senator. I think that is why we 
all, everybody up there, everybody at the table here, share an 
interest in having rigorous and effectively enforced standards 
for the central clearing parties.
    Senator Shelby. Can I get Chairman Gensler's comments on 
that, because that is in his area.
    Mr. Gensler. It is a big yes. I think that central 
clearinghouses need robust oversight. I view it as a 
partnership with the Federal Reserve, even we might be the 
front line and, of course, the SEC has their clearinghouses, as 
well. I think they should not have central bank liquidity, 
though Dodd-Frank did allow for it in emergency exigent 
circumstances when the Secretary and the Board of Governors 
decide that. But I think that should be an absolute rare 
occurrence. It should not happen.
    Clearinghouses have not failed in this country. We have 
survived two World Wars and we have survived great crises. I 
think the clearinghouses have to have collection of margin. 
They have to have it on a daily basis. They have to be able to 
have proper default management and so forth----
    Senator Shelby. They have to make sure everything clears, 
do they not?
    Mr. Gensler. They absolutely have to make sure everything 
clears, and that which clears has available pricing, available 
liquidity. And I think also with regard to the comment letter 
that you referred from the----
    Senator Shelby. From the U.K.----
    Mr. Gensler. ----from the U.K., it is very important that 
these clearinghouses have open membership, that the access to 
the clearinghouse is not just so narrow--clearinghouses have 
greater risk if it is only narrow membership. But if it is 
broadened out, markets work best when they are open and 
competitive.
    Senator Shelby. Since there are international implications 
to derivatives and derivatives trading and everything, should 
we not listen to our counterparts in Europe, like the United 
Kingdom and FSA and others who have similar concerns that we 
should have?
    Mr. Gensler. Absolutely, and we are listening. We are 
consulting with sharing all our drafts, our term sheets, our 
memos with not just the FSA, but ESMA and the European 
Commission and the like. So their comment is very helpful, but 
we also believe that membership should be opened up, but the 
smaller members can only scale into that membership and not be 
like the large members. Right now, the clearinghouse they are 
thinking about has sort of an exclusive club deal and I think 
Congress spoke to that in the statute, saying there is supposed 
to be open access.
    Senator Shelby. Yes. Exclusive clubs are dangerous things 
sometimes.
    Mr. Gensler. Yes, and that is what occurs in swaps clearing 
today, not in futures clearing. Futures clearing is much more 
open. Securities clearing is much more open. Swaps clearing 
today has been more exclusive, but Dodd-Frank actually said it 
had to be more open and competitive.
    Senator Shelby. Thank you, Mr. Chairman.
    Chairman Johnson. Senator Reed.
    Senator Reed. Thank you very much, Mr. Chairman.
    Let me begin by associating myself with the comments 
Senator Shelby made about the utility of clearing platforms to 
dissipate the risk vis-a-vis bilateral transaction, but the 
inherent danger of not-well-regulated trades create, and I know 
everyone at this table is acutely focused on that and I urge 
you, as Senator Shelby did, to keep your focus on that issue.
    But Secretary Miller, following up on another line of 
questioning of Senator Shelby about forex contracts, were these 
contracts part of the Lehman bankruptcy, i.e., were there 
losses incurred when Lehman failed because they could not 
fulfill forex contracts, and would those losses have been 
avoided if the contracts were traded or cleared?
    Ms. Miller. There were open contracts with Lehman Brothers 
when they failed. Those contracts were settled, so they were 
able to be settled.
    Senator Reed. And they were settled how?
    Ms. Miller. A large number of them moved through a payment 
versus payment settlement system. I cannot give you the precise 
percentage that were settled that way, but it is my 
understanding that all of the open contracts through Lehman 
Brothers were settled.
    Senator Reed. Governor Tarullo, did the Federal Reserve in 
any way support the forex market during the months, the late 
months of 2008?
    Mr. Tarullo. Well, it was not support for the foreign 
exchange market as such, Senator. There was liquidity provided 
in the form of dollar liquidity, both through the discount 
window directly to institutions operating in the United States 
and to central banks of some other countries. But this was not 
in pursuit of settling foreign exchange swaps. This was as a 
byproduct of the general liquidity squeeze that----
    Senator Reed. But part of their exposure was the foreign 
exchange contracts?
    Mr. Tarullo. I do not think it was--I think it was much 
more a funding problem, a dollar funding problem. It was not a 
matter of failing on a contract but not having access to 
wholesale funding in dollars when you had obligations in 
dollars.
    Senator Reed. But there is a possibility, if these 
contracts are exempt, that there could be another situation 
where--a liquidity freeze where it is not a question of 
settlement, they just cannot get the money to settle, and the 
Fed is prepared or will enter into supporting this sector?
    Mr. Tarullo. Well, Senator, under Dodd-Frank, we are not 
permitted to offer institutions specific assistance except 
obviously for the discount window or through the FMU provisions 
here. I think--and Secretary Miller alluded to this--I think 
most people who have studied this issue think that the problems 
in the foreign exchange market have largely concentrated on 
settlement. There is a quite short duration of most forex 
forwards. As you may know, all the international work on 
foreign exchange transactions began after the 1974 failure of 
Herstatt Bank, which produced these kinds of settlement 
problems.
    So I think that is where most of the attention has been 
focused, and today, there are, I would not say perfect or all 
comprehensive mechanisms for making sure that foreign exchange 
transactions settle, but there has been a substantial amount of 
improvement over the last 36 years.
    Senator Reed. I have approximately a minute and a half, so 
Governor Tarullo, you can explain to me the interaction between 
the capital requirements of the Volcker Rule for companies that 
have derivative activities and Basel III and the general 
prudential guidelines for capital that you are developing for 
financial security, and the clock is ticking.
    [Laughter.]
    Mr. Tarullo. So, I am sorry, what are the three areas 
again?
    Senator Reed. Under Dodd-Frank, the Volcker Rule has some 
specialized language with respect to companies, financial 
companies trading derivatives. There is also the Basel III 
requirements that talk about derivatives. And then there is 
just the general prudential safeguards for capital that the Fed 
can insist on a case-by-case basis----
    Mr. Tarullo. Oh, sure.
    Senator Reed. ----a general basis. So in your mind, are 
these separate categories, or does this blend into one sort of 
gut feeling about how much capital a company should have?
    Mr. Tarullo. Well, now it is not going to be a gut feeling. 
There will be an analytic backdrop for it, and I think there 
already is. We devoted a lot of attention even before the Basel 
III process to improving the market risk part of the general 
capital standards and derivatives were one of the focuses for 
attention, including important upgrades to counterparty risk, 
evaluation and capital set-asides, and also to making sure that 
you stressed the potential exposures as opposed to just a 
random test through a normal market environment.
    I think with respect to any capital authority that we have, 
our aim will be to have a set of rules, backstopped by specific 
supervisory oversight, which ensure that those activities are 
not creating risk to the institution that does not have an 
adequate set-aside. That is what existed in the precrisis 
period. There were opportunities for arbitrage that were 
readily taken by firms. I think there was inattention to 
counterparty risk, both at the firm level and among regulators. 
Those are the kind of changes that need to be put in place, and 
those are the kind of changes that are in the rules that we are 
promulgating under Basel III but with an eye to the specifics 
of a firm, not just to sort of a gut feeling about that firm.
    Senator Reed. Thank you, Mr. Chairman. Thank you, Governor. 
Thank you, Mr. Chairman.
    Chairman Johnson. Senator Corker.
    Senator Corker. Thank you, Mr. Chairman, and I thank all of 
you for being here, as usual.
    I think the notion of a clearinghouse was something that--
or focusing on clearing trades was something that was very 
bipartisan in nature. Obviously, you move into details and 
there ends up being some differences, especially on the end 
user piece. But for what it is worth, among market 
participants, and we, obviously, like you, are talking to many 
among those on the buy side and the sell side, and those who 
strongly supported Dodd-Frank and those who obviously oppose 
it, I think there is a concern about the rapidity that these 
rules are being put in place and even more so on their 
prescriptive nature, OK, and just being overly prescriptive.
    So with that, Mr. Gensler, I am going to focus on a few 
things with you. I noticed that people have to have five quotes 
now, for instance. Even a large institutional trader that might 
have a relationship with one institution has to have five 
quotes, and I am wondering, who is it you are trying to help or 
save, or what is the point behind that?
    Mr. Gensler. Senator, I think you are referring to the swap 
execution facility----
    Senator Corker. That is right. That is right.
    Mr. Gensler. ----in the proposed rule, and in that regard, 
Congress said that those transactions that are cleared and made 
available for trading would be brought to swap execution 
facilities. That is a mandate and it is transparency. Congress 
in the statute said that it would be to promote pretrade 
transparency.
    These are trades that are not large blocks. The blocks are 
excepted. So it might be a $5 or $10 million trade, not a $500 
million trade, and it is one that is cleared so it is 
anonymous. There is no credit risk.
    On those trades, what Congress suggested we do and what we 
think we are doing in the rule is promoting transparency where 
multiple participants have an ability to execute against other 
multiple participants. In the futures marketplace, when a 
request for quote goes out, it goes out to the whole 
marketplace. It does not even go just to five. It goes out to a 
broader group in the marketplace, and the quotes that come back 
in are seen by the marketplace. So there is far more liquidity. 
What we are proposing is actually less transparency than the 
futures marketplace.
    Senator Corker. So on the large block trades, they are 
excluded----
    Mr. Gensler. They are excluded.
    Senator Corker. ----and do you think this was something 
wise that we asked you to do, just briefly, yes or no?
    Mr. Gensler. Yes.
    Senator Corker. OK.
    Mr. Gensler. Yes.
    Senator Corker. The real-time reporting, I noticed you have 
come up with a 15-minute time frame. I am just curious about 
what was magic about that. I know numbers of people think that 
is not long enough, especially in larger transactions.
    Mr. Gensler. Well, I am glad you asked. Congress said that 
real-time reporting after the trade should be as soon as 
technologically practicable on the smaller trades, and then on 
the blocks, we could have a delay. So we looked at what delay 
do we have in the futures marketplace. It is about 5 minutes 
now. We proposed 15 minutes if it is on a swap execution 
facility. If it is bilateral, we asked a lot of questions and 
sought comment. In the securities world, Chairman Schapiro 
could speak better, but I think their delay is 90 seconds now. 
So we looked at this and said it is three times the futures 
world, about ten times the securities world. We are going to 
get comments. The proposal will change once we get to a final 
rule, but that was the thinking.
    Senator Corker. So on the larger trades, it may be much 
longer. It may be end of day. It may be something----
    Mr. Gensler. Well, I----
    Senator Corker. ----the block----
    Mr. Gensler. The larger trades that are on a swap execution 
facility, we proposed 15 minutes.
    Senator Corker. Right.
    Mr. Gensler. If it is a bilateral, we did not propose a 
specific time. We just asked a lot of questions.
    Senator Corker. And is it your vision--a lot of people 
think that it is, so I will give you that editorial comment, 
but do you think the derivatives market and equity markets 
should be very similar when you finish all of these activities?
    Mr. Gensler. I think that markets work best when they are 
transparent, open, and competitive, and those three core 
factors, whether it be futures or securities, or derivatives, 
ultimately help end users, investors, and I think it helps the 
economy grow. It does shift some of the information advantage 
to the tens of thousands of users away from the most 
sophisticated----
    Senator Corker. So that is a yes?
    Mr. Gensler. I think it is a yes----
    Senator Corker. I think there are a lot of concerns because 
people view the two instruments as being very different and I 
think there is some concern out there that that is your vision 
and it is not taking into account the differences between the 
instruments.
    Mr. Gensler. Senator, I think you asked about equities and 
derivatives and we regulate futures. I think markets work best, 
whether they are futures, equities, or swaps, when they are 
transparent. When they are competitive, people get the benefit 
of that competition in contrast to a closed or dark market.
    Senator Corker. If derivatives are moving out to electronic 
platforms, is there any concern about a growth of high-
frequency trading taking place in that area?
    Mr. Gensler. It is something that captivates our commission 
every day in the futures marketplace, when 85 to 90 percent of 
the marketplace is now electronic. It is something that we 
think is very much on our mind as we think about regulation in 
the swaps marketplace.
    Senator Corker. And we look forward to having you in our 
office, and I am sorry we have not.
    If I could ask one more question to Mr. Tarullo or Ms. 
Miller, either one, you know, we had a lot of discussions, I 
remember, in the hearing room when Mr. Volcker came in and 
started talking about the Volcker Rule, sort of a flower in the 
middle of regulation. It ended up being a part of Dodd-Frank. 
And I am out, as I know all of you are, and certainly my 
colleagues. We talk with banks throughout our country, small 
community banks and others, about the Examiner in Charge, and 
the Examiner in Charge that comes into their institution, 
basically, their attitude, their understanding of whatever 
regulator it is they are working with changes pretty 
dramatically how their bank's status is interpreted, OK. The 
Examiner in Charge is basically king.
    As you look at the Volcker Rule, again, Mr. Volcker, who I 
respect greatly and I think everybody up here does, could not 
really describe to us what propped trading was. You just know 
it when you see it. How are you all going to sort of 
institutionalize the whole Volcker issue when, again, you have 
these examiners, EICs, that are out amongst these various 
institutions that have judgment? I do not see how you do that 
properly and I would love to have any help with understanding 
that.
    Mr. Tarullo. Senator, I think there are a couple of things. 
First, when you are talking about 7,000 financial institutions 
as you are with some of the very basic prudential standards, 
the balance is always as between allowing for the local 
knowledge of the examiner-in-charge, because he or she is going 
to understand the institution they are in better than anybody, 
on the one hand, and on the other hand, assuring a consistency 
in treatment across everybody in the United States because 
people deserve that.
    When it comes to something like the Volcker Rule or a 
number of the other provisions that we are talking about, you 
are almost surely dealing with a much smaller subset of 
institutions, and I think there, the kind of horizontal 
approach to regulation and supervision that we have been taking 
with respect to larger institutions is going to be particularly 
important.
    So once we, the prudential regulators, come up with the 
regulations to implement the Volcker Rule, we are going to have 
to have a coordinated and coherent and unified approach to 
implementing and overseeing the implementation of that rule, 
and I would expect that as we have already done with some of 
our activities over the last couple of years, beginning with 
the stress tests in early 2009, we will have a process 
internally to make sure that these things are being implemented 
consistently, that the CPC teams, the leads of the teams that 
are in place in the large institutions, have a common framework 
of knowledge and training, and that we are making sure that the 
regulatees have an opportunity to come to us, that is to the 
Board, and to say, we are uncertain about what is going on here 
or we are not sure we are being treated the same way.
    So I think will it be a task? Yes. Will it be more 
difficult, I think, than a lot of the other supervisory tasks 
that we have now? I do not think so. That is not to understate 
the attention it is going to require. But once we get those 
rules in place, I think we do have a mechanism for making sure 
they are applied in a consistent fashion--that people have 
recourse to come to the Board to ask about the interpretation 
of a rule.
    Senator Corker. Thank you, Mr. Chairman.
    Chairman Johnson. Senator Brown.
    Senator Brown. Thank you, Mr. Chairman, and thank you, all 
four of you, for your work on Dodd-Frank and getting the 
legislation passed. Passing this bill last July in so many ways 
was only the beginning of the effort to impose transparency and 
accountability and unregulated in the opaque and unregulated 
derivatives markets. It is pretty clear in newspaper reports 
that the opponents of transparency and the opponents of 
oversight lost the first fight, but they are working on budget 
issues to try to restrict a lot of the things that you are 
trying to do and trying to handcuff your efforts.
    Just listening to your testimony today and looking at the 
magnitude of the regulatory effort that you are undertaking I 
think really illustrates the importance of that, so thank you.
    Chairman Gensler, my questions are directed at you. I sent 
a letter to you back in January about gas price speculation and 
the importance of the CFTC's position limits rules in curbing 
excessive speculation. I am concerned that excessive 
speculation can once again perhaps seriously hurt our economy. 
Every time there is a pipeline outage or a refinery fire or 
trouble in the Middle East, it seems that one reaction of that 
is speculators and oil companies move in to spike prices up, 
using that as a typical excuse for that happening.
    The Commodity Markets Oversight Coalition, a group of 
commercial end users, pointed to 57 studies conducted in the 
last 5 years showing the role of speculation in driving up 
asset and commodity prices. In the 1990s, speculative interest 
in commodities was about 15 to 30 percent typically. Today it 
is closer to one-half to two-thirds of the market. Financial 
companies account for over 51 percent of crude oil futures, an 
increase of 5 percent just in the last month.
    We know what this means to our economy potentially. We know 
what it means to individual motorists, to small businesses 
operating on small margins to truckers, to so many others. And 
we have seen what speculation can do, similar price increases 
in other commodity markets.
    Last week, the CEO of Starbucks said financial speculators 
have come into the commodity markets and drove those prices up 
to historic levels, and as a result of that, the consumer is 
suffering.
    Chairman Gensler, talk to us about financial speculation, 
its effect on prices, and then answer this question, if you 
would. What authority under Dodd-Frank do you have now to 
combat speculation? What do you need from us in terms of 
additional tools to carry that out?
    Mr. Gensler. Hedgers meet speculators in marketplaces. From 
the earliest days in the derivatives marketplace, a farmer 
planting corn or wheat or soy wanted to hedge a price and lock 
in that price at harvest time, and it was generally a 
speculator who was on the other side to assure that price.
    When our agency's predecessors were formed, it was to make 
sure that markets were transparent; a hundred percent of the 
market had to come to a marketplace. Transparency is so 
important, and it is important that we have the tools, legal 
and other tools, to combat fraud and manipulation. Position 
limits were part of that toolkit that we were given in the 
1930s.
    In Dodd-Frank, that was expanded. It was expanded not just 
to be futures but also for economically equivalent swaps.
    We are not a price-setting agency, but our agency is to 
ensure that markets have a certain basic integrity, you can 
have confidence in them, and they are not so concentrated. You 
are accurate that speculators, if you might say, somebody who 
is not in the physical marketing channel, somebody who is not 
producing or using the oil or natural gas or the corn or wheat, 
are a large part of the marketplace. They are well over half of 
the marketplace usually in different parts of the market 
statistics will show. We put these statistics out every Friday. 
They are public.
    So what we need to do, I believe, is complete a rule on 
position limits. Position limits have been in place in the 
agricultural products for decades and were in the energy 
products in the 1980s and 1990s. We have a rule out and that 
the comment period just closed. We actually got--and I 
misstated it in my written testimony. We got 11,000 comments on 
this position limit rule, on the energy and agricultural 
limits. So we are going to need to sort through that. We are 
going to take a number of months. That is a lot of comments to 
sort through. Many of them are repetitive.
    To your question, we also need to promote transparency in 
this marketplace. I think the more transparent, the more market 
participants can see the aggregates as well as the pricing, 
that is a very important thing. And I think we need resources, 
if I might say. This small agency I think is a good investment 
to ensure the integrity of these markets.
    Senator Brown. Thank you.
    Chairman Johnson. Senator Toomey.
    Senator Toomey. Thank you, Mr. Chairman, and thank you very 
much to all of you for testifying.
    I just cannot help but make one brief observation, which 
is--gosh, it is just amazing to me. I have here in my hand the 
CFTC rule on position limits for derivatives. It looks like it 
is about a 4-point font. It is 25 pages long. And according to 
CRS, Dodd-Frank calls for 330 rules.
    It is not a criticism of this particular rule, but it 
strikes me as an incredible cost to the financial institutions 
that have to understand these, digest these, hire the manpower 
to then comply with these. And it strikes me as something that 
could approach a miracle if they are all perfectly consistent 
and compatible and operate exactly as intended with no 
unintended consequences. This is really a very, very difficult 
undertaking, it seems to me, an enormous cost to the financial 
institutions to comply with. I suppose the very large ones will 
be able to afford it. Smaller ones, I am not so sure.
    I would like to follow up with a question on the position 
limits, Mr. Chairman, if I could.
    One is my understanding of Dodd-Frank, which passed before 
I got here, but my understanding is that the bill does provide 
some flexibility in terms of how you go about imposing position 
limits. And my further understanding is that thus far the 
European regulators have not promulgated any rules whatsoever 
regarding position limits.
    Is there a danger that if we go ahead and impose position 
limits and they do not, we simply have a migration of business 
to other venues? Are you concerned about that at all?
    Mr. Gensler. We are working closely with the European and 
Asian regulators. I think capital and risk do not know any 
geographic boundary, so whether it be position limits or other 
rules, Senator, that is something that we are very conscious 
of.
    On position limits, I think after numerous hearings, 
starting probably in 2007 and 2008 in the House and the Senate, 
our authorities were not only broadened to include economically 
equivalent swaps, but also something very important, the 
exclusion from those position limits, called bona fide hedging, 
was narrowed a bit. So we take congressional direction on this 
as well.
    Senator Toomey. I understand that, but are you concerned 
that in the absence of comparable European regulation that we 
have the opportunity for regulatory arbitrage across borders?
    Mr. Gensler. I would have to say yes, but not just with 
regard to position limits. That is why we have been so active 
in Europe and elsewhere to try to harmonize where we can. But 
in terms of position limits, what we are looking at in the 
proposal is about futures and options on futures, where we have 
set them for decades in agriculture. We did in energy in the 
1980s and 1990s along with the exchanges, and the exchanges 
took the lead. And it is looking to reimpose those, and we are 
benefited because, as I said, we have 11,000 public comments in 
the file right now. So this is one that the public is very 
engaged in.
    Senator Toomey. Well, I am concerned about this apparent 
developing disparity between the regulatory regimes.
    Another quickly question, if I could, on the real-time 
reporting. We had a little discussion earlier about speculators 
and the fact that speculators--and I completely agree with your 
observation. Speculators provide a great deal of liquidity. It 
is often the case that speculators also need to have a certain 
amount of anonymity, and while transparency has many virtues 
and can be very important, sometimes anonymity is important, 
too.
    My understanding is--and maybe you could correct me if I am 
mistaken--that the CFTC's 15-minute disclosure requirement is 
different than the SEC, which has a longer period of time 
before a comparable transaction has to be disclosed. So is 
there a difference between the two?
    Ms. Schapiro. There is, Senator, a difference with respect 
to block transactions, the larger transactions, which are the 
ones that would give rise to the concern about whether too much 
information was being revealed that might allow somebody to run 
ahead of the hedge, for example, on the block.
    Senator Toomey. Right.
    Ms. Schapiro. We have not actually proposed yet standards 
for how we will define a block transaction. We have asked for 
comment on that, and then we will propose some specific 
standards. But we have said that while we would recommend 
disseminating the price of the transaction in real time, the 
size of the transaction would not be disseminated for as long 
as 8 to 26 hours after the transaction.
    Senator Toomey. OK. And, Mr. Gensler, would your goal be to 
have a harmonization with respect to the SEC's approach?
    Mr. Gensler. We are working very closely together, not just 
on real-time reporting, but to try to bring them together as 
much as we can. Of course, there are differences in the 
underlying markets. There are differences between futures and 
securities, and the interest rate market, which is a vast and 
large market, is different than the credit default swap market, 
which is largely over at the SEC. So there will still be some 
differences, but whether it be on the block role, the real-time 
reporting role, the swap execution role, we are looking to try 
to get as close as we can, but also respect that there are some 
gaps between the underlying futures and securities markets.
    Senator Toomey. Well, thank you very much. I see my time 
has expired.
    Thank you, Mr. Chairman.
    Chairman Johnson. Senator Moran.
    Senator Moran. Mr. Chairman, thank you very much.
    Chairman Gensler, I would like to discuss the core 
principles issue with you. First of all, I would say just 
generally the complaint I get from the futures industry is that 
the CFTC is working at such a furious pace. Difficult to keep 
up with your rulemaking. I think there are 60 rulemaking 
procedures ongoing. Difficult to conduct business and continue 
to comment on the things that are happening at the CFTC. But 
more troublesome to me is the implementation of a provision in 
Dodd-Frank that seems unnecessary to me, and that is that the 
CFTC has operated under a core principles regime, and I think 
most observers would say survived the disaster of several years 
ago in a very solid way, in a sound way. And yet as I recall, 
you asked the House Agriculture Committee in my days there that 
you have the authority to abandon the core principles and move 
to a more SEC-type regulatory environment for the futures 
industry. And I would just question you as to why you believe 
that the core principles method of regulating the futures 
industry, which at least in my view or the view of observers 
that I read and hear, worked well and were moving in an 
entirely different direction. And I recall this conversation in 
the House Agriculture Committee with Chairman Peterson in which 
we were assured that this is a backstop, if it becomes 
necessary, the CFTC does not intend to go down this path of 
changing the nature of its regulatory environment in the 
futures industry. But that is certainly not the way it has 
turned out to be.
    Where would you characterize my understanding as wrong?
    Mr. Gensler. I would never like to do that with a Senator, 
but----
    Senator Moran. I appreciate that attitude, but I know you 
would be thinking it if you did not say it.
    [Laughter.]
    Mr. Gensler. No, I just want to give a little 
clarification. The CFTC, as part of the Commodity Futures 
Modernization Act, got core principles for two areas, but it 
was not in all the areas. It was for clearing and for trading 
platforms. We do not have today nor have we had it on oversight 
of what is called intermediaries, the futures commission 
merchants and the like. There are many rules there.
    You are absolutely correct, Dodd-Frank gave us a little bit 
greater ability on the clearing and the trading, and 
particularly on clearing because now there is a mandate to move 
what may be $200 to $300 trillion of derivatives into the 
clearinghouses, that it was thought and I still believe it is 
thought that this is a place that needs robust risk management, 
and that we cannot as Americans just rely solely on the good 
risk management standards of the clearinghouses themselves, but 
that regulators and the whole Financial Stability Oversight 
Council have a role and the Federal Reserve has an important 
role to play advising us and joining in those examinations. So 
I think in clearing very much so.
    I could say, Senator, though Congress also set a 1-year 
time limit to put out the rules, we have proposed rules--it is 
actually 47 as of this morning. We have proposed rules, but we 
have not finalized any. We are going to get the rest of the 
proposals out hopefully in the next handful of weeks. The whole 
mosaic will be out there. Though some comment files have 
closed, we have discretion to continue to take comments, and 
using that discretion we do continue to take comments. And we 
are only going to move forward on final rules when we can 
sufficiently summarize comments, get Commissioner feedback, get 
regulatory feedback. We are not going to make the July 
deadline. I know many people in the markets are probably 
pleased to hear that. We are only going to do this according to 
when we are ready to move over the spring, summer, and well 
into the fall on the timing issue.
    Senator Moran. Chairman, I have two responses to your 
comments. One, do you have examples of where the regulatory 
environment that the CFTC operated failed in regard to the 
circumstances that we found our economy in that cause you to 
have that sense. And then, second, just generally, your comment 
about the mosaic, would it be your plan for the industry and 
for Congress to be able to see the whole mosaic before any of 
the rules are individually approved and implemented?
    Mr. Gensler. I think to your second question, yes. As the 
mosaic, we are hopeful to complete, as I said, in the next 3 to 
5 weeks working with the SEC on one very important joint rule 
and the capital rules and so forth.
    Senator Moran. So we can see the big picture before we get 
any ruling taking----
    Mr. Gensler. That is right, and we are also doing some 
joint meetings that we announced today with the SEC on 
implementation phasing that we are going to be doing in early 
May. We have an open comment file that we have put up on that 
phasing as well.
    I think in terms of your other question, I think that we 
did not regulate--as a Nation, we did not regulate the swaps 
marketplace, and it contributed to the crisis that we had in 
2008. It was not the only reason, but all we need to do is 
think about credit default swaps and AIG and the 
interconnectedness of the financial system. So part of the 
cost--and Senator Toomey referred to the cost the financial 
industry is taking on, part of that cost is so that the 
taxpayers do not have to bear as great a risk to bail out 
financial institutions in the future.
    Senator Moran. Thank you, Mr. Chairman.
    Thank you, Mr. Chairman.
    Chairman Johnson. Thank you all of our witnesses on our 
first panel.
    I would ask those on our second panel to take your place at 
the witness table. While you get seated, I would like to 
welcome and introduce the witnesses on our second panel.
    Thomas Deas is vice president and treasurer of the FMC 
Corporation, a Philadelphia-based company focused on ag, 
industrial, and specialty markets. Mr. Deas has served in this 
position since 2001 overseeing financing pension investments, 
insurance, risk management, and other company functions.
    Lee Olesky is chief executive officer of Tradeweb Markets, 
a provider of online trading services for derivatives. Prior to 
working for Tradeweb, Mr. Olesky was the CEO and founder of 
BrokerTec, an electronic brokerage platform, and also worked at 
Credit Suisse First Boston in a variety of positions.
    Terry Duffy is executive chairman of the CME Group, which 
operates several major futures and derivatives exchanges and 
online trading platforms. Mr. Duffy has served in his current 
position since 2006 and has been a member of CME's board since 
1985.
    Ian Axe is chief executive of LCH.Clearnet Group, which is 
an independent clearinghouse group serving exchanges, 
platforms, and OTC markets. Mr. Axe previously served as global 
head of operations for Barclay's Capital.
    Jennifer Paquette is chief investment officer of the Public 
Employees' Retirement Association of Colorado. Ms. Paquette has 
held this position since 2003. She oversees the investment 
process for a public pension fund that provides benefits to 
employees of the Colorado State government, Colorado 
municipalities, public schools, universities, and colleges, and 
other public entities.
    Before we begin the testimony, I will recognize Senator 
Toomey for some brief remarks.
    Senator Toomey. Thank you very much, Mr. Chairman, for 
giving me the opportunity in particular to welcome Mr. Thomas 
Deas. Mr. Deas is the vice president and treasurer of FMC 
Corporation, which is headquartered in Philadelphia. FMC is one 
of the world's foremost diversified chemical companies with 
leading positions in agriculture and industrial and consumer 
markets. Mr. Deas has served as vice president and treasurer of 
FMC since 2001. He has responsibilities for the worldwide 
treasury function, including finance treasury operations, 
pension investments and funding, and insurance and risk 
management. He brings over 20 years of experience in this 
field, and I have had the pleasure of having a number of 
discussions with Mr. Deas, especially about the end user issue 
as it applies to derivative use.
    And I just wanted to welcome you today and thank you very 
much for coming to testify.
    Mr. Deas. Thank you, Senator.
    Chairman Johnson. Mr. Deas, you may proceed.

STATEMENT OF THOMAS C. DEAS, JR., VICE PRESIDENT AND TREASURER, 
                        FMC CORPORATION

    Mr. Deas. Thank you, Mr. Chairman. Good afternoon to you 
and to Ranking Member Shelby and the Members of the Committee.
    In addition to my role in FMC Corporation, I am also 
president of the National Association of Corporate Treasurers. 
FMC and NACT are together members of the Coalition for 
Derivatives End Users, representing thousands of companies 
across the country that employ derivatives to manage day-to-day 
business risk. I would like to express my gratitude to you, Mr. 
Chairman, and to Ranking Member Shelby, for your bipartisan 
efforts on behalf of derivative end users, and particularly to 
Chairman Johnson for your work last week with the other 
Committee Chairmen in support of end user margin exemption. We 
also appreciate Senator Johanns' effort to extend the statutory 
effective date for the proposed regulations, and I thank you, 
Senator Toomey, and Ranking Member Shelby for your kind words 
about FMC Corporation and your care and interest for 
manufacturing companies of which we are a proud one.
    In fact, FMC Corporation was founded almost 130 years ago 
to provide spray equipment to farmers. Today, in addition 
making agricultural chemicals that farmers apply to protect 
their crops, our 5,000 employees have worked hard to make FMC a 
leading manufacturer and marketer of a whole range of 
agricultural, specialty, and industrial chemicals. We have 
achieved this longevity by continually responding to our 
customers' needs with the right chemistry delivered at the 
right price. This year marks our 80th anniversary of listing on 
the New York Stock Exchange. I had the valuable experience on a 
newer financial market, one that we have been discussing today. 
I had the opportunity to negotiate and execute some of the very 
first derivatives--currency swaps--going back to 1984. I have 
seen the derivatives market grow from its inception in the mid-
1980s to its current size by adapting and responding to market 
participants' needs.
    We support this Committee's efforts to redress the problems 
with derivatives experienced during the financial crisis in 
2008, but I want to assure you that FMC and other end users 
were not and are not engaging in risky speculative derivatives 
transactions. We use over-the-counter derivatives to hedge 
risks in our business activity. We are offsetting risks, not 
creating new ones.
    FMC is the world's largest producer of natural soda ash, 
the principal input in glass manufacturing, and we are one of 
the largest employers in the State of Wyoming. We can mine and 
refine soda ash products in southwestern Wyoming, ship them to 
South Asia, and deliver them at a lower cost and with higher 
quality than competing Chinese producers. We have achieved this 
export success in part because of the derivatives we enter into 
to hedge natural gas prices. These derivatives are done with 
several banks, all of which are also supporting FMC through 
their provision of almost $1 billion of committed credit. Our 
banks do not require FMC to post cash margin, but they take 
this risk into account as they price the transaction with us. 
This structure gives us certainty so that we never have to post 
cash margin while the derivative is outstanding.
    But the current system, where end users and their 
counterparties decide collaboratively whether and how margins 
should apply is changing. Today the FDIC proposed a rule that 
could in the future subject end users to margin requirements. 
While we are still reviewing the details, it appears 
regulators, not market participants, will now determine how 
margin will be set. Regulators will have the final say over how 
much cash an end user will have to divert to a margin account 
where it will sit unavailable for productive uses.
    In our world of finite limits and financial constraints, 
posting cash margin would be a direct dollar-for-dollar 
subtraction from funds that we would otherwise use to expand 
our plants, build inventory to support higher sales, conduct 
research and development activities, and ultimately sustain and 
grow jobs.
    In fact, a coalition survey of derivative end users 
extrapolated the effects of margin requirements across the S&P 
500, of which FMC is also a member, to predict the consequent 
loss of 100,000 to 120,000 jobs, depending on these proposed 
thresholds. The effect on the many thousands of end users 
beyond the S&P 500 would be proportionately greater.
    Although I have focused here on margin, end users are also 
concerned about the more than 100 new rules that will determine 
whether we can continue to manage business risk through 
derivatives. We have heard also about capital requirements that 
our counterparties would be required to hold, and we have heard 
through the publication of rules today that uncleared over-the-
counter derivatives, the kind that we employ to hedge our 
business risk, are singled out as high-risk transactions, which 
will attract additional capital we are concerned could be 
almost punitive and could end that ability of end users like 
FMC to hedge their business risk with them.
    Thank you very much for your attention. I would be happy to 
answer your questions.
    Chairman Johnson. Thank you, Mr. Deas.
    Mr. Olesky, please proceed.

  STATEMENT OF LEE OLESKY, CHIEF EXECUTIVE OFFICER, TRADEWEB 
                          MARKETS LLC

    Mr. Olesky. Mr. Chairman and Ranking Member Shelby and 
Members of the Committee, good afternoon and thank you very 
much for inviting me to participate in this hearing.
    My name is Lee Olesky. I am the chief executive officer and 
a founder of Tradeweb, and I appreciate the opportunity to 
testify today about the regulatory framework for implementation 
of Title VII of Dodd-Frank.
    For the last 15 years, Tradeweb has been at the forefront 
of building regulated electronic markets for the trading of OTC 
fixed income securities and derivatives. Tradeweb's core 
competency centers around leveraging technology to create more 
transparent and efficient electronic markets that provide a 
valuable service to the institutional buy-side and banks that 
are our clients.
    Before electronic markets like Tradeweb were established in 
fixed income, institutional clients picked up the phone and 
spoke to different dealers to obtain prices and trade U.S. 
Government bonds. This phone-based trading model is how the OTC 
derivatives market largely functions today.
    In the late 1990s, due to technological advances and the 
acceptance of the Internet, we saw an opportunity to provide 
buy-side clients with greater pretrade price transparency and 
execution efficiency in the U.S. Government bond market. In 
1997, we established Tradeweb and created the first multibank 
electronic Request for Quote marketplace for U.S. Treasury 
securities. Our RFQ model gave clients the ability to run an 
electronic auction among banks to get the best price and 
automate a manual trading process.
    Tradeweb's RFQ marketplace for U.S. Government bonds helped 
transform a phone-based and largely opaque Government bond 
market into a more transparent and competitive and efficient 
market, with the added benefit of reducing operational risk. As 
a result of this evolution, institutional clients such as asset 
managers and pension funds now have access to regulated trading 
systems that provide greater price transparency and more 
efficient execution. Today on Tradeweb's global platform for 
Government bonds, we trade on average approximately $40 billion 
each day with 1,000 institutional clients located in every 
financial center around the world. Among all of our platforms 
and products, the daily volume on Tradeweb is in excess of $300 
billion per day.
    Tradeweb supports the goals of Dodd-Frank, which we believe 
to be enhanced transparency and reduction of systemic risk. 
However, it is vitally important to understand and give due 
consideration to the needs of market participants in 
promulgating rules for implementing Title VII. The aim must be 
to achieve the goals of the act without materially disrupting 
the market and the liquidity it provides to end users.
    Market participants need confidence to participate in these 
markets, and if careful consideration is not given to what the 
rules say, we fear that this confidence could be materially 
shaken.
    The key for achieving the policy objectives for SEFs is to 
provide for flexibility in the way market participants can 
interact and trade swaps. Creating arbitrary or artificially 
prescriptive limitations on the manner in which market 
participants interact and trade could result in liquidity 
drying up, increased costs to trade swaps, and market 
participants seeking other, less efficient ways to manage their 
risk.
    Finally, there has been a great deal of discussion recently 
about how best to implement the proposed rules. There is no 
doubt that an overly hasty timetable for implementation could 
directly impact the health of the derivatives market, given the 
complexity of the system. Implementing these regulations in one 
big bang is unrealistic, so phasing in the rules is a very 
sensible approach.
    However, market participants need clear guidance on when 
the rules will be effective. This is particularly true for 
firms such as Tradeweb that commit capital to build technology 
to support these markets. We believe it is very important for 
the SEC and CFTC to set clear time frames for when rules will 
be effective as soon as practical, and we commend Chairman 
Gensler for taking the initiative to discuss this in an open 
forum in early May and take public comment on the time frames.
    Furthermore, any difference in rules between the SEC and 
CFTC should be largely eliminated. If there are material 
differences between the two regulators' rules, the costs for 
compliance and building technology will go up considerably. By 
ensuring that the SEC and the CFTC rules retain sufficient 
flexibility for market participants, clients can trade in a 
manner that suits their trading strategies and risk profiles. 
Some institutions may want to transact on live prices. Others 
may want to use a disclosed RFQ model. And still others may 
want to trade anonymously in an order book. Regulators should 
not mandate that clients or platforms pick one model or offer 
all models. Flexibility that allows for innovation among 
technology providers is critical to attract the capital 
necessary to fund the investments in these technologies.
    In conclusion, we support the goals to reform the 
derivatives market, and indeed we provide the very solutions 
the regulation seeks to achieve. But we are concerned that the 
Commissions may be overly prescriptive and, in doing so, create 
unintended consequences for market participants and the 
marketplace as a whole. We hope our experience in the 
electronic markets can be helpful and instructive as Congress 
and the regulators take on the great challenge of implementing 
Title VII of Dodd-Frank.
    Thank you.
    Chairman Johnson. Thank you, Mr. Olesky.
    Mr. Duffy, please proceed.

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

    Mr. Duffy. Chairman Johnson, Ranking Member Shelby, Members 
of the Committee, thank you for the opportunity to testify on 
the implementation of the Dodd-Frank Wall Street Reform and 
Consumer Protection Act. I am Terry Duffy, Executive Chairman 
of CME Group, which includes our clearinghouse and four 
exchanges, CME, CBOT, NYMEX, and COMEX.
    In 2000, Congress adopted the Commodity Futures 
Modernization Act. This leveled the playing field with our 
foreign competitors and permitted us to recapture our position 
as the world's most innovative and successful regulated 
exchange and clearinghouse. As a result, we remain an engine of 
economic growth in Chicago, New York, and the Nation.
    In 2008, the financial crisis focused attention on over-
leveraged, under-regulated banks and financial firms. In 
contrast, regulated futures markets and futures clearinghouses 
operated flawlessly before, during, and after the crisis. 
Congress responded to the financial crisis by reining in the 
OTC market, to reduce systemic risk through central clearing 
and exchange trading of derivatives, to increase data 
transparency and price discovery, and to prevent fraud and 
market manipulation. We support these goals.
    But we are concerned that the CFTC has launched an 
initiative to undo modern regulation of futures exchanges and 
clearinghouses. We are not alone. Most careful observers and 
some Commissioners have concluded that many of the proposed 
regulations roll back principle-based regulation and 
unnecessarily expand the Commission's mandate. The CFTC is 
attempting to change its role. It is an oversight agency whose 
purpose has been to assure compliance with sound principles. 
Now, it appears as if it is trying to become a frontline 
decision maker, empowered to impose its business judgments on 
every operational aspect of derivatives trading and clearing.
    This role reversal is inconsistent with Dodd-Frank. It will 
require doubling of the Commission's staff and budget. It will 
impose astronomical costs on the industry and the end users of 
derivatives. My written testimony includes numerous examples of 
rulemaking that will have costly adverse consequences on 
customers, intermediaries, exchanges, and the economy. 
Obviously, the increased cost will have an indirect impact on 
business and employment in the United States. Of equal concern, 
the creation of international regulatory disparities will drive 
business overseas. We recognize that the CFTC has been working 
to induce international regulators to be equally prescriptive. 
However, that effort seems to be failing, as other 
jurisdictions capture U.S. business that the CFTC is driving 
offshore.
    The threat of prescriptive position limits and restrictions 
on hedging in the United States are already driving business 
overseas and into unregulated markets. The threat that margin 
control will be used to influence prices of commodities will 
even be more disastrous. Broad, undefined prohibitions on so-
called disruptive trading practices and strategies will not 
only drive liquidity providers from the U.S. markets, but also 
impair hedging and price discovery.
    We are strong proponents of an adequate budget for our 
regulator and support sufficient funding to modernize this 
technology. However, we strongly object to the expansion of 
Commission staff to enforce regulations that are uncalled for 
by Dodd-Frank or that duplicate the duties now being performed 
by SROs, which are self-regulatory organizations. This comes at 
no cost to the Government.
    Chairman Gensler cited earlier about the size of the 
market. The Commission justifies its budget demands by pointing 
to the growth of the notional value of the contracts it 
oversees on regulated futures markets and the notional value of 
the swaps market that it will be responsible for under Dodd-
Frank. But there is no valid relationship between the notional 
value and the regulatory burden. The swaps market that the CFTC 
will regulate involves only 4,000 to 5,000 transactions per day 
and the parties are all sophisticated investors. The futures 
market has grown to millions of transactions a day, but has 
become a highly sophisticated electronic marketplace with a 
perfect audit trail and high tech enforcement rules.
    The CFTC's budget should reflect the positive impact of 
technology and the necessary regulatory obligations imposed by 
Dodd-Frank. Congress should encourage a full and fair cost and 
benefit analysis for every proposal.
    It also should extend Dodd-Frank's effective date to permit 
a realistic opportunity to comment. Otherwise, we believe that 
the well-regulated futures industry will be burdened by overly 
prescriptive regulations. This is inconsistent with the sound 
practices. Furthermore, it will make it more difficult to reach 
Dodd-Frank's goal of increasing transparency and limiting risk.
    I thank you for your time and look forward to your 
questions.
    Chairman Johnson. Thank you, Mr. Duffy.
    Mr. Axe, please proceed.

   STATEMENT OF IAN AXE, CHIEF EXECUTIVE, LCH.CLEARNET GROUP 
                            LIMITED

    Mr. Axe. Thank you, Mr. Chairman. Chairman Johnson, Ranking 
Member Shelby, Members of the Committee, my name is Ian Axe and 
I am Chief Executive of LCH.Clearnet Group Limited. On behalf 
of the Group, I would like to thank the Committee for asking me 
here today.
    If I may, let me briefly introduce our company. We operate 
two of Europe's leading clearinghouses and a fast-expanding 
office in New York. We are 83 percent owned by members and 17 
percent owned by exchanges, such as NYSE Euronext. We clear 
interest rate, credit default, and energy swaps, bonds and 
repos, equities, metals, and listed derivatives. We have been 
clearing commodities for 120 years and pioneered the 
development of swap clearing in 1999 with our SwapClear 
service. This operates under a DCO license and has been subject 
to CFTC regulation since 2001.
    SwapClear clears over 50 percent of the global interest 
rate swap market, with over $276 trillion in notional 
outstanding, and last year it cleared over 120,000 swaps 
trades, for U.S. counterparties with a notional value of $64 
trillion. We recently extended our SwapClear service to include 
a client clearing service for U.S. end customers. Twelve 
members have since joined up to provide this service, and U.S. 
end users have cleared swaps through them.
    We have U.S. members on our sell and buy side committees 
which meet monthly to discuss the development of our swap 
service. Our buy side working group includes major U.S. asset 
managers and hedge fund investors.
    Our group played a critical role following the Lehman 
Brothers collapse, successfully managing the world's largest 
ever clearing member default. On its default, the firm had a 
$12 trillion portfolio of risk at LCH.Clearnet, including a $9 
trillion swap book. This was liquidated without loss or impact 
on surviving members. On completion, we returned $850 million 
of margin to U.S. bankruptcy administrators.
    We are strong supporters of the Dodd-Frank Act goals and 
believe that the legislation will improve stability in the 
marketplace and greatly reduce systemic risk. In particular, we 
welcome strong risk management and heightened financial service 
standards for clearinghouses, a greater level of supervision 
for clearinghouses, and mandatory clearing obligations.
    We have followed the CFTC and SEC rulemaking process 
closely and applaud the thoughtfulness of the agencies in this 
task. We have participated in roundtables, attended open 
meetings, responded to the proposed rulemakings, and met with 
the Commissioners.
    It is key that the legislation and rules emerging from the 
U.S. and Europe are as closely aligned as possible. This will 
reduce regulatory arbitrage, ensure consistent risk standards 
internationally, and make certain that the G-20 commitments are 
met. A lack of harmonization may impact the economy, jobs, and 
the recovery.
    I will set out three of the greatest areas of concern as 
regards the difference between the U.S. and Europe in our 
international oversight.
    First, ownership and governance. We believe that Congress 
correctly rejected aggregate ownership and voting caps for 
clearinghouses during passage, and are concerned to see the 
agencies might reintroduce such caps. Aggregate restrictions on 
clearinghouse ownership or governance may limit innovation, 
reduce competition, and increase costs.
    Second, risk management and access rules for 
clearinghouses. The CFTC risk management provisions at present 
are aligned to the futures clearing business. Swaps need to be 
reviewed as having different risk management techniques and 
processes. We expect futures and swaps to converge over time, 
but it is inappropriate now to impose futures clearing criteria 
on swaps. We also believe access criteria for swap clearing 
members must be proportionate to the risk introduced and 
contingent on default management and risk underwriting 
participation, such that the clearinghouse, its nondefaulting 
members, and their clients are fully protected.
    And third, customer protection. Security is key. Customers 
clearing swaps, many of them pension funds and other long-term 
saving institutions, must be protected from fellow customer 
risk. The introduction of customer safeguards that deliver such 
security would ensure that U.S. clients have the same 
protection as clients in Europe.
    In conclusion, we believe that the agencies' final rules 
should afford individual customers the option of legal 
segregation. Further, any final rules on clearinghouse 
ownership or governance should be applied at an individual 
level. Finally, access requirements should do nothing to 
compromise the integrity of clearinghouses. We look forward to 
extending our safeguards deeper into the U.S. marketplace and 
to further growing our U.S. staff and operations in support of 
the Act.
    Thank you for inviting me here today. I am happy to take 
any questions.
    Chairman Johnson. Thank you, Mr. Axe.
    Ms. Paquette, please proceed.

   STATEMENT OF JENNIFER PAQUETTE, CHIEF INVESTMENT OFFICER, 
       COLORADO PUBLIC EMPLOYEES' RETIREMENT ASSOCIATION

    Ms. Paquette. Thank you, Chairman Johnson and Ranking 
Member Shelby, for holding this important hearing. I am 
Jennifer Paquette, Chief Investment Officer of Colorado PERA.
    I would like to share with you a school teacher's interest 
in derivatives and share some concerns on proposed rulemaking. 
A Colorado teacher told me years ago about a problem she had in 
her classroom with a first grade boy. She required all the 
students to read aloud in front of the class and this little 
boy was very shy and could not do it. She allowed the student 
to sit in the chair with his back to the class and whisper to 
the blackboard instead, and over the course of the year, she 
took the chair and moved it inch by inch, so that at the end of 
the year, it faced the class. The chair was empty at the end of 
the year and instead, the boy was standing in front of the 
class reading aloud with great pride.
    And when she told me the story, it struck me how much I had 
in common with her. The care that she took with every student 
in her class is the same care that we give to every single 
investment that we oversee for her retirement plan. She would 
not know how to invest a $39 billion institutional portfolio, 
but I and my investment colleagues in Denver, we know how to do 
that on her behalf. She would not know how to execute a total 
return swap to mitigate risk, but we know how to do that. We 
know how to employ futures to mitigate risk when we are doing 
portfolio transitions.
    The investment vehicles that we use matter to all of our 
members. It is why I have come here for the honor of just a few 
minutes before you.
    Derivatives are tools we use for mitigating risk. While 
derivatives are only a modest portion of our total market 
value, they are very useful. You will find in my written 
testimony we have concerns about how public plans may be 
affected by CFTC proposed rules. CFTC's proposed rules include 
public pension plans as a special entity. In order for us to 
enter into a swap, the swap dealer would need to have a 
reasonable basis to believe we have a representative that meets 
certain requirements. We are concerned that there is a conflict 
of interest for one party in a transaction to also be 
responsible for determining who is qualified to represent the 
other side of the transaction. We are also uncomfortable with 
how this could potentially impair negotiations with a dealer. 
We fear higher costs for executing transactions and are 
concerned that strong counterparties may not want to do 
business with us for reasons including potential liability.
    Colorado PERA and a number of public pension funds whose 
assets total over $700 billion have suggested a voluntary 
alternative approach be created. I have included a letter in my 
written testimony signed by these pension funds which describes 
the approach. It would allow us to voluntarily undergo a 
certification process to meet the independent representative 
requirement. This would include passing a proficiency exam. I 
think it supports the intent of protecting investors while 
avoiding some potential conflicts and unintended consequences.
    I have the utmost respect for the time and care you and 
others are expending on these matters. We would like to 
continue to access the swaps markets for the same portfolio 
reasons we have used them effectively for years.
    On behalf of almost half-a-million current and former 
employees, public employees of Colorado PERA, I ask that you 
and all those involved in this process consider our concerns. I 
owe it to all of our Colorado PERA members and to that 
particular teacher I told you about to advocate on this issue. 
That little boy who was afraid to speak, who is not so little 
anymore, I see every day, and he is my reminder to speak on 
issues that matter to the investors that are our members.
    Thank you for your time.
    Chairman Johnson. Thank you, Ms. Paquette. I will start off 
with a few questions. Thank you for your testimony.
    I will remind my colleagues that we will keep the record 
open for statements, questions, and any other material you 
would like to submit. As we begin questioning the witnesses, I 
will put 5 minutes on the clock for each Member's questions.
    Mr. Olesky, how would the proposed CFTC rule on swap 
execution facilities requiring five requests for quotes impact 
market liquidity and potential earning? What would be the 
impact on your company if the SEC and CFTC proposed rules for 
SEFs are not reconciled?
    Mr. Olesky. Thank you. Currently, Tradeweb trades interest 
rate swaps in the U.S. and Europe and we have processed and had 
about 75,000 interest rate swap transactions over the last 
several years, and one of our concerns is that as the rules 
have been proposed by the CFTC in this RFQ process, which is an 
auction that customers, such as the clients that are at this 
table, would run in order to get the best prices, that clients 
would be forced to send out an inquiry to at least five 
different dealers.
    That is not the way the market operates today. In fact, 
that is not the way the U.S. Government bond market operates 
today. In our U.S. Government bond franchise, the average 
inquiry goes out to just three banks and there are some very 
good reasons for this. Clients need to assess how they are 
going to get the best possible price in the marketplace, and at 
times, that means going to just one or two dealers, not five. 
So that is an example of a rule that has been proposed that is 
not mindful of the way the market operates today and would 
require a change. I am not sure what that change entirely would 
be, but we, as a company that provides services to our clients, 
are advocates for our clients, which are the large buy-side 
firms, public pension funds, institutions that want to be able 
to access liquidity in a way that makes the most sense to them.
    Chairman Johnson. Mr. Duffy and Mr. Axe, how would applying 
the Title VII clearing requirements to transactions with 
foreign counterparties impact the competitiveness of U.S. 
markets?
    Mr. Duffy. I would be happy to start things. One of the 
ways, Mr. Chairman, that that would impact us is if the CME had 
a client that was in Europe and they wanted to do a 
counterparty transaction with a party in the U.S., we would 
have to make sure that the CME clearinghouse was registered in 
the U.K. or in any other jurisdiction that that client--the 
trade was coming from. This is a very long, burdensome process 
throughout the U.K. In the U.S., it takes about 6 months to get 
approved to become a clearing member. So this is absolutely a 
very difficult thing for us to do going forward. So that is one 
of the big competitive issues that we have.
    I will let Ian make a comment, then----
    Mr. Axe. Thank you, Mr. Chairman. We currently clear trades 
both in the U.S. and in Europe, and to refer to my oral 
testimony, I think the fear we have in terms of regulatory 
arbitrage is if we don't ensure that we do have consistent 
standards. We appreciate the ability to achieve licensed status 
is one thing, but actually having different systems and 
different regulatory systems across the different geographies 
would create inconsistencies and would not be advisable in the 
ideology of harmonization.
    Chairman Johnson. Mr. Deas, from your perspective, how 
would the proposed definition of swap dealers impact end users?
    Mr. Deas. Chairman Johnson, the definition for swap 
dealers, if it is not done properly, could pick up larger 
companies who are still engaged in hedging underlying business 
activities, and there is a fundamental difference between a 
financial institution acting as a swap dealer and a large U.S.-
based company that is doing that.
    End users are always hedging underlying business activity. 
The derivative when valued together with that underlying 
business exposure creates a neutral position. Swap dealers are 
maintaining an open position. They are market makers. We 
believe it is appropriate for them to centrally clear and 
margin their trades, but because end users are always balanced, 
if you impose margin on them because you have defined them 
through this definition to be a swap dealer, then you take a 
balanced pair of transactions that create a neutral position 
and you actually impose a new and unwelcome risk, at least for 
treasurers, that risk of having to fund periodic margin 
payments with all the attendant uncertainty of that.
    Chairman Johnson. Senator Shelby.
    Senator Shelby. Thank you, Mr. Chairman.
    Mr. Deas, in your testimony today, you warned that 
regulators could impose costs on companies that would inhibit 
their ability to produce goods and hire workers in the United 
States. Chairman Gensler has begrudgingly, I would say, agreed 
to make some accommodations for companies that use derivatives 
to hedge their business risk, like yourself. But he also argues 
that doing so, and I will quote, ``only benefits Wall Street 
and does not benefit Main Street or the corporation that 
provides service to America.'' Do you agree with Chairman 
Gensler's assessment here?
    Mr. Deas. No, sir, I do not. As I have indicated in my 
testimony, we are manufacturing the goods that are consumed in 
the U.S. and we have been able to export them successfully 
overseas, and we do that----
    Senator Shelby. It helps you compete, does it not?
    Mr. Deas. Yes, sir, it does, and it helps us offset risks 
that we cannot otherwise control.
    Senator Shelby. And the consequences--I think you alluded 
to it earlier. What would be the consequences of imposing 
unnecessary regulatory burdens on companies like yourselves 
ability to hedge your unique business risks? A lot of these 
risks are tailored, are they not?
    Mr. Deas. Yes, sir. One of the problems is, for instance, I 
talked about our ability to export. If, as was questioned of 
the Assistant Secretary of the Treasury, if the Secretary of 
the Treasury declares that foreign exchange transactions are 
swept up in this new mechanism, then it could force exporting 
companies like FMC to incur higher costs, and one unfortunate 
way to lower those costs would be for U.S.-based exporters to 
move their manufacturing facilities offshore to the countries 
where their customers are to achieve in that way a better match 
between their costs and the currencies in which their customers 
are paying them. I would hate to see that happen to U.S.-based 
manufacturers, Senator.
    Senator Shelby. Would requiring companies to use 
standardized cleared products or forcing them to post margin, 
as we have talked about here, increase risk in the financial 
system or decrease it? Would it not increase risk for you 
because it costs more?
    Mr. Deas. Senator, it would increase risk in two ways. 
First of all, as I have described, the over-the-counter 
derivatives market became as--grew to the size it is today 
because of its ability to respond and to provide customization. 
The fact that these hedges are effective----
    Senator Shelby. You are talking about tailoring your risk, 
are you not?
    Mr. Deas. Yes, sir, and the fact that we are able to 
achieve that customization means that we have exactly offset 
the business risk. Failure to make it match up exactly if we 
were forced to use a standardized derivative would mean there 
would be residual risk we would retain that could come home to 
manifest itself in higher costs for us.
    Senator Shelby. Mr. Duffy, Governor Tarullo--you were 
here--explained that central clearinghouses concentrate risk 
and thus have the potential to transmit shocks throughout the 
financial markets. What would happen, for example, if CME--we 
hope it never would--or another clearinghouse failed, and what 
type of contingency plans has the CME prepared to make sure 
that if it were to fail, that one of more of its members does 
not threaten the entire financial system?
    Mr. Duffy. Senator, that is a great question, and one of 
the things we can go off of to start with is our record. In the 
156 years, the CME has never had a customer----
    Senator Shelby. I know.
    Mr. Duffy. ----lose anything due to a clearing member 
default. So that is the first thing.
    The second thing is the way we do clearing at the CME 
Group. We settle twice a day mark-to-market. So if the customer 
does not have the funds up and the market runs away from them, 
we either take them out of the market if the money is not 
coming forward. So that is one of the things. We have the 
ability to do that on an hourly basis. We hold over $100 
billion of our customers' capital to make sure that these 
transactions are protected. And so we have many, many 
safeguards. Risk management is something that we spend a lot of 
our time on at the CME Group and I think it is what has made us 
what we are today.
    Senator Shelby. That is good. I want to pronounce your name 
right. Is it ``Paquette''? How do you say it?
    Ms. Paquette. ``Paquette.''
    Senator Shelby. Paquette. Ms. Paquette, the letter that you 
and a number of other pension funds submitted to the 
Commodities Futures Trading Commission noted that however well-
intentioned the goal of, quote, ``protecting vulnerable or 
gullible parties in the swap market might be,'' the CFTC's 
proposed business conduct standards may be so onerous that 
pension plans are, quote, ``left to deal with less desirable 
counterparties, if they could find any at all.'' If the CFTC's 
proposal were adopted in its current form, would it make it 
harder to manage the nearly $40 billion of retirement money for 
which you are responsible to manage?
    Ms. Paquette. Thank you, Ranking Member Shelby. If the 
proposed rules were put in----
    Senator Shelby. Were adopted in its current form----
    Ms. Paquette. ----adopted in their current form, we think 
it would be more challenging for us to manage our $40 billion--
--
    Senator Shelby. And by ``challenging,'' it would be harder. 
It would be more difficult, would it not?
    Ms. Paquette. It would be more difficult in certain areas 
of our portfolio, yes.
    Senator Shelby. Thank you. Thank you, Mr. Chairman.
    Chairman Johnson. Senator Moran.
    Senator Moran. Mr. Chairman, thank you.
    Mr. Duffy, earlier, I asked Chairman Gensler questions 
about why he felt it was necessary to impose prescriptive rules 
that override core principle regime that we have had at CFTC 
previously, or currently, and the Chairman said it was because 
the instruments like swaps, and that is why DCOs needed 
prescriptive rules. However, to my knowledge, there were no 
swap DCOs. The only clearing organizations pre- Dodd-Frank were 
regulated exchanges. Clearing organizations seem to have 
performed well in 2008. And furthermore, it seemed that the 
prescriptive regulations have gone beyond DCOs and are actually 
imparting the exchange--I mean, affecting--excuse me, impacting 
exchanges, as well.
    Can you characterize more specifically how the CFTC is 
dismantling the core principle regime and how it would 
negatively--let me be more unbiased--how it would impact CME's 
exchanges and clearing organizations, and also, did any of the 
DCOs fail in 2008 that would warrant Chairman Gensler's 
concerns that have led him to override core principles for 
DCOs?
    Mr. Duffy. No, sir. None of them did fail. Prior to 2008 
and 2007, CME cleared $1.2 quadrillion of notional value of 
trade without one hiccup. So that is just for starters. And the 
way Chairman Gensler is trying to roll back some of the 
Modernization Act of 2000, for example, would be on product. If 
we want to launch a new product, we have the ability to self-
certify that product. We innovate it. We should have the 
ability to self-certify it so we can be first to market. Some 
of these new rules would call for the CFTC to have days, weeks, 
months to put this out for public comment again and give 
everybody an opportunity to look at what CME is trying to 
innovate. Well, there would be no incentive to innovate new 
products. So that is one example.
    Another example of that would be products we now currently 
may trade in a block trade or an OTC fashion because there are 
very few participants in the transaction, so we list it on a 
facility just for a handful of participants and we still 
essentially clear it. He is saying that within--if you do not 
have 85 percent of that trade done, the volume done, you have 
to delist the product or put it on a central limit order book. 
So that would kill the product.
    Euro-dollar contract is the largest contract in the world 
today, and the short-term interest rates, and long-term 
interest rates. When we listed that, if we went by the 
prescriptive rules back then that they have in place today, we 
would not have a Euro-dollar contract for folks to manage their 
interest rate risk like they do today to protect their 
pensions, mortgages, and other things. So these are just a 
couple examples why I think the Chairman is wrong on this.
    Senator Moran. The CME is a significant financial 
institution. You also may have heard my raising the concern 
that I have heard about the difficulties that the futures 
industry is having in keeping up with the ongoing proposed 
regulations, running their business and responding. My guess is 
that it may be easier for the CME to meet that challenge than 
it is the smaller exchanges. Am I missing something there? I do 
not want you to--I do not expect you to say it is easy for you, 
but I would worry also about, in my case, Kansas City, for 
example, the ability just to keep up with the volume of 
activity at the CFTC right now, to actually make intelligent 
decisions about responses to proposed rules.
    Mr. Duffy. We have a very large outside law firm. We have a 
very large inside law firm. We cannot keep up with the comment 
periods that are coming forward with all the new rules and do 
it in a very thoughtful way. I have talked to the CEO of the 
Kansas City Board of Trade, Jeff Borchardt. I know they are 
having similar issues and they are a much smaller institution. 
We do do business with them, so obviously we have an interest 
in what their thoughts are on this, also. It is almost 
impossible to keep up. So when the CFTC is proposing these 
rules, trying to do them in a very short period of time, and 
for us to digest and see what the consequences are with major 
outside law firms and a large inside law firm, as a very large 
institution and we cannot keep up with it, I am concerned how 
others can.
    Senator Moran. Your response to my question about 
innovation, new product, would that then create a disadvantage 
to being an American, a United States company? Will other 
countries' exchanges be better capable of innovating than the 
United States in bringing new products to market?
    Mr. Duffy. Absolutely. If they can self-certify product 
throughout the world and we do not get a first look at it like 
they would get a first look at our product, you would put the 
United States of America innovation in financial services right 
down the drain.
    Senator Moran. Mr. Duffy, thank you very much.
    Chairman Johnson, thank you.
    Chairman Johnson. Thank you.
    As the rulemaking process moves forward, this Committee 
will continue to provide robust oversight of the reforms to the 
OTC derivatives market. Striking the right balance for how best 
to regulate derivatives should not be a partisan issue and I 
urge Senators on both sides of the aisle to continue working 
with our regulators to build a stronger foundation for our 
financial markets.
    We did not reach a quorum today to vote on pending 
nominations as was scheduled. We are going to look for a time 
within the next 2 days to hold this vote off the Senate floor 
after a roll call vote. My staff will send a notice when we 
find an appropriate time.
    Thank you again to all my colleagues and our panelists for 
being here today.
    This hearing is adjourned.
    [Whereupon, at 4:58 p.m., the hearing was adjourned.]
    [Prepared statements and responses to written questions 
supplied for the record follow:]
                 PREPARED STATEMENT OF MARY L. SCHAPIRO
              Chairman, Securities and Exchange Commission
                             April 12, 2011
    Chairman Johnson, Ranking Member Shelby, and Members of the 
Committee:
    Thank you for inviting me to testify today on behalf of the 
Securities and Exchange Commission regarding its implementation of 
Titles VII and VIII of the Dodd-Frank Wall Street Reform and Consumer 
Protection Act (``Dodd-Frank Act'' or ``Act''), which primarily relate 
to the regulation of over-the-counter (OTC) derivatives and the 
supervision of systemically important payment, clearing, and settlement 
systems. These titles require the SEC, among other regulators, to 
conduct a substantial number of rulemakings and studies. Although this 
task is challenging, particularly when viewed in the context of the 
SEC's other Dodd-Frank Act rulemaking responsibilities, we are 
committed to fulfilling the objectives of the Act in a responsible and 
diligent manner, while seeking the broad public input and consultation 
needed to get these important rules right. My testimony today will 
briefly describe our progress and plans for implementing Titles VII and 
VIII of the Dodd-Frank Act, with a particular focus on the regulation 
of the OTC derivatives marketplace.
Background
OTC Derivative Marketplace
    As has been frequently noted, the growth of the OTC derivatives 
marketplace has been dramatic over the past three decades. From its 
beginnings in the early 1980s, when the first swap agreements were 
negotiated, the notional value of these markets has grown to almost 
$600 trillion globally. \1\ However, OTC derivatives were largely 
excluded from the financial regulatory framework by the Commodity 
Futures Modernization Act of 2000. As a securities and capital markets 
regulator, the SEC has been particularly concerned about OTC 
derivatives products that are related to, or based on, securities or 
securities issuers, and as such are connected with the markets the SEC 
is charged with overseeing.
---------------------------------------------------------------------------
     \1\ See, Bank of International Settlements, Positions in Global 
Over-the-Counter (OTC) Derivatives Markets at End-June 2010, Monetary 
and Economic Department (Nov. 2010), http://www.bis.org/publ/
otc_hy1011.pdf.
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Dodd-Frank Act
    The Dodd-Frank Act mandates oversight of the OTC derivatives 
marketplace. Title VII of the Act requires that the SEC and CFTC write 
rules that address, among other things, mandatory clearing, the 
operation of security-based swap and swap execution facilities and data 
repositories, capital and margin requirements and business conduct 
standards for dealers and major participants, and regulatory access to 
and public transparency for information regarding security-based swap 
and swap transactions. This series of rulemakings should improve 
transparency and facilitate the centralized clearing of security-based 
swaps, helping, among other things, to reduce counterparty risk. It 
should also enhance investor protection by increasing disclosure 
regarding security-based swap transactions and helping to mitigate 
conflicts of interest involving security-based swaps. In addition, 
these rulemakings should establish a regulatory framework that allows 
OTC derivatives markets to continue to develop in a more transparent, 
efficient, accessible, and competitive manner.
    Title VIII of the Act provides for increased oversight of financial 
market utilities designated as systemically important and financial 
institutions that engage in payment, clearing, and settlement 
activities designated as systemically important by the Financial 
Stability Oversight Council. The purpose of Title VIII is to mitigate 
systemic risk in the financial system and promote financial stability.
Implementation Generally
    The implementation of these titles is a substantial undertaking and 
raises a number of challenges. Accordingly, we have been engaging in an 
open and transparent implementation process, seeking input on the 
various rulemakings from interested parties even before issuing formal 
rule proposals. We will continue to seek input on each proposal with 
the goal of producing effective and workable regulation of derivatives 
activities and oversight of financial market utilities designated as 
systemically important and financial institutions that engage in 
payment, clearing, and settlement activities designated as systemically 
important.
Public Consultation
    We have enhanced our public consultative process by expanding the 
opportunity for public comment beyond what is required by law. For 
instance, we have made available to the public a series of e-mail boxes 
to which interested parties can send preliminary comments before rules 
are proposed and the official comment periods begin. These e-mail boxes 
are on the SEC Web site, organized by topic. We also specifically 
solicited comment, along with the CFTC, on the definitions contained in 
Title VII of the Act.
    In addition, our staff has sought the views of affected 
stakeholders. This approach has resulted in meetings with a broad 
cross-section of interested parties. To further this public outreach 
effort, the SEC staff has held joint public roundtables and hearings 
with the CFTC staff on select key topics. Through these processes, we 
have received a wide variety of views and information that is useful to 
us in proposing and, ultimately, adopting rules that are appropriate 
for these markets.
Coordination With the CFTC and Other Regulators
    In implementing Title VII, our staff is meeting regularly, both 
formally and informally, with the staffs of the CFTC, Federal Reserve 
Board, and other financial regulators. In particular, SEC staff has 
consulted and coordinated extensively with CFTC staff in the 
development of the proposed rules. Although the timing and sequencing 
of the CFTC's and SEC's proposed rules may vary, they are the subject 
of extensive interagency discussions. The SEC's rules will apply to 
security-based swaps and the CFTC's rules will apply to swaps, but our 
objective is to establish consistent and comparable requirements, to 
the extent possible, for swaps and security-based swaps. Due in part to 
differences in products, participants, and markets, some of our rule 
proposals contain different approaches to various issues. Nonetheless, 
as we move toward adoption, the objective of consistent and comparable 
requirements will continue to guide our efforts.
    In addition, as required by the Act, we are working with the CFTC 
to adopt joint rules further defining key terms relating to the 
products covered by Title VII and certain categories of market 
intermediaries and participants. Joint rulemaking regarding key 
definitions will promote regulatory consistency and comparability, and 
thus help to prevent regulatory gaps that could foster regulatory 
arbitrage and overlaps that could confuse, or impose unnecessary added 
costs upon, market participants.
    Finally, we recognize that other jurisdictions are also developing 
regulatory frameworks that will address many of the areas covered by 
Title VII. The manner and extent to which we and foreign regulators 
regulate derivatives will affect both U.S. and foreign entities and 
markets. Consequently, as we progress with the implementation of Title 
VII, we will continue to consult with regulatory counterparts abroad in 
an effort to promote robust and consistent standards and avoid 
conflicting requirements, where possible. The SEC and CFTC are, in 
fact, directed by the legislation to consult and coordinate with 
foreign regulators on the establishment of consistent international 
standards governing swaps, security-based swaps, swap entities, and 
security-based swap entities. We believe that bilateral discussions 
with foreign regulators, as well as our engagement in the IOSCO Task 
Force on OTC Derivatives Regulation, which the SEC cochairs, and our 
participation in other international forums will help us achieve this 
goal.
    In short, we remain committed to working closely, cooperatively, 
and regularly with our fellow regulators to facilitate our 
implementation of the regulatory structure established by the Dodd-
Frank Act.
Rulemaking
Actions Already Taken
    The SEC has taken significant steps in implementing the rulemaking 
required by Titles VII and VIII of the Act. To date, the SEC has 
proposed a number of rulemakings required by these titles.
    In October 2010, we proposed rules to mitigate conflicts of 
interest involving security-based swaps. These proposed rules seek to 
address conflicts of interest at security-based swap clearing agencies, 
security-based swap execution facilities, and exchanges that trade 
security-based swaps.
    In November 2010, we proposed antifraud and antimanipulation rules 
for security-based swaps that would subject market conduct in 
connection with the offer, purchase, or sale of any security-based swap 
to the same general antifraud provisions that apply to all securities 
and reach misconduct in connection with ongoing payments and deliveries 
under a security-based swap. We also proposed rules regarding trade 
reporting, data elements, and real-time public dissemination of trade 
information for security-based swaps. Those rules lay out who must 
report security-based swap transactions, what information must be 
reported, and where and when it must be reported. In addition, we have 
proposed rules regarding the obligations of security-based swap data 
repositories, which would require security-based swap data repositories 
to register with the SEC and specify other requirements with which 
security-based swap data repositories must comply.
    In December 2010, we proposed rules relating to mandatory clearing 
of security-based swaps. These rules would set out the way in which 
clearing agencies would provide information to the SEC about security-
based swaps that the clearing agencies plan to accept for clearing. We 
also proposed rules relating to the exception to the mandatory clearing 
requirement for end users. These rules would specify the steps that end 
users must follow, as required under the Act, to notify the SEC of how 
they generally meet their financial obligations when engaging in 
security-based swap transactions exempt from the mandatory clearing 
requirement. In addition, we proposed joint rules with the CFTC 
regarding the definitions of swap and security-based swap dealers, and 
major swap and major security-based swap participants. These rules lay 
out objective criteria for these definitions and are a first step in 
helping the SEC appropriately address the market impacts and potential 
risks posed by these entities.
    Thus far in 2011, we have proposed rules regarding the confirmation 
of security-based swap transactions, which would govern the way in 
which certain security-based swap transactions are acknowledged and 
verified by the parties who enter into them. We also proposed rules 
regarding registration and regulation of security-based swap execution 
facilities, which would define security-based swap execution 
facilities, specify their registration requirements, and establish 
their duties and core principles. And most recently, we proposed rules 
to establish minimum standards concerning the operation, governance, 
and risk management of clearing agencies. At the same time, we reopened 
the comment period for our October proposal regarding conflicts of 
interest at security-based swap clearing agencies, security-based swap 
execution facilities, and exchanges that trade security-based swaps.
    In addition, we adopted interim final rules in October 2010 
regarding the reporting of outstanding security-based swaps entered 
into prior to the date of enactment of the Dodd-Frank Act. These 
interim final rules require certain security-based swap dealers and 
other parties to preserve and report to the SEC or a registered 
security-based swap data repository certain information pertaining to 
any security-based swap entered into prior to the July 21, 2010, 
passage of the Dodd-Frank Act and whose terms had not expired as of 
that date.
    Our staff also is working closely with the Federal Reserve Board 
and the CFTC to develop, as required by Title VIII of the Act, a new 
framework to supervise systemically important financial market 
utilities, including clearing agencies registered with the SEC, that 
are designated by the Financial Stability Oversight Council as 
systemically important. For example, SEC staff has been actively 
coordinating with the other agencies to develop rules regarding 
submission of notices by designated financial market utilities with 
respect to rules, procedures, or operations that could materially 
affect the risks presented by such designated financial market 
utilities. The SEC proposed these rules in December. In addition, in 
March, the Financial Stability Oversight Council, of which the SEC is a 
member, issued a notice of proposed rulemaking regarding the criteria 
and analytical framework for designating financial market utilities 
under Title VIII and the processes and procedures that would be used to 
make such designations.
    Our staff also has been actively coordinating with the other 
agencies on the new authority granted to the SEC and CFTC to develop 
standards for designated financial market utilities. Moreover, the SEC 
and CFTC staffs have begun working with staff from the Federal Reserve 
Board to jointly develop risk management supervision programs for 
designated financial market utilities pursuant to Title VIII. The SEC, 
CFTC, and Federal Reserve Board also are working together closely to 
prepare a joint report to Congress required under Title VIII that will 
make recommendations for improving consistency in the oversight of 
designated clearing entities, promoting robust risk management, and 
monitoring the effects of such risk management on the stability of the 
financial system.
Upcoming Actions
    In the coming months, we expect to propose rules regarding 
registration procedures, business conduct standards, and capital, 
margin, segregation, and record keeping requirements for security-based 
swap dealers and major security-based swap participants. We also expect 
to propose joint rules with the CFTC governing the definitions of 
``swap'' and ``security-based swap,'' as well as the regulation of 
``mixed swaps.''
    The SEC has been carefully reviewing all the comments received 
regarding the rules that already have been proposed and we are in the 
process of considering those comments. We also are continuing 
discussions with various market participants about their concerns and 
ideas regarding the proposed rules. This information is invaluable as 
we move toward consideration of final rules designed to further the 
purposes of the Dodd-Frank Act and the SEC's mission to protect 
investors, maintain fair, orderly, and efficient markets, promote the 
prompt and accurate clearance and settlement of securities 
transactions, and facilitate capital formation and provide effective 
regulation of the security-based swap markets without imposing 
unjustified costs or having unforeseen adverse consequences. We will, 
of course, be engaged in the same process for our upcoming proposed 
rulemakings, and I would like to take this opportunity to encourage 
market participants and the public to continue submitting comments on 
these upcoming proposed rulemakings.
Anticipated Completion of Rulemaking
    We are working to complete the rulemaking proposal and adoption 
process under Titles VII and VIII and are mindful of Congress' 
deadlines for implementation. Nonetheless, this is a very challenging 
task. The OTC derivatives markets are large and interconnected. The 
issues are complex and do not lend themselves to easy solutions. We are 
progressing at a deliberate pace, taking the time necessary to 
thoughtfully consider the issues raised by the various rulemakings 
before proposing specific rules. We are taking a similar approach as we 
move toward consideration of final rules. As we do so, we are also 
devoting careful thought to sequencing the implementation of final 
rules in such a way that market participants will have sufficient time 
to develop the infrastructure necessary to comply. We understand that 
getting the rules right and implementing them in the right order is 
important, and this will continue to guide our efforts in coming 
months.
Impact of Rulemaking on Existing Markets
    There are unique challenges involved in imposing a comprehensive 
regulatory regime on existing markets, particularly ones that until now 
have been almost completely unregulated. For example, in proposing 
margin rules, we will be mindful both of the importance of security-
based swaps as hedging tools for commercial end users and also of the 
need to set prudent risk rules for dealers in these instruments. We 
also need to carefully consider how our rules might impact preexisting 
contracts. For example, in developing rules that concern the capital 
and margin requirements for security-based swap dealers, we will need 
to consider dealers' preexisting security-based swaps. The application 
of new rules to existing security-based swaps could be very disruptive 
and impose burdens on dealers or their counterparties that they did not 
bargain for or anticipate. We discussed this issue, along with the end 
user margin issue, with various stakeholders at a joint SEC-CFTC 
roundtable in December, and are taking the input we received at the 
roundtable and from other sources into account in writing proposed 
rules.
Conclusion
    The Dodd-Frank Act provides the SEC with important tools to better 
meet the challenges of today's financial marketplace and fulfill our 
mission to protect investors, maintain fair, orderly, and efficient 
markets, promote the prompt and accurate clearance and settlement of 
securities transactions, and facilitate capital formation. As we 
proceed with implementation, we look forward to continuing to work 
closely with Congress, our fellow regulators, and members of the 
financial and investing public. Thank you for inviting me to share with 
you our progress on and plans for implementation. I look forward to 
answering your questions.
                                 ______
                                 
                   PREPARED STATEMENT OF GARY GENSLER
             Chairman, Commodity Futures Trading Commission
                             April 12, 2011
    Good afternoon Chairman Johnson, Ranking Member Shelby, and Members 
of the Committee. I thank you for inviting me to today's hearing on 
implementing Title VII of the Dodd-Frank Wall Street Reform and 
Consumer Protection Act. I am pleased to testify on behalf of the 
Commodity Futures Trading Commission (CFTC). I also thank my fellow 
Commissioners and CFTC staff for their hard work and commitment on 
implementing the legislation. I am pleased to testify alongside my 
fellow regulators from the Securities and Exchange Commission (SEC), 
Federal Reserve and Treasury Department.
The Dodd-Frank Act
    On July 21, 2010, President Obama signed the Dodd-Frank Act. The 
Act amended the Commodity Exchange Act (CEA) to establish a 
comprehensive new regulatory framework for swaps and made similar 
amendments to securities laws for security-based swaps. Title VII of 
the Act was enacted to reduce risk, increase transparency and promote 
market integrity within the financial system by, among other things:

  1.  Providing for the registration and comprehensive regulation of 
        swap dealers and major swap participants;

  2.  Imposing clearing and trade execution requirements on 
        standardized derivatives products;

  3.  Creating robust record keeping and real-time reporting regimes; 
        and

  4.  Enhancing the Commission's rulemaking and enforcement authorities 
        with respect to, among others, all registered entities and 
        intermediaries subject to the Commission's oversight.

    The reforms mandated by Congress will reduce systemic risk to our 
financial system and bring sunshine and competition to the swaps 
markets. Markets work best when they are transparent, open and 
competitive. The American public has benefited from these attributes in 
the futures and securities markets since the great regulatory reforms 
of the 1930s. The reforms of Title VII will bring similar features to 
the swaps markets. Lowering risk and improving transparency will make 
the swaps markets safer and improve pricing for end users.
Title VIII of the Dodd-Frank Act
    The CFTC has overseen clearinghouses for decades. Title VIII of the 
Dodd-Frank Act provides for enhanced oversight of these clearinghouses. 
In close consultation with our fellow domestic and international 
regulators, and particularly with the Federal Reserve and the SEC, the 
CFTC proposed rulemakings on risk management for clearinghouses. These 
rulemakings take account of relevant international standards, 
particularly those developed by the Committee on Payment and Settlement 
Systems and the International Organization of Securities Commissions 
(CPSS-IOSCO).
    The Dodd-Frank Act gives the Financial Stability Oversight Council 
(FSOC) and the Federal Reserve Board important roles in clearinghouse 
oversight by authorizing the Council to designate certain 
clearinghouses as systemically important and by permitting the Federal 
Reserve to recommend heightened prudential standards in certain 
circumstances.
    The FSOC proposed a rule last month that complements the CFTC's 
rulemaking efforts. Public input will be valuable in determining how 
the Council should apply statutory criteria to determine which 
clearinghouses qualify for designation as systemically important.
Implementation
    The Dodd-Frank Act is very detailed, addressing all of the key 
policy issues regarding regulation of the swaps marketplace. To 
implement these regulations, the Act requires the CFTC and the SEC, 
working with our fellow regulators, to write rules generally within 360 
days. At the CFTC, we initially organized our effort around 30 teams 
who have been actively at work. We had our first meeting with the 30 
team leads the day before the President signed the law.
    A number of months ago we also set up a 31st rulemaking team tasked 
with developing conforming rules to update the CFTC's existing 
regulations to take into account the provisions of the Act.
    The CFTC is working deliberatively and efficiently to promulgate 
rules required by Congress. The talented and dedicated staff of the 
CFTC has stepped up to the challenge and has recommended thoughtful 
rules--with a great deal of input from each of the five Commissioners--
that would implement the Act. We have thus far proposed rulemakings or 
interpretive orders in 28 of the 31 areas.
    The CFTC's process to implement the rulemakings required by the Act 
includes enhancements over the agency's prior practices in five 
important areas. Our goal was to provide the public with additional 
opportunities to inform the Commission on rulemakings, even before 
official public comment periods. I will expand on each of these five 
points in my testimony.

  1.  We began soliciting views from the public immediately after the 
        Act was signed and prior to approving proposed rulemakings. 
        This allowed the agency to receive input before the pens hit 
        the paper.

  2.  We hosted a series of public, staff-led roundtables to hear ideas 
        from the public prior to considering proposed rulemakings.

  3.  We engaged in significant outreach with other regulators--both 
        foreign and domestic--to seek input on each rulemaking.

  4.  Information on both staff's and Commissioners' meetings with 
        members of the public to hear their views on rulemakings has 
        been made publicly available at cftc.gov.

  5.  The Commission held public meetings to consider proposed 
        rulemakings. The meetings were webcast so that the Commission's 
        deliberations were available to the public. Archive webcasts 
        are available on our Web site as well.

    Two principles are guiding us throughout the rule-writing process. 
First is the statute itself. We intend to comply fully with the 
statute's provisions and Congressional intent to lower risk and bring 
transparency to these markets.
    Second, we are consulting heavily with both other regulators and 
the broader public. We are working very closely with the SEC, the 
Federal Reserve, the Federal Deposit Insurance Corporation, the Office 
of the Controller of the Currency and other prudential regulators, 
which includes sharing many of our memos, term sheets and draft work 
products. We also are working closely with the Treasury Department and 
the new Office of Financial Research. As of Friday, CFTC staff has had 
598 meetings with other regulators on implementation of the Act.
    In addition to working with our American counterparts, we have 
reached out to and are actively consulting and coordinating with 
international regulators to harmonize our approach to swaps oversight. 
As we are with domestic regulators, we are sharing many of our memos, 
term sheets and draft work product with international regulators as 
well. Our discussions have focused on clearing and trading 
requirements, clearinghouses more generally and swaps data reporting 
issues, among many other topics.
    Specifically, we have been consulting directly and sharing 
documentation with the European Commission, the European Central Bank, 
the U.K. Financial Services Authority and the new European Securities 
and Markets Authority. Three weeks ago, I traveled to Brussels to meet 
with the European Parliament's Economic and Monetary Affairs Committee 
and discuss the most important features of swaps oversight reform.
    We also have shared documents with the Japanese Financial Services 
Authority and consulted with Members of the European Parliament and 
regulators in Canada, France, Germany, and Switzerland.
    Through this consultation, we are working to bring consistency to 
regulation of the swaps markets. In September of last year, the 
European Commission released its swaps proposal. As we had in the Dodd-
Frank Act, the E.C.'s proposal covers the entire derivatives 
marketplace--both bilateral and cleared--and the entire product suite, 
including interest rate swaps, currency swaps, commodity swaps, equity 
swaps and credit default swaps. The proposal includes requirements for 
central clearing of swaps, robust oversight of central counterparties 
and reporting of all swaps to a trade repository. The E.C. also is 
considering revisions to its existing Markets in Financial Instruments 
Directive (MiFID), which includes a trade execution requirement, the 
creation of a report with aggregate data on the markets similar to the 
CFTC's Commitments of Traders reports and accountability levels or 
position limits on various commodity markets.
    We also are soliciting broad public input into the rules and have 
set up mailboxes for the public to comment directly prior to the 
Commission's rulemaking process. As of yesterday, we had received 2,907 
submissions from the public through the e-mail inboxes as well as 8,991 
official comments in response to notices of proposed rulemaking.
    For the vast majority of proposed rulemakings, we have solicited 
public comments for a period of 60 days. On some occasions, the public 
comment period lasted 30 days.
    Additionally, many individuals have asked for meetings with either 
our staff or Commissioners to discuss swaps regulation. As of 
yesterday, we have had 675 such meetings. We are now posting on our Web 
site a list of all of the meetings CFTC staff and I have with outside 
organizations, as well as the participants, issues discussed and all 
materials given to us.
    At this point in the process, the CFTC has come to a natural pause 
as we have now promulgated proposals in most of the areas. As we 
receive comments from the public, we are looking at the whole mosaic of 
rules and how they interrelate. We will begin considering final rules 
only after staff can analyze, summarize and consider comments, after 
the Commissioners are able to discuss the comments and provide feedback 
to staff, and after the Commission consults with fellow regulators on 
the rules. We hope to move forward in the spring, summer and fall with 
final rules.
    One component that we have asked the public about is phasing of 
implementation. The Dodd-Frank Act gave the CFTC flexibility as to 
setting implementation or effective dates of the rules to implement the 
Dodd-Frank Act. For example, even if we finish finalizing rules in a 
particular order, that doesn't mean that the rules will be required to 
become effective in that order. Effective dates and implementation 
schedules for certain rules may be conditioned upon other rules being 
finalized, their effective dates and the associated implementation 
schedules. For instance, the effective dates of some final rules may 
come only after the CFTC and SEC jointly finalize the entity or product 
definitions rules.
    The Commission has the authority to phase implementation dates 
based upon a number of factors, including asset class, type of market 
participant and whether the requirement would apply to market 
platforms, like clearinghouses, or to specific transactions, such as 
real time reporting. For example, a rule might become effective for one 
asset class or one group of market participants before it is effective 
for other asset classes or other groups of market participants. We are 
looking to phase in implementation, considering the whole mosaic of 
rules. We look forward to hearing from market participants and 
regulators, both in the U.S. and abroad, regarding the phasing of 
implementation.
End User Margin
    One of the rules on which the CFTC is working closely with the SEC, 
the Federal Reserve and other prudential regulators will address margin 
requirements for swap dealers and major swap participants.
    Congress recognized the different levels of risk posed by 
transactions between financial entities and those that involve 
nonfinancial entities, as reflected in the nonfinancial end user 
exception to clearing. Transactions involving nonfinancial entities do 
not present the same risk to the financial system as those solely 
between financial entities. The risk of a crisis spreading throughout 
the financial system is greater the more interconnected financial 
companies are to each other. Interconnectedness among financial 
entities allows one entity's failure to cause uncertainty and possible 
runs on the funding of other financial entities, which can spread risk 
and economic harm throughout the economy. Consistent with this, 
proposed rules on margin requirements should focus only on transactions 
between financial entities rather than those transactions that involve 
nonfinancial end users.
Conclusion
    Before I close, I will briefly address the resource needs of the 
CFTC. The futures marketplace that the CFTC currently oversees is 
approximately $36 trillion in notional amount. The swaps market that 
the Act tasks the CFTC with regulating has a notional amount roughly 
seven times the size of that of the futures market and is significantly 
more complex. Based upon figures compiled by the OCC, the largest 25 
bank holding companies currently have $277 trillion notional amount of 
swaps.
    The CFTC's current funding is far less than what is required to 
properly fulfill our significantly expanded mission. Though we have an 
excellent, hardworking and talented staff, we just this past year got 
back to the staff levels that we had in the 1990s. To take on the 
challenges of our expanded mission, we will need significantly more 
staff resources and--very importantly--significantly more resources for 
technology. Technology is critical so that we can be as efficient an 
agency as possible in overseeing these vast markets.
    The CFTC currently is operating under a continuing resolution that 
provides funding at an annualized level of $168.8 million. The 
President requested $261 million for the CFTC in his proposed fiscal 
year (FY) 2011 budget. This included $216 million and 745 full-time 
equivalent employees for prereform authorities and $45 million to 
provide half of the staff estimated at that time needed to implement 
the Act. Under the continuing resolution, the Commission has operated 
in FY2011 at its FY2010 level. The President's FY2012 budget request 
included $308 million for the CFTC and would provide for 983 full-time 
equivalent employees.
    Given the resource needs of the CFTC, we are working very closely 
with self regulatory organizations, including the National Futures 
Association, to determine what duties and roles they can take on in the 
swaps markets. Nevertheless, the CFTC has the ultimate statutory 
authority and responsibility for overseeing these markets. Therefore, 
it is essential that the CFTC have additional resources to reduce risk 
and promote transparency in the swaps markets.
    Thank you, and I'd be happy to take questions.
                                 ______
                                 
                PREPARED STATEMENT OF DANIEL K. TARULLO
        Member, Board of Governors of the Federal Reserve System
                             April 12, 2011
    Chairman Johnson, Ranking Member Shelby, and other Members of the 
Committee, I appreciate this opportunity to provide the Federal Reserve 
Board's views on the implementation of title VII of the Dodd-Frank Wall 
Street Reform and Consumer Protection Act (Dodd-Frank Act). The Board's 
responsibilities with respect to over-the-counter (OTC) derivatives 
fall into three broad areas: consultation and coordination with other 
authorities, both domestic and international; efforts to strengthen the 
infrastructure of derivatives markets; and supervision of many 
derivatives dealers and market participants.
Consultation and Coordination
    The Dodd-Frank Act requires that the Commodity Futures Trading 
Commission (CFTC) and the Securities and Exchange Commission (SEC) 
consult with the Board on the rules they are crafting to implement 
several provisions of title VII. Immediately after passage of the act, 
the staff from the commissions and the Board met to fashion a process 
for this consultation; at the Board, we identified members of the staff 
with relevant expertise, both here and across the Federal Reserve 
System. Our staff have commented on proposed rules of the commissions 
at each stage of the development process to date. In providing 
feedback, we have tried to bring to bear our experience from 
supervising dealers and market infrastructure as well as our 
familiarity with markets and data sources to assist the commissions.
    Important coordination activities related to derivatives regulation 
also are occurring within international groups. Most prominently, the 
Group of Twenty (G-20) leaders have set out commitments related to 
reform of the OTC derivatives markets that, when implemented by 
national authorities, will form a broadly consistent international 
regulatory approach. Work on the G-20 commitments is being done by 
numerous groups of technical and policy experts, and staff members from 
the Federal Reserve are actively participating in these groups.
    More generally, the Board participates in many international groups 
that serve as vehicles for coordinating policies related to the 
participants and the infrastructure of derivatives markets. These 
groups include the Basel Committee on Banking Supervision (Basel 
Committee), which has recently enhanced international capital, 
leverage, and liquidity standards for derivatives, and the Committee on 
Payment and Settlement Systems, which is working with the International 
Organization of Securities Commissions to update international 
standards for systemically important clearing systems, including 
central counterparties that clear derivatives instruments, and trade 
repositories. Public consultation on these revised international 
standards is currently under way.
    The goal of all of these efforts is to develop a consistent 
international approach to the regulation and supervision of derivatives 
products and market infrastructures as well as to the sound 
implementation of the agreed-upon approaches. Our aim is to promote 
both financial stability and fair competitive conditions to the fullest 
extent possible.
Infrastructure Issues
    The Dodd-Frank Act addressed both the infrastructure of the 
derivatives markets and the regulation and supervision of its dealers 
and major participants. Central counterparties are given an expanded 
role in the clearing and settling of swap and security-based swap 
(hereafter referred to as ``swap'') transactions, and the Board 
believes benefits can flow from this reform. Since 2005, Federal 
Reserve staff members have worked with market participants to 
strengthen the infrastructure for OTC derivatives, including developing 
and broadening the use of central clearing mechanisms and trade 
repositories. Market participants have already established central 
counterparties that provide clearing services for some OTC interest 
rate, energy, and credit derivatives contracts. If properly designed, 
managed, and overseen, central counterparties offer an important tool 
for managing counterparty credit risk, and thus they can reduce risk to 
market participants and to the financial system. Both central 
counterparties and trade repositories also support regulatory oversight 
and policymaking by providing more-comprehensive data on the 
derivatives markets. The Board is committed to continuing to work with 
other authorities, both in the United States and abroad, to ensure that 
a largely consistent international approach is taken to central 
counterparties and trade repositories and that their risk-reducing 
benefits are realized.
    Title VIII of the act complements the role of central clearing in 
title VII through heightened supervisory oversight of systemically 
important financial market utilities, including systemically important 
facilities that clear swaps. This heightened oversight is important 
because financial market utilities such as central counterparties 
concentrate risk and thus have the potential to transmit shocks 
throughout the financial markets. The Financial Stability Oversight 
Council is responsible for designating utilities as systemically 
important. Through its role on the council, the Board helped develop 
the designation process that was released for comment in March. 
Separately, the Board is also seeking comment on proposed risk-
management standards that would apply to those designated utilities 
supervised by the Board under title VIII. \1\ As part of title VIII, 
the Board was given new authority to provide designated utilities with 
access to Reserve Bank accounts, payment services, and emergency 
collateralized liquidity in unusual and exigent circumstances. We are 
carefully considering ways to implement this authority in a manner that 
protects taxpayers and limits any rise in moral hazard.
---------------------------------------------------------------------------
     \1\ Board of Governors of the Federal Reserve System (2011), 
``Federal Reserve Seeks Comment on Proposed Rule Related to Supervision 
of Designated Financial Market Utilities'', press release, March 30, 
www.federalreserve.gov/newsevents/press/other/20110330a.htm.
---------------------------------------------------------------------------
Supervisory Issues
    Although central counterparties will provide an additional tool for 
managing counterparty credit risk, enhancements to the risk-management 
policies and procedures for individual market participants will 
continue to be a high priority for supervisors. As the reforms outlined 
in the act are implemented, the most active firms in bilateral OTC 
markets likely will become active clearing members of central 
counterparties. As such, the quality of risk management at these firms 
importantly affects the ability of the central counterparty to manage 
its risks effectively and to deliver risk-reducing benefits to the 
markets.
    Capital and margin requirements are central to the prudential 
regulation of financial institutions active in derivatives markets as 
well as to the internal risk-management processes of such firms. Title 
VII requires that the CFTC, the SEC, and prudential regulators adopt 
capital and margin requirements for the noncleared swap activity of 
swap dealers and major swap participants. The Board, the Office of the 
Comptroller of the Currency, the Federal Deposit Insurance Corporation, 
the Federal Housing Finance Agency, and the Farm Credit Administration 
are responsible for adopting capital and margin requirements for swap 
dealers and major swap participants that are banks or other 
prudentially regulated entities. The commissions are responsible for 
adopting capital and margin requirements for swap dealers and major 
swap participants that are not supervised by a prudential regulator. 
The prudential regulators and the commissions are consulting in 
developing the rules, and all agencies must, to the maximum extent 
practicable, adopt comparable standards.
    Earlier today, the Board and the other prudential regulators 
released for public comment a proposed rule on capital and margin 
requirements. Our proposal will be open for public comment for 60 days, 
and we look forward to receiving the public's comments.
    For capital, our proposal relies on the existing regulatory capital 
requirements, which already specifically address the unique risks of 
derivatives transactions. Beyond the current requirements, the Board 
and the other U.S. banking agencies played an active role in developing 
the recent Basel III enhancements to capital requirements agreed to by 
the Basel Committee in December 2010. Basel III will, among other 
things, strengthen the prudential framework for OTC derivatives by 
increasing OTC derivatives' risk-based capital and leverage 
requirements and by requiring banking firms to hold an additional 
buffer of high-quality, liquid assets to address potential liquidity 
needs resulting from their derivatives portfolios.
    Our proposal for margin imposes initial and variation margin 
requirements on the noncleared swaps held by swap dealers or major swap 
participants that have a prudential regulator. For swaps with a 
nonfinancial end user counterparty, the proposed rule would not specify 
a minimum margin requirement. Rather, it would allow a banking 
organization that is a dealer or major participant to establish a 
threshold, based on a credit exposure limit that is approved and 
monitored as part of the credit approval process, below which the end 
user would not have to post margin. For swaps with other 
counterparties, the proposal would cap the allowable threshold for 
unsecured credit exposure on noncleared swaps. In addition, the 
proposal would only apply a margin requirement to contracts entered 
into after the new requirement becomes effective.
    A much discussed part of the act is the requirement that banks push 
portions of their swap activity into affiliates or face restrictions on 
their access to the discount window or deposit insurance. Under the 
push-out provisions, banking organizations with deposit insurance or 
access to the Federal Reserve's discount window will have to reorganize 
some of their derivatives activity, pushing certain types of swaps out 
of subsidiary banks and into distinct legal entities that will require 
their own capitalization and separate documentation of trades with 
existing customers. The act permits domestic banks to continue to 
engage in derivatives activities that have been a traditional focus of 
banks, including hedging activities and dealing in interest rate swaps, 
currency swaps, certain cleared credit default swaps, and other swaps 
that reference assets that banks are eligible to hold. However, because 
of the specific language contained in the act, this exemption for 
traditional bank derivatives activities does not apply to U.S. branches 
of foreign banking firms that by law have access to the Federal 
Reserve's discount window. A possibly unintended effect of the act's 
push-out provision may be to require some foreign firms to reorganize 
their existing U.S. derivatives activities to a greater extent than 
U.S. firms. Proposed rules to implement this section are still under 
development by the banking agencies.
Conclusion
    As the implementation process for the act continues, the challenge 
facing the Board is to enhance supervision, oversight, and prudential 
standards of major derivatives market participants in a manner that 
promotes more-effective risk management and reduces systemic risk, yet 
retain the significant benefits of derivatives to the businesses and 
investors who use them to manage financial market risks. The Board is 
working diligently to achieve these goals.
                                 ______
                                 
                  PREPARED STATEMENT OF MARY J. MILLER
 Assistant Secretary for Financial Markets, Department of the Treasury
                             April 12, 2011
    Chairman Johnson, Ranking Member Shelby, and Members of the 
Committee, thank you for inviting me to testify today about Treasury's 
role in implementing the derivatives provisions of the Dodd-Frank Wall 
Street Reform and Consumer Protection Act (Dodd-Frank Act).
    As you know, the President signed the Dodd-Frank Act into law 
almost 9 months ago. The Act established a framework for the country to 
build a stronger, safer, and more competitive financial system. It 
creates safeguards to protect consumers and investors, end taxpayer 
bailouts, and improve the transparency, efficiency, and liquidity of 
U.S. markets. The Dodd-Frank Act's derivatives provisions are an 
important part of that framework.
    During the 9 months since the Dodd-Frank Act became law, the 
Treasury Department, other parts of the Administration, and independent 
regulatory agencies have been working diligently to build out the 
framework according to the directions provided by the statute. As we 
implement the Dodd-Frank Act, we have focused on advancing the best 
interests of consumers, investors, and taxpayers while also preserving 
the best attributes of and improving upon a financial system that 
encourages investment and promotes growth.
    As other Treasury officials have previously testified before this 
Committee, several broad principles guide our efforts:

  1.  We are moving as quickly as we can to carry out the intent of 
        Congress and meet the deadlines that the Dodd-Frank Act 
        established, but we are also moving carefully to make sure that 
        as we implement the Act, we get it right.

  2.  We are bringing full transparency to the process so that as many 
        stakeholders as possible have a seat at the table, so that the 
        American people know who is at that table, so that proposed 
        rules and even advance notices of proposed rulemakings and 
        requests for comments are published, and so that anyone who 
        wants to comment can do so.

  3.  We are creating a more coordinated regulatory process. We will 
        eliminate gaps that allowed risks to grow unchecked and 
        permitted a race to the bottom in certain areas. The Financial 
        Stability Oversight Council (FSOC) is playing a key role in 
        these efforts by bringing together the financial regulatory 
        agencies to help develop consistent and comparable regulations 
        and supervisory regimes across different agencies.

  4.  We are building a level playing field that treats market 
        participants equally, whether they are banks or nonbanks, and 
        whether they are domestic or foreign institutions. We are 
        setting high standards in the United States and working 
        diligently with our international counterparts to encourage 
        them to set similar standards.

  5.  We are crafting rules of the road that will provide U.S. 
        investors and institutions the confidence, the certainty, and 
        the incentives they need to invest capital, develop innovative 
        products and services, and compete globally.

  6.  Finally, we are committed to keeping Congress fully informed of 
        our progress on a regular basis.

    Just as these guiding principles apply broadly to Dodd-Frank Act 
implementation efforts, they also apply to implementation of the Dodd-
Frank Act's derivatives provisions in particular.
    Our partners at the Commodity Futures Trading Commission (CFTC), 
the Securities and Exchange Commission (SEC), and the Board of 
Governors of the Federal Reserve System (Federal Reserve Board), all of 
whom are represented here today, have been and will continue to be 
instrumental in achieving the goals of the Dodd-Frank Act. As you will 
hear from Chairman Gensler, Chairman Schapiro and Governor Tarullo, 
their agencies' roles in implementing the Act's derivatives provisions 
are particularly important.
    While Treasury has a more limited role than the CFTC, SEC, and 
Federal Reserve Board in building Dodd-Frank's new derivatives 
regulatory framework, the Secretary of the Treasury (Secretary) does 
have certain specific statutory responsibilities under the Dodd-Frank 
Act and has other responsibilities in his capacity as the Chairman of 
the FSOC.
    Starting with the specific responsibilities under the Dodd-Frank 
Act, Congress gave the Secretary the authority to determine whether 
foreign exchange (FX) swaps and forwards should be exempted from the 
definition of ``swap'' in the Commodity Exchange Act (CEA) (7 U.S.C. 
ch. 1). Foreign exchange swaps and forwards generally are subject to 
the requirements of the CEA. For these instruments, the most 
significant requirements under the regulatory regime enacted by the 
Dodd-Frank Act would be central clearing and exchange trading 
requirements for foreign exchange swaps and forwards, unless the 
Secretary determines that they ``(I) should not be regulated as swaps 
under [the CEA]; and (II) are not structured to evade [the Dodd-Frank 
Act] in violation of any rules promulgated by the [CFTC]'' pursuant to 
the Dodd-Frank Act. \1\
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     \1\ 7 U.S.C. 1a(47)(E)(i).
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    The statute limits the scope of a determination to foreign exchange 
swaps and forwards and does not allow the Secretary to exempt other 
foreign exchange derivatives, such as foreign exchange options, 
currency swaps, and nondeliverable forwards. These other foreign 
exchange derivatives do not satisfy the narrow definition of a 
``foreign exchange swap'' or ``foreign exchange forward'' and, 
therefore, may not be exempted.
    Under the CEA as amended by the Dodd-Frank Act, and for purposes of 
the Secretary's determination, an FX swap is defined as ``a transaction 
that solely involves--(A) an exchange of 2 different currencies on a 
specific date at a fixed rate that is agreed upon on the inception of 
the contract covering the exchange'' and ``(B) a reverse exchange of 
[those two currencies] at a later date and at a fixed rate that is 
agreed upon on the inception of the contract covering the exchange.'' 
\2\ Likewise, the CEA as amended narrowly defines an FX forward as ``a 
transaction that solely involves the exchange of 2 different currencies 
on a specific future date at a fixed rate agreed upon on the inception 
of the contract covering the exchange.'' \3\
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     \2\ 7 U.S.C. 1a(25).
     \3\ 7 U.S.C. 1a(24).
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    In determining whether to exempt foreign exchange swaps and 
forwards, the Secretary must consider the following five statutory 
factors set forth by the Dodd-Frank Act:

  1.  Whether the required trading and clearing of foreign exchange 
        swaps and foreign exchange forwards would create systemic risk, 
        lower transparency, or threaten the financial stability of the 
        United States;

  2.  Whether foreign exchange swaps and foreign exchange forwards are 
        already subject to a regulatory scheme that is materially 
        comparable to that established by the CEA for other classes of 
        swaps;

  3.  The extent to which bank regulators of participants in the 
        foreign exchange market provide adequate supervision, including 
        capital and margin requirements;

  4.  The extent of adequate payment and settlement systems; and

  5.  The use of a potential exemption of foreign exchange swaps and 
        foreign exchange forwards to evade otherwise applicable 
        regulatory requirements. \4\
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     \4\ 7 U.S.C. 1b(a).

    If the Secretary determines that foreign exchange swaps or forwards 
should be exempted from the CEA's definition of ``swap,'' Treasury must 
provide a written determination to Congress that contains: (1) ``an 
explanation of why [FX] swaps and [FX] forwards are qualitatively 
different from other classes of swaps in a way that would make the [FX] 
swaps and [FX] forwards ill-suited for regulation as swaps;'' and (2) 
``an identification of the objective differences of [FX] swaps and [FX] 
forwards with respect to standard swaps that warrant an exempted 
status.'' \5\
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     \5\ 7 U.S.C. 1b(b).
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    Consistent with Treasury's commitment to an open and transparent 
process, on October 28, 2010, we published a Notice and Request for 
Comments (Notice) in the Federal Register to solicit public comment on 
a wide range of issues relating to whether foreign exchange swaps and 
foreign exchange forwards should be exempt from the definition of the 
term ``swap'' under the CEA. We received approximately thirty comments 
in response to the Notice, and Treasury staff has also conducted its 
own, independent analysis of the issue, including extensive discussions 
with a range of regulators, end users, dealers, and other interested 
parties.
    We know that this is an issue that market participants and other 
stakeholders are interested in, and we recognize that the Committee is 
also closely following this issue. Like other areas of Dodd-Frank 
implementation and consistent with the guiding principles identified 
above, this is an area where we want to move expeditiously. Regardless 
of the decision the Secretary pursues, market participants need to know 
what the regulatory regime will look like and to be able to plan and 
prepare for that regime. But it is also critical that we take enough 
time to be confident that we are making the right decision for the 
safety and soundness of the markets.
    In addition to his specific duties under the Dodd-Frank Act, the 
Secretary also has more general responsibilities with respect to the 
Act's derivatives provisions in his capacity as Chairman of the FSOC. 
In March, the FSOC held its fourth meeting and approved the publication 
of a Notice of Proposed Rulemaking (NPRM) regarding the FSOC's 
designation of financial market utilities (FMUs) as systemically 
important.
    FMUs exist in many financial markets to support and facilitate the 
transfer, clearing, and settlement of financial transactions, and they 
form a critical part of the Nation's financial market infrastructure. 
FMUs' functions and interconnectedness with many parts of the market 
can help manage and reduce risk, but if they are poorly operated could 
also concentrate risk. Title VIII of systemic risks they might create 
if not properly managed and supervised. To address the potential for 
such risks, the Act seeks to enhance the regulation and supervision of 
systemically important FMUs to promote robust risk management and 
safety and soundness.
    The FSOC published an advance notice of proposed rulemaking 
regarding the criteria for designating systemically important FMUs on 
December 21, 2010. After receiving, reviewing, and analyzing comments 
received in response to the advance notice and performing additional 
work, at its March meeting the FSOC approved the publication of the 
NPRM. The NPRM was published in the Federal Register on March 28, 2011, 
and the comment period will be open for 60 days for any interested 
party to submit comments on the proposed rule.
    Title VIII of the Dodd-Frank Act also gives the FSOC the 
responsibility of designating systemically important payment, clearing, 
and settlement (PCS) activities that occur at financial institutions 
other than FMUs. These PCS activities could occur between financial 
institutions transacting with each other or between a financial 
institution and one of its customers. The FSOC's member agencies and 
staff have started examining this issue as well, and the FSOC will 
proceed in the coming months with the necessary rulemaking to establish 
the criteria and procedures for the FSOC's designation of PCS 
activities as systemically important.
    One final area I would like to touch on is the importance of the 
comparability of international standards that will apply to the 
financial regulatory framework in general, including derivatives 
regulation. The United States will set high standards and take the 
steps that are necessary for the safety and soundness of our financial 
system. But today's financial system is highly interconnected, mobile, 
and global. It is important that we pursue as level an international 
playing field as possible not only to protect the competiveness of U.S. 
financial markets and institutions but also to ensure that the 
critically important reforms we implement here cannot be evaded or 
rendered ineffective by lax standards elsewhere.
    With respect to the international derivatives regulatory framework, 
significant globally coordinated work has already occurred, but more 
remains to be done. Treasury and our international counterparts are 
focused on making certain that critical over-the-counter derivative 
market infrastructure is subject to appropriate oversight. A key 
element of our current discussions is ensuring that we have cooperative 
oversight frameworks in place to address the information needs of 
supervisors in different jurisdictions.
    We will continue to work at home and with our international 
counterparts to build a regulatory framework for derivatives that will 
help our financial system become safer and sounder and a sound platform 
on which we can build strong financial markets that will fuel the 
Nation's economic growth.
                                 ______
                                 
               PREPARED STATEMENT OF THOMAS C. DEAS, JR.
             Vice President and Treasurer, FMC Corporation
                             April 12, 2011
    Good afternoon, I am Tom Deas, Vice President and Treasurer of FMC 
Corporation and also President of the National Association of Corporate 
Treasurers (NACT), an organization of treasury professionals from 
several hundred of the largest public and private companies in the 
country. FMC and NACT are also part of the Coalition for Derivatives 
End Users (the ``Coalition''). Our Coalition represents thousands of 
companies across the United States that employ derivatives to manage 
basic business risks they face every day. Thank you very much for 
giving me the opportunity to speak with you today about derivatives 
regulation.
    FMC Corporation was founded almost 130 years ago to provide spray 
equipment to farmers. Today in addition to making agricultural 
chemicals farmers apply to protect their crops, our 5,000 employees 
have worked hard to make FMC a leading manufacturer and marketer of a 
whole range of agricultural, specialty and industrial chemicals. FMC 
has achieved this longevity by continually responding to our customers' 
needs with the right chemistry delivered at the right price. This year 
marks our 80th anniversary of listing on the New York Stock Exchange. 
In 1931 FMC sought access to the U.S. equity market as the largest and 
most available pool of capital to support our growing business. Today 
in 2011 the most responsive financial market in the world is the over-
the-counter (OTC) derivatives market. I had the valuable experience of 
negotiating and executing some of the very first derivatives--currency 
swaps--going back to 1984. I have seen the market grow from its 
inception in the mid-1980s to its current size by adapting and 
responding to market participants' needs. The customization available 
in the OTC derivatives market is key to FMC's and other end users' 
ability to hedge business risks in a cost-effective way. The 
standardized contracts available on existing and proposed derivatives 
exchanges will not provide this customized match to our underlying 
business exposures.
    We support this Committee's efforts to redress the problems with 
derivatives we experienced during the financial crisis in 2008. I want 
to assure you that FMC and other end users were not and are not 
engaging in risky speculative derivatives transactions from which some 
of that turmoil arose. We are very concerned by the assertion several 
regulators have made that the Act's requirement for swap dealers to 
post margin should also be extended to end users. This would require us 
to hold aside scarce cash and immediately available credit to meet 
margin calls and would be a significant new economic burden. At the 
time the Dodd-Frank Act was passed, end users understood we would be 
exempt from having to post cash margin. I want to emphasize that FMC 
and other end users employ OTC derivatives solely to manage underlying 
business risks. We are offsetting risks--not creating new ones.
    Please allow me to illustrate our use of derivatives with specific 
examples. FMC is the world's largest producer of natural soda ash, the 
principal input in glass manufacturing, and is one of the largest 
employers in the State of Wyoming. We are also developing innovative 
new environmental applications that scrub sulfur compounds from flue 
gases of factories and power plants. We can mine and refine soda ash 
products in southwestern Wyoming, ship them to South Asia, and deliver 
them at a lower cost and with higher quality than competing Chinese 
producers. Energy is a significant cost element in producing soda ash 
and FMC protects against unpredictable fluctuations in future energy 
costs with OTC derivatives to hedge natural gas prices. These 
derivatives are done with several banks, all of which are also 
supporting FMC through their provision of almost $1 billion of credit. 
Our banks do not require FMC to post cash margin to secure mark-to-
market fluctuations in the value of derivatives, but instead price the 
overall transaction to take this risk into account. This structure 
gives us certainty so that we never have to post cash margin while the 
derivative is outstanding. However, if we are required by the 
regulators to post margin, we will have to hold aside cash and readily 
available credit to meet those margin calls. Depending on the extent of 
price movements, margin might have to be posted within the trading day 
as well as at the close of trading. Because failure to meet a margin 
call would be like bouncing a check, and would constitute a default, 
our corporate treasury would act very conservatively in holding cash or 
immediately available funds under our bank lines of credit to assure we 
could meet any future margin call in a timely fashion and with a 
comfortable cushion.
    Adopting more conservative cash management practices might sound 
like an appropriate response in the wake of the financial crisis. 
However, end users did not cause the financial crisis. End users do not 
contribute to systemic risk because their use of derivatives 
constitutes prudent, risk mitigating hedging of their underlying 
business. Forcing end users to put up cash for fluctuating derivatives 
valuations means less funding available to grow their businesses and 
expand employment. The reality treasurers face is that the money to 
margin derivatives has to come from somewhere and inevitably less 
funding will be available operate their businesses.
    FMC and other members of the Business Roundtable estimated that 
BRT-member companies would have to hold aside on average $269 million 
of cash or immediately available bank credit to meet margin calls. In 
our world of finite limits and financial constraints, this is a direct 
dollar-for-dollar subtraction from funds that we would otherwise use to 
expand our plants, build inventory to support higher sales, undertake 
research and development activities, and ultimately sustain and grow 
jobs. In fact, the study extrapolated the effects across the S&P 500, 
of which FMC is also a member, to predict the consequent loss of 
100,000 to 120,000 jobs. The effect on the many thousands of end users 
beyond the S&P 500 would be proportionately greater. We would also have 
to make a considerable investment in information systems that would 
replicate much of the technology in a bank's trading room for marking 
to market and settling derivatives transactions.
    Let me give you a direct example of why our banks have agreed that 
cash margin is not necessary for FMC's derivatives trades. Because we 
are always hedging an underlying business risk, if a current valuation 
of a derivative is underwater, then the risk we are hedging must be in 
the money, resulting in a net neutral position. To illustrate, FMC 
sells agricultural chemicals to farmers who need them at planting time, 
but want to defer payment until harvest time. FMC agrees with the 
farmer that he can pay in bushels of soybeans when he harvests his 
crop. FMC then enters into a customized derivative with one of our 
banks that exactly matches the amount and timing of the future delivery 
of soybeans. As the price of soybeans fluctuates, the valuation of the 
derivative changes by an equal and opposite amount in relation to the 
bushels of soybeans. This results in no net gain or loss when the 
derivative and the underlying exposure are valued together at any point 
in the future. We benefit from not having unpredictable demands on our 
liquidity. For this balanced structure, we agree to a small markup 
payable at maturity of the soybean derivative transaction I've just 
described. This is far cheaper in both financial and administrative 
cost than if we had to keep idle cash or immediately available credit 
to meet cash margin postings and undertake significant information 
systems investments. Customized OTC derivatives allow us to expand 
sales and provide added value to our customers, while reducing our 
risk.
    By forcing end users to post cash margin, the regulators will take 
the balanced structure I've just described and impose a new risk. 
Treasurers will have new and unpredictable demands on their liquidity. 
Swap dealers are market makers who take open positions with derivatives 
and we agree central clearing and margining is appropriate for them. 
However, since end users are balanced, with derivatives exactly 
offsetting underlying business risks, forcing them into the swap 
dealers' margin rules adds the considerable risk for end users of 
having to fund frequent cash margin payments. This will introduce an 
imbalance and new risks onto transactions that are matched and will 
settle with offsetting cash payments at maturity.
    Let me take a moment to summarize some of our principal concerns 
with the implementation of derivatives regulation:

    First, we are concerned that the regulators will impose 
        margin on end user trades, diverting billions of dollars from 
        productive investment and employment into an idle regulatory 
        levy.

    Second, even if the final regulations clearly exempt end 
        users from margin requirements, we still have the risk that the 
        regulators will require swap dealers to hold excessive capital 
        in reserve against uncleared over-the-counter derivatives--with 
        the cost passed on to end users as they manage their business 
        risks. We believe that swap dealers' capital requirements 
        should be appropriate to the actual loss experience of the 
        specific type of derivative. The unintended consequence of 
        punitive capital requirements could be for some end users to 
        cease hedging risks and for others to use foreign markets.

    Finally, we are concerned that regulators will make 
        customized derivatives prohibitively expensive through margin 
        and increased capital requirements, with the effect of forcing 
        us into standardized derivatives from common trading facilities 
        that will not provide the exact match we seek with our 
        underlying business exposures. It is the customization 
        available with OTC derivatives that is so valuable to us and 
        makes the derivatives effective in hedging our exposures.

    The cumulative effect of these regulations could mean that U.S.-
based manufacturers with substantial exports could no longer 
economically hedge their foreign exchange risk with derivatives. As a 
result they could be forced to move production offshore to match their 
costs directly with the currencies of their customers. I urge you to 
inquire into this looming problem that could increase the credit 
spreads for OTC derivatives by a factor of five or more.
    I know many people who suffered through the financial turmoil of 
2008 are tempted to label all derivatives as risky bets that should be 
curtailed. However, I hope these examples of prudent use of derivatives 
by my company and other end users who form the backbone of our 
country's economy have demonstrated the wisdom of the end user 
exemptions that we believe to have been the legislative intent.
    Chairman Gensler and other regulators have been very forthcoming 
and open in soliciting input from us. We appreciate being involved, but 
we have only a few weeks until the deadline for finalizing rules. The 
end user exemption we thought was clear is still uncertain and only a 
very few of the 105 rules required by July 15 have been published. I 
urge you to extend the statutory date by which rules must be 
promulgated until the remaining uncertainties can be clarified and we 
can be assured the rules will operate effectively when taken together.
    Thank you for your time. I would be happy to respond to any 
questions you may have.
                                 ______
                                 
                    PREPARED STATEMENT OF LEE OLESKY
             Chief Executive Officer, Tradeweb Markets LLC
                             April 12, 2011
    Tradeweb Markets LLC (Tradeweb) appreciates the opportunity to 
provide testimony to the Senate Committee on Banking, Housing, and 
Urban Affairs (the ``Committee'') with respect to the regulatory 
framework for and implementation of Title VII of the Dodd-Frank Wall 
Street Reform and Consumer Protection Act (the ``Dodd-Frank Act'' or 
the ``Act'') under the proposed regulations from the Commodity Futures 
Trading Commission (CFTC) and U.S. Securities and Exchange Commission 
(``SEC'', together with the CFTC, the ``Commissions'').
I. Background on Tradeweb
    Tradeweb is a leading global provider of electronic trading 
platforms and related data services for the over-the-counter fixed 
income and derivatives marketplaces. Tradeweb operates three separate 
electronic trading platforms: (i) a global electronic multidealer to 
institutional customer platform through which institutional investors 
access market information, request bids and offers, and effect 
transactions with, dealers that are active market makers in fixed 
income securities and derivatives, (ii) an interdealer platform, called 
Dealerweb, for U.S. Government bonds and mortgage securities, and (iii) 
a platform for retail-sized fixed income securities. \1\
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     \1\ Tradeweb operates the dealer-to-customer and odd-lot platforms 
through its registered broker-dealer, Tradeweb LLC, which is also 
registered as an alternative trading system (ATS) under Regulation ATS 
promulgated by the SEC under the Securities Exchange Act of 1934. 
Tradeweb operates its inter-dealer platform through its subsidiary, 
Hilliard Farber & Co., Inc., which is also a registered broker-dealer 
and operates Dealerweb as an ATS. In Europe, Tradeweb offers its 
institutional dealer-to-customer platform through Tradeweb Europe 
Limited, which is authorized and regulated by the U.K. Financial 
Services Authority as an investment firm with permission to operate as 
a Multilateral Trading Facility. In addition, Tradeweb Europe Limited 
has registered branch offices in Hong Kong, Singapore, and Japan and 
holds an exemption from registration in Australia.
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    Founded as a multidealer online marketplace for U.S. Treasury 
securities in 1997, Tradeweb has been a pioneer in providing market 
data, electronic trading and trade processing in OTC marketplaces for 
over 10 years, and has offered electronic trading in OTC derivatives on 
its institutional dealer-to-customer platform since 2005. Active in 20 
global fixed income, money market and derivatives markets, with an 
average daily trading volume of more than $250 billion, Tradeweb's 
leading institutional dealer-to-customer platform enables 2,000 
institutional buy-side clients to access liquidity from more than 40 
sell-side liquidity providers by putting the liquidity providers in 
real-time competition for client business in a fully disclosed 
electronic auction process. These buy-side clients comprise the 
majority of the world's leading asset managers, pension funds, and 
insurance companies, as well as most of the major central banks.
    Since we began trading interest rate swaps in 2005, the notional 
amount of interest rate derivatives traded on Tradeweb has exceeded 
$6.5 trillion from more than 75,000 trades. Tradeweb has spent the last 
5 years building on its derivatives functionality to enhance real-time 
execution, provide greater price transparency and reduce operational 
risk. Today, the Tradeweb system provides its institutional clients 
with the ability to (i) view live, real-time IRS (in six currencies, 
including U.S., Euro, Sterling, Yen), and Credit Default Swap Indices 
(CDX and iTraxx) prices from swap dealers throughout the day; (ii) 
participate in live, competitive auctions with multiple dealers at the 
same time, and execute an array of trade types (e.g., outrights, spread 
trades, or rates switches); and (iii) automate their entire workflow 
with integration to Tradeweb so that trades can be processed in real-
time from Tradeweb to customers' middle and back offices, to third-
party affirmation services like Markitwire and DTCC Deriv/SERV, and to 
all the major derivatives clearing organizations. Indeed, in November 
2010, Tradeweb served as the execution facility for the first fully 
electronic multidealer-to-customer interest rate swap trade to be 
cleared in the U.S., and in February 2011, Tradeweb completed the first 
fully electronic multidealer-to-customer credit default swap trade to 
be executed and cleared in the U.S. Tradeweb's existing technology 
maintains a permanent audit trail of the millisecond-by-millisecond 
details of each trade negotiation and all completed transactions, and 
allows parties (and will allow SDRs and DCOs) to receive trade details 
and access post-trade affirmation and clearing venues. With such tools 
and functionality in place, Tradeweb is providing the OTC marketplace 
with a front-end swap execution facility.
    As additional background, Tradeweb was established in 1997 with 
financial backing from four global banks that were active in, and 
interested in expanding and fostering innovation in, fixed income (U.S. 
Government bond) trading. After 7 years of growth and expansion into 15 
markets globally, in 2004, Tradeweb's bank-owners (which had grown from 
four to eight over that time) sold Tradeweb to The Thomson Corporation, 
which wholly owned it until January 2008. Although the original bank-
owners continued to be a resource for Tradeweb from 2004 to 2008, The 
Thomson Corporation recognized that bank ownership was an important 
catalyst of Tradeweb's development and sold through a series of 
transactions a strategic interest in Tradeweb to a consortium comprised 
of ten global bank owners. Today, Tradeweb is majority owned by Thomson 
Reuters Corporation (successor to The Thomson Corporation) and minority 
stakes are held by the bank consortium and Tradeweb management. 
Accordingly, Tradeweb was launched by market participants and has 
benefited from their investment of capital, market expertise and 
efforts to develop and foster more transparent and efficient markets. 
With the support of its ownership and its board comprised of market and 
nonmarket participants, Tradeweb has, since its inception, brought 
transparency and efficiency to the OTC fixed income and derivatives 
marketplace.
II. Summary
    Since 1998, Tradeweb has been operating a regulated electronic 
marketplace for the OTC fixed income marketplace and has played an 
important role in providing greater transparency and improving the 
efficiency of the trading of fixed income securities and derivatives. 
Indeed, Tradeweb has been at the forefront of creating electronic 
trading solutions which support price transparency and reduce systemic 
risk, the objectives of Title VII of the Dodd-Frank Act. Given that it 
has the benefit of offering electronic trading solutions to the buy-
side and sell-side, Tradeweb believes that it can provide the Committee 
with a unique and valuable perspective on the regulatory framework for 
and the implementation of Title VII.
    At the outset, Tradeweb is very supportive of the Dodd-Frank Act 
and its stated goals. We believe that increased price transparency and 
operational efficiency will lead to a reduction in systemic risk in 
connection with the trading of derivatives. However, it is important 
for this Committee, Congress as a whole, and the regulators to 
understand and give due consideration to the needs of market 
participants in promulgating rules for and implementing Title VII. The 
aim must be to achieve the goals of the Act without materially 
disrupting the market and the liquidity it provides to end users who 
use derivatives to manage their varying risk profiles. Market 
participants need confidence to participate in these markets and if 
careful consideration is not given to what the rules say and how they 
will ultimately be implemented, we fear that this confidence could be 
materially shaken.
    As part of the Dodd-Frank Act, Congress created a new type of 
registered entity--known as a swap execution facility or ``SEF.'' 
Congress expressly created SEFs to promote the trading of swaps on 
regulated markets, and provide a broader level of price transparency 
for end users of swaps. While the definition of a SEF has been the 
subject of much debate and speculation, the plain language of the Dodd-
Frank Act requires the Commissions to recognize the distinction between 
SEF's on the one hand and designated contract markets (DCMs) or 
exchanges on the other. There was a recognition by Congress that 
alternatives to traditional DCMs and exchanges were necessary, 
particularly in light of the current working market structure and 
manner in which OTC derivatives trade. We applaud the direction of the 
regulation, but want to ensure that the Commissions adopt rules that 
are clear and allow for flexibility in the manner of execution for 
market participants. \2\ This will give the end users choices, 
confidence and liquidity, and will do so in a regulated framework that 
promotes the trading of swaps, in an efficient and transparent manner 
on regulated markets.
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     \2\ The term ``swap execution facility'' has been defined in the 
Dodd-Frank Act as a trading system or platform in which multiple 
participants have the ability to execute or trade swaps by accepting 
bids and offers made by multiple participants in the facility or 
system, through any means of interstate commerce, including any trading 
facility, that: (A) facilitates the execution of swaps between persons; 
and (B) is not a designated contract market. The Dodd-Frank Act amends 
Section 1a of the Commodities Exchange Act with a new paragraph (50, 
and Section 761(a)(6) of the Dodd-Frank Act amends Section 3(a) of the 
Securities Exchange Act of 1934 by adding a new paragraph (77) 
(defining a ``security-based swap execution facility''). We refer to 
both as a SEF in this submission.
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    To that end, the rules relating to Title VII must be flexible 
enough so as not to deter the trading of swaps on regulated platforms. 
By ensuring that the rules retain sufficient flexibility to allow end 
users to elect where and how they transact business, the Commissions 
will provide for the most competitive execution of trades and encourage 
the greatest liquidity in the market. Accordingly, the rules should not 
unduly limit the choices of execution methods available for market 
participants to manage their risks efficiently and effectively, or 
overly prescribe the manner in which market participants can choose to 
interact with each other to manage such risks (e.g., requiring a 
Request for Quote (RFQ) to be transmitted to a minimum of five market 
participants). If the rules regarding how market participants must 
interact with each other from a trading perspective and accessing 
liquidity are arbitrary and artificially prescriptive, and thus not 
flexible enough to accommodate the varying methods of execution, market 
participants simply will not participate and will seek alternative, 
less efficient markets to manage their risk. We certainly do not 
believe that is the ultimate goal of Title VII.
    Further, the Dodd-Frank Act clearly contemplates that a SEF should 
have broad, reasonable discretion to establish how it implements the 
required regulatory framework. Overly prescriptive rules on the 
registration and administration of SEFs and their compliance with the 
Core Principles could place an unreasonable burden on existing swaps 
trading platforms prior to the effective date of the final rules and 
may also discourage new entrants into the swaps market. Congress and 
the Commissions should thoughtfully implement the rules to provide 
electronic swaps trading platforms with the flexibility required by the 
Dodd-Frank Act.
    Similarly, arbitrary or artificially prescriptive ownership limits 
or governance requirements will deter investment of capital in new or 
existing platforms. A careful balance needs to be reached between 
safeguarding the system and encouraging private enterprise, which will 
allow end users access to choose among robust trading venues and 
clearing organizations. To be clear, we favor having an independent 
voice on the Board of registered entities, but the rules should not go 
so far as to make that the predominant voice--one that creates a 
conflict of interest on the opposite extreme.
    Because of the overlapping nature of the proposed rules from the 
CFTC and SEC on each aspect of Title VII--including SEFs--we believe it 
is imperative that the Commissions cooperate in developing final rules, 
which should be aligned to the greatest extent possible. Bifurcated 
rulemaking with respect to the swaps market will result in confusion 
and lack of confidence in the marketplace and could potentially drive 
participants away from the market altogether. It is also critically 
important that there is a consistent approach between regulators 
globally as overly rigid regulation in one jurisdiction will materially 
impact how other regulators promulgate rules in an effort to maintain a 
harmonized approach to overseeing the derivatives markets. The 
potential result is a movement of the market outside the U.S., and that 
would likewise be an unfortunate unintended consequence.
    Finally, there has been a great deal of discussion recently about 
how best to implement Title VII and the currently proposed rules. There 
is no doubt that an overly hasty or ill thought-out timetable for 
implementation could directly impact the health of the derivatives 
markets by disenfranchising the interconnected members of this complex 
ecosystem, and implementing these regulations in one ``big bang'' is 
unrealistic. We believe the marketplace needs greater certainty in 
terms of how and when these regulations will be implemented, and we 
encourage Congress and the Commissions to seek public comment on these 
issues.
    Tradeweb is supportive of the goals to reform the derivatives 
markets and indeed we provide the very solutions the regulation seeks 
to achieve, but we are concerned that the Commissions may overreach in 
their interpretation and implementation of Dodd-Frank, and in doing so 
create unintended consequences for end users and the marketplace as a 
whole.
III. Background on the OTC Rates and Credit Derivatives Marketplace
    There are generally two institutional marketplaces for over-the-
counter (OTC) credit and rates derivatives: the dealer-to-customer 
market (institutional) and the interdealer market (wholesale). In the 
institutional market, certain dealers act as market makers and buy and 
sell derivatives with their institutional customers (e.g., asset 
managers, corporations, pension funds, etc.) on a fully disclosed and 
principal basis. In the institutional market, the provision of 
liquidity is essential for corporations, municipalities and Government 
organizations (i.e., end users), which have numerous different asset 
and liability profiles to manage. The need for customized risk 
management solutions has led to a market that relies on flexibility--so 
end users can adequately hedge interest rate exposure--and liquidity 
providers, who have the ability to absorb the varied risk profiles of 
end users by trading standard and customized derivatives. These market 
makers then often look to the wholesale market--the market wherein 
dealers trade derivatives with one another--to obtain liquidity or 
offset risk as a result of transactions effected in the institutional 
market or simply to hedge the risk in their portfolios.
    In the wholesale or inter-dealer market, brokers (IDBs) act as 
intermediaries working to facilitate transactions between dealers. 
There is no centralized exchange (i.e., derivatives are traded over-
the-counter), and as a result, dealers look to IDBs to obtain 
information and liquidity while at the same time preserving anonymity 
in their trades. Currently, in the United States, these trades are 
primarily accomplished bilaterally through voice brokering. By 
providing a service through which the largest and most active dealers 
can trade anonymously, IDBs prevent other dealers from discerning a 
particular dealer's trading strategies, which in turn (i) reduces the 
costs associated with the market knowing a particular dealer is looking 
to buy or sell a certain quantity of derivatives, (ii) allows the 
dealer to buy or sell derivatives in varying sizes, providing stability 
to the marketplace, and (iii) enhances liquidity in the marketplace.
    Both the wholesale and institutional derivatives markets trade 
primarily through bilateral voice trading, with less than 5 percent of 
the institutional business trading electronically. In these markets, 
trades are often booked manually into back office systems and trades 
are confirmed manually (by fax or other writing), and some (but not 
all) derivatives trades are cleared.
    With the implementation of the Dodd-Frank Act, we expect that most 
of the interest rate and credit derivatives markets will be subject to 
mandatory clearing, and therefore be traded on a regulated swap market. 
Accordingly, with increased electronic trading, the credit and rates 
derivatives markets will be much more transparent (with increased 
pretrade price transparency) and efficient, and systemic risk will be 
greatly reduced as the regulated swaps markets will have direct links 
to designated clearing organizations (DCOs) and swap data repositories 
(SDRs).
    In light of the foregoing and with the forthcoming business conduct 
standards, we believe the trading mandate was not intended to be and 
does not need to be artificially and arbitrarily prescriptive to 
achieve the goals of the Dodd-Frank Act. Indeed, to do so, would 
undermine these goals. For example, by mandating a minimum of five 
liquidity providers from which a market participant can seek prices 
would likely reduce liquidity and effectively reduce the ability for 
end users to adequately manage their risk. In short, regulated (i) swap 
market trading (without regard to trading model but with the 
appropriate transparency and regulatory oversight), (ii) clearing and 
(iii) reporting is what will accomplish the policy goals without 
hurting liquidity and disrupting the market. It is critical that the 
Commissions do not propose rules that artificially and unnecessarily 
hurt the market and undermine the goals of the Dodd-Frank Act.
IV. Key Considerations for SEF Rulemaking
SEFs
    As noted above, it is imperative that the Commissions adopt rules 
that are clear and allow for flexibility in the manner of execution for 
market participants. This will give the market choices, confidence and 
liquidity, and will do so in a regulated framework that promotes the 
trading of swaps, in an efficient and transparent manner.
    Consistent with the goals of the Dodd-Frank Act, for institutional 
users, a SEF should (i) provide pretrade price transparency through any 
appropriate mechanism that allows for screen-based quotes that provide 
an adequate snapshot of the market (e.g., through streaming prices for 
standardized transactions and competitive real time quotes for larger 
or more customized transactions), (ii) incorporate a facility through 
which multiple participants can trade with each other (i.e., must have 
competition among liquidity providers), (iii) have objective standards 
for participation that maintain the structure of liquidity providers 
(like swap dealers) providing liquidity to liquidity takers 
(institutional buy-side clients), (iv) have the ability to adhere to 
the core principles that are determined to be applicable to SEFs, (v) 
provide access to a broad range of participants in the OTC derivatives 
market, allowing such participants to have access to trades with a 
broad range of dealers and a broad range of DCOs; (vi) allow for equal 
and fair access to all the DCOs and allow market participants the 
choice of DCO on a per trade basis, and (vii) have direct connectivity 
to all the SDRs.
    In order to register and operate as a SEF, the ``trading system or 
platform'' must comply with the enumerated Core Principles in the Dodd-
Frank Act applicable to SEFs. Regulators have the authority to 
determine the manner in which a SEF complies with the statutory core 
principles, and there is discretion for the Commissions to retain 
distinct regulatory characteristics for SEFs versus DCMs. It is 
critically important for the Commissions to apply the principles with 
flexibility given the market structure in which swaps are traded. 
Accordingly, regulators should interpret core principles in a way in 
which SEF's can actually comply with them. While many of the SEF Core 
Principles are broad, principle-based concepts--which make sense given 
the potential for different types of SEFs and trading models--some of 
the Core Principles are potentially problematic for SEFs that do not 
operate a central limit order book or clearing.
Ownership and Governance
    As noted above, Tradeweb was launched by market participants, and 
has benefited from their investment of capital, market expertise, and 
efforts to foster the development of more transparent and efficient 
markets. With the help of its board, comprised of market and nonmarket 
participants, Tradeweb has since its inception brought transparency and 
efficiency to the fixed income and derivatives marketplace.
    The success story of Tradeweb may not have been possible if overly 
prescriptive governance and ownership limits had been imposed at the 
time. It was highly unlikely that under those circumstances, any market 
participants would have made an investment. Moreover, beyond the 
initial seed capital, the banks' participation also allowed Tradeweb to 
continue to invest in its infrastructure and evolve with the market--
thus building the robust and scalable architecture that has allowed it 
to expand to 20 markets, survive 9/11 (Tradeweb's U.S. office was in 
the North Tower of the World Trade Center), and develop connectivity 
with over 2,000 institutions globally. Under the proposed rules of the 
CFTC and the SEC, ownership and independent director limits will be 
imposed on the different registered entities that will provide the 
technological infrastructure to the swaps market--from trading to 
clearing. Tradeweb believes that independent directors are a very good 
idea, in terms of bringing an independent perspective to the governing 
board, but their duties must be consistent with other board members. 
However, artificial caps on ownership or excessive minimum voting 
requirements for independent directors on the board (such as 51 percent 
of the voting power) go too far. As a practical matter, ownership 
limits will impair registered entities such as trading platforms and 
clearing organizations, from raising capital, and overly expansive 
independent director requirements will likewise hurt investment because 
investors will lack a sufficient say in how their investment will be 
governed. Moreover, Dodd-Frank provides other, more direct, ways in 
which to mitigate conflicts of interest, and employing each of these 
tools in a reasonable fashion will, in the aggregate, address the 
potential conflicts of interest without negatively impacting investment 
of capital and innovation in the marketplace.
    For these reasons, we urge legislators and regulators to consider a 
more reasoned approach to mitigating conflicts of interest.
Implementation
    Because of its technological experience and expertise, Tradeweb 
will be in a position to implement whatever trading rules are imposed 
by the CFTC and SEC for SEFs shortly after registration. However, as we 
note above, the implementation of Title VII of the Dodd-Frank Act will 
require cooperation between regulators (both domestically and abroad) 
in their rulemaking and implementation plan, as well as the cooperation 
and investment of market participants. It is critical therefore that in 
the first instance, the rulemaking is flexible but clear, and that each 
facet is implementation is thought through--because a lack of 
confidence in implementation will result in a lack of confidence in the 
marketplace, the result of which would be a marketplace which would not 
best serve the interests of the end user. We believe the marketplace 
needs greater certainty in terms of how and when these regulations will 
be implemented, and we encourage Congress and the Commissions to seek 
public comment on these issues.
    In sum, while we support the goals of the Dodd-Frank Act and 
believe increased regulatory oversight is good for the derivatives 
market, we want to emphasize that flexibility in trading models for 
execution platforms are critically important to maintain market 
structure so end users can manage their risks in a flexible manner. If 
you have any questions concerning our comments, please feel free to 
contact us. We welcome the opportunity to discuss these issues further 
with the Committee and their Members.
                                 ______
                                 
                PREPARED STATEMENT OF TERRENCE A. DUFFY
                   Executive Chairman, CME Group Inc.
                             April 12, 2011
    Chairman Johnson, Ranking Member Shelby, Members of the Committee, 
thank you for the opportunity to testify on the implementation of Title 
VII of the Dodd-Frank Wall Street Reform and Consumer Protection Act 
(P.L. 111-203, July 21, 2010) (DFA). I am Terry Duffy, Executive 
Chairman of CME Group (``CME Group'' or ``CME''), which is the world's 
largest and most diverse derivatives marketplace. CME Group includes 
four separate exchanges--Chicago Mercantile Exchange Inc., the Board of 
Trade of the City of Chicago, Inc., the New York Mercantile Exchange, 
Inc., and the Commodity Exchange, Inc. (together ``CME Group 
Exchanges''). The CME Group Exchanges offer the widest range of 
benchmark products available across all major asset classes, including 
futures and options based on interest rates, equity indexes, foreign 
exchange, energy, metals, agricultural commodities, and alternative 
investment products. CME also includes CME Clearing, a derivatives 
clearing organization and one of the largest central counterparty 
clearing services in the world; it provides clearing and settlement 
services for exchange-traded contracts, as well as for over-the-counter 
(OTC) derivatives transactions through CME Clearing and CME 
ClearPort'.
    The CME Group Exchanges serve the hedging, risk management and 
trading needs of our global customer base by facilitating transactions 
through the CME Globex' electronic trading platform, our 
open outcry trading facilities in New York and Chicago, as well as 
through privately negotiated transactions executed in compliance with 
the applicable Exchange rules and cleared by CME's clearinghouse. In 
addition, CME Group distributes real-time pricing and volume data 
through a global distribution network of approximately 500 directly 
connected vendor firms serving approximately 400,000 price display 
subscribers and hundreds of thousands of additional order entry system 
users. CME's proven high reliability, high availability platform 
coupled with robust administrative systems represent vast expertise and 
performance in managing market center data offerings.
    The financial crisis focused well-warranted attention on the lack 
of regulation of OTC financial markets. We learned a number of 
important lessons and Congress crafted legislation that, we hope, 
reduces the likelihood of a repetition of that disaster. However, it is 
important to emphasize that regulated futures markets and futures 
clearinghouses operated flawlessly. Futures markets performed all of 
their essential functions without interruption and, despite failures of 
significant financial firms, our clearinghouse experienced no default 
and no customers on the futures side lost their collateral or were 
unable to immediately transfer positions and continue managing risk. 
Dodd-Frank was adopted to impose a new regulatory structure on a 
previously opaque and unregulated market--the OTC swaps market. It was 
not intended to reregulate the robustly regulated futures markets.
    For example, while Congress granted the Commission the authority to 
adopt rules respecting core principles, it did not direct it to 
eliminate principles-based regulation. Yet the Commission has proposed 
specific requirements for multiple Core Principles--almost all Core 
Principles in the case of designated contract markets (DCMs)--and 
effectively eviscerate the principle-based regime that has fostered 
success in CFTC-regulated entities for the past decade.
    The Commission's almost complete reversion to a prescriptive 
regulatory approach converts its role from an oversight agency, 
responsible for assuring self regulatory organizations comply with 
sound principles, to a frontline decision maker that imposes its 
business judgments on the operational aspects of derivatives trading 
and clearing. This reinstitution of rule-based regulation will require 
a substantial increase in the Commission's staff and budget and impose 
indeterminable costs on the industry and the end users of derivatives. 
Yet there is no evidence that this will be beneficial to the public or 
to the functioning of the markets. In keeping with the President's 
Executive Order to reduce unnecessary regulatory cost, the CFTC should 
be required to reconsider each of its proposals with the goal of 
performing those functions that are mandated by DFA.
    Further, the principles-based regime of the CFMA has facilitated 
tremendous innovation and allowed U.S. exchanges to compete effectively 
on a global playing field. Principles-based regulation of futures 
exchanges and clearinghouses permitted U.S. exchanges to regain their 
competitive position in the global market. Without unnecessary, costly 
and burdensome regulatory review, U.S. futures exchanges have been able 
to keep pace with rapidly changing technology and market needs by 
introducing new products, new processes and new methods by certifying 
compliance with the CEA. Indeed, U.S. futures exchanges have operated 
more efficiently, more economically and with fewer complaints under 
this system than at any time in their history. The transition to an 
inflexible regime threatens to stifle growth and innovation in U.S. 
exchanges and thereby drive market participants overseas. As further 
discussed below, this will certainly impact the relevant job markets in 
the United States.
    We support the overarching goals of DFA to reduce systemic risk 
through central clearing and exchange trading of derivatives, to 
increase data transparency and price discovery, and to prevent fraud 
and market manipulation. Unfortunately, DFA left many important issues 
to be resolved by regulators with little or ambiguous direction and set 
unnecessarily tight deadlines on rulemakings by the agencies charged 
with implementation of the Act. In response to the aggressive schedule 
imposed by DFA, the Commodity Futures Trading Commission (``CFTC'' or 
``Commission'') has proposed hundreds of pages of new or expanded 
regulations.
    In our view, many of the Commission's proposals are inconsistent 
with DFA, not required by DFA, and/or impose burdens on the industry 
that require an increase in CFTC staff and expenditures that could 
never be justified if an adequate cost-benefit analysis had been 
performed. I will discuss below the Commission's failure to comply with 
the Congressionally mandated cost-benefit process, the need to sequence 
Dodd-Frank rulemaking appropriately, and the potential negative impact 
on U.S. markets of regulatory proposals.
A. Lack of Consideration of Costs of Regulatory Proposals
    The Commission's rulemaking has been skewed by its failure to 
follow the plain language of Section 15 of the Commodity Exchange Act 
(CEA), as amended by DFA, which requires the Commission to consider the 
costs and benefits of its action before it promulgates a regulation. In 
addition to weighing the traditional direct costs and benefits, Section 
15 directs the Commission to include in its evaluation of the benefits 
of a proposed regulation the following intangibles: ``protection of 
market participants and the public,'' ``the efficiency, 
competitiveness, and financial integrity of futures markets,'' ``price 
discovery,'' ``considerations of sound risk management practices,'' and 
``other public interest considerations.'' The Commission has construed 
this grant of permission to consider intangibles as a license to ignore 
the real costs.
    The explicit cost-benefit analysis included in the more than 30 
rulemakings to date and the Commission's testimony in a number of 
congressional hearings indicate that those responsible for drafting the 
rule proposals are operating under the mistaken interpretation that 
Section 15(a) of the CEA excuses the Commission from performing any 
analysis of the direct, financial costs and benefits of the proposed 
regulation. Instead, the Commission contends that Congress permitted it 
to justify its rule making based entirely on speculation about 
unquantifiable benefits to some segment of the market. The drafters of 
the proposed rules have consistently ignored the Commission's 
obligation to fully analyze the costs imposed on third parties and on 
the agency by its regulations.
    Commissioner Sommers forcefully called this failure to the 
Commission's attention at the CFTC's February 24, 2011, Meeting on the 
Thirteenth Series of Proposed Rulemakings under the Dodd-Frank Act.

        Before I address the specific proposals, I would like to talk 
        about an issue that has become an increasing concern of mine--
        that is, our failure to conduct a thorough and meaningful cost-
        benefit analysis when we issue a proposed rule. The proposals 
        we are voting on today, and the proposals we have voted on over 
        the last several months, contain very short, boilerplate 
        ``Cost-Benefit Analysis'' sections. The ``Cost-Benefit 
        Analysis'' section of each proposal states that we have not 
        attempted to quantify the cost of the proposal because Section 
        15(a) of the Commodity Exchange Act does not require the 
        Commission to quantify the cost. Moreover, the ``Cost Benefit 
        Analysis'' section of each proposal points out that all the 
        Commission must do is ``consider'' the costs and benefits, and 
        that we need not determine whether the benefits outweigh the 
        costs.

    Commissioner Sommers reiterated her concern with the lack of cost-
benefit analysis performed by the Commission in her March, 30, 2011, 
testimony before the Subcommittee on Oversight and Investigations of 
the House Committee on Financial Services. Commissioner Sommers noted 
that ``the Commission typically does not perform a robust cost-benefit 
analysis at either the proposed rule stage or the final rule stage'' 
and noted that ``while we do ask for comment from the public on the 
costs and benefits at the proposal stage, we rarely, if ever, attempt 
to quantify the costs before finalizing a rule.''
B. Sequencing of Rulemakings Under Dodd-Frank
    Chairman Gensler has recently disclosed his plan for the sequencing 
of final rulemakings under DFA. He has divided the rulemakings into 
three categories: early, middle, and late. We agree that sequencing of 
the rules is critical to meaningful public comment and effective 
implementation of the rules to implement DFA. Many of the rulemakings 
required by DFA are interrelated. That is, DFA requires many 
intertwined rulemakings with varying deadlines. Market participants, 
including CME cannot fully understand the implications or costs of a 
proposed rule when that proposed rule is reliant on another rule that 
is not yet in its final form. As a result, interested parties are 
unable to comment on the proposed rules in a meaningful way, because 
they cannot know the full effect.
    We agree with many, but not all aspects of the Chairman's proposed 
sequencing agenda and have recently proposed an alternative sequencing 
agenda to the Commissioners. We recommend that in Phase 1 (early), the 
Commission focus on rules that are necessary to bring the previously 
unregulated swaps market into the sound regulatory framework that 
exists for futures markets. This set of major rulemakings represents 
the largest amount of change for the industry and cannot be 
satisfactorily addressed in a timely manner if key elements of the 
regulatory framework for swaps clearing are not determined until the 
middle or late stages of the rulemaking process. Further, the 
regulatory framework for reducing systemic risk in OTC derivatives was 
the central focus of DFA and therefore should have the highest 
priority.
    We suggest that Phase II (middle) deal with exchange-trading 
requirements for swaps, including the definition of and requirements 
for swap trading facilities, business conduct standards for swap 
dealers and requirements for swap data repositories. While we support 
efforts to increase transparency in swaps markets, we believe these 
rulemakings are less critical in time priority than the clearing 
mandate and related clearing rules that will reduce systemic risk.
    Finally, we recommend that the Commission leave those rulemakings 
that deal with DCMs and position limits for Phase III (late). As I 
mention throughout my testimony, the exchange-traded derivatives market 
operated flawlessly during the financial crisis, and the proposed rules 
affecting DCMs and position limits, which as discussed below, often 
represent an overstepping of the Commission's authority under DFA, 
represent incremental changes to an already robust regulatory scheme.
    With respect to the phasing in of the mandatory clearing rules for 
swaps, some have suggested that the clearing requirement first be 
applied to dealer-to-dealer swaps and then later applied to dealer-to-
customer swaps. CME Group strongly disagrees with this approach insofar 
as it may limit clearing competition and customer choice and because, 
more importantly, it will disadvantage customers who are preparing for 
central counterparty clearing of swaps but are unable to complete their 
preparations due to the uncertainty associated with the lack of final 
rules. Sell-side and buy-side participants may elect to support or 
prefer different clearing solutions depending on how they are owned and 
operated, the membership requirements associated with each 
clearinghouse, and the risk management and default management features 
associated with each clearing solution. Different clearinghouses have 
already adopted differing approaches to these features, enhancing 
competition and the proliferation of different business models. 
Sequencing dealer-to-dealer clearing prior to dealer-to-customer 
clearing lacks any rational justification and simply limits the 
availability of competing clearing models, potentially limiting 
competition, which Congress expressly provided for in DFA.
    The theory behind phasing in dealer-to-dealer swaps first is that 
dealers will be prepared to begin clearing swaps before buy-side 
participants are likewise prepared. This rationale, however, is not 
based in fact. An overwhelming number of buy-side participants are 
already clearing or ready to clear or will be ready to clear in the 
near future. Ten buy-side firms are already clearing at CME Group. 
Another 30 are testing with us and have informed us that they are 
planning to be prepared to clear no later than July 15. Another 80 buy-
side firms are in the pipeline to clear with us and would like to be 
ready to clear voluntarily approximately 3-6 months before mandated to 
do so. Also, UBS recently conducted a comprehensive study (March 10, 
2011) of OTC derivatives market participants to gauge the readiness on 
the buy-side for this transition. Their study found that buy-side firms 
are increasingly prepared to clear OTC derivatives, reporting that 73 
percent of firms are already clearing or preparing to clear, 71 percent 
expect to begin clearing within 12 months, and 82 percent expect that 
the majority of their OTC businesses will be cleared within 2 years. 
Claims that buy-side participants are not ready to clear are simply 
false and will disadvantage buy-side firms that wish to reduce 
bilateral clearing risks by adopting central counterparty clearing as 
soon as possible.
    We believe that the most efficient way to implement the clearing 
mandate is to phase in the mandate on a product-class by product-class 
basis. Once the CFTC defines ``class,'' it can mandate that large 
classes of instruments, such as 10-year interest rate swaps, be cleared 
regardless of the counterparties to the trade. This approach will (i) 
preserve customer choice in clearing, (ii) bring the largest volume of 
swaps into clearinghouses as soon as possible, and (iii) allocate the 
Commission's limited resources in an efficient manner. CME Group's 
letter to Chairman Gensler, which discusses our position on both 
sequencing of rulemaking and sequencing of implementation of the 
clearing mandate in greater detail, is attached for your reference as 
Exhibit A.
    The Commission should avoid creating an unlevel playing field among 
large swap market participants--both in terms of freedom to choose 
among competing clearing offerings and in terms of their ability to 
reduce bilateral credit risks in a timely fashion. Congress wisely 
recognized that major swap participants that are not swap dealers can 
also pose systemic risks to the marketplace; hence the Commission 
should sequence rules applying to swap dealers and major swap 
participants at the same time.
    This Congress can mitigate some of the problems that have plagued 
the CFTC rulemaking process by extending the rulemaking schedule so 
that professionals, including exchanges, clearinghouses, dealers, 
market makers, and end users can have their views heard and so that the 
CFTC will have a realistic opportunity to assess those views and 
measure the real costs imposed by its new regulations. Otherwise, the 
unintended adverse consequences of those ambiguities and the rush to 
regulation will impair the innovative, effective risk management that 
regulated exchanges have provided through the recent financial crisis 
and stifle the intended effects of financial reform, including the 
clearing of OTC transactions.
C. Impact of Regulatory Proposals on U.S. Markets
    Several Commissioners clearly recognize the potential unintended 
consequences and the potential detrimental effects of a prescriptive, 
rather than principles-based, regime upon the markets. Commissioner 
Dunn, for example, expressed concern that if the CFTC's ``budget woes 
continue, [his] fear is that the CFTC may simply become a restrictive 
regulator. In essence, [it] will need to say `No' a lot more . . . No 
to anything [it does] not believe in good faith that [it has] the 
resources to manage'' and that ``such a restrictive regime may be 
detrimental to innovation and competition.'' \1\ Commissioner O'Malia 
has likewise expressed concern regarding the effect of proposed 
regulations on the markets. More specifically, the Commissioner has 
expressed concern that new regulation could make it ``too costly to 
clear.'' He noted that there are several ``changes to [the] existing 
rules that will contribute to increased costs.'' Such cost increases 
have the effect of ``reducing the incentive of futures commission 
merchants to appropriately identify and manage customer risk. In the 
spirit of the Executive Order, we must ask ourselves: Are we creating 
an environment that makes it too costly to clear and puts risk 
management out of reach?'' \2\
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     \1\ Commissioner Dunn stated: ``Lastly, I would like to speak 
briefly about the budget crisis the CFTC is facing. The CFTC is 
currently operating on a continuing resolution with funds insufficient 
to implement and enforce the Dodd-Frank Act. My fear at the beginning 
of this process was that due to our lack of funds the CFTC would be 
forced to move from a principles based regulatory regime to a more 
prescriptive regime. If our budget woes continue, my fear is that the 
CFTC may simply become a restrictive regulator. In essence, we will 
need to say `No' a lot more. No to new products. No to new 
applications. No to anything we do not believe in good faith that we 
have the resources to manage. Such a restrictive regime may be 
detrimental to innovation and competition, but it would allow us to 
fulfill our duties under the law, with the resources we have 
available.'' Commissioner Michael V. Dunn, Opening Statement, Public 
Meeting on Proposed Rules Under Dodd-Frank Act (January 13, 2011) 
http://www.cftc.gov/PressRoom/SpeechesTestimony/
dunnstatement011311.html.
     \2\ In Facing the Consequences: ``Too Costly to Clear,'' 
Commissioner O'Malia stated: ``I have serious concerns about the cost 
of clearing. I believe everyone recognizes that the Dodd-Frank Act 
mandates the clearing of swaps, and that as a result, we are 
concentrating market risk in clearinghouses to mitigate risk in other 
parts of the financial system. I said this back in October, and 
unfortunately, I have not been proven wrong yet. Our challenge in 
implementing these new clearing rules is in not making it `too costly 
to clear.' Regardless of what the new market structures ultimately look 
like, hedging commercial risk and operating in general will become more 
expensive as costs increase across the board, from trading and 
clearing, to compliance and reporting.''
    ``In the short time I have been involved in this rulemaking 
process, I have seen a distinct but consistent pattern. There seems to 
be a strong correlation between risk reduction and cash. Any time the 
clearing rulemaking team discusses increasing risk reduction, it is 
followed by a conversation regarding the cost of compliance and how 
much more cash is required.''
    ``For example, there are several changes to our existing rules that 
will contribute to increased costs, including more stringent standards 
for those clearinghouses deemed to be systemically significant. The 
Commission staff has also recommended establishing a new margining 
regime for the swaps market that is different from the futures market 
model because it requires individual segregation of customer 
collateral. I am told this will increase costs to the customer and 
create moral hazard by reducing the incentive of futures commission 
merchants to appropriately identify and manage customer risk. In the 
spirit of the Executive Order, we must ask ourselves: Are we creating 
an environment that makes it too costly to clear and puts risk 
management out of reach?'' Commissioner Scott D. O'Malia, Derivatives 
Reform: Preparing for Change, Title VII of the Dodd-Frank Act: 732 
Pages and Counting, Keynote Address (January 25, 2011) http://
www.cftc.gov/PressRoom/SpeechesTestimony/opaomalia-3.html.
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    Additionally, concern has been expressed regarding unduly stringent 
regulation driving major customers overseas; indeed, we have already 
seen this beginning to happen with only the threat of regulation. For 
example, Commissioner Sommers has noted that she was troubled by the 
lack of analysis of swap markets and of whether the proposal would 
``cause price discovery in the commodity to shift to trading on foreign 
boards of trade,'' and that ``driving business overseas remains a long 
standing concern.''
    The CFTC's apparent decision to impose a multitude of prescriptive 
rules on both DCMs and swap execution facilities (SEFs) may have a 
detrimental effect on employment in the United States. The principles-
based regulation of futures markets had a transformative effect on U.S. 
futures markets over the past decade. Since the Commodity Futures 
Modernization Act of 2000 (CFMA), which converted the CEA from a rules-
based to principles-based regime, the futures markets have experienced 
unparalleled growth and innovation and have been able to regain and 
maintain a competitive position in the global market. The principles-
based regime has allowed U.S. futures exchanges to keep pace with 
rapidly changing technology and market needs by introducing new 
products, processes, and methods of compliance and avoiding stifling 
regulatory review. The adoption by the CFTC of a prescriptive regime 
will stifle this innovation, make U.S. futures markets less attractive 
to traders, and in the end can only result in the loss of jobs as the 
markets lose their ability to compete.
    Most notably, the newly prescriptive regime, as well as other rules 
proposed by the Commission, are not in harmony with international 
regulators. This creates an incentive for market participants to move 
their business to international exchanges where they may be subject to 
less prescriptive regimes, threatening negative consequences for U.S. 
exchanges. While the Commission has been working to induce 
international regulators to be equally prescriptive, that effort seems 
to be failing as other jurisdictions are alert to the value of snapping 
up the business that the Commission will drive off shore. The threat of 
prescriptive position limits and restrictions on hedging in the U.S. 
are already driving business overseas or into unregulated markets. 
Additionally, broad, undefined prohibitions on so-called ``disruptive'' 
trading practices and trading strategies will drive liquidity providers 
from the U.S. markets and impair hedging and price discovery. The CFTC 
should be careful not to adopt restrictions that tilt the competitive 
playing field in favor of overseas markets. Such a tilt will result in 
both a loss of jobs in the U.S. and less cost-efficient hedging for 
persons in business in the U.S.
Conclusion
    Attached to my testimony are just a few examples where the 
Commission has proposed rules inconsistent with DFA or that impose 
unjustified costs and burdens on both the industry and the Commission. 
As previously noted, CME Group has great concern about the number of 
unnecessary and overly burdensome rule proposals aimed at the regulated 
futures markets. The goal of Dodd-Frank was to bring transparency, 
safety, and soundness to the over-the-counter market, not reregulate 
those markets which have operated transparently and without default. 
However, given the CFTC has determined to issue numerous rules above 
and beyond what is statutorily required by DFA, we ask this Congress to 
extend the rulemaking schedule under DFA to allow time for industry 
professionals of various viewpoints to fully express their views and 
concerns to the Commission and for the Commission to have a realistic 
opportunity to assess and respond to those views and to realistically 
assess the costs and burdens imposed by the new regulations. To this 
end, we urge the Congress to ensure that the Commission performs a 
proper cost-benefit analysis, taking into account real financial costs 
to market participants, before the proposal or implementation of rules 
promulgated under DFA. The imposition of unnecessary costs and 
restrictions on market participants can only result in the stifling of 
growth of the U.S. futures industry, send market participants to 
overseas exchanges, and in the end, result in harm to the U.S. economy 
and loss of American jobs. We urge the Congress to ensure that 
implementation of DFA is consistent with the Congressional directives 
in the Act and does not unnecessarily harm hedging and risk transfer 
markets that U.S. companies depend upon to reduce business risks and 
increase economic growth.

APPENDIX

Concerns Regarding Specific Rulemakings

    We are concerned that many of the Commission's proposed rulemakings 
go beyond the specific mandates of DFA, and are not legitimately 
grounded in evidence and economic theory. I will now address, in turn, 
several proposed rules issued by the Commission that illustrate these 
problems.
1. Advance Notice of Proposed Rulemaking on Protection of Cleared Swaps 
        Customers Before and After Commodities Broker Bankruptcies\3\
    In its Advanced Notice of Proposed Rulemaking (ANPR) regarding 
segregation of customer funds, the Commission notes that it is 
considering imposing an ``individual segregation'' model for customer 
funds belonging to swaps customers. Such a model would impose 
unnecessary costs on derivatives clearing organizations (DCOs) and 
customers alike. As noted in the ANPR, DCOs have long followed a model 
(the ``baseline model'') for segregation of collateral posted by 
customers to secure contracts cleared by a DCO whereby the collateral 
of multiple futures customers of a futures commission merchant (FCM) is 
held together in an omnibus account. If the FCM defaults to the DCO 
because of the failure of a customer to meet its obligations to the 
FCM, the DCO is permitted (but not required), in accordance with the 
DCO's rules and CFTC regulations, to use the collateral of the FCM's 
other futures customers in the omnibus account to satisfy the FCM's net 
customer futures obligation to the DCO. Under the baseline model, 
customer collateral is kept separate from the property of FCMs and may 
be used exclusively to ``purchase, margin, guarantee, secure, transfer, 
adjust or settle trades, contracts or commodity option transactions of 
commodity or option customers.'' \4\ A DCO may not use customer 
collateral to satisfy obligations coming out of an FCM's proprietary 
account.
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     \3\ 75 Fed. Reg. 75162 (proposed Dec. 2, 2010) (to be codified at 
17 C.F.R. pt. 190).
     \4\ See, Reg. 1.20(a).
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    In its ANPR, the Commission suggests the possibility of applying a 
different customer segregation model to collateral posted by swaps 
customers, proposing three separate models, each of which requires some 
form of ``individual segregation'' for customer cleared-swap accounts. 
Each of these models would severely limit the availability of other 
customer funds to a DCO to cure a default by an FCM based on the 
failure of a customer to meet its obligations to the DCO. The 
imposition of any of these alternative models first, is outside of the 
Commission's authority under DFA and second, will result in massive and 
unnecessary costs to DCOs as well as to customers--the very individuals 
such models are allegedly proposed to protect.
    CME Group recognizes that effective protection of customer funds 
is, without a doubt, critical to participation in the futures and swaps 
markets. This fact does not, however, call for a new segregation 
regime. The baseline model has performed this function admirably over 
the years, with no futures customers suffering a loss as a result of an 
FCM's bankruptcy or default. There is no reason to believe it will not 
operate as well in the swaps market. DFA did nothing to change this 
segregation regime as applied to futures, and a focus of Dodd-Frank is 
to bring the OTC swaps market into a regulatory scheme similar to that 
which allowed the futures markets to function flawlessly throughout the 
financial crisis. To this end, it is nonsensical that Congress would 
intend to require a different scheme of segregation of customer funds 
and as a result, a different margining and default model than that 
currently used in the futures markets. Imposing such a conflicting 
model would complicate the function of DCOs intending to clear both 
futures and swaps. Indeed, the statutory language adopted in Section 
724 of DFA does nothing to compel such a result.
    The imposition of a different customer segregation system could 
undermine the intent behind DFA by imposing significantly higher costs 
on customers, clearing members, and DCOs intending to clear swaps and 
injecting moral hazard into a system at the customer and FCM levels. A 
change from the baseline model would interfere with marketplace and 
capital efficiency as DCOs may be required to increase security 
deposits from clearing members. That is, depending on the exact 
methodology employed, DCOs may be forced to ask for more capital from 
clearing members. Based on CME Group's initial assessments, these 
increases in capital requirements would be substantial. For example, 
CME Group's guarantee fund would need to double in size. Aside from 
these monetary costs, adoption of a segregation model would create 
moral hazard concerns at the FCM level. That is, the use of the new 
proposed models could create a disincentive for an FCM to offer the 
highest level of risk managements to its customers if the oversight and 
management of individual customer risk was shifted to the clearinghouse 
and continue to carry the amount of excess capital they do today.
    Imposition of the suggested systems could increase costs and 
decrease participation in the CFTC-regulated cleared-swaps market 
because customers may be unable or unwilling to satisfy resultant 
substantially increased margin requirements. FCMs would face a variety 
of increased indirect costs, such as staffing costs, new systems and 
compliance and legal costs and direct costs such as banking and 
custodial fees. FCMs would likely, in turn, pass these costs on to 
customers. Additionally, smaller FCMs may be forced out of business, 
larger FCMs may not have incentive to stay in business, and firms 
otherwise qualified to act as FCMs may be unwilling to do so due to the 
risk and cost imposed upon the FCM model by individualized segregation. 
This could lead to a larger concentration of customer exposures at 
fewer FCMs, further increases to margin and guarantee fund 
requirements, and further increased costs to customers. All of these 
consequences would lead to decreased participation in U.S. futures and 
swaps exchanges and result in loss of jobs in the United States.
2. Proposed Rulemaking on Position Limits\5\
    A prime example of a refusal to regulate in strict conformance with 
DFA, is the Commission's proposal to impose broad, fixed position 
limits for all physically delivered commodities. The Commission's 
proposed position limit regulations ignore the clear Congressional 
directives, which DFA added to Section 4a of the CEA, to set position 
limits ``as the Commission finds are necessary to diminish, eliminate, 
or prevent'' ``sudden or unreasonable fluctuations or unwarranted 
changes in the price of'' a commodity. \6\ Without any basis to make 
this finding, the Commission instead justified its position limit 
proposal as follows:
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     \5\ 76 Fed. Reg. 4752 (proposed Jan. 26, 2011) (to be codified at 
17 C.F.R. pts. 1, 150-151).
     \6\ My December 15, 2010, testimony before the Subcommittee On 
General Farm Commodities and Risk Management of the House Committee on 
Agriculture includes a more complete legal analysis of the DFA 
requirements.

        The Commission is not required to find that an undue burden on 
        interstate commerce resulting from excessive speculation exists 
        or is likely to occur in the future in order to impose position 
        limits. Nor is the Commission required to make an affirmative 
        finding that position limits are necessary to prevent sudden or 
        unreasonable fluctuations or unwarranted changes in prices or 
        otherwise necessary for market protection. Rather, the 
        Commission may impose position limits prophylactically, based 
        on its reasonable judgment that such limits are necessary for 
        the purpose of ``diminishing, eliminating, or preventing'' such 
        burdens on interstate commerce that the Congress has found 
        result from excessive speculation. 76 Federal Register 4752 at 
        4754 (January 26, 2011), Position Limits for Derivatives. 
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        (Emphasis supplied.)

    At the December 15, 2010, hearing of the General Farm Commodities 
and Risk Management Subcommittee of the House Agriculture Committee on 
the subject of the implementation of DFA's provisions respecting 
position limits, there was strong bipartisan agreement among the 
subcommittee members with the sentiments expressed by Representative 
Moran:

        Despite what some believe is a mandate for the commission to 
        set position limits within a definite period of time, the Dodd-
        Frank legislation actually qualifies CFTC's position-limit 
        authority. Section 737 of the Dodd-Frank act amends the 
        Commodity Exchange Act so that Section 4A-A2A states, ``The 
        commission shall, by rule, establish limits on the amount of 
        positions as appropriate.'' The act then states, ``In 
        subparagraph B, for exempt commodities, the limit required 
        under subparagraph A shall be established within 180 days after 
        the date of enactment of this paragraph.'' When subparagraphs A 
        and B are read in conjunction, the act states that when 
        position limits are required under subparagraph A, the 
        commission shall set the limits within 180 days under paragraph 
        B. Subparagraph A says the position-limit rule should be only 
        prescribed when appropriate.

        Therefore, the 180-day timetable is only triggered if position 
        limits are appropriate. In regard to the word ``appropriate,'' 
        the commission has three distinct problems. First, the 
        commission has never made an affirmative finding that position 
        limits are appropriate to curtail excessive speculation. In 
        fact, to date, the only reports issued by the commission or its 
        staff failed to identify a connection between market trends and 
        excessive speculation. This is not to say that there is no 
        connection, but it does say the commission does not have enough 
        information to draw an affirmative conclusion.

        The second and third issues relating to the appropriateness of 
        position limits are regulated to adequacy of information about 
        OTC markets. On December 8, 2010, the commission published a 
        proposed rule on swap data record keeping and reporting 
        requirements. This proposed rule is open to comment until 
        February 7, 2011, and the rule is not expected to be final and 
        effective until summer at the earliest. Furthermore, the 
        commission has yet to issue a proposed rulemaking about swap 
        data repositories. Until a swap data repository is set up and 
        running, it is difficult to see how it would be appropriate for 
        the commission to set position limits.

    CME is not opposed to position limits and other means to prevent 
market congestion; we employ limits in most of our physically delivered 
contracts. However, we use limits and accountability levels, as 
contemplated by the Congressionally approved Core Principles for DCMs, 
to mitigate potential congestion during delivery periods and to help us 
identify and respond in advance of any threat to manipulate our 
markets. CME Group believes that the core purpose that should govern 
Federal and exchange-set position limits, to the extent such limits are 
necessary and appropriate should be to reduce the threat of price 
manipulation and other disruptions to the integrity of prices. We agree 
that such activity destroys public confidence in the integrity of our 
markets and harms the acknowledged public interest in legitimate price 
discovery and we have the greatest incentive and best information to 
prevent such misconduct.
    It is important not to lose sight of the real economic cost of 
imposing unnecessary and unwarranted position limits. For the last 150 
years, modern day futures markets have served as the most efficient and 
transparent means to discover prices and manage exposure to price 
fluctuations. Regulated futures exchanges operate centralized, 
transparent markets to facilitate price discovery by permitting the 
best informed and most interested parties to express their opinions by 
buying and selling for future delivery. Such markets are a vital part 
of a smooth functioning economy. Futures exchanges allow producers, 
processors and agribusiness to transfer and reduce risks through bona 
fide hedging and risk management strategies. This risk transfer means 
producers can plant more crops. Commercial participants can ship more 
goods. Risk transfer only works because speculators are prepared to 
provide liquidity and to accept the price risk that others do not. 
Futures exchanges and speculators have been a force to reduce price 
volatility and mitigate risk. Overly restrictive position limits 
adversely impact legitimate trading and impair the ability of producers 
to hedge. They may also drive certain classes of speculators into 
physical markets and consequently distort the physical supply chain and 
prices.
    Similarly troubling is the fact that the CFTC's proposed rules in 
this and other areas affecting market participants are not in harmony 
with international regulators. International regulators, such as the 
EU, are far from adopting such a prescriptive approach with respect to 
position limits. Ultimately, this could create an incentive for market 
participants to move their business to international exchanges 
negatively impacting the global leadership of the U.S. financial 
market. Furthermore, exporting the price discovery process to overseas 
exchanges will likely result in both a loss of jobs in the U.S. and 
less cost-efficient hedging for persons in business in the U.S. As an 
example, consider the two major price discovery indexes in crude oil: 
West Texas Intermediate, which trades on NYMEX, and Brent Oil, which 
trades overseas. If the Commission places heavy restrictions in areas 
such as position limits on traders in the U.S., traders in crude oil, 
and with them the price discovery process, are likely to move to 
overseas markets.
3. Proposed Rulemaking on Mandatory Swaps Clearing Review Process\7\
    Another example of a rule proposal that could produce consequences 
counter to the fundamental purposes of DFA is the Commission's proposed 
rule relating to the process for review of swaps for mandatory 
clearing. The proposed regulation treats an application by a DCO to 
list a particular swap for clearing as obliging that DCO to perform due 
diligence and analysis for the Commission respecting a broad swath of 
swaps, as to which the DCO has no information and no interest in 
clearing. In effect, a DCO that wishes to list a new swap would be 
saddled with the obligation to collect and analyze massive amounts of 
information to enable the Commission to determine whether the swap that 
is the subject of the application and any other swap that is within the 
same ``group, category, type, or class'' should be subject to the 
mandatory clearing requirement.
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     \7\ 75 Fed. Reg. 667277 (proposed Nov. 2, 2010) (to be codified at 
17 C.F.R. pts. 1, 150, 151).
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    This proposed regulation is one among several proposals that impose 
costs and obligations whose effect and impact are contrary to the 
purposes of Title VII of DFA. The costs in terms of time and effort to 
secure and present the information required by the proposed regulation 
would be a significant disincentive to DCOs to voluntarily undertake to 
clear a ``new'' swap. The Commission lacks authority to transfer the 
obligations that the statute imposes on it to a DCO. The proposed 
regulation eliminates the possibility of a simple, speedy decision on 
whether a particular swap transaction can be cleared--a decision that 
the DFA surely intended should be made quickly in the interests of 
customers who seek the benefits of clearing--and forces a DCO to 
participate in an unwieldy, unstructured, and time-consuming process to 
determine whether mandatory clearing is required. Regulation Section 
39.5(b)(5) starkly illustrates this outcome. No application is deemed 
complete until all of the information that the Commission needs to make 
the mandatory clearing decision has been received. Completion is 
determined in the sole discretion of the Commission. Only then does the 
90-day period begin to run. This process to enable an exchange to list 
a swap for clearing is clearly contrary to the purposes of DFA.
4. Conversion From Principles-Based to Rules-Based Regulation\8\
    Some of the CFTC's rule proposals are explained by the ambiguities 
created during the rush to push DFA to a final vote. For example, 
Congress preserved and expanded the scheme of principles-based 
regulation by expanding the list of core principles and granting self 
regulatory organizations ``reasonable discretion in establishing the 
manner in which the [self regulatory organization] complies with the 
core principles.'' Congress granted the Commission the authority to 
adopt rules respecting core principles, but did not direct it to 
eliminate the principles-based regulation, which was the foundation of 
the CFMA. In accordance with CFMA, the CFTC set forth ``[g]uidance on, 
and Acceptable Practices in, Compliance with Core Principles'' that 
operated as safe harbors for compliance. This approach has proven 
effective and efficient in terms of appropriately allocating 
responsibilities between regulated DCMs and DCOs and the CFTC.
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     \8\ See, 75 Fed. Reg. 80747 (proposed Dec. 22, 2010) (to be 
codified at 17 C.F.R. pts. 1, 16, 38).
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    We recognize that the changes instituted by DFA give the Commission 
discretion, where necessary, to step back from this principles-based 
regime. Congress amended the CEA to state that boards of trade ``shall 
have reasonable discretion in establishing the manner in which they 
comply with the core principles, unless otherwise determined by the 
Commission by rule or regulation. See, e.g., DFA 735(b), amending 
Section 5(d)(1)(B) of the CEA. But the language clearly assumes that 
the principles-based regime will remain in effect except in limited 
circumstances in which more specific rules addressing compliance with a 
core principle are necessary. The Commission has used this change in 
language, however, to propose specific requirements for multiple Core 
Principles--almost all Core Principles in the case of DCMs--and 
effectively eviscerate the principle-based regime that has fostered 
success in CFTC-regulated entities for the past decade.
    The Commission's almost complete reversion to a prescriptive 
regulatory approach converts its role from an oversight agency, 
responsible for assuring self regulatory organizations comply with 
sound principles, to a frontline decision maker that imposes its 
business judgments on the operational aspects of derivatives trading 
and clearing. This reinstitution of rule-based regulation will require 
a substantial increase in the Commission's staff and budget and impose 
indeterminable costs on the industry and the end users of derivatives. 
Yet there is no evidence that this will be beneficial to the public or 
to the functioning of the markets. In keeping with the President's 
Executive Order to reduce unnecessary regulatory cost, the CFTC should 
be required to reconsider each of its proposals with the goal of 
performing those functions that are mandated by DFA.
    Further, the principles-based regime of the CFMA has facilitated 
tremendous innovation and allowed U.S. exchanges to compete effectively 
on a global playing field. Principles-based regulation of futures 
exchanges and clearinghouses permitted U.S. exchanges to regain their 
competitive position in the global market. Without unnecessary, costly 
and burdensome regulatory review, U.S. futures exchanges have been able 
to keep pace with rapidly changing technology and market needs by 
introducing new products, new processes and new methods by certifying 
compliance with the CEA. Indeed, U.S. futures exchanges have operated 
more efficiently, more economically and with fewer complaints under 
this system than at any time in their history. The transition to an 
inflexible regime threatens to stifle growth and innovation in U.S. 
exchanges and thereby drive market participants overseas. This, I noted 
earlier, will certainly impact the relevant job markets in the United 
States.
(a) Proposed Rulemaking Under Core Principle 9 for DCMs
    A specific example of the Commission's unnecessary and problematic 
departure from the principles-based regime is its proposed rule under 
Core Principle 9 for DCMs--Execution of Transactions, which states that 
a DCM ``shall provide a competitive, open and efficient market and 
mechanism for executing transactions that protects the price discovery 
process of trading in the centralized market'' but that ``the rules of 
a board of trade may authorize . . . (i) transfer trades or office 
trades; (ii) an exchange of (I) futures in connection with a cash 
commodity transaction; (II) futures for cash commodities; or (III) 
futures for swaps; or (iii) a futures commission merchant, acting as 
principal or agent, to enter into or confirm the execution of a 
contract for the purchase or sale of a commodity for future delivery if 
that contract is reported, recorded, or cleared in accordance with the 
rules of the contract market or [DCO].''
    Proposed Rule 38.502(a) would require that 85 percent or greater of 
the total volume of any contract listed on a DCM be traded on the DCM's 
centralized market, as calculated over a 12 month period. The 
Commission asserts that this is necessary because ``the price discovery 
function of trading in the centralized market'' must be protected. 75 
Fed. Reg. at 80588. However, Congress gave no indication in DFA that it 
considered setting an arbitrary limit as an appropriate means to 
regulate under the Core Principles. Indeed, in other portions of DFA, 
where Congress thought that a numerical limit could be necessary, it 
stated so. For example, in Section 726 addressing rulemaking on 
Conflicts of Interest, Congress specifically stated that rules ``may 
include numerical limits on the control of, or the voting rights'' of 
certain specified entities in DCOs, DCMs, or SEFs.
    The Commission justifies the 85 percent requirement only with its 
observations as to percentages of various contracts traded on various 
exchanges. It provides no support evidencing that the requirement will 
provide or is necessary to provide a ``competitive, open, and efficient 
market and mechanism for executing transactions that protects the price 
discovery process of trading in the centralized market of the board of 
trade,'' as is required under Core Principle 9. Further, Core Principle 
9, as noted above, expressly permits DCMs to authorize off-exchange 
transactions including for exchanges to related positions pursuant to 
their rules.
    The imposition of the proposed 85 percent exchange trading 
requirement will have extremely negative effects on the industry. It 
would significantly deter the development of new products by exchanges 
like CME. This is because new products generally initially gain trading 
momentum in off-exchange transactions. Indeed, it takes years for new 
products to reach the 85 percent exchange trading requirement proposed 
by the Commission. For example, one suite of very popular and very 
liquid foreign exchange products developed and offered by CME would not 
have met the 85 percent requirement for 4 years after it was initially 
offered. The suite of products' on-exchange trading continued to 
increase over 10 years, and it now trades only 2 percent off exchange. 
Under the proposed rule, CME would have had to delist this suite of 
products. \9\
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     \9\ More specifically, the product traded 32 percent off-exchange 
when it was first offered in 2000, 31 percent off exchange in 2001, 25 
percent in 2002, 20 percent in 2003, finally within the 85 percent 
requirement at 13 percent off-exchange in 2004, 10 percent in 2005, 7 
percent in 2006, 5 percent in 2007, 3 percent in 2008, and 2 percent in 
2009 and 2010.
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    Imposition of an 85 percent exchange trading requirement would also 
have adverse effects on market participants. If instruments that are 
most often traded off-exchange are forced onto the centralized market, 
customers will lose cross-margin efficiencies that they currently enjoy 
and will be forced to post additional cash or assets as margin. For 
example, customers who currently hold open positions on CME 
Clearport' will be required to post a total of approximately 
$3.9 billion in margin (at the clearing firm level, across all clearing 
firms).
(b) Proposed Comparable Fee Structures under Core Principle 2 for DCMs
    In the case of certain proposed fee restrictions to be placed on 
DCMs, the Commission not only retreats needlessly from principles-based 
regulation but also greatly exceeds its authority under DFA. DCM Core 
Principle 2, which appears in DFA Section 735, states, in part, that a 
DCM ``shall establish, monitor, and enforce compliance with rules of 
the contract market including . . . access requirements.'' Under this 
Core Principle, the Commission has proposed rule 38.151, which states 
that a DCM ``must provide its members, market participants and 
independent software vendors with impartial access to its market and 
services including . . . comparable fee structures for members, market 
participants and independent software vendors receiving equal access 
to, or services from, the [DCM].''
    The CFTC's attempt to regulate DCM member, market participant and 
independent software vendor fees is unsupportable. The CFTC is 
expressly authorized by statute to charge reasonable fees to recoup the 
costs of services it provides. 7 U.S.C. 16a(c). The Commission may not 
bootstrap that authority to set or limit the fees charged by DCMs or to 
impose an industry-wide fee cap that has the effect of a tax. See 
Federal Power Commission v. New England Power Co., 415 U.S. 345, 349 
(1974) (``[W]hole industries are not in the category of those who may 
be assessed [regulatory service fees], the thrust of the Act reaching 
only specific charges for specific services to specific individuals or 
companies.''). In any event, the CFTC's overreaching is not supported 
by DFA. Nowhere in the CEA is the CFTC authorized to set or limit fees 
a DCM may charge. To the extent the CFTC believes its authority to 
oversee impartial access to trading platforms may provide a basis for 
its assertion of authority, that attempt to read new and significant 
powers into the CEA should be rejected.
5. Provisions Common to Registered Entities\10\
    The CFMA streamlined the procedures for listing new products and 
amending rules that did not impact the economic interests of persons 
holding open contracts. These changes recognized that the previous 
system required the generation of substantial unnecessary paperwork by 
exchanges and by the CFTC's staff. It slowed innovation without a 
demonstrable public benefit.
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     \10\ 75 Fed. Reg. 67282 (proposed Nov. 2, 2010) (to be codified at 
17 C.F.R. pt. 40)
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    Under current rules, before a product is self-certified or a new 
rule or rule amendment is proposed, DCMs and DCOs conduct a due 
diligence review to support their conclusion that the product or rule 
complies with the Act and Core Principles. The underlying rationale for 
the self-certification process which has been retained in DFA, is that 
registered entities that list new products have a self-interest in 
making sure that the new products meet applicable legal standards. 
Breach of this certification requirement potentially subjects the DCM 
or DCO to regulatory liability. In addition, in some circumstances, a 
DCM or DCO may be subject to litigation or other commercial remedies 
for listing a new product, and the avoidance of these costs and burdens 
is sufficient incentive for DCMs and DCOs to remain compliant with the 
Act.
    Self-certification has been in effect for 10 years and nothing has 
occurred to suggest that this concept is flawed or that registered 
entities have employed this power recklessly or abusively. During 2010, 
CME launched 438 new products and submitted 342 rules or rule 
amendments to the Commission. There was no legitimate complaint 
respecting the self-certification process during this time. Put simply, 
the existing process has worked, and there is no reason for the 
Commission to impose additional burdens, which are not required by DFA, 
to impair that process.
    Section 745 of DFA merely states, in relevant part, that ``a 
registered entity may elect to list for trading or accept for clearing 
any new contract, or other instrument, or may elect to approve or 
implement any new rule or rule amendment, by providing to the 
Commission a written certification that the new contract or instrument 
or clearing of the new contract or instrument, new rule, or rule 
amendment complies with this Act (including regulations under this 
Act).'' DFA does not direct the Commission to require the submission of 
all documents supporting the certification nor to require a review of 
the legal implications of the product or rule with regard to laws other 
than DFA. Essentially, it requires exactly what was required prior to 
the passage of DFA--a certification that the product, rule or rule 
amendment complies with the CEA. Nonetheless, the Commission has taken 
it upon itself to impose these additional and burdensome submission 
requirements upon registered entities.
    The new requirements proposed by the CFTC will require exchanges to 
prematurely disclose new product innovations and consequently enable 
foreign competitors to introduce those innovations while the exchange 
awaits CFTC approval. This, again, inhibits the ability of U.S. 
exchanges to compete, drives market participants overseas and impairs 
job growth in the United States. Moreover, given the volume of filings 
required by the Notice of proposed rulemaking, the Commission will 
require significant increases in staffing and other resources. 
Alternatively, the result will be that these filings will not be 
reviewed in a timely manner, further disadvantaging U.S. exchanges. 
Again, we would suggest that the Commission's limited resources should 
be better aligned with the implementation of the goals of DFA rather 
than ``correcting'' a well-functioning and efficient process.
    First, the proposed rules require a registered entity to submit 
``all documentation'' relied upon to determine whether a new product, 
rule or rule amendment complies with applicable Core Principles. This 
requirement is so vague as to create uncertainty as to what is actually 
required to be filed. More importantly, this requirement imposes an 
additional burden on both registered entities, which must compile and 
produce all such documentation, and the Commission, which must review 
it. It is clear that the benefits, if any, of this requirement are 
significantly outweighed by the costs imposed both on the marketplace 
and the Commission.
    Second, the proposed rules require registered entities to examine 
potential legal issues associated with the listing of products and 
include representations related to these issues in their submissions. 
Specifically, a registered entity must provide a certification that it 
has undertaken a due diligence review of the legal conditions, 
including conditions that relate to contractual and intellectual 
property rights. The imposition of such a legal due diligence standard 
is clearly outside the scope of DFA and is unnecessarily vague and 
impractical, if not impossible, to comply with in any meaningful 
manner. An entity, such as CME, involved in product creation and design 
is always cognizant that material intellectual property issues may 
arise. This requirement would force registered entities to undertake 
extensive intellectual property analysis, including patent, copyright, 
and trademark searches in order to satisfy the regulatory mandates, 
with no assurances that any intellectual property claim is discoverable 
through that process at a particular point in time. Again, this would 
greatly increase the cost and timing of listing products without 
providing any corresponding benefit to the marketplace. Indeed, the 
Commission itself admits in its NOPR that these proposed rules will 
increase the overall information collection burden on registered 
entities by approximately 8,300 hours per year. \11\
---------------------------------------------------------------------------
     \11\ 75 Fed. Reg. at 67290.
---------------------------------------------------------------------------
    Further, these rules steer the Commission closer to the product and 
rule approval process currently employed by the SEC, which is routinely 
criticized and about which those regulated by the SEC complained at the 
CFTC-SEC harmonization hearings. Indeed, William J. Brodsky of the 
Chicago Board of Options Exchange testified that the SEC's approval 
process ``inhibits innovation in the securities markets'' and urged the 
adoption of the CFTC's certification process.
6. Requirements for Derivatives Clearing Organizations, Designated 
        Contract Markets, and Swap Execution Facilities Regarding 
        Mitigation of Conflicts of Interest\12\
    The Commission's proposed rules regarding the mitigation of 
conflicts of interest in DCOs, DCMs, and SEFs (Regulated Entities) also 
exceed its rulemaking authority under DFA and impose constraints on 
governance that are unrelated to the purposes of DFA or the CEA. The 
Commission purports to act pursuant to Section 726 of DFA but ignores 
the clear boundaries of its authority under that section, which it 
cites to justify taking control of every aspect of the governance of 
those Regulated Entities. Section 726 conditions the Commission's right 
to adopt rules mitigating conflicts of interest to circumstances where 
the Commission has made a finding that the rule is ``necessary and 
appropriate'' to ``improve the governance of, or to mitigate systemic 
risk, promote competition, or mitigate conflicts of interest in 
connection with a swap dealer or major swap participant's conduct of 
business with, a [Regulated Entity] that clears or posts swaps or makes 
swaps available for trading and in which such swap dealer or major swap 
participant has a material debt or equity investment.'' (Emphasis 
added.) The ``necessary and appropriate'' requirement constrains the 
Commission to enact rules that are narrowly tailored to minimize their 
burden on the industry. The Commission failed to make the required 
determination that the proposed regulations were ``necessary and 
proper'' and, unsurprisingly, the proposed rules are not narrowly 
tailored but rather overbroad, outside of the authority granted to it 
by DFA and extraordinarily burdensome.
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     \12\ 75 Fed. Reg. 63732 (proposed October 18, 2010) (to be 
codified at 17 C.F.R. pts. 1, 37, 38, 39, 40).
---------------------------------------------------------------------------
    The Commission proposed governance rules and ownership limitations 
that affect all Regulated Entities, including those in which no swap 
dealer has a material debt or equity investment and those that do not 
even trade or clear swaps. Moreover, the governance rules proposed have 
nothing to do with conflicts of interest, as that term is understood in 
the context of corporate governance. Instead, the Commission has 
created a concept of ``structural conflicts,'' which has no recognized 
meaning outside of the Commission's own declarations and is unrelated 
to ``conflict of interest'' as used in the CEA. The Commission proposed 
rules to regulate the ownership of voting interests in Regulated 
Entities by any member of those Regulated Entities, including members 
whose interests are unrelated or even contrary to the interests of the 
defined ``enumerated entities.'' In addition, the Commission is 
attempting to impose membership condition requirements for a broad 
range of committees that are unrelated to the decision making to which 
Section 726 was directed.
    The Commission's proposed rules are most notably overbroad and 
burdensome in that they address not only ownership issues but the 
internal structure of public corporations governed by State law and 
listing requirements of SEC regulated national securities exchanges. 
More specifically, the proposed regulations set requirements for the 
composition of corporate boards, require Regulated Entities to have 
certain internal committees of specified compositions and even propose 
a new definition for a ``public director.'' Such rules in no way relate 
to the conflict of interest Congress sought to address through Section 
726. Moreover, these proposed rules improperly intrude into an area of 
traditional State sovereignty. It is well-established that matters of 
internal corporate governance are regulated by the States, specifically 
the state of incorporation. Regulators may not enact rules that intrude 
into traditional areas of State sovereignty unless Federal law compels 
such an intrusion. Here, Section 726 provides no such authorization.
    Perhaps most importantly, the proposed structural governance 
requirements cannot be ``necessary and appropriate,'' as required by 
DFA, because applicable State law renders them completely unnecessary. 
State law imposes fiduciary duties on directors of corporations that 
mandate that they act in the best interests of the corporation and its 
shareholders--not in their own best interests or the best interests of 
other entities with whom they may have a relationship. As such, 
regardless of how a board or committee is composed, the members must 
act in the best interest of the exchange or clearinghouse. The 
Commission's concerns--that members, enumerated entities, or other 
individuals not meeting its definition of ``public director'' will act 
in their own interests--and its proposed structural requirements are 
wholly unnecessary and impose additional costs on the industry--not to 
mention additional enforcement costs--completely needlessly.
7. Prohibition on Market Manipulation\13\
    The Commission's proposed rules on Market Manipulation, although 
arguably within the authority granted by DFA, are also problematic 
because they are extremely vague. The Commission has proposed two rules 
related to market manipulation: Rule 180.1, modeled after SEC Rule 10b-
5 and intended as a broad, catch-all provision for fraudulent conduct; 
and Rule 180.2, which mirrors new CEA Section 6(c)(3) and is aimed at 
prohibiting price manipulation. See 75 Fed. Reg. at 67658. Clearly, 
there is a shared interest among market participants, exchanges and 
regulators in having market and regulatory infrastructures that promote 
fair, transparent and efficient markets and that mitigate exposure to 
risks that threaten the integrity and stability of the market. In that 
context, however, market participants also desire clarity with respect 
to the rules and fairness and consistency with regard to their 
enforcement.
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     \13\ 75 Fed.Reg. 67657-62 (proposed Nov. 3, 2010) (to be codified 
at 17 C.F.R. pt. 180).
---------------------------------------------------------------------------
    As to its proposed Rule 180.1, the Commission relies on SEC 
precedent to provide further clarity with respect to its interpretation 
and notes that it intends to implement the rule to reflect its 
``distinct regulatory mission.'' However, the Commission fails to 
explain how the rule and precedent will be adapted to reflect the 
differences between futures and securities markets. See 75 Fed. Reg. at 
67658-60. For example, the Commission does not provide clarity as to if 
and to what extent it intends to apply insider trading precedent to 
futures markets. Making this concept applicable to futures markets 
would fundamentally change the nature of the market, not to mention all 
but halting participation by hedgers, yet the Commission does not even 
address this issue. Rule 180.1 is further unclear as to what standard 
of scienter the Commission intends to adopt for liability under the 
rule. Rule 180.2 is comparably vague, providing, for example, no 
guidance as to what sort of behavior is ``intended to interfere with 
the legitimate forces of supply and demand'' and how the Commission 
intends to determine whether a price has been affected by illegitimate 
factors.
    These proposed rules, like many others, have clearly been proposed 
in haste and fail to provide market participants with sufficient notice 
of whether contemplated trading practices run afoul of them. Indeed, we 
believe the proposed rules are so unclear as to be subject to 
constitutional challenge. That is, due process precludes the Government 
from penalizing a private party for violating a rule without first 
providing adequate notice that conduct is forbidden by the rule. In the 
area of market manipulation especially, impermissible conduct must be 
clearly defined lest the rules chill legitimate market participation 
and undermine the hedging and price discovery functions of the market 
by threatening sanctions for what otherwise would be considered 
completely legal activity. That is, if market participants do not know 
the rules of the road in advance and lack confidence that the 
disciplinary regime will operate fairly and rationally, market 
participation will be chilled because there is a significant risk that 
legitimate trading practices will be arbitrarily construed, post hoc, 
as unlawful. These potential market participants will either use a 
different method to manage risk or go to overseas exchanges, stifling 
the growth of U.S. futures markets and affecting related job markets.
8. Antidisruptive Practices Authority Contained in DFA\14\
    Rules regarding Disruptive Trade Practices (DFA Section 747) run 
the risk of being similarly vague and resulting in chilling market 
participation. The CFTC has recently issued a Proposed Interpretive 
Order which provides guidance regarding the three statutory disruptive 
practices set for in DFA Section 747. \15\ CME Group applauds the 
Commission's decision to clarify the standards for liability under the 
enumerated disruptive practices and supports the Commission's decision 
to refrain from setting forth any additional ``disruptive practices'' 
beyond those listed in the statute. We believe, however, that in 
several respects, the proposed interpretations still do not give market 
participants enough notice as to what practices are illegal and also 
may interfere with their ability to trade effectively.
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     \14\ 75 Fed. Reg. 67301 (proposed November 2, 2010) (to be 
codified at 17 C.F.R. pt. 1).
     \15\ 76 Fed. Reg. 14943 (proposed March 18, 2011).
---------------------------------------------------------------------------
    For example, the Commission interprets section 4c(a)(5)(A), 
Violating Bids and Offers, ``as prohibiting any person from buying a 
contract at a price that is higher than the lowest available offer 
price and/or selling a contract at a price that is lower than the 
highest available bid price'' regardless of intent. \16\ However, 
certain existing platforms allow trading based on considerations other 
than price. Without an intent requirement, these platforms do not 
``fit'' under the regulations, and presumably will be driven out of 
business. Similarly, market participants desiring to legitimately trade 
on bases other than price will presumably be driven to overseas 
markets.
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     \16\ 76 Fed. Reg. 14946 (proposed March 18, 2011).
---------------------------------------------------------------------------
    Further, the Commission states that section 4c(a)(5)(B), Orderly 
Execution of Transactions During the Closing Period, applies only where 
a participant ``demonstrates intentional or reckless disregard for the 
orderly execution of transactions during the closing period.'' However, 
the Commission goes on to state that ``market participants should 
assess market conditions and consider how their trading practices and 
conduct affect the orderly execution of transactions during the closing 
period.'' In so stating, the Commission seems to impose an affirmative 
obligation on market participants to consider these factors before 
executing any trade. This, first, directly conflicts with the scienter 
requirements also set forth by the Commission and thus interferes with 
the ability of market participants to determine exactly what conduct 
may give rise to liability. Second, such an affirmative obligation will 
interfere with the ability of market participants to make advantageous 
trades, especially in the context of a fast-moving, electronic trading 
platform. The end result of both these issues is that, if the 
Interpretive Order goes into effect as written, market participation 
will be chilled, participants will move to overseas markets and jobs 
will be lost in the U.S. futures industry.
    Section 747 of DFA, which authorizes the Commission to promulgate 
additional rules if they are reasonably necessary to prohibit trading 
practices that are ``disruptive of fair and equitable trading,'' is 
exceedingly vague as written and does not provide market participants 
with adequate notice as to whether contemplated conduct is forbidden. 
If the Interpretive Order does not clearly define ``disruptive trade 
practices,'' it will discourage legitimate participation in the market 
and the hedging and price discovery functions of the market will be 
chilled due to uncertainty among participants as to whether their 
contemplated conduct is acceptable.
9. Effects on OTC Swap Contracts
    DFA's overhaul of the regulatory framework for swaps creates 
uncertainty about the status and validity of existing and new swap 
contracts. Today, under provisions enacted in 2000, swaps are excluded 
or exempt from the CEA under Sections 2(d), 2(g), and 2(h) of the CEA. 
These provisions allow parties to enter into swap transactions without 
worrying about whether the swaps are illegal futures contracts under 
CEA Section 4(a). DFA repeals those exclusions and exemptions effective 
July 16, 2011. At this time, it is unclear what if any action the CFTC 
plans to take or legally could take to allow both swaps entered into on 
or before July 16, and those swaps entered into after July 16 from 
being challenged as illegal futures contracts. To address this concern, 
Congress and the CFTC should consider some combination of deferral of 
the effective dates of the repeal of Sections 2(d), 2(g), and 2(h), 
exercise of CFTC exemptive power under Section 4(c), or other 
appropriate action. Otherwise swap markets may be hit by a wave of 
legal uncertainty which the statutory exclusions and exemptions were 
designed in 2000 to prevent. This uncertainty may, again, chill 
participation in the swap market and impair the ability of market 
participants, including hedgers, to manage their risks.
                                 ______
                                 
                     PREPARED STATEMENT OF IAN AXE
              Chief Executive, LCH.Clearnet Group Limited
                             April 12, 2011
    Chairman Johnson, Ranking Member Shelby, Members of the Committee, 
my name is Ian Axe and I am Chief Executive of LCH.Clearnet Group Ltd 
(the ``Group''). On behalf of the Group, I would like to thank the 
Committee for asking me here today.
    LCH.Clearnet is the world's leading independent clearinghouse 
group. Formed out of the merger of the London Clearing House Ltd and 
Clearnet SA, we continue to operate two clearinghouses, LCH.Clearnet 
Limited \1\ in London and LCH.Clearnet SA \2\ in Paris. Additionally we 
have a fast-growing presence in the U.S. to support our rapidly 
expanding U.S. swaps activity. We opened a New York office in late 2009 
and staff numbers have since grown quickly. Our New York head count has 
already doubled in the year to date.
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     \1\ LCH.Clearnet Ltd. is regulated by, inter alia, the Financial 
Services Authority of the United Kingdom and by the Commodity Futures 
Trading Commission (as a ``Derivatives Clearing Organization'') of the 
United States.
     \2\ LCH.Clearnet SA is regulated as a Credit Institution and 
Clearing House by a regulatory college consisting of, amongst others, 
the market regulators and central banks from the jurisdictions of: 
France, Netherlands, Belgium, and Portugal. It is also regulated as a 
Recognized Overseas Clearing House by the U.K. Financial Services 
Authority.
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    We are a user-owned, user-governed organization, being 83 percent 
owned by our clearing members, and 17 percent owned by exchanges such 
as the NYSE Euronext group. We have been clearing commodities for 120 
years, and LCH.Clearnet Limited has been registered with and regulated 
by the Commodity Futures Trading Commission (CFTC) as a Derivatives 
Clearing Organization (DCO) since 2001. We serve major international 
exchanges and trading platforms, as well as a range of over-the-counter 
(``OTC'' or ``swaps'') markets and we clear a broad range of asset 
classes, including cash equities, exchange-traded derivatives, energy, 
freight, interest rate swaps, and euro- and British pound-denominated 
bonds and repos.
OTC Clearing Expertise
    LCH.Clearnet Limited pioneered the development of OTC clearing in 
1999 with our SwapClear and RepoClear services, respectively the 
market-leaders in global interest rate swap and European repo clearing. 
In addition, our London arm clears a range of OTC freight, energy, and 
commodity products, while LCH.Clearnet SA clears European OTC index-
based credit default swaps and repo products.
    LCH.Clearnet Limited currently clears over 50 percent of the global 
interest rate swap market. This represents trades with a total notional 
principal of over $276 trillion in 14 currencies with tenors out to as 
far as 50 years. Last year SwapClear cleared over 120,000 trades 
involving U.S. counterparties with a notional value in excess of $64 
trillion. Of the total swaps portfolio cleared, approximately $91 
trillion is in U.S. dollars.
    We recently extended this capability to include a Futures 
Commission Merchant (FCM) clearing service for U.S. end user clients. 
We currently have 12 FCMs offering such services, and have since 
successfully cleared our first trades under the FCM structure.
    We are working closely with market participants to expand our 
service in the U.S. and have set up formal working groups with FCMs and 
buyside firms. Our Buyside Advisory Committee meets monthly to discuss 
the development of the service. It comprises representatives from a 
number of large U.S. firms, including Citadel, BlackRock, the D.E. Shaw 
Group, the Federal Home Loan Banks, and Freddie Mac amongst others.
    SwapClear is the largest swaps clearing service globally and is 
widely recognized as a major contributor to financial stability. \3\ 
This important capability was put to the test during the collapse of 
Lehman Brothers. LCH.Clearnet Limited was required to default-manage 
Lehman Brothers' cleared portfolio of 66,000 interest rate swap trades 
across five major currencies, with a notional value in excess of $9 
trillion. Together with SwapClear clearing members, who are 
contractually obligated to participate in the default management 
process and to bid in the ensuing auctions, LCH.Clearnet Limited 
successfully neutralized and sold off the entire swap portfolio.
---------------------------------------------------------------------------
     \3\ ``Deciphering the 2007-08 Liquidity and Credit Crunch'', 
Markus K. Brunnermeier, Princeton University, Journal of Economic 
Perspectives, May 2008: http://www.newyorkfed.org/research/conference/
2008/rmm/Brunnermeier.pdf.

    ``New Developments in Clearing and Settlement Arrangements for OTC 
Derivatives'', Committee on Payment and Settlement Systems, BIS, Basel; 
March 2007. Link: http://www.bis.org/publ/cpss77.htm.
---------------------------------------------------------------------------
    The management of the default involved:

    At default (Monday, 15 September 2008) SwapClear clearing 
        members seconded their experienced traders to work alongside 
        LCH.Clearnet Limited's risk management team to execute hedges 
        and to neutralize the market risk on the defaulter's portfolio. 
        All participants adhered to strict confidentiality rules.

    Over the ensuing days, LCH.Clearnet Limited's risk position 
        was constantly reviewed and recalibrated, and additional hedges 
        were executed by the default management group in response to 
        the changing portfolio and volatile market.

    From Wednesday, September 24 to Friday, October 3, 
        competitive auctions of the five hedged currency portfolios 
        were successfully completed and the group transferred all 
        66,000 trades to the successful bidders, all of whom were 
        surviving SwapClear clearing members.

    The success of the default management process was largely due to 
the strong commitment and contractual relationship between the 
SwapClear clearing members and LCH.Clearnet Limited. The process was 
wholly reliant on SwapClear clearing members' dedicated resources, 
including key and experienced front office, risk, and operations 
personnel who worked closely alongside the clearinghouse, in our 
offices.
    LCH.Clearnet Limited used only 35 percent of Lehman Brothers' 
margin in managing the default and returned the remaining funds, in 
excess of $850 million, to their administrators. No LCH.Clearnet 
Limited counterparties incurred any loss as a result of the default, 
and the clearing services operated by the Group continued to function 
in full, with no disruption to member firms or clients, before, during 
or after the Lehman Brothers' default. The Group thereby fulfilled its 
commitment to its members, clients and the wider financial system by 
ensuring market integrity and providing much-needed stability at a 
critical juncture.
The Dodd-Frank Wall Street Reform and Consumer Protection Act
    The Group supported the Dodd-Frank Wall Street Reform and Consumer 
Protection Act (the ``Dodd-Frank Act'') because of the new law's 
provisions in Title VII designed to reduce risk and increase 
transparency in the OTC derivatives market through mandated clearing.
    The Group strongly supports the policy goals underpinned by the 
Dodd-Frank Act, and believes that this important piece of legislation 
will do much to improve stability in the marketplace and much reduce 
the risk of the taxpayer funding further bailouts.
    In particular we welcome both stronger risk management and 
heightened financial standards for clearinghouses; a greater level of 
supervision for clearinghouses; mandatory clearing obligations and 
trade reporting requirements.
    We have been following the U.S. rulemaking process closely, and 
applaud both the Commodity Futures Trading Commission (CFTC) and the 
Securities and Exchange Commission (SEC) for the thoughtfulness and 
openness with which they have approached these important matters. We 
have been invited to participate in the Agencies' roundtables; have 
attended their open meetings; responded to their proposed rulemakings 
and met with their Commissioners.
    At the same time we are directly involved in the legislative 
proposals in Europe and are closely following the development of the 
European Markets and Infrastructure Regulation (EMIR). The EMIR 
proposal, which governs clearinghouses and trade repositories, was put 
forward by the European Commission in September, and is now working its 
way through the European Parliament and Council.
    We believe it is of paramount importance that the legislation and 
detailed rules emerging from the U.S. and EU, as well as the timetables 
for implementation and adherence, are as closely aligned as possible. 
This harmonization should ensure that: there is no opportunity for 
regulatory arbitrage; capital is able to flow freely and that economic 
recovery is not constrained.
    Clearinghouses such as our own are global operations, supporting 
global markets. Divergences in risk standards for clearinghouses 
amongst key jurisdictions such as the U.S. and EU will likely lead to 
the balkanization of clearing; such an outcome would result in a 
significant increase in the amount of capital tied up in clearing and 
be prejudicial for the economy, for jobs and for the recovery.
    While we have generally supported the rules promulgated by the CFTC 
and SEC and commend their efforts to remain in close dialogue with 
supervisors in the EU, we have been concerned by the emergence of some 
notable differences in their proposals to those under consideration in 
Europe.
    Our three greatest areas of concern in this regard include the 
differences between the U.S. and Europe in rules governing: (1) the 
Mitigation of Conflicts of Interest; (2) Risk Management Requirements; 
and (3) Protection of Cleared Swaps.
Requirements Regarding the Mitigation of Conflicts of Interest
    Sections 726(a) and 765 of the Dodd-Frank Act empower the CFTC and 
SEC to adopt rules mitigating conflicts of interest with respect to any 
DCO or Clearing Agency that clears swaps or security-based swaps. These 
rules may include numerical limits on the control of, or the voting 
rights with respect to, such a DCO or Clearing Agency by a specified 
market participant (Enumerated Entity).
    LCH.Clearnet has long recognized that there are potential conflicts 
of interest in clearinghouses. Although LCH.Clearnet's substantial OTC 
derivatives clearing book plainly evidences the contrary, it is 
entirely possible that clearinghouse shareholders who deal in OTC 
derivatives may have an interest in seeing that the clearinghouse does 
not clear the instruments in which they deal. Equally, exchanges may 
have an interest in ensuring that a clearinghouse in which they are 
shareholders does not clear instruments traded on competing exchanges, 
execution facilities or in the OTC market. End users shareholders may 
meanwhile have an interest in ensuring that a clearinghouse keeps 
margin requirements and other associated costs artificially low.
    In recognition of the potential conflicts, LCH.Clearnet's corporate 
charter prohibits any individual shareholder from exercising votes 
representing more than five percent of the shares in issue, even if a 
shareholder actually holds a number of shares amounting to more than 5 
percent of the total number of shares in issue. This measure has 
effectively ensured that neither a single shareholder nor a small group 
of shareholders--whatever their origin or collective interests--has 
been able to dominate management of LCH.Clearnet's clearinghouses and 
determine their policies, such as which asset classes will be cleared.
    At the same time, the direct involvement of market participants in 
our clearinghouses has facilitated innovation. Their expertise has 
directly contributed to our ability to develop complex and technically 
challenging services such as those we offer to the OTC marketplace. For 
this reason, we would caution that any regulation that limits the 
aggregate involvement of Enumerated Entities in clearinghouses might 
risk limiting innovation in OTC clearing, as well as stifling 
competition and increasing the cost of business in the U.S.
    During passage of the Dodd-Frank Act, Congress correctly rejected 
the imposition of aggregate ownership and voting caps on 
clearinghouses. We have therefore been concerned to see proposals 
emerge from the Agencies \4\ that would re-introduce such caps. Any 
such aggregate restriction on clearinghouse ownership or governance 
would, in our view, lead to increased cost, with no commensurate 
benefits. Rather, we believe that individual limitations on voting 
rights such as those already in place at LCH.Clearnet, coupled with the 
obligations to minimize and resolve conflicts of interest that 
clearinghouses will be subject to, \5\ should be sufficient to allay 
concerns about corporate governance within clearinghouses.
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     \4\ RIN 3038 AD01, ``Requirements for Derivatives Clearing 
Organizations, Designated Contract Markets, and Swap Execution 
Facilities Regarding the Mitigation of Conflicts of Interest''. RIN 
3235-AK7, ``Ownership Limitations and Governance Requirements for 
Security-Based Swap Clearing Agencies, Security-Based Swap Execution 
Facilities, and National Securities Exchanges with respect to Security-
Based Swaps Under Regulation MC''.
     \5\ CFTC Proposed Rule 39.25(a), 75 Fed.Reg. 63732, 63750 (October 
18, 2010). There is a similar provision contained in SEC Proposed Rule 
17Ad-25, 76 Fed.Reg. 14472, 14539 (March 16, 2011).
---------------------------------------------------------------------------
    Minimizing jurisdictional differences in rules such as those 
mitigating conflicts in clearinghouses will be key to keeping costs low 
and to reducing implementation challenges. In this regard we would 
respectfully observe that in Europe, where we have been closely 
tracking EMIR's progress through the legislature, there have been no 
proposals to attempt to limit clearinghouse ownership or voting rights 
by groups of entities--either from the European Commission, the 
European Parliament, or the European Council. Indeed, the restrictions 
on the ownership of shares or voting interests of the type proposed by 
the Agencies would likely be deemed contrary to the fundamental 
freedoms set out in the primary EU Treaty (the Treaty on the 
Functioning of the European Union, ``TFEU''), in particular, those 
protecting the freedom of establishment and the free movement of 
capital. \6\
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     \6\ The provisions of the TFEU relating to free movement of 
capital provide that ``all restrictions on the movement of capital 
between Member States and between Member States and third countries 
shall be prohibited.'' The EU's Supreme Court (the European Court of 
Justice, ``ECJ'') has consistently found that, for these purposes, 
capital movements include ``direct investment in the form of 
participation in an undertaking by way of shareholding or the 
acquisition of securities on the capital market . . . and . . . the 
possibility of participating effectively in the management of a company 
or in its control.''

    The free movement of capital and freedom of establishment are 
fundamental tenets of the TFEU, and any exceptions to these rules would 
needs therefore to be justified by overarching public policy 
requirements. Moreover, the TFEU sets out that ``only the Council, 
acting in accordance with a special legislative procedure, may 
unanimously, and after consulting the European Parliament, adopt 
measures which constitute a step backwards in Union law as regards the 
liberalization of the movement of capital to or from third countries.'' 
Accordingly, such an amendment would require unanimity amongst Member 
States.
---------------------------------------------------------------------------
Risk Management Requirements
    LCH.Clearnet acknowledges and endorses the Dodd-Frank requirement 
that clearinghouses permit ``fair and open access.''
    The Group employs open and transparent membership eligibility 
criteria for each market that it clears. The criteria are approved by 
both our clearinghouses. Risk Committees and Boards of Directors, all 
of which are chaired by independent directors, and the criteria are 
subject to subsequent regulatory approval. We are committed to 
exploring all the ways in which we can expand our membership, whilst 
maintaining the highest standards of risk management and ensuring the 
safe and sound operation of our clearinghouses.
    We have been concerned by the Agencies' proposed membership 
requirements for clearinghouses offering OTC clearing services. \7\ The 
Agencies propose to enforce the separation of participation in 
clearinghouses from risk underwriting and default management 
responsibilities.
---------------------------------------------------------------------------
     \7\ RIN 3038-AC98 Risk Management Requirements for Derivatives 
Clearing Organizations, 21 January 2011.
    RIN 3235-AL13 Clearing Agency Standards for Operation and 
Governance, 3 March 2011.
---------------------------------------------------------------------------
    We have seen no such requirements in the European Commission's EMIR 
Proposal, nor during its subsequent passage through the European 
Parliament and European Council.
    In our view, the SEC's and CFTC's proposed requirements for access 
to clearinghouses, whilst founded on important policy considerations, 
risk watering down our well-tested and proven default management 
processes, upon which the integrity of our clearinghouses depend.
    Absent clear default management rules that ensure the protection of 
surviving members, clearinghouses such at our own would face 
significant technical challenges that would put at risk our ability to 
extend and develop our OTC clearing services. As such, the proposed 
rules would seem to run contrary both to the Agencies' intent and to 
their statutory and prudential responsibilities.
    In undertaking to clear certain swaps products, particularly those 
that are long-dated and less liquid than exchange-traded futures, a 
clearinghouse needs to rely on clearing member participation in the 
event of a default. We firmly believe that access criteria for OTC 
clearing members must be proportionate to the risk each member 
introduces into the system and should be contingent on default 
management and risk underwriting participation, such that the integrity 
of the clearinghouse is fully protected and there is no cost to or 
impact on other members, their customers or the wider financial system.
    CPSS-IOSCO, \8\ the global organization of securities and futures 
regulators, has recently endorsed this view. The March 2011 report by 
CPSS-IOSCO on Financial Market Infrastructures stipulates:
---------------------------------------------------------------------------
     \8\ Committee on Payment and Settlement Systems, Technical 
Committee of the International Organization of Securities Commissions 
(CPSS-IOSCO).

        An OTC derivatives CCP may need to consider requiring 
        participants to agree in advance to bid on the defaulting 
        participant's portfolio and, should the auction fail, accept an 
        allocation of the portfolio. A CCP that employs such procedures 
        should carefully consider, where possible, the risk profile and 
        portfolio of the receiving participant before allocating 
        positions so as to minimize additional risk for the surviving 
        participant. \9\
---------------------------------------------------------------------------
     \9\ Principles for Financial Market Infrastructures CPSS-IOSCO 
Consultative Report, March 2011 (p. 64).

    In the interests of harmonization, we would also draw the 
Committee's attention to the submission made by the U.K.'s Financial 
Services Authority \10\ to the CFTC on this matter. The letter stated:
---------------------------------------------------------------------------
     \10\ http://comments.cftc.gov/PublicComments/
ViewComment.aspx?id=31986&SearchText=

        Risk management standards for CCPs must be anchored in the 
        characteristics of the products being cleared, and the FSA 
        recognizes that different product types may require different 
        clearing models. This can extend to participant eligibility in 
        models where the clearing members are required to perform 
        specific actions to assist in a member default, for example 
        Interest Rate Swap clearing models that include an obligation 
        to bid for, or be allocated, portfolios from the defaulting 
---------------------------------------------------------------------------
        clearing member.

    SwapClear clearing members must be able to demonstrate that they 
can support a swaps book from a front office, risk, technology, and 
operations perspective. We rely on surviving clearing members: to be 
able to hedge a defaulting member's swaps portfolio; to provide 
liquidity for such hedging; to bid on hedged portfolios; and, if 
necessary, to accept a forced allocation of swaps.
    LCH.Clearnet regularly tests and confirms that its clearing members 
maintain such a capability. This model was the basis upon which we 
successfully managed the Lehman Brothers default.
    Upon reviewing the Agencies' proposed rules for access, we have 
asked ourselves whether the proposals would improve or reduce our 
ability to manage a large member or client default, and have concluded 
that such proposals still need work to ensure they would not be 
detrimental to our ability to do so.
    Our SwapClear membership is expanding continually, and now includes 
50 direct clearing members from North America, Europe, and Asia. In 
addition, we recently extended this capability to include an FCM 
clearing service for U.S. end users, and have since successfully 
cleared our first trades under the FCM structure. Firms that do not 
meet our direct membership criteria, or do not wish to commit to the 
risk underwriting and default management responsibilities, are thus 
able to access the clearinghouse under the full protections of the 
well-proven FCM structure.
    We are open to keeping our SwapClear admission criteria under 
constant review and to materially modifying the current entry 
requirements for members. Provided that potential members prove they 
have the required risk underwriting and default management capabilities 
and commit to full participation in both, we will welcome their entry.
Futurization of Swaps
    The Group has a number of concerns regarding the apparent 
``futurization'' of Swaps in the provisions set out by the CFTC in its 
Risk Management Requirements Rules for DCOs \11\ and other proposed 
rulemakings.
---------------------------------------------------------------------------
     \11\ RIN 3038-AC98 Risk Management Requirements for Derivatives 
Clearing Organizations, 21 January 2011.
---------------------------------------------------------------------------
    Among other requirements, the CFTC proposes that DCOs use a 
margining methodology that is ill-suited and inefficient for swaps 
clearing. Again there has been no evidence of such requirements in 
Europe.
    In this regard we would respectfully point to the recent report 
from CPSS-IOSCO. This explicitly recognizes that swaps have unique 
characteristics, which may require clearinghouses to employ different 
risk management methods than they would for futures or cash 
instruments.
    The CPSS-IOSCO report said:

        In addition to typical risk-management tools used by CCPs in 
        listed markets, CCPs in OTC derivatives markets may employ 
        other risk-management processes designed for the unique risks 
        of the cleared OTC derivatives product. Participant 
        requirements, margin requirements, financial resources and 
        default procedures are particular areas where a CCP may need to 
        consider additional tools tailored for OTC derivatives markets.
Protection of Cleared Swaps
    The CFTC recently sought comment \12\ through an Advanced Notice of 
Proposed Rulemaking (ANPR) on the most appropriate customer protection 
regime for cleared swaps. In our view the introduction of a customer 
protection model that insulates clients from such fellow-customer risk 
would best uphold one of the key aims of the Act--that of protecting 
consumers. It would also ensure that the protections and safeguards 
afforded to the U.S. client base are at least as strong as those that 
will be offered to customers in Europe, as required under EMIR. \13\
---------------------------------------------------------------------------
     \12\ RIN 3038-AD99 Protection of Cleared Swaps Customers Before 
and after Commodity Broker Bankruptcies, 2 December 2010.
     \13\ http://ec.europa.eu/internal_market/financial-markets/docs/
derivatives/20100915_proposal_en.pdf, Article 37.
---------------------------------------------------------------------------
    In the ANPR consultation the CFTC asked respondents which of four 
client protection models would be most appropriate for customers 
clearing swaps. \14\ As LCH.Clearnet stated in its response to the 
ANPR, \15\ we believe that customers should above all be able to 
preserve the collateral protections they are offered in the bilateral 
uncleared swaps environment.
---------------------------------------------------------------------------
     \14\ Option (1) Full Physical Segregation; Option (2) Legal 
Segregation with Commingling; Option (3) Moving Customers to the Back 
of the Waterfall; Option (4) Baseline Model.
     \15\ http://comments.cftc.gov/PublicComments/
ViewComment.aspx?id=27157&SearchText=
---------------------------------------------------------------------------
    Under current bilateral swaps market practice, some clients are 
able to negotiate for individual segregation of collateral that they 
post as margins. The collateral posted by clients that have made such 
arrangements, although subject to other risks, is not subject to the 
risk of the default of other market participants that have entered into 
transactions with their swaps counterparts. These clients--many of them 
pension funds, long-term savings institutions, Government and related 
fiscal authorities and other real money investors--believe it is 
inappropriate that they should be subject to an additional risk (that 
of fellow-customers) when clearing their swaps positions.
    At the specific request of customers in Europe, LCH.Clearnet has 
developed a client clearing model that protects nondefaulting clients 
from the risks of defaulting clients. We believe that this client-
clearing model is closely aligned to one of the models proposed by the 
Commission in its ANPR, Option 2, or ``Legal Segregation With 
Commingling.''
    This model improves on the protections afforded in the bilateral 
swaps marketplace, by enabling the clearinghouse to offer clients 
portability of swaps margin-related collateral and market risk 
positions in the event of a clearing member's default. It is structured 
so as to enable the clearinghouse to identify and cover the risks 
associated with an individual customer's portfolio as if the 
clearinghouse were required to take on its management in isolation, as 
could happen in the event of a member default. This construct also 
enables the clearinghouse to monitor client profiles individually and 
to maximize the likelihood of the transfer of such clients' risks and 
positions in the event of their clearing member(s) defaulting.
    Having implemented the above outlined model in Europe, the Group is 
confident that it gives rise to no further costs than the CFTC's other 
proposed models, either at the clearinghouse or at the clearing member 
level.
    Further, LCH.Clearnet can confirm that the implementation of this 
clearing model has not changed the structure of resources that protect 
the clearinghouse following a default; it has not required an increase 
in margin collateral levels, nor has it caused the clearinghouse to 
raise clearing member contributions to the default fund.
    LCH.Clearnet looks forward to extending its existing SwapClear 
client clearing service to U.S. end users under the well-proven FCM 
structure. At the same time, we believe that the important client 
protection mechanisms outlined above and described the CFTC in its ANPR 
under ``Option 2, Legal Segregation with Comingling'' would best 
preserve the interests of the investors and other clients clearing 
swaps through FCMs. The introduction of such client-level protections 
would also, we believe, ensure closer harmonization with those 
protections afforded in Europe.
Conclusion
    As stated at the start of this testimony, LCH.Clearnet is 
supportive of the goals of the Dodd-Frank Act. We also believe that the 
CFTC and SEC have approached the rulemaking process with care and 
thoroughness, and commend the Commissioners and staff for their hard 
work.
    We applaud the Agencies for their engagement with the industry and 
with authorities in the EU and further afield. Nonetheless, we do 
believe that it would be helpful to reconcile the differences between 
the U.S. and EU proposals, particularly with regard to: mitigation of 
conflicts of interest; risk management requirements; and the protection 
of cleared swaps, all of which we have outlined in this testimony.
    We would respectfully urge the Committee to ensure that the final 
rules promulgated by the Agencies are aligned as closely as possible 
with those being finalized in the EU. Such a commonality of approach 
should reduce the cost of business, the tendency for regulatory 
arbitrage and the likelihood of flight of capital.
    LCH.Clearnet looks forward to fulfilling its role in support of 
this important statutory initiative and to growing our U.S. operations 
so that more U.S. end users can benefit from the risk mitigation 
provided through our clearing services.
    In closing, LCH.Clearnet would like to thank the Committee for 
inviting us to discuss the new derivatives regulatory framework. We 
appreciate the opportunity and the Committee's interest in our 
concerns.
                                 ______
                                 
                PREPARED STATEMENT OF JENNIFER PAQUETTE
    Chief Investment Officer, Colorado Public Employees' Retirement 
                              Association
                             April 12, 2011
    Thank you, Chairman Johnson and Ranking Member Shelby, for holding 
this hearing on the derivatives regulatory framework. As investors that 
utilize derivatives, we have a keen interest and I appreciate the 
opportunity to testify.
    Before I begin, it might be helpful to provide some background on 
my investment experience and the organization I represent. I have 
worked for large investment managers and broker dealers in research, 
portfolio management, and institutional sales capacities. For the last 
8 years, I have served as the Chief Investment Officer of the Colorado 
Public Employees' Retirement Association (COPERA). My remarks will 
include a brief overview of COPERA, our interest in the derivatives 
market and concerns we have regarding the Commodity Futures Trading 
Commission (CFTC) proposed rulemaking on Business Conduct Standards for 
Swap Dealers and Major Swap participants with Counterparties, RIN 3038-
AD25.
COPERA and Derivatives
    COPERA invests $39 billion in assets on behalf of almost half-a-
million former and current employees of Colorado State government, 
public schools, universities, colleges, cities, and many units of local 
government. We manage this diversified, institutional portfolio with a 
long-term investment horizon which spans many decades. Investments 
include global stocks, bonds, real estate, alternatives, timber, and 
commodities and we use derivatives in a number of asset categories.
    We employ derivatives in a number of ways. Global stock managers 
will use currency forwards to mitigate currency risk. Stock index 
futures are used to gain timely exposure to markets in support of our 
strategic objectives and to reduce risk. Total return swaps are 
utilized by bond managers to gain exposure to specific indexes and to 
enhance diversification.
    For example, a bond manager may enter into a total return swap. In 
such a swap, COPERA would agree to pay a cash rate plus a spread in 
exchange for receiving the total return of a bond index for a specific 
time period. During that period, collateral would be posted as the 
value of the swap changes with the market. For a reasonable cost, 
COPERA would benefit from the diversification of a broad index without 
incurring the transaction costs of purchasing all the underlying index 
securities. A swap of this nature can help control risk in addition to 
enhancing the expression of our portfolio strategy.
    While derivatives investments are modest in size compared to our 
overall market value, they are very helpful tools which we have used in 
our portfolio management process for many years. Current rule making is 
extensive and happening at a rapid pace. While I will share a few 
general comments before concluding, I would like to focus my testimony 
on proposed CFTC regulations on business conduct standards for swap 
dealers and major swap participants with counterparties.
Business Conduct Standards
    CFTC proposals include public pension plans as a Special Entity. We 
are concerned that the proposed business conduct standards as they 
apply to a Special Entity could adversely affect pension plans like 
ourselves. In order for a Special Entity to enter into a swap, the swap 
dealer would need to have a reasonable basis to believe that the 
Special Entity has a representative that meets certain requirements. 
The objective may be to protect vulnerable or gullible parties in the 
swap market. While this may be well intentioned, it would create 
significant issues.
    We are concerned that there is a conflict of interest for one of 
the parties to a transaction also being responsible for determining who 
is qualified to represent the other side of a transaction. Should a 
Special Entity be deemed to not have a qualifying representative, the 
swap dealer would need to have this determination reviewed by its Chief 
Compliance Officer. This appears to address concern that a Special 
Entity could be deemed unqualified in error but the assessment still 
remains with the Swap Dealer's organization. I am also concerned that 
this determination will not happen quickly enough in the context of 
trades that are sometimes done in a matter of hours. Finally, giving 
swap dealers veto ability may impair negotiations regarding 
transactions.
    While it is difficult to know how this rule would work in practice, 
we are concerned that our pension plan could be a less desirable market 
participant due to potentially higher compliance costs and potential 
liability. We may be left to deal with less desirable counterparties, 
if we could find any at all to do business with.
    In an effort to provide a constructive approach to the concerns 
raised, a number of public plans, representing $720 billion in assets 
under management, submitted a comment letter on February 18, 2011, to 
the Commodity Futures Trading Commission. I have attached the letter as 
an appendix for your consideration. In brief, the alternative approach 
would provide another supplemental way to meet the independent 
representative requirement. The Special Entity, or its advisor, would 
be able to voluntarily elect to undergo a certification process which 
would involve passage of a proficiency exam developed by the CFTC or by 
another organization as deemed appropriate.
    Public plans have resources and expertise to manage their 
institutional assets. COPERA's team of investment professionals manage 
complex portfolios internally and oversee external investment managers. 
Like many of our peers, our investment staffs include those that have 
earned professional designations, are well educated and have many years 
of experience in the markets. We are knowledgeable about using 
derivatives to hedge certain investments and mitigate risk. We believe 
some modifications to the proposed rule as discussed in the letter 
would be beneficial to the retirement security of our members.
Closing Remark
    We value the efforts of this Committee, regulatory entities and 
others involved in this comprehensive approach to improving derivatives 
regulation. These efforts to reduce risk and promote a healthy 
financial system are valuable and essential. Inviting and considering 
public comment on rule making, in addition to adequately resourcing and 
providing oversight to those charged with these important 
responsibilities, is in our collective best interests. On behalf of 
Colorado PERA, I thank you very much for the opportunity to speak with 
you today.
EXHIBIT A



       RESPONSES TO WRITTEN QUESTIONS OF CHAIRMAN JOHNSON
                     FROM MARY L. SCHAPIRO

Q.1. How will market data provided through swap data 
repositories be used to inform your rulemaking about 
appropriate block trade rules and reporting requirements?

A.1. Response not provided.
                                ------                                


        RESPONSES TO WRITTEN QUESTIONS OF SENATOR SHELBY
                     FROM MARY L. SCHAPIRO

Q.1. Numerous public commenters have expressed their concerns 
that there may be conflicting regulations related to similar 
products. For example, the proposed block trade regulation is 
different for CFTC-regulated swaps and SEC-regulated 
securities-based swaps. The CFTC proposal included tests to 
determine block trades, while the SEC proposal asks for public 
comment on what the definition of a block trade should be. How 
will you reconcile these differences? Should similar products, 
such as index and single-name CDS, be treated differently?

A.1. Response not provided.

Q.2. At the hearing, you noted that some differences between 
the two Commissions' rules may be appropriate given differences 
in the nature of the products that you regulate. If the SEC and 
CFTC were merged, as some have recommended, would product 
differences necessitate two different regulatory frameworks for 
swap execution facilities?

A.2. Response not provided.

Q.3. How is your agency leveraging human and information 
technology resources from other domestic regulators? How is 
your agency leveraging human and technology resources from 
oversees regulators? How is your agency leveraging existing 
private industry technologies?

A.3. Response not provided.

Q.4. A frequently stated concern is that the rulemaking process 
has been very haphazard and uncoordinated. Market participants 
feel limited in their ability to comment on particular rules 
without understanding the bigger picture. Would it make sense 
for the Securities and Exchange Commission and the Commodity 
Futures Trading Commission to jointly propose and put out for 
public comment a plan for reproposing and adopting rules?

A.4. Response not provided.

Q.5. Chairman Schapiro's testimony stated that ``As we move 
toward adoption the objective of consistent and comparable 
requirements will continue to guide our efforts [to coordinate 
with the CFTC and other regulators].'' Given the fact that so 
many of the SEC's proposed rules differ substantially from the 
CFTC's proposed rules on the same issue, please explain how you 
will accomplish this objective? Will harmonization require one 
or both of your agencies tor repropose certain rules?

A.5. Response not provided.

Q.6. Does the Commission need additional statutory authority in 
order to allow market participants to continue to legally 
engage in swap transactions pending exemption of final rules?

A.6. Response not provided.

Q.7. Chairman Schapiro, you have been asked previously whether 
you think that you need more time to adopt derivatives rules. 
Neither you nor Chairman Gensler has clearly requested more 
time, but both of you have indicated that you will not be able 
to comply with the statute's July rulemaking deadline. Why 
don't you simply ask Congress for more time? Would extending 
the rulemaking deadline allow for easier coordination with the 
Europeans, who are not attempting to hold themselves to the 
same timeline?

A.7. Response not provided.

Q.8. How does your agency define the term ``clearing'' with 
respect to swaps (or security-based swaps)? Which activities 
are encompassed within that definition?

A.8. Response not provided.

Q.9. Swap data repositories and security-based swap data 
repositories may not share information with regulators other 
than their primary regulator unless they obtain an 
indemnification agreement. Please describe how this provision 
would work in practice. Are there any issues that would impede 
the implementation of this provision?

A.9. Response not provided.
                                ------                                


        RESPONSES TO WRITTEN QUESTIONS OF SENATOR HAGAN
                     FROM MARY L. SCHAPIRO

Q.1. On April 12, the banking regulators released their 
proposal on ``Margin and Capital Requirements for Covered Swap 
Entities.'' The proposal requires dealer banks and significant 
counterparties to post two way initial margin and to hold that 
margin at third party custodian banks. This margin would be 
limited to immediately available cash funds and high-quality, 
highly liquid U.S. Government and agency obligations. Re-
hypothecation of such amounts would be prohibited. What are the 
costs associated with tying up margin in segregated accounts at 
custodian banks? Have you quantified the impact this 
requirement will have on liquidity?

A.1. Response not provided.

Q.2. The margin and capital requirements proposal takes a risk-
based approach by distinguishing between four separate types of 
derivatives counterparties. The proposal extends the definition 
of financial end user to include any government of any foreign 
country or any political subdivision, agency, or 
instrumentality thereof in the world. How would margin and 
capital requirements apply to the dealings of the foreign 
subsidiary of a U.S. financial institution that enters into a 
swap? What about a U.S. financial institution that enters into 
a swap with a foreign government? Would the foreign subsidiary 
of a U.S. institution that enters into a swap with a foreign 
government be required to post margin in U.S. Treasuries?

A.2. Response not provided.
                                ------                                


       RESPONSES TO WRITTEN QUESTIONS OF CHAIRMAN JOHNSON
                       FROM GARY GENSLER

Q.1. How will market data provided through swap data 
repositories be used to inform your rulemaking about 
appropriate block trade rules and reporting requirements?

A.1. On December 7, 2010, the Commission proposed regulations 
relating to the Real-time Reporting of Swap Transaction Data. 
Under the proposed rule, swap data repositories would use a 
two-pronged formula to calculate the appropriate minimum block 
trade sizes for certain categories of swaps. Minimum block 
trade sizes would be reevaluated on an annual basis based on 
swap transaction data received over the previous year. Those 
swaps that have a notional size above the minimum notional or 
principal amount determined by a swap data repository would be 
subject to a time delay in reporting. The Commission has 
received public comments on the proposed rule and will move 
forward to consider a final rule after staff has had the 
opportunity to summarize them for consideration and after 
Commissioners are able to discuss them and provide feedback to 
staff.

Q.2. Will the margin rules proposed this morning (April 12, 
2011) at the FDIC on behalf of the prudential regulators and at 
the CFTC require commercial end users to post margin directly 
to swap dealers beyond what would ordinarily be required by 
current swap dealer practices of mitigating counterparty 
exposure? If so, what role will the prudential regulators and 
the CFTC play in both establishing and supervising these credit 
thresholds going forward? Additionally, how do the prudential 
regulators and the CFTC define noncash collateral that could be 
used to satisfy end user margin requirements?

A.2. To ensure the financial integrity of swap dealers and 
security-based swap dealers, Congress directed that prudential 
regulators, the SEC, and the CFTC to establish capital and 
margin requirements. The CFTC's proposed rule would not require 
margin for uncleared swaps to be paid or collected on 
transactions involving nonfinancial end users hedging or 
mitigating commercial risk.
                                ------                                


        RESPONSES TO WRITTEN QUESTIONS OF SENATOR SHELBY
                       FROM GARY GENSLER

Q.1. How does your agency define the term ``clearing'' with 
respect to swaps (or security-based swaps)? Which activities 
are encompassed within that definition?

A.1. The Dodd-Frank Wall Street Reform and Consumer Protection 
Act defines the term ``cleared swap'' to mean any swap that is, 
directly or indirectly, submitted to and cleared by a 
derivatives clearing organization (DCO) registered with the 
Commodity Futures Trading Commission (CFTC). Under the 
Commodity Exchange Act, a DCO enables each party to the 
agreement, contract, or transaction to substitute the credit of 
the DCO for the credit of the parties. The DCO also mutualizes 
or transfers credit risk among DCO participants by providing, 
on a multilateral basis, for the settlement or netting of 
obligations resulting from such agreements, contracts, or 
transactions.

Q.2. Swap data repositories and security-based swap data 
repositories may not share information with regulators other 
than their primary regulator unless they obtain an 
indemnification agreement. Please describe how this provision 
would work in practice. Are there any issues that would impede 
the implementation of this provision?

A.2. Under the provision, domestic and foreign authorities, in 
certain circumstances, would be required to provide written 
agreements to indemnify SEC and CFTC-registered trade 
repositories, as well as the SEC and CFTC, for certain 
litigation expenses as a condition to obtaining data directly 
from the trade repository regarding swaps and security-based 
swaps. Regulators in foreign jurisdictions have raised concerns 
regarding the potential effect of the provision. However, I 
believe that the indemnification provision need not apply in 
the case of a trade repository registered with the CFTC that is 
also registered in a foreign jurisdiction and the foreign 
regulator, acting within the scope of its jurisdiction, seeks 
information directly from the trade repository. Under the 
CFTC's proposed rules regarding trade repositories' duties and 
core principles, foreign regulators would not be subject to the 
indemnification and notice requirements if they obtain 
information that is in the possession of the CFTC.

Q.3. Numerous public commenters have expressed their concerns 
that there may be conflicting regulations related to similar 
products. For example, the proposed block trade regulation is 
different for CFTC-regulated swaps and SEC-regulated 
securities-based swaps. The CFTC proposal included tests to 
determine block trades, while the SEC proposal asks for public 
comment on what the definition of a block trade should be. How 
will you reconcile these differences? Should similar products, 
such as index and single-name CDS, be treated differently?

A.3. Section 712(a)(7) of the Dodd-Frank Act recognized the 
differences between CFTC- and SEC-regulated products and 
entities. It provides that, in adopting rules, the CFTC and SEC 
shall treat functionally or economically similar products or 
entities in a similar manner, but are not required to treat 
them in an identical manner. The Commissions work toward 
consistency in the agencies' respective rules to the extent 
possible through our close consultation and coordination since 
the enactment of the Dodd-Frank Act. This close coordination 
has benefited the rulemaking process and will strengthen the 
markets for both swaps and security-based swaps.

Q.4. At the hearing, you noted that some differences between 
the two Commissions' rules may be appropriate given differences 
in the nature of the products that you regulate. If the SEC and 
CFTC were merged, as some have recommended, would product 
differences necessitate two different regulatory frameworks for 
swap execution facilities?

A.4. The CFTC's proposed SEF rule will provide all market 
participants with the ability to execute or trade with other 
market participants. It will afford market participants with 
the ability to make firm bids or offers to all other market 
participants. It also will allow them to make indications of 
interest--or what is often referred to as ``indicative 
quotes''--to other participants. Furthermore, it will allow 
participants to request quotes from other market participants. 
These methods will provide hedgers, investors, and Main Street 
businesses both the flexibility to execute and trade by a 
number of methods, but also the benefits of transparency and 
more market competition. The proposed rule's approach is 
designed to implement Congress' mandates for transparency and 
competition where multiple market participants can communicate 
with one another and gain the benefit of a competitive and 
transparent price discovery process.
    The proposal also allows participants to issue requests for 
quotes, whereby they would reach out to a minimum number of 
other market participants for quotes. It also allows that, for 
block transactions, swap transactions involving nonfinancial 
end users, swaps that are not ``made available for trading'' 
and bilateral transactions, market participants can get the 
benefits of the swap execution facilities' greater transparency 
or, if they wish, would still be allowed to execute by voice or 
other means of trading.
    In the futures world, the law and historical precedent is 
that all transactions are conducted on exchanges, yet in the 
swaps world, many contracts are transacted bilaterally. While 
the CFTC will continue to coordinate with the SEC to harmonize 
approaches, the CFTC also will consider matters associated with 
regulatory arbitrage between futures and swaps. The Commission 
has received public comments on its SEF rule and will move 
forward to consider a final rule only after staff has had the 
opportunity to summarize them for consideration and after 
Commissioners are able to discuss them and provide feedback to 
staff.

Q.5. How is your agency leveraging human and information 
technology resources from other domestic regulators? How is 
your agency leveraging human and technology resources from 
oversees regulators? How is your agency leveraging existing 
private industry technologies?

A.5. The Commission and other regulators have been working 
closely with the Office of Financial Research (OFR) to help 
develop a strategy for managing initial data required by the 
OFR to monitor and study systemic risk in the U.S. financial 
markets. The CFTC also has coordinated with the OFR in the 
development of a universal Legal Entity Identification standard 
that is consistent with the Commission's and the SEC's 
rulemakings. Through the Financial Stability Oversight Council 
(FSOC), the CFTC is providing both data and expertise relating 
to a variety of systemic risks, how those risks can spread 
through the financial system and the economy, and potential 
ways to mitigate those risks. Commission staff also coordinates 
with Treasury and other Council member agencies on each of the 
studies and proposed rules issued by the FSOC.
    The Commission has memorandums of understanding with 
foreign regulators that relate to sharing of information. The 
Commission leverages private industry technologies through its 
work with self-regulatory organizations. With regard to 
specific upcoming technology needs, the agency has solicited 
the input of industry experts through individual meetings and 
staff roundtable meetings. In addition, the Commission's 
Technology Advisory Committee chaired by Commissioner Scott 
O'Malia includes members from industry and provides valuable 
assistance to the Commission.
    To leverage existing private industry technologies, CFTC 
makes extensive use of Commercial Off-the-shelf products. The 
eLaw (automated law office support for enforcement activities), 
automated trade surveillance, and financial risk management 
programs all rely primarily on such products. The Commission 
also uses tools and services used by Self Regulatory 
Organizations (SROs) and the National Futures Association (NFA) 
for financial reporting and examinations.
    The Commission also uses products and services of other 
agencies whenever practical. For example the Department of 
Transportation provides services for financial management and 
the Department of Agriculture services payroll processing.

Q.6. A frequently stated concern is that the rulemaking process 
has been very haphazard and uncoordinated. Market participants 
feel limited in their ability to comment on particular rules 
without understanding the bigger picture. Would it make sense 
for the Securities and Exchange Commission and the Commodity 
Futures Trading Commission to jointly propose and put out for 
public comment a plan for reproposing and adopting rules?

A.6. To address these issues, the Commission reopened most of 
its comment periods that had closed and extended some existing 
comment periods so that the public could provide comments in 
the context of the entire mosaic of proposed rules. That 
extended comment period closed on June 3, 2011. In addition, on 
May 2 and 3, CFTC and SEC staff held roundtable sessions to 
obtain public input with regard to implementation dates of the 
various rulemakings. Prior to the roundtable, on April 29, CFTC 
staff released a document that set forth concepts that the 
Commission may consider with regard to the effective dates of 
final rules for swaps under the Dodd-Frank Act. The Commission 
has also accepted written comments on that subject.

Q.7. Chairman Schapiro's testimony stated that ``As we move 
toward adoption the objective of consistent and comparable 
requirements will continue to guide our efforts [to coordinate 
with the CFTC and other regulators].'' Given the fact that so 
many of the SEC's proposed rules differ substantially from the 
CFTC's proposed rules on the same issue, please explain how you 
will accomplish this objective? Will harmonization require one 
or both of your agencies tor repropose certain rules?

A.7. Section 712(a)(7) of the Dodd-Frank Act recognizes the 
differences between CFTC- and SEC-regulated products and 
entities. It provides that, in adopting rules, the CFTC and SEC 
shall treat functionally or economically similar products or 
entities in a similar manner, but are not required to treat 
them in an identical manner. The Commissions work towards 
consistency in the agencies' respective rules to the extent 
possible through close consultation and coordination since the 
enactment of the Dodd-Frank Act. This close coordination has 
benefited the rulemaking process and will strengthen the 
markets for both swaps and security-based swaps.
    In approaching any final rule, the Commission will be 
guided by an examination of whether the connection between the 
proposed rule and the final rule is sufficient for the final 
rule to be considered a logical outgrowth of the proposed rule.

Q.8. Does the Commission need additional statutory authority in 
order to allow market participants to continue to legally 
engage in swap transactions pending exemption of final rules?

A.8. On July 14, 2011, the CFTC issued an order that would 
provide relief until December 31, 2011, or when the 
definitional rulemakings become effective, whichever is sooner, 
from certain provisions that would otherwise apply to swaps or 
swap dealers on July 16. This includes provisions that do not 
directly rely on a rule to be promulgated, but do refer to 
terms that must be further defined by the CFTC and SEC, such as 
``swap'' and ``swap dealer.''
    The order also would provide relief through no later than 
December 31, 2011, from certain CEA requirements that may 
result from the repeal, effective on July 16, 2011, of some of 
sections 2(d), 2(e), 2(g), 2(h), and 5d.

Q.9. The Department of Justice (DOJ) recently submitted a 
letter (DOJ letter) on a proposed CFTC rule regarding ownership 
limitations and governance requirements for designated clearing 
organizations (DCOs), designated contract markets and swap 
execution facilities. Were there any relevant communications, 
written or oral, between the CFTC and DOJ's Antitrust Division 
prior to submission of the DOJ letter? If so, please explain. 
Please include a list all DOJ and CFTC individuals involved in 
those communications and a description of the nature of those 
communications. Please explain who initiated those 
communications, whether anyone from the CFTC or from the White 
House requested or directed anyone in the DOJ to send the 
letter; and whether anyone from the CFTC or from the White 
House reviewed and/or edited the letter before it was 
submitted.

A.9. The Commission received the comments of the Department of 
Justice on December 28, 2010. Prior to that submission, staff 
from the Antitrust Division advised CFTC staff of the desire to 
discuss topics relating to competition in derivatives trading. 
Those topics implicated the work of 16 of the CFTC's rulemaking 
teams. While these initial communications to schedule 
discussions occurred prior to DOJ's comment submission, 
substantive discussions between CFTC and DOJ staff took place 
in a meeting on January 14, 2011.

Q.10. Swap customers have the choice to transact in the 
jurisdiction offering the most attractive environment, in terms 
of price, ease of settlement, legal and regulatory certainty, 
among other factors. Explain how you are coordinating with 
foreign regulators to ensure there is a set of harmonized rules 
among well-regulated markets. Are you concerned that swap 
transactions will migrate to markets that operate under a more 
favorable regulatory environment? If that happens, what are the 
threats to the financial stability of the United States?

A.10. The Commission is actively consulting and coordinating 
with international regulators to promote robust and consistent 
standards and avoid conflicting requirements in swaps 
oversight. The Commission participates in numerous 
international working groups regarding swaps, including the 
International Organization of Securities Commissions Task Force 
on OTC Derivatives, which the CFTC cochairs. Our discussions 
have focused on clearing and trading requirements, 
clearinghouses more generally and swaps data reporting issues, 
among other topics.
    As we do with domestic regulators, the CFTC shares many of 
our memos, term sheets and draft work product with 
international regulators. We have been consulting directly and 
sharing documentation with the European Commission, the 
European Central Bank, the U.K. Financial Services Authority, 
the new European Securities and Markets Authority, the Japanese 
Financial Services Authority and regulators in Canada, France, 
Germany, and Switzerland. Two weeks ago, I met with Michel 
Barnier, the European Commissioner for Internal Market and 
Services, to discuss ensuring consistency in swaps market 
regulation.
    Both the CFTC and European Union are moving forward on 
addressing the key objectives the G-20 set forth in September 
2009, including clearing through central counterparties, 
trading on exchanges or electronic trading platforms, record 
keeping, reporting, and higher capital requirements for 
noncleared swaps.
    Through consultation, regulators are working to bring 
consistency to oversight of the swaps markets. In September of 
last year, the European Commission (EC) released its swaps 
proposal. The European Council and the European Parliament are 
now considering the proposal. Similar to the Dodd-Frank Act, 
the European Commission proposal covers the entire product 
suite, including interest rate swaps, currency swaps, commodity 
swaps, equity swaps, and credit default swaps. It is important 
that all standardized swaps--including exchange-traded swaps--
are subject to mandatory central clearing. The proposal 
includes requirements for central clearing of swaps, robust 
oversight of central counterparties, and reporting of all swaps 
to a trade repository.
    The EC also is considering revisions to its existing 
Markets in Financial Instruments Directive (MiFID), which 
includes a trade execution requirement, the creation of a 
report with aggregate data on the markets similar to the CFTC's 
Commitments of Traders reports, and accountability levels or 
position limits on various commodity markets.

Q.11. The CFTC recently proposed position limits that will 
impose additional costs on OTC derivative market participants. 
However a recent joint report by the U.K. Financial Services 
Authority and HM Treasury warns ``The U.K. Authorities would 
urge caution in the application of any specific position limit 
power, and the expectation that these regulatory tools might 
achieve the objective of reduced price volatility, or 
manipulation, as there appears to be no conclusive evidence 
that this may be the case.'' In other words, position limit 
regulation imposes real costs, with little or no benefit. What 
analysis has the CFTC done to examine the impact of position 
limits on liquidity? What are the results of that analysis? How 
can the CFTC justify imposing position limits on OTC derivative 
market participants when a proper cost-benefit analysis could 
show that the costs do not justify the benefits? If the United 
States is the only jurisdiction to adopt aggressive position 
limits, will OTC derivatives transactions simply migrate 
oversees?

A.11. In its proposed rulemaking, the CFTC considered the 
proposal's impact on liquidity. In addition, the Commission 
sought public comment specifically with regard to expected 
effects on liquidity. The Commission will thoroughly and 
carefully review submitted public comments before proceeding to 
consider final rules.
    The Dodd-Frank Act mandates that the CFTC set aggregate 
position limits for certain physical commodity derivatives 
across the derivatives markets. The Act broadened the CFTC's 
position limits authority to include aggregate position limits 
on certain swaps and certain linked contracts traded on foreign 
boards of trade in addition to U.S. futures and options on 
futures. Congress also narrowed the exemptions traditionally 
available from position limits by modifying the definition of 
bona fide hedge transaction.
    Position limits have served since the Commodity Exchange 
Act passed in 1936 as a tool to curb or prevent excessive 
speculation that may burden interstate commerce. When the CFTC 
set position limits in the past, the agency sought to ensure 
that the markets were made up of a broad group of market 
participants with a diversity of views. Integrity is enhanced 
when participation is broad and the market is not overly 
concentrated.
    The CFTC strives to include well-developed considerations 
of costs and benefits in each of its proposed rulemakings. 
Relevant considerations are presented not only in the cost-
benefit analysis section of the CFTC's rulemaking releases, but 
additionally are discussed throughout the release in compliance 
with the Administrative Procedure Act, which requires the CFTC 
to set forth the legal, factual, and policy bases for its 
rulemakings. With the proposed rule on position limits, the 
Commission sought public comment regarding costs and benefits. 
As part of the process, the Commission has received more than 
12,000 comments, including comments from market participants, 
public interest groups, and individuals. The Commission will 
review these comments thoroughly and will respond to them in 
developing a final rule.

Q.12. Chairman Gensler, in a recent speech, your colleague 
Commissioner Sommers noted that the proposals issued by the 
CFTC thus far ``contain cursory, boilerplate cost-benefit 
analysis sections in which [you] have not attempted to quantify 
the costs.'' Are your fellow Commissioner's comments valid? If 
not, why not? As Chairman of the CFTC, do you believe that it 
is important for the other Commissioners to have confidence in 
the integrity of the CFTC's rulemaking process? If so, what 
steps can you take to ensure that the CFTC's cost-benefit 
analysis is improved and satisfies all of the CFTC's 
Commissioners?

A.12. The CFTC strives to include well-developed considerations 
of costs and benefits in each of its proposed rulemakings. 
Relevant considerations are presented not only in the cost-
benefit analysis section of the CFTC's rulemaking releases, but 
additionally are discussed throughout the release in compliance 
with the Administrative Procedure Act, which requires the CFTC 
to set forth the legal, factual, and policy bases for its 
rulemakings.
    In addition, Commissioners and staff have met extensively 
with market participants and other interested members of the 
public to hear, consider and address their concerns in each 
rulemaking. CFTC staff hosted a number of public roundtables so 
that rules could be proposed in line with industry practices 
and address compliance costs consistent with the obligations of 
the CFTC to promote market integrity, reduce risk and increase 
transparency as directed in Title VII of the Dodd-Frank Act. 
Information from each of these meetings--including full 
transcripts of the roundtables--is available on the CFTC's Web 
site and has been factored into each applicable rulemaking.
    With each proposed rule, the Commission has sought public 
comment regarding costs and benefits.

Q.13. Chairman Gensler, you were actively engaged in the 
legislative drafting process. The Dodd-Frank Act contains 
aggressive rulemaking deadlines. Knowing what you do now, do 
you wish that you had advocated for more reasonable deadlines?

A.13. The Dodd-Frank Act had a deadline of 360 days after 
enactment for completion of the bulk of our rulemakings--July 
16, 2011. Both the Dodd-Frank Act and the Commodity Exchange 
Act (CEA) give the CFTC the flexibility and authority to 
address the issues relating to the effective dates of Title 
VII. We have coordinated closely with the SEC on these issues. 
On July 14, the CFTC granted temporary relief from certain 
provisions that would otherwise apply to swaps or swap dealers 
on July 16. This order enables the Commission to continue its 
progress in finalizing rules.

Q.14. The CFTC proposed changes to Rule 4.5, which could have 
meaningful implications for registered investment companies. 
These changes were not required by Dodd-Frank. Why is the CFTC 
contemplating a broad reach into the regulation of registered 
investment companies, which are already heavily regulated by 
the SEC?

A.14. The CFTC and the SEC proposed a joint rule to require 
reporting by investment advisers to private funds that are also 
registered as commodity pool operators or commodity trading 
advisors with the CFTC. The joint proposed rule would require 
private fund investment advisers with assets under management 
totaling more than $150 million to provide the SEC with 
financial and other trading information. Private fund 
investment advisers with assets under management totaling more 
than $1 billion would be subject to heightened reporting 
requirements. Separately, the CFTC proposed a rule that would 
bring similar reporting to CPOs and CTAs with assets under 
management greater than $150 million that are not otherwise 
jointly regulated. This is to ensure that similar entities in 
the asset management arena are regulated consistently. The CFTC 
proposed rule would repeal certain exemptions issued under Part 
4 of the Commission's regulations so the Commission will have a 
more complete picture of the activity of operators of and 
advisors to pooled investment vehicles in the commodities 
marketplace. The Commission is reviewing the comments received 
on the proposal. In addition, Commission staff has held 
discussions with SEC staff and plans to hold a public 
roundtable discussion.
                                ------                                


         RESPONSES TO WRITTEN QUESTIONS OF SENATOR REED
                       FROM GARY GENSLER

Q.1. In March, a Stanford Professor published a study noting 
that index positions and managed-money spread positions had the 
largest impact on futures prices. Specifically, the study noted 
that ``increased in flows into index funds . . . predict higher 
subsequent futures prices.'' What is the CFTC doing (or has it 
done) to examine this issue? What implications does this issue 
have on price? Are index and hedge funds having an increasing 
impact on commodity market dynamics? If so, how?

A.1. The Commission obtains comprehensive data on futures 
markets participants through its large trader reporting system. 
The Commission's rule on large swap trader reporting, will add 
to that data. Large trader data is collected for surveillance 
and regulatory purposes. In addition, to enhance market 
transparency, the Commission publishes reports with the data in 
aggregated form and subdivided by trader type. It is clear that 
the derivatives markets have changed significantly. The markets 
have become much more electronically traded. Instead of being 
traded in the pits, more than 80 percent of futures and options 
on futures were traded electronically in 2010. In addition, the 
makeup of the market has changed. In contrast with the early 
days of the CFTC, swap dealers now comprise a significant 
portion of the markets. Also, investors today treat commodities 
as an asset class for passive index investment. Based on 
published CFTC data, financial actors, such as swap dealers, 
managed money accounts, and other noncommercial reportable 
traders, make up a significant majority of many of the futures 
markets.
    For example, market data as of June 28, 2011, shows that 
only about 13 percent of gross long positions and about 19 
percent of gross short positions in the WTI crude oil market 
were held by producers, merchants, processors, and users of the 
commodity. Similarly, only about 10 percent of gross long 
positions and about 39 percent of gross short positions in the 
Chicago Board of Trade wheat market were held by producers, 
merchants, processors, and users of the commodity. Finally, 
based upon CFTC data, the vast majority of trading volume in 
key futures markets--up to 80 percent in many markets--is day 
trading or trading in calendar spreads. Thus, only a modest 
proportion of average daily trading volume results in 
reportable traders changing their net long or net short futures 
positions for the day. This means that only about 20 percent or 
less of the trading is done by traders who bring a longer-term 
perspective to the market on the price of the commodity. The 
Commission recently published on its Web site historical data 
on directional position changes to enhance market transparency.

Q.2. Recently, the Los Angeles Times reported that more and 
more Americans are engaging in foreign currency trading, 
encouraged by the advertising of the two largest U.S. brokers, 
FXCM Inc and Gain Capital Holdings, Inc., and they ``are losing 
money in spectacular fashion.'' Gain and FXCM recently reported 
that U.S. customers amounted to approximately $777 billion and 
$667 billion in annual trading volume respectively. The LA 
Times article also noted that between 72 percent and 79 percent 
of these customers lost money each quarter last year. Are you 
concerned about this emerging trend? What is the CFTC doing to 
regulate this area? What additional regulation is needed?

A.2. On September 10, 2010, the CFTC published final rules to 
provide for the regulation of off-exchange retail foreign 
currency transactions. The rules implement provisions of the 
Dodd-Frank Wall Street Reform and Consumer Protection Act and 
the Food, Conservation, and Energy Act of 2008, which, 
together, provided the CFTC with broad authority to register 
and regulate entities wishing to serve as counterparties to, or 
to intermediate, retail foreign exchange (forex) transactions. 
These rules of the road are to help protect the American public 
in the largest area of retail fraud that the CFTC oversees. All 
CFTC registrants involved in soliciting and selling retail 
forex contracts to consumers now have to comply with rules to 
protect the investing public.
    The final forex rules put in place requirements for, among 
other things, registration, disclosure, record keeping, 
financial reporting, minimum capital, and other business 
conduct and operational standards. Specifically, the 
regulations require the registration of counterparties offering 
retail foreign currency contracts as either futures commission 
merchants (FCMs) or retail foreign exchange dealers (RFEDs), a 
new category of registrant. Persons who solicit orders, 
exercise discretionary trading authority, or operate pools with 
respect to retail forex also will be required to register, 
either as introducing brokers, commodity trading advisors, 
commodity pool operators (as appropriate), or as associated 
persons of such entities.
    The rules include financial requirements designed to ensure 
the financial integrity of firms engaging in retail forex 
transactions and robust customer protections. For example, FCMs 
and RFEDs are required to maintain net capital of $20 million 
plus 5 percent of the amount, if any, by which liabilities to 
retail forex customers exceed $10 million. Leverage in retail 
forex customer accounts will be subject to a security deposit 
requirement to be set by the National Futures Association 
within limits provided by the Commission. All retail forex 
counterparties and intermediaries are required to distribute 
forex-specific risk disclosure statements to customers and 
comply with comprehensive record keeping and reporting 
requirements.
    The disclosures identified in the referenced news stories 
were due to CFTC rule requirements.

Q.3. Do you have a concern that commodities prices--both oil 
and food--are increasingly being affected by forces outside of 
normal supply and demand fundamentals? Is true price discovery 
being affected by trading instruments and traders, rather than 
by market fundamentals?

A.3. At its core, the mission of the CFTC is to ensure the 
integrity and transparency of derivatives markets so that 
hedgers and investors may use them with confidence. Though the 
CFTC is not a price-setting agency, rising prices for basic 
commodities--energy in particular--highlight the importance of 
having effective market oversight that ensures integrity and 
transparency.
    A specific critical reform of the Dodd-Frank Act relates to 
position limits. Position limits have served since the 
Commodity Exchange Act passed in 1936 as a tool to curb or 
prevent excessive speculation that may burden interstate 
commerce. The Dodd-Frank Act directs the Commission to 
establish position limits for both futures and swaps in a very 
specific manner. It directs the Commission to establish 
speculative position limits for futures contracts for 
agricultural commodities and exempt commodities (including 
crude oil, gasoline, and other energy commodities), and to 
concurrently establish limits on swaps that are economically 
equivalent to those futures contracts. It also requires the 
Commission to establish aggregate limits across the futures and 
swaps markets. The Commission published a proposed rule to 
implement these statutory directives and received over 12,000 
comments from the public. The Commission is evaluating the 
comments received before proceeding to a final rulemaking. It 
is essential to complete the task of implementing the aggregate 
position limits regime, which were congressionally mandated to 
guard against the burdens of excessive speculation and foster 
orderly markets.
                                ------                                


        RESPONSES TO WRITTEN QUESTIONS OF SENATOR HAGAN
                       FROM GARY GENSLER

Q.1. In the past you have said that you are working to reach 
``agreement'' with international regulators on reform of the 
swaps market because reform cannot be accomplished alone. What 
form will those agreements take? How will they be enforced? And 
what steps will you take if international regulatory bodies set 
standards that differ greatly from those in the United States?

A.1. As we work to implement the derivatives reforms in the 
Dodd-Frank Act, we are actively coordinating with international 
regulators to promote robust and consistent standards and avoid 
conflicting requirements in swaps oversight. The Commission 
participates in numerous international working groups regarding 
swaps, including the International Organization of Securities 
Commissions Task Force on OTC Derivatives, which the CFTC 
cochairs with the Securities and Exchange Commission (SEC). The 
CFTC, SEC, European Commission, and European Securities Market 
Authority are coordinating through a technical working group.
    The Dodd-Frank Act recognizes that the swaps market is 
global and interconnected. It gives the CFTC the flexibility to 
recognize foreign regulatory frameworks that are comprehensive 
and comparable to U.S. oversight of the swaps markets in 
certain areas. In addition, we have a long history of 
recognition regarding foreign participants that are comparably 
regulated by a home country regulator. The CFTC enters into 
arrangements with international counterparts for access to 
information and cooperative oversight. The Commission has 
signed memoranda of understanding with regulators in Europe, 
North America, and Asia.

Q.2. In many sections of the statute such as real time 
reporting, position limits, and Swap Execution Facilities 
(SEFs) the CFTC is required to assess the impact on liquidity 
of its proposals. I have not seen in the relevant notices of 
proposed rulemakings, any significant discussion of the impact 
on liquidity. Has the CFTC reviewed how its real time 
reporting, SEF and position limit proposals will affect market 
liquidity? If so, what are the results of that review? If not, 
why not?

A.2. In its proposed rulemakings, the CFTC considered how the 
rule proposals might affect liquidity in the swap markets 
through discussions with market participants, domestic and 
international regulators, and other interested parties. The 
CFTC addressed those issues in the rulemakings. In addition, 
the Commission has sought public comment specifically with 
regard to expected effects on liquidity. The Commission will 
thoroughly and carefully review submitted public comments 
before proceeding to consider final rules.
                                ------                                


       RESPONSES TO WRITTEN QUESTIONS OF CHAIRMAN JOHNSON
                     FROM DANIEL K. TARULLO

Q.1. Will the margin rules proposed this morning (April 12, 
2011) at the FDIC on behalf of the prudential regulators and at 
the CFTC require commercial end users to post margin directly 
to swap dealers beyond what would ordinarily be required by 
current swap dealer practices of mitigating counterparty 
exposure? If so, what role will the prudential regulators and 
the CFTC play in both establishing and supervising these credit 
thresholds going forward? Additionally, how do the prudential 
regulators and the CFTC define noncash collateral that could be 
used to satisfy end user margin requirements?

A.1. Response not provided.
                                ------                                


        RESPONSES TO WRITTEN QUESTIONS OF SENATOR SHELBY
                     FROM DANIEL K. TARULLO

Q.1. How can the Federal Reserve assure us that clearinghouses 
that are designated to be systemically important financial 
market utilities and have access to Federal Reserve discount 
and borrowing privileges do not undertake unsafe and unsound 
business practices because of the interplay between profit 
pressures and aggressive regulatory mandates?

A.1. Response not provided.

Q.2. A recent letter from the American Benefits Council and the 
Committee on Investment of Employee Benefit Assets raised 
questions about the process by which the Federal Reserve Bank 
of New York has been working with swap dealers to develop 
commitments with respect to trading, confirmation, clearing, 
and reporting of swap transactions. Decisions made in these 
negotiations will affect dealers' counterparties, such as Main 
Street corporations, pension funds, and hedge funds. What is 
the Federal Reserve Bank of New York doing to take into account 
the perspective of nondealer market participants? How are these 
negotiations being coordinated with SEC and CFTC rulemaking?

A.2. Response not provided.

Q.3. On April 12, 2011, the Federal Reserve and other 
prudential regulators proposed rules to establish minimum 
capital and margin requirements for prudentially regulated swap 
market participants. Do you believe that Congress intended to 
exempt end users from margin requirements? What are the 
differences between the Fed's margin rules and the other 
prudential regulators' margin rules? For each difference, 
please explain why they differ.

A.3. Response not provided.

Q.4. Why did the Fed specify prescriptive margin calculation 
models that isolate swap risk rather than considering a 
prudentially regulated swap market participants' entire credit 
relationship with end users? Please explain how the Fed 
determined the key assumptions on margin calculations, 
including the determinations of the number of standard 
deviations, the time period over which it is applied, and the 
data that is used as inputs.

A.4. Response not provided.

Q.5. Please explain how the proposed margin rules provide 
incremental credit exposure-reducing benefits, beyond existing 
or other forthcoming prudential regulatory requirements 
including the Basel III standards.

A.5. Response not provided.

Q.6. How does your agency define the term ``clearing'' with 
respect to swaps (or security-based swaps)? Which activities 
are encompassed within that definition?

A.6. Response not provided.

Q.7. Swap data repositories and security-based swap data 
repositories may not share information with regulators other 
than their primary regulator unless they obtain an 
indemnification agreement. Please describe how this provision 
would work in practice. Are there any issues that would impede 
the implementation of this provision?

A.7. Response not provided.
                                ------                                


         RESPONSES TO WRITTEN QUESTIONS OF SENATOR REED
                     FROM DANIEL K. TARULLO

Q.1. Title VII of the Dodd-Frank Act, largely overseen by the 
SEC and CFTC, will require firms to keep additional capital for 
over-the-counter trades, so that they will be able to pay up, 
if the trade moves against them. At the same time, the Volcker 
Rule, which is overseen by banking regulators, as well as the 
SEC and CFTC, also imposes capital requirements. These 
provisions require regulators to impose additional capital 
charges for any proprietary trading by the nonbank financial 
companies supervised by the board [((a)(2)) and ((f)(4))], and 
explicitly authorizes regulators to impose additional capital 
charges on banking entities, for even permitted activities such 
as market-making. [((d)(3))] And, of course, the Treasury 
Department and banking regulators are working with their 
international counterparts to effectively implement new Basel 
requirements on capital. What work is the Federal Reserve 
doing, whether independently or in coordination with the 
Department of the Treasury, the prudential regulators, the SEC, 
or CFTC, to help enhance the capital requirements for trading 
positions, as directed by not just the derivatives title, but 
also the Volcker Rule?

A.1. Response not provided.

Q.2. Recently, the Federal Reserve, after conducting stress 
tests, allowed some banks to increase dividends or buy back 
shares. JPMorgan, for example, not only announced an increase 
in its dividends, but also announced that it would buy back as 
much as $15 billion in stock. As part of the Federal Reserve's 
most recent stress tests, how did the Federal Reserve take into 
account all potential liabilities that may arise in light of 
all the issues (alleged violations of State real property laws, 
securities laws, Federal tax laws, and others) raised as a 
result of faulty foreclosure procedures, the so-called robo-
signing issues? That is, by allowing several firms to pay 
higher dividends and/or buy back stock, is the Federal Reserve 
certifying that these robo-signing issues do not present a 
material risk to the banks?

A.2. Response not provided.

Q.3. The Federal Open Market Committee (FOMC) authorized 
temporary dollar liquidity swap arrangements with 14 foreign 
central banks between December 12, 2007, and October 29, 2008. 
The arrangements expired on February 1, 2010. Federal Reserve 
data reflects that during October and November 2008, the 
Federal Reserve extended over $550 billion in swap lines to 
foreign banks. \1\ What specific factors were considered by the 
Federal Reserve in taking this action? What other options were 
considered? Was intervention considered effective? Why or why 
not?
---------------------------------------------------------------------------
     \1\ Using the date on which the U.S. dollars were extended to the 
foreign central bank in exchange for the receipt of foreign currency 
net of maturities. See, http:///www.federalreserve.gov/newsevents/
reform_swaplines.htm.

---------------------------------------------------------------------------
A.3. Response not provided.

Q.4. The Federal Reserve extended swap arrangements with 14 
central banks; however, it published data on its swap lines 
with 10 foreign banks. Were the other 4 banks involved in the 
Federal Reserves' swap lines?

A.4. Response not provided.

Q.5. In May 2010, the FOMC authorized additional swap lines 
with five central banks through August 1, 2011. According to 
Federal Reserve data, only the European Central Bank 
participated (through the end of the data period provided--
October 2010). What facts and circumstances necessitated this 
intervention? Why did other banks (Bank of Canada, the Bank of 
England, the Bank of Japan, and the Swiss National Bank) not 
participate?

A.5. Response not provided.

Q.6. Do any swap facilities remain operational? If so, please 
provide additional data regarding to whom swap lines were 
extended and the amounts extended. If they are no longer 
operational, please provide the same requested data.

A.6. Response not provided.

Q.7. The Federal Reserve extended $3.221 billion to Banco de 
Mexico from April 23, 2009, to January 12, 2010. (The $3.221 
billion was provided in three separate arrangements, each of 
which matured in 88 days and was immediately renewed.) What 
facts and circumstances necessitated this intervention?

A.7. Response not provided.
                                ------                                


        RESPONSES TO WRITTEN QUESTIONS OF SENATOR HAGAN
                     FROM DANIEL K. TARULLO

Q.1. On April 12, the banking regulators released their 
proposal on ``Margin and Capital Requirements for Covered Swap 
Entities.'' The proposal requires dealer banks and significant 
counterparties to post two way initial margin and to hold that 
margin at third party custodian banks. This margin would be 
limited to immediately available cash funds and high-quality, 
highly liquid U.S. Government and agency obligations. Re-
hypothecation of such amounts would be prohibited. What are the 
costs associated with tying up margin in segregated accounts at 
custodian banks? Have you quantified the impact this 
requirement will have on liquidity?

A.1. Response not provided.

Q.2. The margin and capital requirements proposal takes a risk-
based approach by distinguishing between four separate types of 
derivatives counterparties. The proposal extends the definition 
of financial end user to include any government of any foreign 
country or any political subdivision, agency, or 
instrumentality thereof in the world. How would margin and 
capital requirements apply to the dealings of the foreign 
subsidiary of a U.S. financial institution that enters into a 
swap? What about a U.S. financial institution that enters into 
a swap with a foreign government? Would the foreign subsidiary 
of a U.S. institution that enters into a swap with a foreign 
government be required to post margin in U.S. Treasuries?

A.2. Response not provided.
                                ------                                


        RESPONSES TO WRITTEN QUESTIONS OF SENATOR SHELBY
                      FROM MARY J. MILLER

Q.1. How does your agency define the term ``clearing'' with 
respect to swaps (or security-based swaps)? Which activities 
are encompassed within that definition?

A.1. The Department of the Treasury does not define the term 
``clearing'' in any regulations. The Commodity Exchange Act, as 
modified by the Dodd-Frank Wall Street Reform and Consumer 
Protection Act, defines the term ``derivatives clearing 
organization'' as a clearinghouse, clearing association, 
clearing corporation, or similar entity, facility, system, or 
organization that, (i) substitutes/novates the credit of the 
derivatives clearing organization for the credit of the parties 
to the transaction; (ii) arranges/provides for settlement/
netting of obligations on a multilateral basis; or (iii) 
provides clearing services/arrangements that mutualize or 
transfer credit risk among participants.
    The term ``clearing'' with respect to swaps (or security-
based swaps) generally is understood to encompass the set of 
activities and processes that occur between the execution of a 
contract between counterparties and final settlement in order 
to ensure performance on the contract. Typical ``clearing'' 
activities or services provided by a clearinghouse or central 
counterparty include reduction of counterparty credit 
exposures, netting of offsetting bilateral positions, daily 
mark-to-market and collateralization (margin), and 
mutualization of the risk of loss.

Q.2. Swap data repositories and security-based swap data 
repositories may not share information with regulators other 
than their primary regulator unless they obtain an 
indemnification agreement. Please describe how this provision 
would work in practice. Are there any issues that would impede 
the implementation of this provision?

A.2. The Dodd-Frank Wall Street Reform and Consumer Protection 
Act requires Swap Data Repositories (SDRs) and Security-Based 
Swap Data Repositories (SB-SDRs), upon request, and after 
notifying its primary regulator, to make data available to 
certain other domestic and foreign regulators. The Act further 
requires regulators requesting data to execute a written 
confidentiality and indemnification agreement with the SDR or 
SB-SDR prior to receiving any data. The CFTC and the SEC have 
proposed rules for SDRs and SB-SDRs, respectively, that require 
such confidentiality and indemnification agreements (see 75 FR 
80808 [December 23, 2010] and 75 FR 77306 [December 10, 2010], 
respectively). Both agencies acknowledge in their proposed 
rules that certain domestic and foreign regulators may have 
difficulty--or even be legally prohibited--from agreeing to 
indemnify third parties and that the indemnification provision 
could ``chill'' requests for information or otherwise inhibit 
certain regulators from fulfilling their mandates. Both 
agencies have requested comment on the required confidentiality 
and indemnification agreements and are evaluating feedback.

Q.3. Secretary Geithner made the case before the Senate 
Committee on Agriculture in December of 2009 that foreign 
exchange swaps should not be treated the same as all other 
swaps. He explained that foreign exchange markets are different 
than other derivatives markets and already are subject to an 
elaborate regulatory framework. He cautioned, ``These markets 
have actually worked quite well . . . we have got a basic 
obligation to do no harm, to make sure as we reform we do not 
make things worse, and our judgment is that because of the 
protections that already exist in these foreign exchange 
markets and because they are different from derivatives, have 
different risks, require different solutions, we will have to 
have a slightly different approach.'' Please elaborate on 
Secretary Geithner's statement and the importance of regulating 
foreign exchange swaps in a manner that takes into account 
their unique characteristics and their existing regulatory 
framework.

A.3. Treasury issued a Notice of Proposed Determination (copy 
enclosed) that was published in the Federal Register on May 5, 
2011, to exempt foreign exchange swaps and forwards from the 
Commodity Exchange Act's (CEA) definition of swap. The reasons 
for the proposed determination are explained in the Notice.

Q.4. One of the concerns that the Investment Company Institute 
raised about the CFTC's proposed amendments to Rule 4.5 is that 
not knowing whether foreign exchange swaps and forwards will be 
included in the definition of ``swap'' affects their ability to 
analyze the effects that the changes to Rule 4.5 will have. 
Have you discussed this issue with the CFTC? More generally, 
are you concerned that Treasury's failure to act with respect 
to foreign exchange swaps and forwards impedes the ability of 
market participants to determine whether and how to comment on 
rules and to plan for compliance with Dodd-Frank?

A.4. As noted, Treasury issued a Notice of Proposed 
Determination on May 5, 2011 to exempt foreign exchange swaps 
and forwards from the definition of a swap under the CEA.

Q.5. At the hearing, I asked you whether Treasury would be 
conducting any studies with respect to the effects of 
derivatives regulation on job creation. Your answer was 
unclear. Please clarify your answer.

A.5. Treasury has not conducted any such studies and is not in 
the process of conducting any study on the effects of 
derivatives regulation on job creation.
                                ------                                


         RESPONSES TO WRITTEN QUESTIONS OF SENATOR REED
                      FROM MARY J. MILLER

Q.1. Which financial institutions are most active with respect 
to foreign exchange swaps and foreign exchange forwards? Which 
of these financial institutions have received emergency 
Government infusions (TARP funds, capital, etc.)? What portion 
of the Government-provided funds were related to activities 
unrelated to foreign exchange swaps and foreign exchange 
forwards? How do you know?

A.1. As noted in Treasury's May 5, 2011, Notice of Proposed 
Determination, banks are the key players in the foreign 
exchange swaps and forwards market. Although a number of banks 
received emergency assistance during the financial crisis, we 
are not aware of any institutions that received such assistance 
due to their foreign exchange swaps or forwards activities.

Q.2. According to an analysis by Better Markets, the Federal 
Reserve provided $2.9 trillion to stabilize foreign exchange 
markets in October 2008. Please describe your understanding of 
the facts and circumstances that led to this infusion and 
whether it is reasonably possible that such a condition may 
reoccur.

A.2. The Federal Reserve made large amounts of dollars 
available to other central banks in the fall of 2008 because of 
the global demand for dollars related to short-term funding 
needs during the financial crisis. Some confusion has arisen 
among nonmarket participants because these forms of Federal 
Reserve assistance to central banks were called foreign 
exchange swap lines. Despite the similar sounding name, the 
Federal Reserve swap lines were in fact quite distinct from the 
foreign exchange swaps and forwards market. The steps that are 
being taken to implement the Dodd-Frank Wall Street Reform and 
Consumer Protection Act are designed to improve the safety and 
soundness of the financial system and to prevent the recurrence 
of the need for such assistance.

Q.3. Please describe in which ways the market for foreign 
exchange swaps and foreign exchange forwards is different from 
other derivatives markets.

A.3. The enclosed May 5, 2011, Notice of Proposed Determination 
sets forth the reasons Treasury believes the market for foreign 
exchange swaps and forwards is different from other derivatives 
markets.



Q.4. There has been an increase in litigation against banks 
related to foreign currency trading activities. Pension funds 
and State attorneys general allege that certain banks executed 
trades at one price, but charged a higher price to the funds. 
Whistleblowers have also come forward alleging improper 
practices related to foreign currency trading by banks. An 
October 2009 report by Russell Investments noted that there is 
``no regulator charged with defending the rights and interests 
of clients when converting currency.'' What work has Treasury 
done to monitor and investigate allegations of improper 
practices regarding currency trading? What is the current state 
of the regulatory framework that addresses this area? What 
options, if any, has the Department explored for enhancing 
transparency? What, if any, legislation might be required in 
this area to better protect clients from improper practices in 
this area?

A.4. The Treasury Department does not comment on pending 
litigation and investigations.
    The Dodd-Frank Wall Street Reform and Consumer Protection 
Act (DFA) further strengthens the oversight and transparency of 
all foreign currency derivatives markets, including foreign 
exchange swaps and forwards. It subjects participants in the 
derivatives markets to heightened business conduct standards 
and provides the CFTC and banking regulators with additional 
oversight of market participants and with strong anti-evasion 
powers to ensure that they do not structure products or take 
other steps to evade the Commodity Exchange Act's requirements. 
The DFA's trade reporting requirements will significantly 
enhance the transparency and oversight of derivatives markets, 
including for foreign currency derivatives.

Q.5. Title VII of the Dodd-Frank Act, largely overseen by the 
SEC and CFTC, will require firms to keep additional capital for 
over-the-counter trades, so that they will be able to pay up, 
if the trade moves against them. At the same time, the Volcker 
Rule, which is overseen by banking regulators, as well as the 
SEC and CFTC, also imposes capital requirements. These 
provisions require regulators to impose additional capital 
charges for any proprietary trading by the nonbank financial 
companies supervised by the board [((a)(2)) and ((f)(4))], and 
explicitly authorizes regulators to impose additional capital 
charges on banking entities, for even permitted activities such 
as market-making. [((d)(3))] And, of course, the Treasury 
Department and the banking regulators are working with their 
international counterparts to effectively implement new Basel 
requirements on capital. What work is the Treasury Department 
doing, whether independently or in coordination with the 
prudential regulators, the SEC, or CFTC, to help enhance the 
capital requirements for trading positions, as directed by not 
just the derivatives title, but also by the Volcker Rule?

A.5. Although the Treasury Department is not directly 
responsible for writing the regulations to implement either the 
derivatives provisions of the Dodd-Frank Wall Street Reform and 
Consumer Protection Act or the Volcker Rule, we are working 
closely with the agencies responsible for issuing the 
regulations to implement the Volcker Rule to coordinate the 
rulemakings so that they are as consistent and comparable as 
possible across supervisory jurisdictions.

Q.6. Historically OTC derivatives have been taxed under the 
conventional realization method of accounting for stock, bonds, 
and other securities, while exchange traded funds have been 
subject to Section 1256 of the Internal Revenue Code, which 
generally requires that contracts within its scope be marked-
to-market on an annual basis, and provides that gains or losses 
are considered capital gains/losses with 60 percent long-term 
and 40 percent short term. Section 1601 of the Dodd-Frank Wall 
Street Reform and Consumer Protection Act amended Section 1256 
of the IRC. On December 7, 2010, the Treasury/IRS business plan 
provided for the development of ``guidance on the application 
of [Section] 1256 to certain derivatives contracts.'' What tax 
issues is the Department considering with respect to 
derivatives contracts? When does the Department expect that it 
will issue guidance in this area? If the Secretary of the 
Treasury exempted foreign exchange swaps and forwards from the 
definition of ``swap'' under the Commodity Exchange Act, would 
the definition under Section 1256 of the IRC, as amended by 
Dodd-Frank, remain applicable?

A.6. Section 1256 of the Internal Revenue Code generally 
requires that ``section 1256 contracts'' be marked-to-market 
annually. A section 1256 contract is a regulated futures 
contract, a foreign currency contract, a dealer securities 
futures contract, or certain options listed on a qualified 
board or exchange (QBE). Gain or loss from a foreign currency 
contract is generally treated as ordinary income and subject to 
tax at regular income tax rates; a regulated futures contract, 
dealer securities futures contract, and a listed option 
generates 60 percent long-term and 40 percent short-term 
capital gain or loss, assuming the contract is a capital asset 
in the hands of the taxpayer.
    In recent years, an increasing number of contracts have 
been moving to QBEs and/or centralized clearinghouses, raising 
the question as to whether such contracts are section 1256 
contracts. The Dodd-Frank Wall Street Reform and Consumer 
Protection Act added section 1256(b)(2) to the Internal Revenue 
Code, which generally limits the scope of section 1256 to those 
contracts that have historically been section 1256 contracts. 
Thus, section 1256(b)(2) specifies that over-the-counter swaps 
and similar financial instruments are not section 1256 
contracts. The exemption of foreign exchange swaps and forwards 
from the Commodity Exchange Act does not affect the section 
1256 tax analysis.
    Guidance under section 1256 is on the 2010-2011 Priority 
Guidance Plan published by the Treasury Department and the IRS. 
That guidance will address issues related to the Dodd-Frank 
Wall Street Reform and Consumer Protection Act amendment to 
section 1256, including the scope of section 1256(b)(2). The 
section 1256 guidance project is expected to be published this 
summer.
                                ------                                


        RESPONSES TO WRITTEN QUESTIONS OF SENATOR HAGAN
                      FROM MARY J. MILLER

Q.1. On April 12, the banking regulators released their 
proposal on ``Margin and Capital Requirements for Covered Swap 
Entities.'' The proposal requires dealer banks and significant 
counterparties to post two way initial margin and to hold that 
margin at third party custodian banks. This margin would be 
limited to immediately available cash funds and high-quality, 
highly liquid U.S. Government and agency obligations. Re-
hypothecation of such amounts would be prohibited. What are the 
costs associated with tying up margin in segregated accounts at 
custodian banks? Have you quantified the impact this 
requirement will have on liquidity?

A.1. As you note, the banking regulators released a notice of 
proposed rulemaking on ``Margin and Capital Requirements for 
Covered Swap Entities'' on April 12. Those proposed rules are 
currently open for public comment. Among the questions on which 
the banking regulators have solicited comments is what costs 
the proposed rules would impose and what impact they would have 
on liquidity. Comments are due by June 24, 2011. These are 
clearly important questions, and we look forward to reviewing 
the comments the banking regulators receive in response to 
these and the many other questions they have asked.

Q.2. The margin and capital requirements proposal takes a risk-
based approach by distinguishing between four separate types of 
derivatives counterparties. The proposal extends the definition 
of financial end user to include any government of any foreign 
country or any political subdivision, agency, or 
instrumentality thereof in the world. How would margin and 
capital requirements apply to the dealings of the foreign 
subsidiary of a U.S. financial institution that enters into a 
swap? What about a U.S. financial institution that enters into 
a swap with a foreign government? Would the foreign subsidiary 
of a U.S. institution that enters into a swap with a foreign 
government be required to post margin in U.S. Treasuries?

A.2. As noted in response to the prior question, the banking 
regulators released a notice of proposed rulemaking on ``Margin 
and Capital Requirements for Covered Swap Entities'' on April 
12 and have requested comments from the public by June 24, 
2011. The proposed rules also have specifically solicited 
comment on whether the proposed rules appropriately limit the 
margin rules consistent with the territorial scope of the Dodd-
Frank Wall Street Reform and Consumer Protection Act, and how 
the rules could affect the structure, management, and 
competitiveness of U.S. entities.
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