House Ag panel examines 'unintended consequences' of Dodd-Frank

By Whitney Forman-Cook

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WASHINGTON, April 28, 2016 - Not one lawmaker or witness at a House Agriculture subcommittee hearing Thursday said capital and margin rules weren't necessary to protect futures and swaps markets from bad players and volatility, but there was plenty of discussion on how these rules could negatively affect end-users - namely farmers.

Rep. Austin Scott, R-Ga., chairman of the Commodity Exchanges, Energy, and Credit Subcommittee, noted that while Congress had been explicit in exempting farmers from much of the regulatory burdens of the Dodd-Frank reforms, the rules that resulted from the 2010 legislation could affect agricultural producers if they drive intermediaries, like futures and swap dealers from the markets.

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“If this happens, hedgers will see their spreads widen, their fees increase, and liquidity fall,” Scott said.

Most of the rules resulting from Dodd-Frank have been implemented, but some, like capital requirements - which ensure that a trading firm has enough assets to pay all of its obligations - are still under development. The implementation of margin rules for non-cleared derivatives - which would require trading firms to put up collateral - will start this September.

“As it stands, these reforms look set to significantly increase cost for banks, and may negatively impact the liquidity of derivatives markets and the ability of banks to lend and provide crucial hedging products to corporate end-users, pension funds and asset managers,” Scott O'Malia, CEO of the International Swaps and Derivatives Association, told the lawmakers.

“These capital rules… won't exempt end-users. These (compliance) costs will be passed on” to farmers, and other end-users that rely on futures markets to hedge risk, said O'Malia, a former member of the Commodity Futures Trading Commission.

Tyler Gellasch, co-founder of the consulting firm Myrtle Makena and executive director of the Healthy Markets Association, “respectfully disagreed.”

Gellasch testified he had “seen no evidence of margin and capital requirements disrupting markets or increasing costs for end-users.”

“(End-user) firms comprise a very small percentage of overall swaps trading… (and) imposing these (margin or capital rules) may have profoundly negative impacts on their operations,” Gellasch said. “That's why Congress and regulators have already generally exempted these firms from the margin and capital requirements.”

A Bank of England study, which he cited, had found that enhanced swap requirements under Dodd-Frank actually improved market liquidity and a significant reduction in execution costs.

Walt Lukken, president and CEO of the Futures Industry Association and a former CFTC chairman, said his group estimated the fixed costs of complying with the new capital rules would range between $32 billion and $66 billion for the financial industry, and would “have to be passed on in significant ways to customers.”

“You're seeing people shuttering their business (or) people that are merging… to get more volume” to offset these fixed costs, Lukken continued. As a result, there will be more consolidation in clearing firms, he argued, which will also lead to cost increases for consumers.

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Gellasch said consolidation was happening throughout the market already, and wouldn't necessarily increase costs.

Based on his estimation of the fixed costs of trading and the costs of meeting trading regulations, Gellasch said, “costs are actually coming down.”

Today's hearing was the second in a series to examine the implementation of Dodd-Frank over the past five years. In February, the panel held its first hearing to talk about swap data standards and transparency. Thursday's hearing examined “the unintended consequences” of some of the most important regulations following the financial crisis: the new capital standards and margin requirements for banks, non-bank swap dealers, and other market participants.

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