The CFTC has approved, with Commissioner O’Malia dissenting, a series of determinations that would permit “substituted compliance” with the CFTC swaps regulatory regime (i) by dealers located in Australia, Canada, the European Union, Hong Kong, Japan and Switzerland (as to entity-level requirements) and (ii) by dealers located in the European Union and Japan (as to certain transaction-level requirements). “Substituted compliance” describes the circumstances where the CFTC would permit non-U.S. swap dealers to comply with regulations in their home jurisdictions as a substitute for compliance with the relevant CFTC rules. The comparability determinations are part of substituted compliance with respect to CFTC rules applicable to swaps activities outside the U.S., which is part of the framework the CFTC described in its Cross-Border Guidance (published July 26, 2013).
As to each of the six jurisdictions, the CFTC found that the following entity-level rules were “identical in intent” or “generally identical in intent” with the similar CFTC rules such that compliance with home-country rules would constitute compliance with the CFTC’s rules: CFTC Rule 3.3 (Chief Compliance Officer); CFTC Rules 23.600-609 (Risk Management); CFTC Rule 23.601 (Monitoring of Position Limits); CFTC Rule 23.602 (Diligent Supervision); CFTC Rule 23.603 (Business Continuity); CFTC Rule 23.605 (Conflicts of Interest); CFTC Rule 23.606 (Availability of Information for Disclosure and Inspection); CFTC Rule 23.609 (Clearing Member Risk Management); and CFTC Rule 23.201 and 203 (Swap Data Recordkeeping); provided, however, in a number of jurisdictions, the CFTC required that additional reports be made regarding substituted compliance.
The CFTC stated that this approval reflects a collaborative effort with cross-border market stakeholders. Working with authorities in Australia, Canada, the European Union (“EU”), Hong Kong, Japan, and Switzerland, the CFTC was able to issue comparability determinations for a broad range of entity-level requirements (see related attached summary chart). In two jurisdictions, the EU and Japan, the CFTC also approved substituted compliance for a number of key transaction-level requirements.
For the EU, the CFTC issued cmparability determinations for the following transaction-level requirements: CFTC Rules 23.501 (“Swap Confirmation”), 23.502 (“Portfolio Reconciliation”), 23.503 (“Portfolio Compression”), and certain provisions of 23.202 and 23.504 (“Swap Trading Relationship Documentation”). For Japan, the CFTC issued comparability determinations for transaction-level requirements under certain provisions of CFTC rules 23.202 and 23.504. No transaction-level comparability determinations were issued for the other four jurisdictions.
In addition to the comparability determinations for certain countries, the CFTC issued a no-action letter providing relief from certain registration and reporting requirements for registered SDs and MSPs that are non-U.S. persons that are established under the laws of Australia, Canada, EU, Japan, or Switzerland, as long as the entity is not a party of an affiliated group or ultimate parent company established in the U.S. The letter extends relief from certain swap data reporting rules to set forth in CFTC Rule 45 (“Swap Data Recordkeeping and Reporting Requirements”) and Rule 46 (“Swap Data Recordkeeping and Reporting Requirements: Pre-Enactment and Transition Swaps”).
These remarkable CFTC findings that every financial regulator everywhere in the world has swap regulations that are “[generally] identical in intent” to CFTC swap regulation seem to constitute a complete retreat by the CFTC from its starting point that the CFTC was going to dictate to financial regulators around the world how their home-country swap dealers should be regulated. Save for requiring the various swap dealers to provide reports (“generally” in English) to the CFTC, the CFTC completely surrendered on the notion that it would become the world’s chief regulator as to swaps.
It is not clear what caused the CFTC, or more particularly its outgoing Chairman, to give up on global regulation at the entity-level so completely. However, one might speculate that with CFTC Chairman Gensler on the verge of departure, and given that he will be leaving behind for his successor a lot of baggage including: (i) litigation over the cross-border guidance, (ii) potential litigation over the position limits, and (iii) a set of rules that is largely written but is generally believed to need a good rewrite, he felt obligated to resolve at least one mess.
The dissent to the findings of substituted compliance by Commissioner O’Malia is interesting in a number of respects. First, he makes that point that the CFTC’s cross-border guidance, which is the predicate for these findings, was itself arguably adopted in violation of the Administrative Procedures Act, which makes the whole exercise of determining the need for substituted compliance arguably moot. (This will be ultimately determined in litigation.) The even more interesting, in some ways, policy point Commissioner O’Malia makes is that the CFTC would be better off working with non-U.S. regulators on developing harmonized rules rather than asserting that the CFTC’s rules were the model and other names must follow as closely as they can. While it seemed during the debate over the cross-border rules that O’Malia’s approach was more conciliatory than the hard-line U.S.-dominated approach taken by Chairman Gensler, one may now argue the opposite is in fact the case. By being forced to concede that every country around the world has swap regulations that are substantively identical to those in the United States, the CFTC has effectively put itself in the position where it has no basis whatsoever to criticize non-U.S. regulations going forward. On the other hand, Commissioner O’Malia’s approach, which would have emphasized global conversations rather than global domination, would have afforded the CFTC an ongoing role in a global dialogue as to appropriate regulation.
As a closing matter, we observe that U.S. swap dealers subject to the full burden of (we think often ill-conceived) CFTC regulations will now, in many cases, be at a meaningful competitive disadvantage as compared to non-U.S. swap dealers who are subject to home-country regulations.