In a speech at the 2014 Bank of Canada International Economic Analysis Workshop on Financialization of Commodity Markets, Commissioner O’Malia discussed the impact of the Dodd-Frank Act and CFTC regulations on commercial end-users who have historically used the commodity futures and swaps markets for risk mitigation and hedging.
In his remarks, Commissioner O’Malia’s focused on the following:
- the importance of hedging in the commodity markets, especially given volatile commodity prices;
- the impact that Dodd-Frank and CFTC reforms have had on hedging in the commodity markets, including the “futurization” of swaps;
- the potential impact on hedging of upcoming CFTC rulemakings; and
- the importance of the CFTC’s utilization of data in its oversight of the commodity markets.
To the importance of hedging in the commodity markets, Commissioner O’Malia reminded the audience that the futures markets originated as “a way for buyers and sellers to hedge price risk in the grain markets,” and encouraged the CFTC to be mindful of the impact of its rules on the cost of hedging for end-users so that they are able to engage in legitimate hedging activities. He stressed that this is especially important given the volatility in commodity prices, and given that hedging holds an important role in the commodity markets.
In his discussion on Dodd-Frank, the commissioner stated that the CFTC’s swaps rules have introduced “unnecessary complexity, vagueness, and costs into the markets, including the commodity markets,” and that these consequences have led some hedgers to seek out alternatives, such as swap futures (i.e. the “futurization of swaps.”) Commissioner O’Malia remarked that if end-users are forced to use swap futures because the cost of using swaps is too high, these participants will have a less perfect hedge, which could result in additional risk or reduced capital investment.
Commissioner O’Malia proposed a “modest fix” that would allow end-users to exclude all cleared trades from the calculation towards the de minimis threshold, which he claims will provide end-users greater certainty and would encourage end-users to clear their trades.
In a brief survey of upcoming CFTC rulemakings, Commissioner O’Malia cited the following key changes:
- the Commission is considering a proposed futures block rule that will limit the availability of block trades, especially for energy futures;
- the OTC margin and capital rules for uncleared swaps will increase the cost of hedging;
- the Commission staff is working on mandatory clearing determinations for additional interest rate swap contracts and non-deliverable forward (“NDF”) contracts; and
- the position limits re-proposal has the potential to negatively impact end-users legitimate hedging activities.
Lastly, Commissioner O’Malia emphasized that it is crucial for the CFTC to improve and effectively utilize its data so that the Commission develops a complete picture of both the swaps and the futures markets, noting that a number of the questions regarding the impact of financialization on the commodity markets would be answerable if the CFTC had a complete picture of market participants and their trading strategies.
Lofchie Comment: The Commissioner’s remarks make explicit a key fallacy behind Dodd-Frank: that it is somehow possible to impose burdensome regulations and costs on the financial sector without having the effect of those burdens and costs ultimately borne by the commercial sector. Punitive regulation of Wall Street ends up being costly regulation to Main Street.