FRB Governor Powell Discusses the Fair and Effective Markets Review

Board of Governors of the Federal Reserve System (“FRB”) Governor Jerome H. Powell spoke at the Brookings Institution regarding the Fair and Effective Markets Review (the “Review”), as well as issues involving the fixed-income, currency and commodities (“FICC”) markets in the United States.

According to Governor Powell, the Review is designed to look carefully at markets and firms, and to investigate whether structural vulnerabilities or incentives for bad conduct exist and should be addressed. Governor Powell stated that the FRB strongly encourages the reform of compensation practices at firms to better align incentives between such firms and individuals, particularly through the enhanced deferral of incentive compensation, with delayed vesting and the possibility of more robust forfeiture in broader circumstances. Governor Powell added that U.S. Financial Regulators, including the FRB, are preparing a proposed new rule for public comment. The rule is intended to codify these initiatives.

Additionally, the Review notes that greater transparency can also curb market abuses and strengthen competition. Governor Powell stated that despite important initiatives, such as the Trade Reporting and Compliance Engine, and the requirements of Dodd-Frank, impediments still hinder the sharing of trade report data, including issues around foreign exchange benchmarks and other market-making challenges in FICC markets. In Governor Powell’s opinion, these issues can be addressed through coordinated private efforts, such as the Foreign Exchange Committee and the Treasury Market Practices Group, or further supervisory or regulatory action.

Regarding interest rate benchmark reform, Governor Powell stated that, while new surveillance and penalties and a new administrator are all in place, it is still essential to develop “one or more risk free (or near risk free) alternatives to LIBOR for use in financial contracts such as interest rate derivatives.” He explained that the FRB has convened a group of global dealers to form the Alternative Reference Rates Committee, which will work with the Financial Stability Board Official Sector Steering Group that Governor Powell co-chairs to promote U.S. dollar LIBOR alternatives.

Lofchie Comment: The imposition of controls over compensation arrangements should not be a casual conversation. Such controls serve not only to interfere with the free market for labor, but also to shift the balance of power from the individual to the employer. Additionally, “more robust forfeiture” is likely to mean “more discretionary forfeiture” even in the absence of any evidence of wrongdoing. Does anyone doubt that there would be great political pressure on the government to seek forfeiture in any “newspaper event” situation in which a decision went sideways?

See: Governor Powell’s Comments.


CME Group Releases White Paper on CCP Issues

CME Group published a white paper, titled “Clearing – Balancing CCP and Member Contributions with Exposures,” that details its position on a variety of issues facing central counterparty clearinghouses (“CCPs”).

Specifically, the paper considers the question of how much “skin in the game” CCPs should contribute to a market’s financial safeguards. In the opinion of CME Group, the “skin in the game requirements” must be developed according to principles that incentivize market participants to manage the risks they create.

Lofchie Comment: The recent healthy debate over the safety (or not) of central clearinghouses is a wonderful antidote to the fiction championed by those who argue that central clearing eliminates risk. Credit goes to JP Morgan for initiating the discussion.

See: Clearing – Balancing CCP and Member Contributions with Exposures“; CME Group Press Release
Related news: JPMorgan Issues Paper on Resolution Plan for Central Clearing Parties (October 6, 2014).


CFTC Chair Massad Discusses Cross-Border Harmonization

At the Asian Financial Forum, CFTC Chair Timothy Massad spoke about the importance of creating a strong international regulatory framework in order to harmonize cross-border swaps.

Chair Massad explained that his goal would be to work with regulators to create a framework that provided transparency and “sensible” oversight. One way to achieve this goal, according to Chair Massad, would be to create transparency that could “encourage innovation” and lead to the development of contracts to “enable businesses to hedge different types of risk.”

Chair Massad emphasized that global regulators must commit to the implementation of harmonized reforms rather than merely agree that reforms should be undertaken. Chair Massad reiterated his commitment to working with regulators to build a strong and harmonized cross-border framework.

Lofchie Comment: Commissioner Massad deserves credit for encouraging world regulators to work to build a strong and harmonized cross-border framework. He would deserve even more credit if he sought to harmonize the CFTC’s “guidance” on cross-border regulation with the SEC’s rules, and more credit still, if he initiated a formal rulemaking process with respect to the CFTC’s cross-border regulation.

See: Chair Massad’s Remarks.


CFS Monetary Measures for December 2014

Today we release CFS monetary and financial measures for December 2014. CFS Divisia M4, which is the broadest and most important measure of money, grew by 2.2% in December 2014 on a year-over-year basis versus 1.8% in November.

Bloomberg terminal users can access our monetary and financial statistics by any of the four options:

1)  {ALLX DIVM <GO>}
3)  {ECST<GO>} –> ‘Monetary Sector’ –> ‘Money Supply’ –> Change Source in top right to ‘Center for Financial Stability’
4)  {ECST S US MONEY SUPPLY<GO>} –> From source list on left, select ‘Center for Financial Stability’

CFS Divisia indices can also be found on our website at  Broad aggregates are available in spreadsheet, tabular and chart form.  Narrow aggregates can be found in spreadsheet form.

For Monetary and Financial Data Release Report:

SEC Chair White Directs Staff to Review Rule for Excluding Conflicting Proxy Proposals

SEC Chair Mary Jo White issued a statement directing SEC staff to review Rule 14a-8(i)(9) in response to questions that have arisen about the proper scope and application of the rule.

The SEC’s proxy rules enable shareholders to submit proposals for inclusion in a company’s proxy materials for a vote at a shareholder meeting, subject to certain procedural and substantive exclusions. Exchange Act Rule 14a-8(i)(9) allows a company to exclude a shareholder proposal that “directly conflicts” with a management proposal.

In light of Chair White’s direction that SEC staff review Rule 14a-8(i)(9), the Division of Corporation Finance (the “Division”) announced that it will express no views on the application of the rule during the current proxy season.

See: Chair White’s Statement and the Division’s Announcement.
See also: No-Action Letter to Whole Foods Indicating the Division Expresses No Views Under Rule 14a-8(i)(9).

FIA and FIA Europe Issue First in a Series of Special Reports Regarding Summaries of ESMA MiFID II Regulations

The Futures Industry Association (“FIA”) and FIA Europe issued the first in a series of special reports regarding the European Securities Markets Authority’s (“ESMA”) technical advice and consultation documents on MiFID II regulations.

On December 19, 2014, ESMA published several documents that define a large number of rules affecting European securities and derivatives markets.  The documents consisted of final Technical Advice to the European Commission, and a Consultation Paper that seeks public comment on technical standards for the implementation of these rules.

According to FIA, the publication of these documents is the latest step in the process for implementing MiFID II, the legislative framework governing the requirements applicable to investment firms, trading venues and clearinghouses in the European Union. 

The first report in the FIA and FIA Europe special reports summarizes the main issues in these ESMA documents.  Each subsequent report will focus on a particular area of interest to members of FIA and FIA Europe. 

See: First Special Series Report; FIA Press Release

SEC Adopts Rules to Increase Transparency in Security-Based Swaps Market

The SEC adopted two new sets of rules (the “rules”) that will require security-based swap data repositories (“SDRs”) to register with the SEC and that prescribe the reporting and public dissemination of security-based swap transaction data.

The rules – Regulation SDR and Regulation SBSR – also set forth other requirements with which SDRs must comply, as well as provide an exemption from registration for certain non-U.S. SDRs when specific conditions are met.

Regulation SDR governs the registration process for security-based swaps data repositories, assigning duties and core principles, as well as data collection and maintenance obligations, to SDRs. The rules also require SDRs to designate a Chief Compliance Officer (“CCO”) with “meaningful responsibilities.”

Regulation SBSR provides for the reporting of security-based swaps information to registered SDRs, as well as the public dissemination of security-based swap transaction, volume and pricing information. In addition, the rules assign reporting duties for many security-based swap transactions and require SDRs registered with the SEC to establish and maintain policies and procedures for carrying out their duties under Regulation SBSR.

Under the rules, the SEC recognizes the Global Legal Entity Identifier System as the system from which security-based swap counterparties must obtain codes to identify themselves when reporting security-based swap data. The rules also address the application of Regulation SBSR to cross-border security-based swap activity and include provisions to permit market participants to satisfy their obligations under Regulation SBSR through compliance with the comparable regulation of a foreign jurisdiction.

The SEC also proposed additional rules, rule amendments and guidance related to Regulation SBSR and the reporting and public dissemination of security-based swap transaction data. These additional proposed rule amendments would:

  • assign reporting duties for certain security-based swaps not addressed by the adopted rules;
  • prohibit registered SDRs from charging fees to or imposing usage restrictions on the users of publicly disseminated security-based swap transaction data; and
  • provide a compliance schedule for certain provisions of Regulation SBSR.

The adopted rules will become effective 60 days after their publication in the Federal Register. Persons who are subject to the new rules must comply with them no later than 365 days after the adopted rules are published in the Federal Register.

Lofchie Comment: These rule adoptions raise important questions about the exercise of power.

Under the rules adopted by the SEC majority, an SDR can only fire its CCO if the board of directors authorizes that action; however, the dissent argues that the board of directors should be able to delegate that power to the firm’s Chief Executive Officer or to other senior officers of the SDR. To those who work outside the private sector and are not familiar with the process by which such decisions are made, this dispute may seem to be mere quibbling over procedure. The larger philosophical issue is about “power”; that is, the SEC’s justification for (i) allocating to itself the power to determine the process by which a company’s CCO must be fired and (ii) overriding the authority of the firm’s board of directors to decide who should make that decision (and to grant the authority to make the decision to the firm’s chief executive officer), subject to the further authority of state corporate law.

Perhaps the SEC believes that its assumption of this power can be justified because SDRs are nothing but creatures created by federal law. However, as the SEC dissent points out, nothing in that federal law justifies this assertion of power by the SEC. Furthermore, the entities over which the SEC has determined to exercise such an unusual degree of authority are data repositories; that is, they are boring, tedious, humdrum utilities. Thousands of companies are more significant to the economy than data repositories, and thousands of companies offer more significant opportunities for wrongdoing. If the SEC thinks that it is justified in dictating the corporate governance process of a data repository, then why shouldn’t it assert even greater authority over the processes by which other businesses operate – including those of businesses that are a lot more important than data repositories (e.g., businesses that produce food or energy, or provide transport)?

Federal regulators should and do exercise a great degree of authority over financial institutions and over companies that offer their shares to the public. There must be vigilance, however, over ever increasing assertions of power by regulators.

Lofchie YouTube Selection on Super Powers.

See: SEC Press Release.
See also: Chair White’s Opening Statement; Commissioner Aguilar’s Statement of Support; Commissioner Piwowar’s Statement of Dissent; Commissioner Stein’s Statement of Support; Commissioner Gallagher’s Statement of Dissent.


MetLife to Ask Federal Court to Review SIFI Designation

MetLife, Inc. announced that it intends to file an action in the U.S. District Court for the District of Columbia to overturn the designation by the Financial Stability Oversight Council (“FSOC”) of the company as a non-bank systemically important financial institution (“SIFI”).

Dodd-Frank Section 113(h) provides that any company designated as an SIFI may petition the federal courts for an order requiring that the final determination be rescinded.

Chair, President and CEO of MetLife Steve Kandarian stated that he believes “FSOC’s designation of MetLife is premature. FSOC has designated non-bank SIFIs before the rules governing these companies have even been written. The Council should wait until the rules are in place and it knows the impact on designated firms.” He went on to say that it “is not enough to designate companies as SIFIs merely because they are big,” and added that he looks forward to a legal review of the decision.

Lofchie Comment: How any court could determine that FSOC acted within or without the law is a mystery to me, since the statutory provision that establishes the basis for designation of a firm as systemically significant is inherently ambiguous. Section 113 of Dodd-Frank simply does not establish “law” as the term is commonly understood; it does not establish any objective rules that can be understood by those who would either be subject to it or interpret it. Congress ought simply to repeal Section 113 as being inconsistent with a society that is intended to be governed by clear rules that can be understood by those who are governed by them. If, in repealing Section 113, Congress also finds that it is appropriate to regulate large insurance companies or clearing companies, then it ought to pass a law allowing it to do so – a law that can be implemented by objective rules that citizens can read and understand, and that courts will be able to interpret in a consistent manner.

Lofchie YouTube Selection: Comparing Various Non-Objective Powers.

See: MetLife Filing; MetLife Press Release.


House Votes to Reconsider Volcker Rule Changes

The U.S. House of Representatives passed legislation (H. Res. 27) in the form of an administrative resolution that allows the House to reconsider H.R. 37, which will delay the implementation of the Volcker Rule until 2019 rather than 2017, as originally planned.

H.R. 37, the Promoting Job Creation and Reducing Small Business Burdens Act, was introduced to the House floor on January 6, 2015 under a fast-track procedure that required a two-thirds majority for passage. The bill did not achieve that two-thirds majority.

H. Res. 27 came to the floor on January 13, 2015 under a procedure requiring only a simple majority and passed by a vote of 271-154. The passage of H. Res 27 means that the House must reconsider H.R. 37, as read, with restrictions on potential amendments in the bill.

See: H. Res 27; H.R. 37.
Related news: Committee on Rules for U.S. House of Representatives to Consider Regulatory Reform (January 9, 2015).