CFTC Chair Massad Recommends “Holistic” Approach to Central Clearing Regulation

CFTC Chair Timothy Massad urged global regulators to “take a holistic perspective” regarding central counterparty (“CCP”) regulation and to “consider the overall system, its overall resilience, and its ability to respond if there is a problem.”

Chair Massad also urged regulators to consider the potential effects of the leverage ratio on clearing, particularly in the context of a default by a clearing member. Additionally, he asked regulators whether “a greater ‘macroprudential framework'” is needed for CCP regulation, which he defined as “regulation with the objective of mitigating systemic risk, and with a scope that includes the financial system generally, rather than a focus on individual entities.” Chair Massad noted that even though macroprudential considerations already are part of CCP regulation, macroprudential “workstreams” are “very much a work in progress.”

Lastly, Chair Massad stressed the importance of CCP regulation:

Central clearing remains one of the great innovations of modern finance. And the work going on today on CCPs is critical to making sure the model of central clearing remains sound, and our financial system remains strong.

Chair Massad delivered his remarks at the CCP12 Founding Conference and CCP Forum in Shanghai, China.

Lofchie Comment: Central clearing might be a praiseworthy innovation, but it also shares a common trait with fire: it has to be contained. When the Dodd-Frank Act was adopted, central clearing was touted as a near-magical cure for financial product risk. However, it has significant limitations, such as its effectiveness only with products that are traded broadly. Though central clearing might increase netting and setoff with regard to individual products, it also lessens the degree to which counterparties may net and set off across products on a bilateral basis. Additionally, central clearing parties are the ultimate example of entities that are “too big to fail.” Propping them up by affording them the unlimited ability to call collateral from other market participants means creating the danger that, in a financial crisis, central clearing parties may save themselves by damaging the markets.

Perhaps central clearing will prove its value when regulators stop singing its obligatory praises and focus instead on mitigating its limitations.