New Book on GDP-Linked Bonds

A new e-book, Sovereign GDP-Linked Bonds: Rationale and Design, will be of interest to a number of readers of this blog. Contributors include Maurice Obstfeld (chief economist of the IMF), Patrick Honohan (governor of the Central Bank of Ireland during Ireland’s debt crisis), and David Beers (adviser at the Bank of England). The book is available for free by registering at the site of the publisher, VoxEU. (Hat tip: David Beers.)

CFTC Commissioner Reassures Agriculture Industry of Futures Market Protections

CFTC Commissioner Brian Quintenz assured agricultural industry (“Ag industry”) producers and cooperatives that the CFTC is continuing its efforts to protect and promote the futures market. Mr. Quintenz promoted education, accessibility and market integrity to increase farmers’ and ranchers’ engagement in the futures market.

In remarks before the 2018 Agricultural Commodity Futures Conference, Mr. Quintenz urged Ag industry producers and cooperatives to continue using the futures markets to hedge their risks. Mr. Quintenz addressed producer concerns that the marketplace had become “too complex” and committed the CFTC to closing information gaps and promoting education for farmers and ranchers.

Mr. Quintenz argued that accessibility is particularly challenging for farmers and ranchers due to fewer available futures commission merchants (“FCMs”). FCMs, which Mr. Quintenz described as the “gateway” to the futures market for farmers and ranchers, have decreased in number by approximately 64 percent since the financial crisis. In addition, the FCMs that are still available reportedly have begun limiting the services they offer to smaller clients. As a remedy, Mr. Quintenz discussed reform of the supplementary leverage ratio calculation, which penalizes banks’ provisions of clearing services, and may be a contributor to the consolidation of the FCM sector. Mr. Quintenz stated that he would support policies that encourage client clearing services in order to strengthen the FCM sector.

Mr. Quintenz also acknowledged that the CFTC had “no role” in the regulation of global commodity prices or design of futures contracts. However, he promised that the CFTC would promote convergence between the futures and cash markets and require regulation of the terms and conditions of futures contracts.

Lofchie Comment: While legislators and regulators commonly bemoan the size of financial firms and decry “too big to fail,” they simultaneously adopt regulatory requirements that impose significant fixed costs. This is true not only as to CFTC regulation, but also as to banking and securities regulation. The CFTC under Chairman Gensler was particularly “aggressive,” imposing numerous rules that raised costs and reduced profit opportunities. At the time, Mr. Gensler assured the public and Congress that the new requirements would reduce costs to investors. He was mistaken.

Commissioner Quintenz points out that the exodus of firms from the futures industry is due, in part, to increased regulatory costs. He committed to working to strengthen FCMs. It will probably take quite a bit to reverse the trend. Being an FCM in today’s regulatory environment does not seem an attractive new business: tremendous fixed regulatory costs; no opportunity for differentiation of products; and no certainty that the regulators would not revert to their previous aggressive ways.

FRB Governor Reviews Financial Stability Policy

Board of Governors of the Federal Reserve System (“FRB”) Governor Lael Brainard reviewed the current state of prudential financial stability regulation including policies that address “tail risk.” Prudential, macroprudential and countercyclical policies, according to Ms. Brainard, are crucial to minimizing the risks that threaten financial stability.

In remarks at the Stern School of Business at New York University, Ms. Brainard stated that the FRB focuses on correcting vulnerabilities rather than attempting to predict “adverse shocks.” Vulnerable areas that were cited include “asset valuation and risk appetite, borrowing by the nonfinancial sector, liquidity risks and maturity transformation by the financial system and leverage in the financial system.” Noting that overall risk remains moderate, Ms. Brainard emphasized the importance of continuing to monitor existing and emerging vulnerabilities. She reported that the FRB is looking into the extreme volatility demonstrated by some cryptocurrencies due to their highly speculative nature. However, Ms. Brainard said it is unclear if the valuations of cryptocurrencies could be a threat to financial stability.

Ms. Brainard described the necessity of FRB regulations that require banks to hold substantial capital and liquidity buffers. She said that these regulations force banks to internalize the costs of engaging in risky financial behavior.

She also reinforced the importance of supervisory stress tests; however, she cautioned that stress testing has not demonstrated that it is effective in counteracting the financial system’s tendency toward pro-cyclicality. In response, the FRB implemented the countercyclical capital buffer (“CCyB”), which is designed to counteract “elevated risk of above normal losses” for banks. At least once per year, the FRB votes to determine the level of the CCyB, but so far has voted to leave the CCyB at its minimum value of zero.

NY Fed Names New President and CEO

The Federal Reserve Bank of New York named John C. Williams as president and CEO. Mr. Williams will assume the new position on June 18, 2018, upon the retirement of current president William C. Dudley.

Mr. Williams is currently serving as president and CEO of the Federal Reserve Bank of San Francisco. He assumed his current role in 2011, following a period as executive vice president and director of research.

Mr. Williams began his career as an economist at the Board of Governors of the Federal Reserve System. He also served as a senior economist at the White House Council of Economic Advisers.