The Story of CFTC Compromise

How the bank lobby loosened the reins on derivatives at the U.S. agency.

One by one, Gary Gensler’s supporters deserted him. Now the chief U.S. regulator of derivatives was being summoned by Treasury Secretary Jacob J. Lew to explain why he refused to compromise.

Banks and lawmakers, as well as financial regulators from around the world, had besieged Lew with complaints about Gensler’s campaign to impose U.S. rules overseas.

The banking industry was the most persistent and well-financed of the visitors. In the first year after Dodd-Frank was enacted, Wall Street’s biggest lobbying group—the Securities Industry and Financial Markets Association, known as Sifma—paid more than $3 million to law firms working on regulations, public filings show. Individual banks spent millions more.

Sifma President Kenneth Bentsen said the industry’s dealings with Gensler aren’t about “a win or lose.” Banks that bear the burden of new rules have a responsibility to make sure lawmakers and regulators understand their perspective, he said.

Dan Berkovitz, the CFTC general counsel at the time, and John Riley, the agency’s head of legislative affairs, sent text and suggestions to Democratic staff members on the House Financial Services and Agriculture committees that ended up in the bill almost verbatim, e-mails show.

“Here’s the cheat sheet,” Riley wrote as he offered advice to a House staff member in October 2009. In January 2010, he gave Senate aides Gensler’s thinking on trading rules, adding that a “more formal legislative proposal” would follow.PQ2

At first, Gensler championed a fully public and electronic system, in which traders would only rarely be able to cut deals in private on the phone, according to a summary he released in late 2010.

Scott O’Malia, a Republican commissioner, sided with industry arguments that Gensler’s plan went beyond the CFTC’s authority under Dodd-Frank and wasn’t flexible enough for swaps that don’t trade as often as futures. The market needs time for “a transition or an evolution,” he said in an interview.

The $3 billion threshold could help get many of his clients out from under the rules. “The consequence of crossing that line is significant,” he said in an interview.

Another trade group, the Commodity Markets Council, suggested to the CFTC that the cutoff be jacked up to $10 billion.

“If you develop a set of rules that are designed to prevent the next AIG and it wouldn’t prevent the next AIG, that’s a problem,” said Barr, the former Treasury official.

While other countries were developing their own rules, some U.S. officials said they might not be as comprehensive or transparent.

The process, Barnier said, “isn’t necessarily a model.”

As the CFTC retreats on foreign trading and other fronts, the market that’s left for it to oversee is shrinking. Firms are designing contracts so that they fall outside the swaps rules.

Calculating Market

The total value of OTC derivatives traded worldwide is $633 trillion, according to the Basel, Switzerland-based Bank for International Settlements. More than half of that is held outside the U.S., according to government records, and could be mostly excluded from CFTC oversight.

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