Hester Peirce is a senior research fellow at the Mercatus Center at George Mason University.
Last week, the Commodity Futures Trading Commission, known as the CFTC, confirmed its regulatory jurisdiction has no bounds and that it is unwilling to play by the rules laid out by Congress. First, the CFTC announced a $200 million settlement with Barclays based on the international megabank's alleged attempts to manipulate two widely used global financial benchmarks, the London Interbank Offered Rate and the Euro Interbank Offered Rate. In the settlement, the CFTC attempts to take over the process that creates those benchmarks. Second, it issued its long-awaited cross-border guidance, which set forth its aggressive plans to regulate derivatives transactions all over the world.
The behavior of Barclays, as described by the CFTC and the other regulators that brought companion actions, is not defensible. Neither is the CFTC's regulatory response.
The CFTC went beyond merely fining Barclays. It inserted itself into a private, foreign benchmark-setting process and used its enforcement process to set industry-wide rules. And it did so without the administrative checks and balances or cost-benefit requirements that govern agency rulemaking.
The London Interbank Offered Rate and the Euro Interbank Offered Rate are created for private European trade associations, the British Bankers Association, and the European Banking Federation. These benchmarks are supposed to reflect the lending rates that banks charge one another, and are used by private parties as reference points in a wide range of transactions, including consumer loans and interest rate derivatives. The rate a consumer pays on his mortgage, for example, might be based on the the London Interbank Offered Rate. In addition, market watchers monitor these benchmarks to assess the state of the financial markets.
In the settlement, the CFTC used its enforcement powers to seize control over the private benchmark-setting process. It establishes precise ground rules for Barclays's future benchmark submissions, including permissible factors for use in the submissions, experience requirements for employees involved in making submissions, and detailed record keeping and auditing requirements. For good measure, the CFTC also elicited a promise that Barclays would work to bring benchmark creators in line with the CFTC's favored approach for benchmark formulation.
Even without this promise, the undertakings that the CFTC included in its settlement with Barclays are now de facto rules for any other entity that does not want to find itself on the CFTC's firing line. Unilaterally asserting regulatory power over a process managed by two private, foreign trade associations is bad enough, but the CFTC did it without as much as a nod to the administrative process or cost-benefit analysis required for rules.
On Friday, the CFTC continued its power grab by publishing proposed guidelines to determine how far overseas the CFTC's derivatives rules apply. The CFTC cedes jurisdiction to foreign regulators only sparingly and grudgingly. For example, the CFTC will sometimes allow compliance with foreign regulations to substitute for compliance with CFTC regulations, but only on a rule-by-rule basis. This piece-meal approach is a departure from the standard holistic assessment of a foreign regulatory framework's comparability with ours. Not only will the CFTC need to hire an army of staffers to conduct these rule-by-rule assessments, but the result will be a compliance nightmare for firms trying to figure out which rules apply.
CFTC Commissioner Scott O'Malia explained the CFTC's interpretation of its own authority "is overly broad to the point where the extent of the Commission's jurisdiction is virtually endless." His colleague, Commissioner Jill Sommers, more colorfully observed that the guidance appeared to have been drafted under the aegis of the "Intergalactic Commerce Clause." The CFTC has asked for comment on its proposed guidance, but because the guidance is not cast as a rule, the CFTC is free to ignore the comments it receives. Commissioner O'Malia has asked the CFTC to look at the costs of its broad approach, but again, by avoiding rulemaking the CFTC evades its statutory economic analysis requirement.
The CFTC is constantly complaining about how short it is on resources. Regulators, along with the rest of us, can't do everything. We have to make tough choices about where to spend our time and money. For the CFTC, letting private standard setters fix their own messes and foreign regulators regulate their own countries would be a good start.
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