Obama administration officials outlined comprehensive proposals to rein in the free-wheeling market in financial derivatives on Friday, which has been blamed for helping to create the global economic crisis, and proposed stronger investor protections.
More administration proposals are expected in coming weeks to expand the powers of the federal agencies that oversee trillions of dollars in equities and futures markets.
The Commodity Futures Trading Commission could act on its own power and put new regulations in place by late October, said one of its five commissioners. The agency plans hearings this summer on whether to limit the number of oil and other futures contracts that a trader can hold, as a way to limit market volatility.
We're looking at a pretty fast timeline, Bart Chilton, a CFTC commissioner, told Reuters in an interview. We're going to use our authority to the fullest extent possible. That doesn't mean we're going to be draconian or go too far.
Treasury Secretary Timothy Geithner told a joint hearing of two U.S. House committees that over-the-counter derivatives must be brought under federal regulation. Financial reform was a front-rank issue when Congress convened in January but was overtaken by health care reform and climate change bills.
We propose to require all OTC (over-the-counter) derivatives dealers ... be subject to substantial supervision and regulation, including conservative capital requirements, conservative margin requirements and strong business conduct standards, Geithner said in comments that acknowledged there were few limits in the past.
OTC derivatives are complex instruments whose value is based on an underlying asset. The sector peaked at a face value of $700 trillion in 2008. Analysts say OTC derivatives amplified last fall's economic slump, partly because some firms invested too heavily and cash reserves were far too small.
In the United States, four big banks control more than 90 percent of derivatives markets: JPMorgan Chase , Bank of America , Citigroup and Goldman Sachs .
Geithner said the existing system allowed some financial institutions to sell large amounts of derivatives, which are intended to offset or manage risk, even without the capital to back those commitments.
Under the administration's plan, all OTC derivatives and dealers would be subject to regulation. Standardized OTC derivatives would go through clearinghouses at regulated exchanges to reduce the risk of default. Trading in customized contracts would have to be reported and obey capital and margin requirements.
We will propose a broad definition of 'standardized' OTC derivatives that will be capable of evolving with the markets and will be designed to be difficult to evade, said Geithner.
The CFTC and the Securities and Exchange Commission would write the details and police against sham customized contracts.
Geithner said the SEC and CFTC have made great progress in deciding who will oversee which parts of the OTC market. The administration intends to propose a bill to spell out the allocation, he said.
Private meetings between regulators and the leaders of the House Financial Services and Agriculture Committees indicate an accord is near on OTC regulation, said Collin Peterson, the Agriculture chairman.
We think we're actually 90-95 percent in agreement on everything, Peterson told reporters.
Financial Services oversees banks and the stock market while Agriculture has control of the CFTC and futures markets.
There are no fights to cover between these committees, said Financial Services chairman Barney Frank during the three-hour hearing with Geithner.
In its proposal on investor protection, the administration would give the SEC authority to set consistent fiduciary standards for broker dealers and could ban bonuses or other compensation that would encourage financial intermediaries to steer investors into products that are not in their best interest.
It also would give the SEC authority to require delivery of prospectuses before investors put money into mutual funds. The SEC also could create a fund to pay whistleblowers.
(Reporting by Rachelle Younglai, Christopher Doering, David Lawder and Charles Abbott; Writing by Charles Abbott; Editing by Leslie Adler )