FROM: SECURITIES AND EXCHANGE COMMISSION
Remarks at AIMA Global Policy & Regulatory Forum
Commissioner Michael S. Piwowar
New York, NY
March 6, 2014
Thank you, Kathy [Casey], for that kind introduction. Thank you, Kathy and Jiri [Krol], for inviting me to lead off the excellent program that AIMA has put together. I have enjoyed working with both of you over the past few years on numerous global policy and regulatory issues, which is the focus of today’s forum.
In addition to serving as SEC Commissioners, Kathy and I have a lot in common, including the fact that we both studied international politics as undergraduates at Penn State. Many of the concepts that we learned from that curriculum have served us well over the course of our careers, particularly as international financial regulatory issues have become more important in the aftermath of the global financial crisis.
Jiri and I also have something important in common. I remember the first time I met with Jiri, he commented about my last name “Piwowar” which means “Brewer” or “Beer Maker” in Polish. The Polish and Czech languages are very similar, so Jiri knew exactly what it meant. What I did not realize, however, was that Jiri’s last name “Krol” is Czech for “Beer Drinker.” Of course, I’m kidding.
Seriously, I am excited to be here with you this morning to share my thoughts on how I approach the international financial regulatory issues that come before the Commission. But, before I continue, I need to provide the standard disclosure that my remarks are my own and they do not necessarily reflect the views of the Commission or my fellow Commissioners.
International engagement has long been a fundamental aspect of effective capital markets regulation. As Kathy [Casey] noted in a speech she gave while Commissioner in 2007: “If we, as regulators, are to remain effective and relevant in meeting our mission of protecting investors, fostering capital formation and maintaining competitive, fair and orderly markets, we will need to be more nimble and responsive to market developments and rely more on cooperation and collaboration with our international counterparts.”[1]
It has become clear to me over these past few months that at no time in the Commission’s history have we been more engaged with the international community or more involved in collaborative workstreams with our fellow regulators from around the globe.
Much of this international work stems from the 2009 G-20 initiatives regarding over-the-counter (OTC) derivatives reforms.[2] It thus came as little surprise to me that, from the very beginning of my tenure as Commissioner, I have seen a steady stream of visitors eager to discuss the Commission’s approach to the regulation of cross-border OTC derivatives. In addition to sharing their own views and observations on these issues, visitors frequently ask me my personal views on the topic.
I believe I can condense them into a single, concise theory that should provide you with clarity on where I stand on every cross-border issue facing the Commission: “I am a proponent of the rationalization of the global regulatory framework by seeking convergence and harmonization of rules through bilateral and multilateral dialogue and the mutual recognition of comparable regimes based on principles of international comity.”
I am sure that clears things up.
I have been struck by two observations regarding international financial regulatory issues, particularly with respect to OTC derivatives. First, this is an incredibly complex area where actual details matter more than abstract concepts. Second, much of the conversation involves buzzwords and terms of art that may mean different things to different people.
I recognize that labeling regulatory approaches is sometimes constructive and frequently necessary in order to foster dialogue between regulators. However, the two observations I just mentioned often collide with each other as regulators and market participants alike seek to understand how jurisdictions around the world intend to regulate cross-border activities. Broad concepts and terms of art not only fail to provide the specificity required by the financial markets, but also lend themselves to being misconstrued as individuals read into the terms what they seek to get out of them.
We saw a recent example with regard to the so-called “Path Forward” agreement on derivatives regulation negotiated between the Commodity Futures Trading Commission (CFTC) and the European Commission.[3] Not long after the agreement was published, it became clear that the regulators had differing interpretations of the understandings in that document. Surely, neither side intended to mislead the other by agreeing to a set of broad concepts that left significant room for interpretation rather than specific requirements that would have bound both parties. However, the fact remains that the document failed to resolve any of the crippling uncertainty in the market.
At this point you may be questioning how I can critique the reliance on international buzzwords and broad concepts, and yet give a speech in which I share with you some of the broad principles that guide my decision-making in this area?
I raise these issues only to express my view that the use of such terms, while at times helpful, must be met with a healthy dose of skepticism, and cannot serve as a substitute for detailed guidelines. The principles I share with you should be treated the same way. However, my hope is that they will provide you with insight into my thinking as the Commission tackles these complex issues in the near future.
Respect for International Regulators
The first principle guiding my thoughts in this area is respect for my international counterparts.
My education gave me a broad perspective of, and healthy respect for, the international community. My respect for the international financial regulatory community has only grown as I have worked with regulators from around the globe during my professional career at both the Senate Banking Committee and the SEC.
Approaches to regulating the same activity often differ across jurisdictions. This is not surprising given the role that legal traditions and cultural norms play in shaping financial development and regulation. However, we must not let these differences get in the way of cooperation, and lead to unnecessary burdens for market participants or duplicative or conflicting regulations.
Therefore, I reject any notion that we must pull the whole world into the U.S. regulatory sphere, or that other jurisdictions should simply adopt U.S. regulations. This would be neither appropriate given our mission, nor necessary given applicable regulations in other jurisdictions.
I believe that market participants that comply with the regulatory requirements in the jurisdiction in which they are based should, under certain circumstances, be deemed to comply with our requirements in the Dodd-Frank Act Title VII space.
This is probably the area where the most ink is spilled on creating terms of art for use by the international financial regulatory community. It is no wonder that this occurs, however, because allowing for compliance with home country requirements in this manner is vital to creating an effective global regulatory environment.
As a result, I believe we should apply this principle broadly, and expect that regulators in other jurisdictions will do the same. Determinations about which jurisdictions qualify for this type of treatment should be based on a minimum level of acceptable regulation, and focused on regulatory outcomes rather than a rule-by-rule comparison.
In addition, where differences in the timing of compliance dates among jurisdictions arise, we should provide reasonable relief to market participants in the interim period. The implementation of enhanced regulation for OTC derivatives represents the creation of a long-term system of oversight, and must not be used as a short-term power grab between regulators or jurisdictions. Market participants should not pay the price — either directly through increased compliance and restructuring costs or indirectly through market uncertainty — for differences in their regulators’ compliance dates.
Territorial Approach to Regulation
The second principle that guides my thoughts on cross-border applications of Commission regulations is that the Commission should take a territorial approach.
The territorial approach to regulation has a long history at the Commission,[4] and there is no reason to abandon it as we develop the new framework for OTC derivatives regulation.
Of course, a territorial approach to regulation may itself be viewed as a term of art. In using this term in the context of OTC derivatives, I mean that the Commission’s regulation of cross-border OTC derivatives activity should generally apply to transactions involving activity within the United States. An activity may be deemed to occur within the United States either because a transaction is entered into with a U.S. person, or because it is conducted within the United States.
These concepts are only given meaning through the definitions applied to them. I could spend this entire speech talking about the definition of the term “U.S. person,” but for now I will simply convey the two essential aspects of this definition.
First, the definition of U.S. person must be clearly defined and easily applied. Market participants will inevitably be required to build out their compliance systems to account for how this term is defined. It is our job as regulators to give them clear guidelines to follow.
Second, the definition of U.S. person must be limited in scope. We should not attempt to expand the reach of our rules by creating an unreasonably broad definition.
The definition of what constitutes a “transaction conducted within the United States” is also an important aspect of the territorial approach to regulation. It ensures that all market participants operating within the United States are subject to the same rules and that everyone entering into transactions in the U.S. market receives the same protections.
However, it is important to note that not all activities that touch the United States should be drawn into its regulatory sphere. For example, a phone call from abroad made to someone in the United States seeking OTC derivatives market color is not the type of activity that should trigger application of our regulations.
Predictable Changes in Behavior in Response to Regulation
Another key principle in this area is that we should consider the predictable changes in behavior by market participants in response to regulation.
Markets are dynamic and constantly changing. As a result, market participants must be creative and able to adapt. It would be naïve and foolish for regulators to think that we can completely control markets and prevent market participants from pursuing their economic interests.
If we adopt unnecessarily harsh regulations in the United States, we must expect that market participants will adapt. This could involve structuring business activities away from our jurisdictional reach, which some call regulatory arbitrage. We should not be surprised by this activity, nor should we condemn it. It would not be nefarious. Rather, it would simply be a rational response to overly burdensome regulation.
It would also be naïve and foolish for regulators to downplay the impact of our decisions on markets and the burdens they place on market participants. We know that increased regulation is not costless. Market regulators must always strive to implement effective regulation that adequately protects investors. However, we must do so in full recognition of the tradeoffs and costs associated with our rules. These costs can burden our economy and ultimately hurt investors.
It is not just the potential increased costs associated with our regulations that we must consider. We must also recognize that, with truly global capital markets, our actions have the power to shift the markets themselves. If our rules are unnecessarily harsh and we reject international cooperation, market participants may rationally seek other jurisdictions in which to operate.
If this happens, we must own up to the fact that our own actions — even ones undertaken with the best of intentions — can result in less regulatory transparency, less effective regulation, fewer protections for investors, higher prices, fewer productive jobs, and slower economic growth.
Regulatory Process Matters
This leads me to my final point — regulatory process matters.
Just as we cannot ignore the impacts associated with our rules, we must not ignore the appropriate process for developing them. That process includes a rigorous economic analysis, which includes identifying and evaluating reasonable alternatives to the proposed regulatory approach.[5]
The regulation of cross-border OTC derivatives activity involves many decision points, each with a number of viable alternatives. In developing our final rules in this area, we must engage in a thoughtful economic analysis to guide our decision-making process. The importance of the rulemaking process is highlighted by the current state of OTC derivatives regulation in the United States.
As I am sure all of you are aware, both the SEC and CFTC have been tasked with implementing portions of Title VII, including application of the statute to cross-border activities. The SEC has undertaken a methodical, deliberative process that includes the publication of a comprehensive document in May 2013 containing proposed rules developed with the insight of a thoughtful economic analysis.[6] SEC staff is currently reviewing the public comments on that proposal, and I expect that in the near future we will adopt final rules in this area that reflect the comments received and that are based on sound analysis of the economic consequences of the rules.
The CFTC, on the other hand, chose not to engage in a disciplined rulemaking process, and instead attempted to address these same issues by publishing “interpretive guidance” in July 2012.[7] This interpretive guidance did not contain clear rules, and was not based on any economic analysis. It is therefore not surprising that the guidance received widespread condemnation by foreign regulators. In December 2012, the CFTC responded with “further” interpretive guidance[8] that received so much criticism from foreign governments and regulators that the House Committee on Agriculture held a hearing a few weeks later.[9] In July 2013, the CFTC issued “final” interpretive guidance on the cross-border application of the swap provisions added by the Dodd-Frank Act.[10] Lacking the clarity and finality achievable through the rulemaking process, the CFTC’s final guidance has now been called into question through litigation, injecting further uncertainty into the markets.[11]
While the CFTC’s guidance is currently tied up in the courts for an indeterminate period of time, I can envision the SEC’s methodical approach to these issues bearing fruit in the form of a robust final rule in the coming months. Aesop, the ancient Greek story teller, would be quite happy looking at the state of Title VII regulation right now. His fabled story of the tortoise and the hare seems quite appropriate, with its overarching message that “Slow and steady wins the race.”
Conclusion
In closing, it bears repeating that the application of Dodd-Frank Act Title VII provisions to cross-border OTC derivatives activities is an incredibly complex area that does not lend itself to mere generalities. That is precisely why many of the common terms of art used in international dialogue are not always helpful.
Market participants do not need to know whether their regulators support abstract notions of mutual recognition, comparability assessments, or international comity. They do need to know whether their transactions must be reported, cleared, or traded on an exchange, and where they can undertake those activities.
I trust that my remarks give you a better sense of how I intend to approach international financial regulatory issues, including the final cross-border OTC derivatives rulemaking. I further hope that the Commission, as a whole, will follow the old adage “the little things you do matter more than the big things you say” and rely more on cooperation and collaboration with our international counterparts as we work together to develop an effective global financial regulatory framework that is consistent with our mission of protecting investors, maintaining fair, orderly and efficient markets, and promoting capital formation.
Thank you. Enjoy the rest of the day.
[1] Remarks at the Institute of International Bankers Fall Membership Luncheon by Commissioner Kathleen L. Casey (Oct. 9, 2007), available at http://www.sec.gov/news/speech/2007/spch100907klc.htm.
[2] See Leaders’ Statement at the Pittsburgh Summit, G-20 Meeting (Sept. 25, 2009), available at http://www.treasury.gov/resource-center/international/g7-g20/Documents/pittsburgh_summit_leaders_statement_250909.pdf.
[3] Cross-Border Regulation of Swaps/Derivatives Discussions between the Commodity Futures Trading Commission and the European Union — A Path Forward (July 11, 2013), available at http://www.cftc.gov/PressRoom/PressReleases/pr6640-13.
[4] See, e.g., Registration Requirements for Foreign Broker-Dealers, Securities Exchange Act Release No. 27017, 54 F.R. 30013, 30016 (July 18, 1989).
[5] See, e.g., Current Guidance on Economic Analysis in SEC Rulemakings (Mar. 6, 2012), available at http://www.sec.gov/divisions/riskfin/rsfi_guidance_econ_analy_secrulemaking.pdf.
[6] Cross-Border Security-Based Swap Activities; Re-Proposal of Regulation SBSR and Certain Rules and Forms Relating to the Registration of Security-Based Swap Dealers and Major Security-Based Swap Participants; Proposed Rule, Securities Exchange Act Release No. 69490, 78 F.R. 30967 (May 23, 2013), available at http://www.gpo.gov/fdsys/pkg/FR-2013-05-23/pdf/2013-10835.pdf.
[7] See Cross-Border Application of Swaps Provisions, U.S. Commodity Futures Trading Commission website, available at http://www.cftc.gov/LawRegulation/DoddFrankAct/Rulemakings/Cross-BorderApplicationofSwapsProvisions/index.htm.
[8] Id.
[9] See Dodd-Frank Derivatives Reform: Challenges Facing U.S. and International Markets Before the Subcommittee On General Farm Commodities and Risk Management of the House Committee on Agriculture (Dec. 13, 2012). Hearing transcript, testimonies, and other documents are available at http://agriculture.house.gov/hearing/dodd-frank-derivatives-reform-challenges-facing-us-and-international-markets.
[10] See Cross-Border Application of Swaps Provisions, U.S. Commodity Futures Trading Commission website, available at http://www.cftc.gov/LawRegulation/DoddFrankAct/Rulemakings/Cross-BorderApplicationofSwapsProvisions/index.htm. See also Statement of Dissent by Commissioner Scott D. O’Malia, Interpretive Guidance and Policy Statement Regarding Compliance With Certain Swap Regulations and Related Exemptive Order (July 12, 2013), available at http://www.cftc.gov/PressRoom/SpeechesTestimony/omaliastatement071213b.
[11] Securities Industry and Financial Markets Association, International Swaps and Derivatives Association, and Institute of International Bankers v. United States Commodity Futures Trading Commission, No. 13-CV-1916 (D.D.C. filed Dec. 4, 2013).
