Tuesday, November 01, 2011

European Central Bank Asks CFTC to Exclude Swap Activities of Foreign Central Banks from Dodd-Frank Embrace

In a letter to the CFTC, the European Central Bank said that the objectives of the derivatives provisions of the Dodd-Frank Act of increasing transparency and reducing risk will not be served by applying Title VII of the Act to the swap activities of the ECB or transactions with its counterparties. In fact, said the central bank, regulations constraining the ECB’s activities in the US or with US parties will have the perverse consequence of making it more difficult for the ECB to reduce risk and maintain the integrity of the financial system. Indeed, imposing transparency requirements on the ECB will not achieve greater transparency for the swap market, said the central bank, because the ECB’s trades are not ordinary commercial trades that are comparable with other transactions. If Title VII-implementing regulatory requirements are imposed on foreign central banks, said the ECB, the ECB and other central banks may shift swap activity away from the US markets or US counterparties, thereby reducing the liquidity of US markets, constraining the competitiveness of US parties, and reducing the effectiveness of central bank actions.

Moreover, imposing regulations on the ECB’s swap activities will result in unequal treatment between the ECB and the Federal Reserve, which is exempted from swap regulation by Dodd-Frank. More specifically, regulating ECB swap activities would undermine Section 752 of Dodd-Frank, which requires US regulators to coordinate with foreign regulators to achieve consistent international standards.

The central bank also noted that imposing swaps regulation on swaps entered into by the ECB would be inconsistent with other US legislation. For example, the ECB’s status has been recognized by the President under Executive Order 13307 under the International Organizations Immunities Act. The ECB therefore benefits from immunities under the Foreign Sovereign Immunities Act, which grants immunity to the ECB both with regard to property held for its own account and when carrying out its official functions, including operating in the financial markets when carrying out its foreign exchange and monetary tasks. According to the ECB, the purpose of this immunity will be defeated if its swaps activities are subject to extensive regulation.

Thus, the ECB urged the CFTC to confirm that the definition of swap does not include any agreement or transaction to which the ECB or any other Eurosystem central bank is a party. Recognizing that other non-US central banks may have similar concerns about the application of Title VII, the ECB proposed language to be included in the Dodd-Frank definition of swap to exclude swaps entered into by foreign central banks designated by the Commission.