Monday, July 20, 2015

Senator Warren Asks Regulators for Data on Rollback of Swaps Pushout

By Lene Powell, J.D.

Senator Elizabeth Warren (D-Mass) and Rep. Elijah Cummings (D-Md) have requested information from four financial regulators about risks resulting from the partial repeal last December of the Dodd-Frank “swaps pushout” provision, which limited the kinds of derivatives that may be traded by financial institutions that receive federal assistance like deposit insurance or access to the Federal Reserve Board's discount window. The partial repeal expanded the types of derivatives activities that covered depository institutions may engage in. Warren and Cummings, who is the ranking member of the House Oversight and Government Reform Committee, are concerned that Congress lacks information about increased risks to taxpayers arising from the repeal.

"Without this understanding, the country risks moving blindly toward the same financial meltdown that plunged the economy into recession seven years ago," the legislators wrote in letters to the Federal Reserve, Office of the Comptroller of the Currency, FDIC, and CFTC.

The lawmakers said they had previously sought information from Bank of America, JPMorgan Chase, Citibank, and Goldman Sachs, but the banks provided only incomplete information.

Swaps pushout revision. As originally enacted, Section 716 of the Dodd-Frank Act prevented federally insured financial institutions from conducting certain swaps trading, including trading of commodity, equity, and credit derivatives. The prohibition required covered financial institutions to “push out” these types of swaps trades into separately capitalized affiliates. At the time, former Senate Agriculture Committee Chair Blanche Lincoln, the author of the pushout provision, said the aim was to require banks that may be bailed out by taxpayers to stop the riskiest derivatives dealing, which contributed to the 2008 financial crisis and was not central to the business of banking.

In December 2014, as part of the 2015 spending bill (HR 83), the swaps pushout was revised to allow financial institutions with federal deposit insurance to trade commodity and equity derivatives for hedging and other risk mitigation purposes. As a result, the only swaps that covered depository institutions must spin out to separately capitalized entities are structured finance swaps. However, even these swaps do not need to be pushed out if they are undertaken for hedging or risk management purposes or are expressly allowed by prudential regulators to take place in a covered depository institution.

Request for information. Warren and Cummings said the potential impact of the rollback of the swaps pushout was enormous, given the huge amount of swaps transactions ($117 trillion in notional value) and the key role of swaps in exacerbating the financial crisis. Therefore, in January 2015 they requested information from the largest banks affected by the swaps pushout. Among other details, they asked for data on the total value of swaps contracts each institution holds for “hedging” and “risk management” purposes, as well as the total value of swaps transactions each bank would have pushed out under the original Section 716.

The legislators said the banks provided fairly conclusory answers in response, in many instances lacking quantification, though some banks did provide partial data. Several banks said the information was proprietary and they would not provide it due to competitive concerns.

Clearly unhappy with the banks, Warren and Cummings turned to the banking regulators and the CFTC. "We believe that if these banks want continued access to federally insured deposit funds, they must be more transparent about the risks they are taking with that money. If they want to keep secret the risks they are taking, these banks should forfeit access to taxpayer-backed FDIC insurance,” they wrote.

In addition to asking the regulators for the same data they had requested from the banks, Warren and Cummings requested additional information including agency risk assessments and definitions of key terms. They also asked that the regulators evaluate the potential impact of Section 716 on the implementation of Sections 23A and 23B of the Federal Reserve Act, concerning transactions between banks and their affiliates, as well as a forthcoming rule to establish margin requirements for uncleared swaps transactions. The legislators gave a deadline of August 6, 2015 for the response.

No comments: