The House Capital Markets Subcommittee approved bi-partisan legislation repealing the swap push out provisions of Section 716 of the Dodd-Frank Act requiring depository institutions to conduct derivatives trades through an affiliate. HR 1838, sponsored by Rep. Nan Hayworth (R-NY) would repeal provisions requiring banks to separate and segregate portions of their derivative businesses.
Rep. Hayworth said that the legislation is needed because, under current Section 716, regulatory arbitrage is quite possible putting the US at competitive disadvantage. An amendment proposed by Rep. Hayworth preserving Section 716(i) was approved by the subcommittee by a voice vote. According to Rep. Hayworth the amendment retains prohibitions on bailouts and prevents the use of taxpayer funds for swap activities. Section 716(i) provides that no taxpayer funds can be used to prevent the receivership of any swap entity resulting from swap or security-based swap activity of the swap entity.
In earlier testimony, ISDA found it difficult to see how Section 716 reduces systemic risk. This is particularly true given that firms face regulatory reporting requirements for all transactions, including transactions exempt from and covered by Section 716.
Such regulatory reporting will help to ensure that exposures can not build up unnoticed in the financial system. Separately, forcing the derivatives business outside of the better-capitalized, better-regulated bank into new stand alone subsidiaries could actually increase risk to the system, said ISDA. Section 716 will also increase risk as it leads to greater inefficiencies and the loss of exposure netting as it requires firms to conduct swaps across multiple legal entities.
The American Bankers Association has long argued that Section 716 would significantly impact the ability of regional and community banks to manage interest rate risk and that it would diminish their ability to provide long-term fixed rate loans to small business customers.