The
broad definition of US person in the CFTC’s proposed guidance on cross-border
application of the Dodd-Frank derivatives provisions poses a significant risk
of the duplication of US regulatory requirements with those of the EU, said the
European Commission in a letter to the
CFTC. For example, under the guidance, an EU dealer could be subject for the
same trade to both EU and CFTC regulations, and a collective investment vehicle
managed from the EU, but with a majority ownership by US persons, would be
subject to regulations in the EU and Dodd-Frank in the US
Further,
while the doctrine of substituted compliance set forth in the guidance is
similar to the EU equivalence approach, a decision by the CFTC determining
substitute compliance will not apply to jurisdictions, which is the case under
the European Market Infrastructure Regulation (EMIR),
but only to specific firms and can be withdrawn from a firm at any time. The
Commission urged the CFTC to adopt a similar approach to that of the EU based
on the recognition of equivalent jurisdictions and not of individual firms.
According to the Commission, the approach taken in the proposed guidance would
introduce legal uncertainty and higher monitoring costs for EU firms than for
US firms that might benefit from an EU equivalence decision. Moreover, the
application of substituted compliance on a firm-by-firm basis could lead to
different and even discriminatory treatment between firms and jurisdictions.
The guidance introduces the
concept of substituted compliance under which, as recently explained by Chairman
Gensler at Senate Ag Committee hearings, the CFTC would defer to
comparable and comprehensive foreign regulations. The CFTC proposes
to permit a non-U.S. swap dealer or non-U.S. major swap participant, once
registered with the Commission, to comply with a substituted compliance regime
under certain circumstances. Substituted compliance means that a non-U.S. swap
dealer or non-U.S. major swap participant is permitted to conduct business by
complying with its home regulations, without additional requirements under the
Commodity Exchange Act.
Wider
application of substituted compliance by the CFTC will be an important
consideration in an EU equivalence determination, said the Commission. An
equivalence decision that an EU firm may be subject to US regulations and still
meet the requirements of EU legislation because US regulations are equivalent
is a direct and powerful tool to avoid subjecting EU and US firms to
duplicative margin and central clearing requirements.
The
application of multiple regulation sets to the same derivatives transaction
would have profoundly negative effects, warned the Commission, including
regulatory arbitrage and the undermining of the G-20 goal of financial
stability. An equivalence decision can avoid these negatives, said the
Commission, but only if US and other third-country regulations are applied in
an efficient and non-distortive manner. If such cannot be determined, and US
regulations are considered to result in an unbalanced state of affairs creating
discriminatory treatment between two jurisdictions, the Commission said that it
would not be able to grant equivalence.
The
Commission also noted a requirement in EMIR for a regulation specifying which
transactions between non-EU firms have a direct, significant and foreseeable
effect on the EU. There are strong similarities between the potential scope of
this regulation, said the Commission, and Section 722(d) of Dodd-Frank. If the
EU were to adopt a rule with the same scope as the CFTC proposes in its
guidance, said the Commission, swaps between two US affiliates of EU firms
would be subject to EMIR, thus leading to the application of multiple
regulations to US firms.
In
any event, said the Commission, a system of substituted compliance or
equivalence will require close cooperation between regulators and necessitate
the need for an MOU to establish clear rules and obligations. The Commission
stands ready to facilitate a common framework.