The House Financial Services Committee approved legislation
requiring the Financial Stability Oversight Council (FSOC) to conduct a study
and report to Congress on the likely effects that differences between the U.S.
and other jurisdictions in implementing the derivatives credit valuation
adjustment capital requirement would have on United States financial
institutions that conduct derivatives transactions and participate in
derivatives markets. The study would also be required to examine the impact on
end users of derivatives and on the international derivatives markets. According
to Rep. Stephen Fincher (R-Tenn), the sponsor of the bill, the Financial
Competitive Act, H.R. 1341, is needed because of the potential negative impact
of Basel III on the U.S. economy.
FSOC study. Specifically, H.R. 1341 requires that the FSOC
study include an assessment of the extent to which there are differences in the
approaches that the United States and other jurisdictions are taking regarding
implementation of the derivatives credit valuation adjustment capital
requirement, and the nature of the differences and the impact that the
differences would have on U.S. financial institutions that conduct derivatives
transactions and participate in derivatives markets, including their ability to
serve end users of derivatives.
The study must examine pricing and other costs of, and services
available to, end users of derivatives in the United States and other
jurisdictions, as well as the competitiveness of U.S. financial institutions and
derivatives markets, including the extent to which differences in the credit
valuation adjustment capital requirement could shift derivatives business among
jurisdictions. The study must also explore the interaction between differing
credit valuation adjustment capital requirements and margin rules.
The FSOC study must recommend steps that Congress and the federal
financial regulatory agencies that compose FSOC, including the SEC and CFTC,
should take to minimize any expected negative effects on U.S. financial
institutions, derivatives markets, and end users. The study must also make
recommendations encouraging greater global consistency in the implementation of
internationally agreed upon capital, liquidity, and other prudential
standards.
Rep. David Scott (D-Ga), a co-sponsor of the legislation, noted that
certainty and uniformity are needed on the calculation of the derivatives credit
valuation adjustment as it relates to Basel III capital requirements. Ranking
Member Maxine Waters (D-Cal), in supporting H.R. 1341, observed that regulators
must ensure that the calculation of the derivatives credit valuation adjustment
is uniform and does not disadvantage U.S. financial institutions.
The Committee approved an amendment sponsored by Rep. Joyce Beatty
(D-Ohio) that clarifies that the study must also indentify any risks and threats
to financial stability, thereby recognizing FSOC’s mandate to maintain oversight
of financial stability. The FSOC study must consider the cost of failing to take
regulatory action as well as the cost of taking regulatory action. According to
Ranking Member Waters, the amendment requires the FSOC study to report on the
impact not just on derivatives markets but also on the wider markets as well.
E.U. Directive. The European Union is currently finalizing
its implementation of Basel III, known as the Capital Requirements Directive IV
(CRD IV). As drafted, CRD IV would exempt E.U. supervised swap dealers from
certain Basel III capital mandates, specifically the credit valuation
adjustment, when doing business with non-financial end users, pension funds, and
sovereign entities. The securities industry finds the CRD IV exemption troubling
in that it is a diversion from a uniform application of capital standards and
will result in an unlevel playing field for U.S. and other non-E.U. dealers.
Thus, the securities industry supports H.R. 1341 as part of an
effort to promote consistent international standards that provide a level
playing field, while avoiding market distortions.
Rep. Fincher noted that Canada recently announced a one-year delay
of the derivatives credit valuation adjustment, despite having finalized the
rest of Basel III, citing the uncertainty around the provision’s global
implementation and its effect on non-financial entities.
A Committee staff memorandum issued in connection with the markup
noted that the E.U. exemption for derivatives transactions with sovereign,
pension fund, and corporate counterparties has raised concerns that derivatives
transactions will be subject to different capital requirements and that the
credit valuation adjustment could distort the pricing of trades and limit the
amount of liquidity available for non-financial U.S. derivatives end-users, as
their transactions would not receive the exemption.
The FSOC study is due within 90 days of enactment to the Chairman
and Ranking Members of the Committees on Agriculture and Financial Services of
the House of Representatives, as well as the Chairman and Ranking Members of the
Senate Committees on Agriculture and Banking.