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Doctor O’Malia’s Market Medicine

The always-quotable CFTC Commissioner Scott O’Malia took a leaf from Hippocrates in a recent speech subtitled “Regulators must first do no harm”. His prescriptions for the contagions of market fragmentation, fractured liquidity and parasitical arbitrage, all consequent upon regulatory divergence, are as follows:

The Cure Should Not Be Worse than the Disease: Fixing Unworkable Rules. Iatrogenic rules should be re-examined, citing the extension of the swap dealer definition which ignores the D_F mandate to exclude end-users. He welcomes the reforms proposed by the HR 4413 re-authorisation bill, emphasising focus on customer protection, end-user relief, cost-benefit analysis and increased transparency and public participation.

A Holistic Approach: Substituted Compliance and Mutual Recognition. An unequivocal warning of the imminent danger in the US-EU CCP stand-off,

“Without recognition, third country CCPs will not qualify as Qualifying CCPs (QCCPs) for purposes of the Basel III risk-weighting approach for banking institutions.

If this happens, it would be cost-prohibitive for EU banks to clear through third country CCPs. U.S. CCPs will be unable to maintain direct clearing member relationships with EU firms and would be ineligible to clear contracts subject to the EU clearing mandate next year. “

A plea for data sharing and harmonisation,

“Both the U.S. and EU should continue to engage in discussions to recognize each other’s swap trade repositories and develop a means to share the data, as well as collaborate to harmonize both the form and format of the data being reported…By adhering to a policy of substituted compliance or mutual recognition, market regulators can prevent artificial incentives like regulatory arbitrage from disrupting the global financial markets.”

Finding the Silver Bullet: Investing in Technology. “The Commission’s inadequate support for technology has left the CFTC with diminished automated surveillance capacity and an inability to manage the regulatory data stored in SDRs…The CFTC receives transaction data on a daily basis and doesn’t collect roughly 90 percent of all market activity…As chair of the TAC, I have made it a priority to find the next best thing to a silver bullet for systemic risk and fraud, manipulation, and abuse in our markets”.

A recognition of regulatory overreach, the pressing need for international amity and investment in technology- Commissioner O’Malia’s well-worn groove is in danger of becoming a rut. He is forced to rephrase the same themes until they show the first signs of progress. HR 4413 is unlikely to pass its Senate stage, even in its most wishful formulation it contains scant provision for increased technology funding. Aside from the uninspiring US-EU joint statement, the “Path Forward” seems to be turning into a rocky trail. “First do no harm” is a principle for a basically well patient, some may think that more radical regulatory surgery is required.

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