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Europe moves to ban trading in credit default swaps

By Zachary A. Goldfarb and Steven Mufson
Washington Post Staff Writer
Wednesday, March 10, 2010; A14

Europe moved ahead of the United States on Tuesday in advocating new measures to ban certain types of financial speculation after concerns surfaced that traders used complex financial instruments to push Greece deeper into a fiscal crisis and threaten the European economy.

The European Commission said it would back a proposal to restrict trading in a type of financial instrument, known as a credit default swap, that is linked to the prices of government and corporate debt.

The Obama administration favors more tightly regulating these instruments, also known as derivatives, but has not endorsed any ban on trading them. Gary Gensler, chairman of the Commodity Futures Trading Commission, in a Tuesday speech pointed to Greece's troubles as a reason for new regulation. But neither Gensler nor the Obama administration went as far as European officials who proposed a ban on trading in credit-default swaps linked to national debt.

The differing approaches to regulation come as officials in the United States and Europe seek to learn whether hedge funds and investment banks manipulated obscure financial markets to hurt Europe's economy -- by driving down the value of the euro and deepening Greece's financial woes.

The Justice Department is examining whether several prominent U.S. hedge funds conspired to send the euro plunging over the past few weeks, according to a source familiar with the matter.

Meanwhile, federal regulators have said they are looking into two additional matters: whether banks helped create derivatives that would allow Greece to mask its debt and whether firms used sophisticated trading techniques to push down the value of Greek bonds and profit in the process.

The inquiries underscore how a lack of regulation over the past decade has left U.S. and European officials with few tools to stop potential wrongdoing in complex financial markets -- and the staggering implications this could have for countries and continents.

Neither hedge funds nor derivatives, for instance, are regulated in the United States, making the job of investigators all the more difficult.

"If derivatives had to be traded on exchanges, you'd have records of how these transactions happened. If hedge funds had to make filings of their holdings, there'd be some record. But if you don't have either one, that's a real challenge," said Bruce Baird, who formerly led the white-collar-crime unit in Manhattan for the Justice Department. "That's a very, very long road" to find evidence of wrongdoing.

Call to arms

Greek Prime Minister George Papandreou visited Washington on Tuesday as part of a tour to boost confidence in Greece's economy and attract capital at cheaper rates. At a meeting with President Obama, he warned that the United States must aggressively join Europe in stopping excessive speculation.

"Europe and America must say 'enough is enough' to those speculators who only place value on immediate returns, with utter disregard for the consequences on the larger economic system," he said. "An ongoing euro crisis could cause a domino effect, driving up borrowing costs for other countries with large deficits and causing volatility in bond and currency rates across the world."

But Papandreou also said he wouldn't seek financial support from the United States. A White House spokesman made clear that no support would be forthcoming.

In an interview, Greek Finance Minister George Papaconstantinou said speculation has worsened his country's troubles. "We're not saying that all the problems in Greece are due to this, but they've aggravated a difficult situation, causing us to come to the brink," he said.

The finance minister met with officials from the International Monetary Fund and U.S. Treasury Secretary Timothy F. Geithner, but he reiterated that Greece wasn't seeking financial aid or loans. He said he was asking the IMF for technical support on budget and tax issues, and he added that the Greek government was taking tough measures at home.

Papaconstantinou said that Greece needs to raise about $30 billion by the end of May, mostly to roll over debts coming due. He said "we are not pre-announcing when or what kind of form that will take because markets are quite volatile."

Outside analysts cautioned that despite the concerns, Greece would probably make it through.

"I think this government has inherited a difficult situation," said John Chambers, head of Standard & Poor's sovereign ratings committee. "I think that the measures that the Greek government has announced over the last several months will put them well on their way to the 8.7 percent GDP fiscal deficit target for 2010."

A Greek lesson

S&P has a BBB+ rating with a negative credit watch on Greece's debt. Chambers said, "If we thought they were going to default on their debt we wouldn't have them in investment grade."

Some U.S. regulators are using Europe's troubles to underscore the need for regulatory reform in the United States. Derivatives legislation has passed the House, but work still remains in the Senate.

"The recent chill winds blowing through Europe, including the discovery that derivatives were used to help mask Greece's fiscal health, are reminders of the pressing need for comprehensive regulation," Gensler said Tuesday. "The 2008 financial crisis demonstrated how over-the-counter derivatives -- initially developed to help manage and lower risk -- can actually concentrate and heighten risk in the economy."

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