Lawmakers revisit derivatives regulation

By Brady Dennis
Washington Post Staff Writer
Friday, April 2, 2010

Lawmakers on the Senate Agriculture Committee are crafting new rules to oversee the vast, unregulated derivatives market, legislation that could become a central element of a larger regulatory overhaul effort currently headed to the Senate floor.

Committee Chairman Blanche Lincoln (D-Ark.) and ranking Republican Saxby Chambliss (Ga.) plan to shepherd a bipartisan bill through their committee soon after Congress returns from its two-week April recess. Lincoln said in a recent speech that she expects the legislation to be incorporated into a wide-ranging package, spearheaded by the Senate banking committee's chairman, Christopher J. Dodd (D-Conn.), aimed at revamping the nation's financial regulatory system.

The Lincoln-Chambliss effort is significant because the two senators on the banking committee whom Dodd had assigned to tackle derivatives oversight, Jack Reed (D-R.I.) and Judd Gregg (R-N.H.), spent months working through the details but recently reached an impasse in their negotiations. The massive bill that recently passed Dodd's committee on a party-line vote includes placeholder language on derivatives from an earlier draft.

If Lincoln and Chambliss strike a workable bipartisan deal on derivatives -- a goal that has eluded other lawmakers -- it could help push Dodd's legislation across the finish line. At the same time, some industry officials, who spoke on the condition of anonymity because they continue to lobby lawmakers on the issue, said they expect that legislation headed up by Lincoln could be more favorable to the financial industry than the language currently in Dodd's bill.

The huge financial derivatives market has roots in the trading of certain commodities, such as wheat and cotton. The federal regulator of that trading, the Commodity Futures Trading Commission, traditionally has been overseen by the agriculture committees in the Senate and the House. Efforts to overhaul financial regulation have highlighted the tensions that exist when the interests of congressional committees overlap.

The fight over how to regulate derivatives, while complicated and largely overlooked by the general public, lies at the heart of efforts to transform how Washington oversees Wall Street. Before the financial crisis, trading in derivatives -- securities that derive their value from underlying assets, such as stocks, bonds and commodities -- ballooned into a sprawling but largely unmonitored global market, accounting on paper for trillions of dollars in deals.

Known as the "shadow market," it allowed unregulated traders around the world to speculate on a vast array of things, such as how much companies pay to borrow money and the values of currencies and goods such as oil and cotton. Ultimately, the derivatives trade magnified the financial crisis by forcing companies to record bigger losses as markets collapsed. It contributed to the troubles of such financial giants as American International Group.

The ensuing debate about how to make the derivatives market more transparent and less combustible remains the focus of intense lobbying on Capitol Hill.

Dodd's bill, which currently includes tough derivatives language crafted in part by Treasury officials, would force most financial companies to trade derivatives on public exchanges and submit deals to central clearinghouses for the first time; previously such transactions were carried out in secret, outside the purview of regulators. The companies also would have to raise enough capital to prove they could cover unexpected losses.

In a recent speech at the U.S. Chamber of Commerce, Lincoln, who is facing a tough reelection campaign, spoke about her priorities in crafting the derivatives legislation.

She said she supports transparency in the derivatives market and requiring clearinghouses to approve and back most deals to guard against systemic risk. But she also said she would try to avoid duplicative regulation.

"The swaps market will be regulated, but let me say this," Lincoln said. "I don't believe in overreaching or regulation for regulation's sake. We must be surgical with how we regulate."

Staff writer David Cho contributed to this report.

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