Proposed legislation to regulate the $450 trillion privately-traded derivatives markets in the U.S. may allow regulators in the country to extend influence beyond their own borders, by setting capital levels for international banks in their home countries.
U.S. lawmakers are developing rules to bring derivatives under the purview of regulators, move the majority of the market to central counterparties and set capital requirements for large market participants.
The moves come amid global efforts to reduce risk in the markets after credit default swaps, a type of derivative, were blamed for helping spread risk from residential mortgages that led to insurer American International Group needing a government bailout.
Some of the regulatory bills being proposed in the United States, however, have raised concerns among international banks they could allow U.S. regulators to impose capital requirements on European banks that operate in the country, on top of rules planned for the continent.
"The potential extra-territorial effect of this legislation has been an industry concern," said Paul Forrester, partner at law firm Mayer Brown in Chicago.
International banks and industry groups want terms to be included in the legislation that would exempt overseas banks that are subject to comparable capital requirements in their home jurisdictions from also needing to meet U.S. rules.
"Broker dealers are likely to face additional capital requirements for bilaterally-cleared OTC contacts according to European rules, so we want to avoid that they face further requirements on top of that in the United States," said Enrique Velazquez, senior adviser for financial markets and banking issues at the European Banking Federation in Brussels.
"Derivatives markets are global," he said. "The goal is to ensure that there is as much convergence as possible between what happens here and what happens in the U.S."
The European Commission in October laid out plans to regulate derivatives, including requiring that large financial firms hold more collateral against trades.
With this and other regulatory efforts in the works, international banks are lobbying for U.S. legislation to exempt firms subject to other regimes.
"We understand there are helpful amendments under consideration that would address concerns about the extraterritorial reach of the OTC derivatives legislation by clarifying that the legislation generally does not apply to transactions outside the United States involving only non-U.S. persons," said Lawrence Uhlick, Chief Executive Officer at the Institute of International Bankers.
"We also understand that consideration is being given to the circumstances under which exemptive relief might be provided in other cases," he said.
The House of Representatives last week approved a bill to regulate derivatives that merged parts of competing bills proposed by the Financial Services Committee, which is chaired by Barney Frank, and the Agriculture Committee, which is chaired by Collin Peterson.
The bill will now shift to the Senate, where Banking Committee Chairman Christopher Dodd has also introduced a bill and Agriculture Committee Chairman Blanche Lincoln is working on one of her own.
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