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Shadow Financial Regulatory Committee Sounds Warnings

By    |   Tuesday, 18 Feb 2014 12:45 PM

On Feb. 10, the Shadow Financial Regulatory Committee, a group of conservative economists sponsored by the American Enterprise Institute that holds quarterly meetings to issue policy statements on important issues related to financial regulation, met and issued three more statements.

The new statements are:

#349 — Data Breaches and Payment System Risks

Robert Eisenbeis, chief monetary economist for Cumberland Advisors, tackled one of most prominent subjects in the financial news, one that has recently been the subject of Senate Banking Committee hearings. However, rather than stress the impact on consumers whose data has been breached, serious as this is, Eisenbeis chose to focus on the implications for the state of the payments system, on which routine commerce depends. (Ironically, the notorious breach at Target was ultimately traced to network credentials from an HVAC contractor that were stolen.)

One of the key deficiencies Eisenbeis identified is the increased reliance on cloud storage, without sufficient data encryption technology to safeguard the data. He cited a recent Verizon Data Solutions survey finding that only 11 percent of nonfinancial firms have installed data security that meets minimum standards, and even these are inadequate to cope with the current state of hacker technology. His overarching concern is that the financial system is vulnerable to breaches that could threaten the solvency of one or more "too big to fail" financial institutions. Therefore, he urged the Financial Stability Oversight Council (FSOC) to address this issue as a risk to the financial system.

#350 — Regulating to Beat the Clock: The Final Implementation of the Volcker Rule

Stanford Law School professor Ken Scott spoke for a quartet of members as the Committee lined up once again with industry opponents to this key provision of the Dodd-Frank Act, which was supposed to prevent banks from engaging in risky trading activities, given that they are backed by the federal safety net. Scott pointed out that the rule is extremely complex and that the proposal was 530 pages long and requested comments on 383 questions.

The Committee also joined the industry in complaining that in their haste to finish the rule by the end of 2013, they had overlooked the effect on banks that in order to comply with accounting rules would have to divest themselves of collateralized debt obligations backed by trust-preferred securities.

I would point out that the complexity of the rule is due to the provision in the rule that trading activities are OK as long as they're done in the name of accommodating customer needs.

#351 — The Arms Race Between Innovation and Regulation in Derivatives Markets

This statement was presented by Ed Kane, a finance professor at Boston College, and it highlighted the roles created under the Dodd-Frank Act for so-called central clearing parties, which are designated as Financial Market Utilities (FMUs) to be subject to heightened supervision by federal financial regulators, because one fact everyone recognized is that when entities are established to clear as many derivatives trades as possible, they will attract a concentration of risk. Thus entities established to make derivatives trading safer, will themselves be a source of risk. The FSOC has designated eight FMUs to receive this attention.

What the Committee has discovered and seeks to sound an alarm over is that the derivatives trading industry, led by the CME Group, is engaging in four identified risky practices that fall under the category not of unintended consequences, but consequences intended by CME and unanticipated by regulators. The common theme is that CME Group is moving activities to venues that are more permissive than the United States.

One point the group did not make is that it is ironic that such an initiative would be taken by CME Group, which enjoys the status of a self-regulatory organization that is counted on to assist the undermanned Commodity Futures Trading Commission in regulating derivatives trading.

(Archived video and copies of the statements can be found here.)

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Robert-Feinberg
On Feb. 10, the Shadow Financial Regulatory Committee, a group of conservative economists sponsored by the American Enterprise Institute that holds quarterly meetings to issue policy statements on important issues related to financial regulation, met and issued three more statements.
FSOC,derivatives,Shadow,Committee
650
2014-45-18
Tuesday, 18 Feb 2014 12:45 PM
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