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As the House and Senate enter a conference to reconcile their different financial reform bills (HR 4173 and S 3217), it is clear that the different derivative regulations may pose more of a threat to economic prosperity than had previously been suspected.

  • Both bills agree that the vast majority of swap derivative contracts should be traded and cleared on public exchanges, as opposed to through private over-the-counter negotiations between large firms
  • The House bill would offer exemptions to a wide variety of end-user corporations like agribusiness, airlines, industrial manufacturers, auto dealers, and others
  • The Senate version limits the pool of those who can avoid the onerous regulation to a much smaller group
  • Likewise, both bills would subject this new exchange to more regulatory oversight, and the House specifies the SEC and the CFTC as the organizations to exercise that authority, which already adds an unnecessary and burdensome compliance cost
  • Given the type of investors who deploy these complex strategies, these regulatory structures add no additional expertise or scrutiny

The crucial difference between the two bills is Sen. Lincoln’s (D-Ark.) amendment 3739 which creates Section 716. This section would require that all federally-insured banks spin-off their swap trading desks at an initial cost of billions to the firms hardest hit by the collapse. Their economic hit continues for years because of the billions in lost revenue.

As Mike Cavanagh, chief financial officer of JPMorgan Chase explains, “The net result is going to be a shift in the competitive balance in favor of international banks and unregulated entities, which would be very detrimental to the U.S. banking system and economy.”

The derivatives themselves did not lead to the mortgage crisis. Firms used them to hedge against the risk that they were assuming, but because that risk was underestimated as a result of implicit government guarantees, the swaps became liabilities instead of hedges.

Lincoln’s amendment to require spinoffs would slash profits by up to 30% at leading firms pushes capital offshore while preventing domestic firms from hedging risk. Plus, the spin-off would close the credit markets even further as companies decrease lending to prevent exposure to new risk even as profits have just been radically curtailed.

Rep. Barney Frank said about two weeks ago, “I don't see the need for a separate rule regarding derivatives because the restriction on banks engaging in proprietary activities would apply to derivatives as well as everything else.” Now that Lincoln won her primary challenge, Dodd told reporters that is “a strong provision in the bill,” and that, “I think she’s on the right track,” whereas he was trying to soften it only weeks ago.

This proposal does nothing but further hurt American banks, push finance further offshore, and decrease the availability of credit to small businesses and consumers – lawmakers should do everything possible to remove it.