Testimony of Acting Chairman David D. Spears before the Subcommittee on Risk Management, Research and Specialty Crops, Committee on Agriculture, U.S. House of Representatives
August 5, 1999
Mr. Chairman and Members of the Subcommittee, I am pleased to appear today on behalf of the Commodity Futures Trading Commission to testify regarding the competitive concerns of United States ("U.S.") futures exchanges, as expressed most recently in the June 25, 1999, joint petition by the Chicago Board of Trade, the Chicago Mercantile Exchange, and the New York Mercantile Exchange ("the Exchanges"). That petition requested an exemption from certain statutory and regulatory requirements for all boards of trade that have been designated by the Commission as contract markets. According to the Exchanges, the petition was filed in response to the Commission's June 2, 1999, Order, which withdrew the Commission's proposed rules governing the use of automated trading systems in the U.S. by foreign boards of trade. This Order also directed our Division of Trading and Markets to begin immediately processing on an interim basis no-action requests from foreign boards of trade seeking to place trading terminals in the U.S. The Order also committed the Commission "to simultaneously initiat[ing] processes to address the comparative regulatory levels between U.S. and foreign electronic trading systems so as not to provide one with a competitive advantage."
The Exchanges state that their petition for exemptive relief should be granted in order to avoid unfair competition from foreign exchanges that have been or will be permitted to establish automated trading systems in the U.S. Since these foreign exchanges will not be required to obtain Commission designation as contract markets in order to operate in the U.S., the Exchanges contend that foreign exchanges will not be subject to the same statutory and regulatory requirements that apply to the U.S. exchanges. Through their petition, the Exchanges are seeking the ability to respond, without delay, to any new contract, contract amendment, advantageous trading practice or less costly regulatory measure offered or likely to be offered by foreign exchanges through their U.S.-based trading terminals.
At the outset, let me say that the Commission is firmly committed to addressing the competitive concerns of U.S. futures exchanges. Ensuring the global competitiveness of the U.S. futures industry in general, and U.S. futures exchanges in particular, is a paramount concern of the Commission. Staff intends to circulate to the Commission the Notice of Petition for Exemption and Request for Comment within the next several days with an eye toward prompt publication in the Federal Register. I should add that the Exchanges’ petition is in part similar to a number of resolutions debated and passed at a July 8, 1999, meeting of our Global Markets Advisory Committee ("GMAC"), Ad Hoc Committee on Regulatory Parity. On July 21, 1999, the GMAC discussed the Ad Hoc Committee’s resolutions.
Even before the Exchanges’ petition was filed, the Commission began to address a central concern raised by that petition, i.e., the ability to list contracts for trading on a more expedited basis. On July 27, l999, the Commission proposed a two-year pilot program to permit the immediate listing of certain new contracts for trading for a specified period of time prior to Commission approval. This procedure would establish a method for the Commission's review of new contracts while preserving the public's opportunity to comment on them, and providing U.S. contract markets flexibility in responding expeditiously to the competitive challenges of the global marketplace. Indeed, only last week, the Exchanges issued a joint statement commending the Commission for this initial action.
This most recent action is consistent with a long line of Commission actions since 1997 streamlining the contract approval process. For example, in April of 1997, the Commission implemented new fast-track procedures relating to the review and approval of applications for contract market designation. In addition, the Commission has periodically revised its Guideline on Economic and Public Interest Requirements for Contract Market Designation, which provides guidance to U.S. exchanges in meeting the statutory requirements for contract market designation.
Before I discuss some of the regulatory issues raised by the Exchanges' petition, I also believe that it is important to address some of the assumptions underlying their requests.
First, the petition assumes that foreign exchanges will be permitted unlimited access to the U.S. without having to be designated as contract markets under the Commodity Exchange Act ("Act"). In fact, the no-action relief scheme constructed for foreign exchanges is based upon the presumption that the foreign exchanges are seeking only limited access to the U.S. markets. For example, under present no-action relief afforded Eurex, less than 5 % of its volume is generated through terminals in the U.S. and it otherwise has very limited contacts to the U.S. The Division of Trading and Markets ("T&M") has found that the limited entry of these foreign exchanges does not necessitate full fledged U.S. contract market regulatory treatment because these exchanges are otherwise competently regulated by their own home regulators. So, for example, when T&M recently granted a no-action request from the London International Financial Futures and Option Exchange ("LIFFE") to make its electronic trading system available in the U.S., it imposed over four pages of conditions that, among other things, require LIFFE to adhere to regular periodic reporting requirements apprising the Commission of its contacts in the U.S. To the extent that LIFFE substantially increases the quantity or modifies the nature of its contacts within the U.S., the Commission has the discretion to re-examine the relief granted to LIFFE and even require it to become designated as a contract market under Section 5 of the Act.
Second, a careful analysis of the major foreign regulatory regimes suggests that the international playing field may not be as uneven as is sometimes thought. For example, as indicated in an attached survey by the Commission’s Office of International Affairs ("OIA"), while it is true that in the United Kingdom ("U.K.") contracts are not required to be presubmitted to the regulator, in fact, U.K. authorities have advised that most contracts are submitted in advance and are closely examined by the U.K. Financial Services Authority. In Germany, while the exchange "admits" contracts to trading, standard conditions of these contracts must be in accordance with exchange rules approved in advance by the relevant regulator. The OIA survey describes the relevant provisions of foreign regulatory systems in greater detail.
Third, the Commission, when addressing the legitimate competitive concerns of the Exchanges, is also required by statute to recognize the general public interest in futures markets and the needs of market users, including futures commission merchants and other Commission registrants, who act as intermediaries between customers and the exchanges, and the customers themselves. Those customers, in turn, range from pension funds and other large institutional investors to small country grain elevators and individual investors. Before the Commission can act on the claims made by the Exchanges in their petition, it must hear from all members of the interested public through the comments on the petition. This latter point is noteworthy because, during public meetings relating to this issue, important elements of our regulated community have expressed concerns about some of the points raised by the Exchanges’ petition. Indeed, some have expressed a keen desire to have free and open U.S. customer access to foreign boards of trade. The need for free and open U.S. customer access to foreign boards of trade evidences the globalization of all futures exchanges, both foreign and domestic. Consistent with this trend, U.S. futures exchanges currently have over 125 trading terminals operating in seven foreign jurisdictions.
Finally, but certainly not least, the Commission recognizes the role of Congress in regulatory relief issues. Some of the Exchanges’ suggestions for regulatory change may very well relate to fundamental customer protection and market integrity measures that have formed the cornerstone of U.S. futures regulation for decades. The Commission believes those protections should not be weakened or withdrawn absent a determination by Congress to change the Commission's statutory mandate.
Two additional issues raised in the petition include requests for relief from the Commission’s large trader reporting requirements and the procedures for the prior review of exchange rule changes. Another issue raised by the petition is a proposal that would reduce U.S. regulatory protection to the lowest level of regulation offered by any jurisdiction gaining access to U.S. markets when trading contracts that clone domestically-traded products. In effect, a U.S. contract market could select the least restrictive elements from various regulatory systems around the world and create a single regulatory patchwork that would embody the least restrictive regulatory standards of all of the major foreign financial regulators.
The Commission looks forward to receiving comments on these and all the other issues raised in the Exchanges' petition and believes it is important to reserve judgement on these issues until it has heard from the entire regulatory community through the public comment process.
Conclusion
I want to emphasize that the Commission stands ready to cooperate with Congress throughout the reauthorization process, and to work closely with the industry to resolve this and all issues that may arise during that process.