Promoting Job Creation and Reducing Small Business Burdens Actby Representative K. Michael Conaway
Posted on 2015-01-07
CONAWAY. I thank my colleague from Pennsylvania for allowing me
to speak on his bill.
Mr. Speaker, I rise today in support of H.R. 37, the Promoting Job Creation and Reducing Small Business Burdens Act.
I am especially proud of and would like to highlight the past work of the Agriculture Committee on the three titles of this bill under its jurisdiction: the Business Risk Mitigation and Price Stabilization Act; a provision on the treatment of affiliate transactions; and a provision regarding swap data repository and clearinghouse indemnification correction.
As I noted in the debate earlier today on TRIA, the Business Risk Mitigation and Price Stabilization Act is legislation to clarify Congress' intent to exempt non-financial businesses from a misguided regulatory requirement to post margin requirements on their hedging activities. Clearing and margining, while appropriate for some transactions, are not appropriate for end users hedging real-world commercial risks. Their hedging activities are not large enough to present a systemic risk, and a margin requirement represents a significant and needless expense with little value to the overall financial system.
Title I puts in statute protections for American businesses. To grow our economy, businesses should use their scarce capital to buy new equipment, to hire more workers, to build new facilities, and to invest in the future. They cannot do that if they are required to hold money in margin accounts to fulfill a misguided regulation.
Similarly, title II, regarding the treatment of interaffiliate transactions, was also passed by the House multiple times in the 113th Congress, and it will provide additional certainty to American businesses. It will do so by preventing the redundant regulation of harmless interaffiliate transactions that would unnecessarily tie up the working capital of companies, with no added protections for the market or benefits to our consumers. Today, businesses across the Nation rely on the ability to centralize their hedging activities. This consolidation of a hedging portfolio across a corporate group allows businesses to reduce costs, to simplify their financial dealings, and to reduce their counterparty credit risk. Title II of this bill will allow American businesses to continue utilizing this efficient, time- tested model.
Finally, title V of H.R. 37 provides much-needed corrections to the swap data repository and clearinghouse indemnification requirements of Dodd-Frank. Currently, Dodd-Frank requires a foreign regulator requesting information from a U.S. swap data repository or derivatives clearing organization to provide a written agreement stating it will abide by certain confidentiality requirements and will indemnify the U.S. Commissions for any expenses arising from litigation relating to the request for that information.
The concept of indemnification--requiring a party to contractually agree to pay for another party's possible litigation expenses--is established within U.S. tort law and does not exist in many foreign jurisdictions. Thus, it is not possible for some foreign regulators to agree to these indemnification requirements. This requirement threatens to make data-sharing arrangements with foreign regulators unworkable.
H.R. 37 mitigates this problem by simply removing the indemnification provisions in Dodd-Frank while maintaining the prerequisite written agreement requiring certain confidentiality obligations will be met. So, rather than stripping down Dodd-Frank, as we are so often accused of doing, this change would actually serve to enhance market transparency and risk mitigation by ensuring that regulators and market participants have access to a global set of swap market data.
As chairman of the House Committee on Agriculture and as a cosponsor of each of these three bills in the 113th Congress, I appreciate Mr. Fitzpatrick's work in bringing these provisions together in a package that reduces the regulatory burdens and that promotes economic growth. I strongly urge my colleagues to support the legislation.
[[Page H77]] House of Representatives, Committee on Agriculture, Washington, DC, January 7, 2015.
Mr. Speaker: I am pleased to see three bills that the House Committee on Agriculture passed in the 113th Congress included as Titles I, II, and V of H.R. 37, ``Promoting Job Creation and Reducing Small Business Burdens Act.'' H.R. 634, H.R. 5471, and H.R. 742, which were also included as Subtitles A, B, and C of Title III of H.R. 4413, ``Customer Protection and End-User Relief Act,'' from the 113th Congress, provide important protections to end-users from costly margining requirements and needless regulatory burdens; as well as correct an unworkable provision in Dodd- Frank which required foreign regulators to break their local laws in order to access the market data they needed to enforce their laws.
In support of these titles, I would like to request that the pertinent portions of the Committee on Agriculture report to accompany H.R. 4413 in the 113th Congress be included in the appropriate place in the Congressional Record.
Sincerely, K. Michael Conaway, Chairman.
____ Title 3--End-User Relief subtitle A--end-user exemption from margin requirements Section 311--End-user margin requirements Section 311 amends Section 4s(e) of the Commodity Exchange Act (CEA) as added by Section 731 of the Dodd-Frank Act to provide an explicit exemption from margin requirements for swap transactions involving end-users that qualify for the clearing exception under 2(h)(7)(A).
``End-users'' are thousands of companies across the United States who utilize derivatives to hedge risks associated with their day-to-day operations, such as fluctuations in the prices of raw materials. Because these businesses do not pose systemic risk, Congress intended that the Dodd-Frank Act provide certain exemptions for end-users to ensure they were not unduly burdened by new margin and capital requirements associated with their derivatives trades that would hamper their ability to expand and create jobs.
Indeed, Title VII of the Dodd-Frank Act includes an exemption for non-financial end-users from centrally clearing their derivatives trades. This exemption permits end-users to continue trading directly with a counterparty, (also known as trading ``bilaterally,'' or over-the-counter (OTC)) which means their swaps are negotiated privately between two parties and they are not executed and cleared using an exchange or clearinghouse. Generally, it is common for non- financial end-users, such as manufacturers, to avoid posting cash margin for their OTC derivative trades. End-users generally will not post margin because they are able to negotiate such terms with their counterparties due to the strength of their own balance sheet or by posting non-cash collateral, such as physical property. End-users typically seek to preserve their cash and liquid assets for reinvestment in their businesses. In recognition of this common practice, the Dodd-Frank Act included an exemption from margin requirements for end-users for OTC trades.
Section 731 of the Dodd-Frank Act (and Section 764 with respect to security-based swaps) requires margin requirements be applied to swap dealers and major swap participants for swaps that are not centrally cleared. For swap dealers and major swap participants that are banks, the prudential banking regulators (such as the Federal Reserve or Federal Deposit Insurance Corporation) are required to set the margin requirements. For swap dealers and major swap participants that are not banks, the CFTC is required to set the margin requirements. Both the CFTC and the banking regulators have issued their own rule proposals establishing margin requirements pursuant to Section 731.
Following the enactment of the Dodd-Frank Act in July of 2010, uncertainty arose regarding whether this provision permitted the regulators to impose margin requirements on swap dealers when they trade with end-users, which could then result in either a direct or indirect margin requirement on end-users. Subsequently, Senators Blanche Lincoln and Chris Dodd sent a letter to then-Chairmen Barney Frank and Collin Peterson on June 30, 2010, to set forth and clarify congressional intent, stating: The legislation does not authorize the regulators to impose margin on end-users, those exempt entities that use swaps to hedge or mitigate commercial risk. If regulators raise the costs of end-user transactions, they may create more risk. It is imperative that the regulators do not unnecessarily divert working capital from our economy into margin accounts, in a way that would discourage hedging by end-users or impair economic growth.
In addition, statements in the legislative history of section 731 (and Section 764) suggests that Congress did not intend, in enacting this section, to impose margin requirements on nonfinancial end-users engaged in hedging activities, even in cases where they entered into swaps with swap entities.
In the CFTC's proposed rule on margin, it does not require margin for un-cleared swaps when non-bank swap dealers transact with non-financial end-users. However, the prudential banking regulators proposed rules would require margin be posted by non-financial end-users above certain established thresholds when they trade with swap dealers that are banks. Many of end-users' transactions occur with swap dealers that are banks, so the banking regulators' proposed rule is most relevant, and therefore of most concern, to end- users.
By the prudential banking regulators' own terms, their proposal to require margin stems directly from what they view to be a legal obligation under Title VII. The plain language of section 731 provides that the Agencies adopt rules for covered swap entities imposing margin requirements on all non-cleared swaps. Despite clear congressional intent, those sections do not, by their terms, exclude a swap with a counterparty, that is a commercial end-user. By providing an explicit exemption under Title VII through enactment of this provision, the prudential regulators will no longer have a perceived legal obligation, and the congressional intent they acknowledge in their proposed rule will be implemented.
The Committee notes that in September of 2013, the International Organization of Securities Commissions (IOSCO) and the Bank of International Settlements published their final recommendations for margin requirements for uncleared derivatives. Representatives from a number of U.S. regulators, including the CFTC and the Board of Governors of the Federal Reserve participated in the development of those margin requirements, which are intended to set baseline international standards for margin requirements. It is the intent of the Committee that any margin requirements promulgated under the authority provided in Section 4s of the Commodity Exchange Act should be generally consistent with the international margin standards established by IOSCO.
On March 14, 2013, at a hearing entitled ``Examining Legislative Improvements to Title VII of the Dodd-Frank Act,'' the following testimony was provided to the Committee with respect to provisions included in Section 311: In approving the Dodd-Frank Act, Congress made clear that end-users were not to be subject to margin requirements. Nonetheless, regulations proposed by the Prudential Banking Regulators could require end-users to post margin. This stems directly from what they view to be a legal obligation under Title VII. While the regulations proposed by the CFTC are preferable, they do not provide end-users with the certainty that legislation offers. According to a Coalition for Derivatives End-Users survey, a 3% initial margin requirement could reduce capital spending by as much as $5.1 to $6.7 billion among S&P 500 companies alone and cost 100,000 to 130,000 jobs. To shed some light on Honeywell's potential exposure to margin requirements, we had approximately $2 billion of hedging contracts outstanding at year-end that would be defined as a swap under Dodd-Frank. Applying 3% initial margin and 10% variation margin implies a potential margin requirement of $260 million. Cash deposited in a margin account cannot be productively deployed in our businesses and therefore detracts from Honeywell's financial performance and ability to promote economic growth and protect American jobs.--Mr. James E. Colby, Assistant Treasurer, Honeywell International Inc.
On May 21, 2013, at a hearing entitled ``The Future of the CFTC: Market Perspectives,'' Mr. Stephen O'Connor, Chairman, ISDA, provided the following testimony with respect to provisions included in Section 311: Perhaps most importantly, we do not believe that initial margin will contribute to the shared goal of reducing systemic risk and increasing systemic resilience. When robust variation margin practices are employed, the additional step of imposing initial margin imposes an extremely high cost on both market participants and on systemic resilience with very little countervailing benefit. The Lehman and AIG situations highlight the importance of variation margin. AIG did not follow sound variation margin practices, which resulted in dangerous levels of credit risk building up, ultimately leading to its bailout. Lehman, on the other hand, posted daily variation margin, and while its failure caused shocks in many markets, the variation margin prevented outsized losses in the OTC derivatives markets. While industry and regulators agree on a robust variation margin regime including all appropriate products and counterparties, the further step of moving to mandatory IM [initial margin] does not stand up to any rigorous cost-benefit analysis.
Based on the extensive background that accompanies the statutory change provided explicitly in Section 311, the Committee intends that initial and variation margin requirements cannot be imposed on uncleared swaps entered into by cooperative entities if they similarly qualify for the CFTC's cooperative exemption with respect to cleared swaps. Cooperative entities did not cause the financial crisis and should not be required to incur substantial new costs associated with posting initial and variation margin to counterparties. In the end, these costs will be borne by their members in the form of higher prices and more limited access to credit, especially in underserved markets, such as in rural America. Therefore, the Committee's clear intent when drafting Section 311 was to prohibit the CFTC and prudential regulators, including the Farm Credit Administration, from imposing margin requirements on cooperative entities.
[[Page H78]] SUBTITLE B--INTER-AFFILIATE SWAPS Sec. 321--Treatment of affiliate transactions ``Inter-affiliate'' swaps are contracts executed between entities under common corporate ownership. Section 321 would amend the Commodity Exchange Act to provide an exemption for inter-affiliate swaps from the clearing and execution requirements of the Dodd-Frank Act so long as the swap transaction hedges or mitigates the commercial risk of an entity that is not a financial entity. The section also requires that an ``appropriate credit support measure or other mechanism'' be utilized between the entity seeking to hedge against commercial risk if it transacts with a swap dealer or major swap participant, but this credit support measure requirement is effective prospectively from the date H.R. 4413 is enacted into law.
Importantly, with respect to Section 321's use of the phrase ``credit support measure or other mechanism,'' the Committee unequivocally does not intend for the CFTC to interpret this statutory language as a mandate to require initial or variation margin for swap transactions. The Committee intends for the CFTC to recognize that credit support measures and other mechanisms have been in use between counterparties and affiliates engaged in swap transactions for many years in different formats, and therefore, there is no need to engage in a rulemaking to define such broad terminology.
Section 321 originated from the need to provide relief for a parent company that has multiple affiliates within a single corporate group. Individually, these affiliates may seek to offset their business risks through swaps. However, rather than having each affiliate separately go to the market to engage in a swap with a dealer counterparty, many companies will employ a business model in which only a single or limited number of entities, such as a treasury hedging center, face swap dealers. These designated external facing entities will then allocate the transaction and its risk mitigating benefits to the affiliate seeking to mitigate its underlying risk.
Companies that use this business model argue that it reduces the overall credit risk a corporate group poses to the market because they can net their positions across affiliates, reducing the number of external facing transactions overall. In addition, it permits a company to enhance its efficiency by centralizing its risk management expertise in a single or limited number of affiliates.
Should these inter-affiliate transactions be treated as all other swaps, they could be subject to clearing, execution and margin requirements. Companies that use inter-affiliate swaps are concerned that this could substantially increase their costs, without any real reduction in risk in light of the fact that these swaps are purely for internal use. For example, these swaps could be ``double-margined''--when the centralized entity faces an external swap dealer, and then again when the same transaction is allocated internally to the affiliate that sought to hedge the risk.
The uncertainty that exists regarding the treatment of inter-affiliate swaps spans multiple rulemakings that have been proposed or that will be proposed pursuant to the Dodd- Frank Act. Section 321 provides certainty and clarity as to what inter-affiliate transactions are and how they are not to be regulated as swaps when the parties to the transaction are under common control.
On March, 14, 2013, at a hearing entitled ``Examining Legislative Improvements to Title VII of the Dodd-Frank Act,'' the following testimony was provided with respect to efforts to address the problem with inter-affiliate swaps: [I]nter-affiliate swaps provide important benefits to corporate groups by enabling centralized management of market, liquidity, capital and other risks inherent in their businesses and allowing these groups to realize hedging efficiencies. Since the swaps are between affiliates, rather than with external counterparties, they pose no systemic risk and therefore there are no significant gains to be achieved by requiring them to be cleared or subjecting them to margin posting requirements. In addition, these swaps are not market transactions and, as a result, requiring market participants to report them or trade them on an exchange or swap execution facility provides no transparency benefits to the market--if anything, it would introduce useless noise that would make Dodd-Frank's transparency rules less helpful.--Hon. Kenneth E. Bentsen, Acting President and CEO, SIFMA This legislation would ensure that inter-affiliate derivatives trades, which take place between affiliated entities within a corporate group, do not face the same demanding regulatory requirements as market-facing swaps. The legislation would also ensure that end-users are not penalized for using central hedging centers to manage their commercial risk. There are two serious problems facing end- users that need addressing. First, under the CFTC's proposed inter-affiliate swap rule, financial end-users would have to clear purely internal trades between affiliates unless they posted variation margin between the affiliates or met specific requirements for an exception [i]f these end- users have to post variation margin, there is little point to exempting inter-affiliate trades from clearing requirements, as the costs could be similar. And let's not forget the larger point--internal end-user trades do not create systemic risk and, hence, should not be regulated the same as those trades that do. Second, many end-users-- approximately one-quarter of those we surveyed--execute swaps through an affiliate. This of course makes sense, as many companies find it more efficient to manage their risk centrally, to have one affiliate trading in the open market, instead of dozens or hundreds of affiliates making trades in an uncoordinated fashion. Using this type of hedging unit centralizes expertise, allows companies to reduce the number of trades with the street and improves pricing. These advantages led me to centralize the treasury function at Westinghouse while I was there. However, the regulators' interpretation of the Dodd-Frank Act confronts non-financial end-users with a choice: either dismantle their central hedging centers and find a new way to manage risk, or clear all of their trades. Stated another way, this problem threatens to deny the end-user clearing exception to those end-users who have chosen to hedge their risk in an efficient, highly- effective and risk-reducing way. It is difficult to believe that this is the result Congress hoped to achieve.--Ms. Marie N. Hollein, C.T.P., President and CEO, Financial Executives International, on behalf of the Coalition for Derivatives End-Users subtitle c--indemnification requirements related to swap data repositories Section 331--Indemnification requirements Section 331 strikes the indemnification requirements found in ``Sections 725 and 728 of the Dodd-Frank Act related to swap data gathered by swap data repositories (SDRs) and derivatives clearing organizations (DCOs). The section does maintain, however, that before an SDR, DCO, or the CFTC shares information with domestic or international regulators, they have to receive a written agreement stating that the regulator will abide by certain confidentiality agreements.
Swap data repositories serve as electronic warehouses for data and information regarding swap transactions. Historically, SDRs have regularly shared information with foreign regulators as a means to cooperate, exchange views and share information related to OTC derivatives CCPs and trade repositories. Prior to Dodd-Frank, international guidelines required regulators to maintain the confidentiality of information obtained from SDRs, which facilitated global information sharing that is critical to international regulators' ability to monitor for systemic risk.
Under Sections 725 and 728 of the Dodd-Frank Act, when a foreign regulator requests information from a U.S registered SDR or DCO, the SDR or DCO is required to receive a written agreement from the foreign regulator stating that it will abide by certain confidentiality requirements and will ``indemnify'' the Commissions for any expenses arising from litigation relating to the request for information. In short, the concept of ``indemnification''--requiring a party to contractually agree to pay for another party's possible litigation expenses--is only well established in U.S. tort law, and does not exist in practice or in legal concept in foreign jurisdictions.
These indemnification provisions--which were not included in the financial reform bill passed by the House of Representatives in December 2009--threaten to make data sharing arrangements with foreign regulators unworkable. Foreign regulators will most likely refuse to indemnify U.S. regulators for litigation expenses in exchange for access to data. As a result, foreign regulators may establish their own data repositories and clearing organizations to ensure they have access to data they need to perform their supervisory duties. This would lead to the creation of multiple databases, needlessly duplicative data collection efforts, and the possibility of inconsistent or incomplete data being collected and maintained across multiple jurisdictions.
In testimony before the House Committee on Financial Services in March of 2012, the then-Director of International Affairs for the SEC, Mr. Ethiopis Tafara, endorsed a legislative solution to the problem, stating that: The SEC recommends that Congress consider removing the indemnification requirement added by the Dodd-Frank Act . . . the indemnification requirement interferes with access to essential information, including information about the cross- border OTC derivatives markets. In removing the indemnification requirement, Congress would assist the SEC, as well as other U.S. regulators, in securing the access it needs to data held in global trade repositories. Removing the indemnification requirement would address a significant issue of contention with our foreign counterparts . . .
At the same hearing, the then-General Counsel for the CFTC, Mr. Dan Berkovitz, acknowledged that they too have received growing concerns from foreign regulators, but that they intend to issue interpretive guidance, stating that ``access to swap data reported to a trade repository that is registered with the CFTC will not be subject to the indemnification provisions of the Commodity Exchange Act if such trade repository is regulated pursuant to foreign law and the applicable requested data is reported to the trade repository pursuant to foreign law.'' To provide clarity to the marketplace and remove any legal barriers to swap data being easily shared with various domestic and foreign regulatory agencies, this section would remove the indemnification requirements found in Sections 725 and 728 of the Dodd-Frank Act related to swap data gathered by SDRs and DCOs.
[[Page H79]] On March 14, 2013, at a hearing entitled ``Examining Legislative Improvements to Title VII of the Dodd-Frank Act,'' Mr. Larry Thompson, Managing Director and General Counsel, the Depository Trust and Clearing Corporation, provided the following testimony with respect to provisions of H.R. 742, which were included in Section 331: The Swap Data Repository and Clearinghouse Indemnification Correction Act of 2013 would make U.S. law consistent with existing international standards by removing the indemnification provisions from sections 728 and 763 of Dodd- Frank. DTCC strongly supports this legislation, which we believe represents the only viable solution to the unintended consequences of indemnification. H.R. 742 is necessary because the statutory language in Dodd-Frank leaves little room for regulators to act without U.S. Congressional intervention. This point was reinforced in the CFTC/SEC January 2012 Joint Report on International Swap Regulation, which noted that the Commissions ``are working to develop solutions that provide access to foreign regulators in a manner consistent with the DFA and to ensure access to foreign-based information.'' It indicates legislation is needed, saying that ``Congress may determine that a legislative amendment to the indemnification provision is appropriate.'' H.R. 742 would send a clear message to the international community that the United States is strongly committed to global data sharing and determined to avoid fragmenting the current global data set for over-the-counter (OTC) derivatives. By amending and passing this legislation to ensure that technical corrections to indemnification are addressed, Congress will help create the proper environment for the development of a global trade repository system to support systemic risk management and oversight.