Congress Tries To Undercut Wall Street Reform Provision Aimed At Regulating Risky Financial Instruments

For months, Republicans have been trying to undermine the Dodd-Frank financial reform law — passed in an attempt to prevent a repeat of the 2008 financial crisis — by cutting budgets for market regulators, obstructing nominees, and advancing bills that would weaken the law’s key provisions. But sometimes efforts to dismantle the law take on a more bipartisan flavor.

One of the key sections of the Dodd-Frank law has to do with swaps, the complex financial instruments that felled, among others, insurance giant American International Group. Before the 2008 financial crisis, the swaps market was totally opaque, giving neither customers nor regulators any sense of what the instruments actually cost or how much risk was building up in the financial system.

Dodd-Frank brings transparency to this market by forcing swap trades onto open exchanges — where they can be seen by everyone — rather than allowing backroom wheeling and dealing in the instruments to continue. But a bill authored by Reps. Scott Garrett (R-NJ) and Carolyn Maloney (D-NY), as the New York Times’ Gretchen Morgensen explained, would take these bits of the bill out at the knees:

Representative Scott Garrett , a New Jersey Republican, has teamed up with Representative Carolyn B. Maloney, a New York Democrat, to introduce the Swap Execution Facility Clarification Act. It would bar the Securities and Exchange Commission and the C.F.T.C. from requiring swap execution facilities to have a minimum number of participants or mandating displays of prices. Both mechanisms promote transparency.

Mr. Garrett said the bill directed regulators “to provide market participants with the flexibility” they need to obtain price discovery. This means maintaining the old system that can keep prices in the shadows.

On Nov. 15, a House subcommittee approved the bill by a voice vote.

As Commodity Futures Trading Commission Chairman Gary Gensler — whose agency is charged with regulating swaps under Dodd-Frank — explained, “economists for decades have shown that transparency lowers margins, leads to greater liquidity and more competition in the marketplace.” “Transparent pricing is also a critical feature of lowering the risk at the banks, and at the derivatives clearinghouses as well,” he said.

As David Min and I explained back in April, 2010, opacity in the swaps market “means that no one — regulators, investors, or even the dealers themselves — has a good handle on the systemic risk these instruments pose, or who is bearing the risk. This prevents regulators from being able to take steps to reduce systemic risk and creates the conditions for financial panics.” Dodd-Frank did a lot to deal with this problem, but Congress now seems to be aiming to undo that progress.