Extraterritoriality reality?

Legislators and regulators all around the globe are rushing to meet the G20 commitment of shifting all standardised OTC derivative contracts onto exchanges or electronic trading platforms. Naturally, every country is trying to clean up its own backyard before looking across the fence at its neighbour’s. The disadvantage of this approach is that country-specific rules might not necessarily harmonise with each other. Exactly this issue was escalated in the Commodity Futures Trading Commission’s (CFTC) Global Markets Advisory Committee (GMAC) meeting on 7th November. Representatives from the European Union, China, Japan and Canada, among others, aired their criticism of the CFTC Cross-Border Guidance relating to the US swap markets regulation.

Swap markets are truly global. As Robert Cook, director of the SEC’s trading and markets division, explains most credit default swap (CDS) transactions have an international component. Data from the Depository Trust & Clearing Corporation’s Trade Information Warehouse shows that only a small percentage of CDS trades are transacted between two wholly US entities. The current CFTC Cross-Border Guidance acknowledges the global nature of the market by extending its own reach significantly beyond US borders to include any swap that has a direct and significant impact on the US economy. CFTC Chairman Gary Gensler argues that this wide definition is necessary because extraterritorial risks can flow rapidly back to US shores in times of crisis. However, international regulators and industry representatives fear that this statute will invite other countries to respond tit-for-tat and create massive overlapping regulation, not to mention confusion.

I couldn’t help but wonder: is our new reality one of continuous nightmares of extraterritoriality-related problems? Should I stop eating hamburgers and start to order fish & chips because no one is sure of the legal implications of my preference for American beef?

Fortunately, a few days after the GMAC meeting, CFTC Commissioner Scott D. O’Malia gave a speech outlining why he believes that the published Cross-Border Guidance does not live up to the job of good regulation and why he would rather do it all over again. He criticises the lack of a formal rule-making process, the regulatory overreach and the definition of US persons. Finally, he stresses the importance of a clear concept of “substituted compliance” that would allow multiple regional regulations to live alongside each other.

The reality is that the CFTC is as divided on extraterritoriality as any other regulator and the quest for good regulation will continue around the world. Swap markets are global and interconnected. The only way regulators can deal with that is by harmonising and eliminating redundancy and inconsistency.

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