As many regulators around the world explore regulatory simplification efforts, opportunities exist beyond simply striking lines in statute or rulebooks. Finding ways for domestic regulatory bodies to collaborate can reduce regulatory burden and red tape.
Last month, I participated in a joint meeting of the two main market regulators in the US – the Securities and Exchange Commission and the Commodity Futures Trading Commission.
SEC Chair Paul Atkins and CFTC Acting Chair Caroline Pham deserve credit for holding the event and setting the stage for a new era in SEC-CFTC collaboration. An open dialogue is exactly what we need to improve collaboration between these two government agencies for the benefit of all market participants.
My background lends itself to these discussions. I worked for the Senate Agriculture Committee during the passage of the Commodity Futures Modernization Act of 2000, which clarified the jurisdiction of these agencies and legalized single stock futures. I served as a CFTC commissioner for seven years and worked with then-SEC Commissioner Paul Atkins on harmonizing the rules of these respective agencies.
I also ran a derivatives clearinghouse regulated by the CFTC that required approvals from the SEC and Federal Reserve to operate its portfolio margining system. I deeply understand and appreciate the challenges facing institutions subject to oversight by multiple regulators.
Strong market regulators = America first in finance
As I have shared before, America has the premiere capital and derivatives markets in the world because, in no small part, the United States has two best-in-class regulators for the markets they oversee.
So, how do they work together?
In the past 25 years, we have seen five different memorandums of understanding aimed at facilitating and encouraging coordination between the agencies, including one I signed with then-SEC Chair Chris Cox in 2008 around novel products.
While well-intentioned, they have fallen short of expectations. Simply put, MOUs are not enough. We must approach the problem differently and, importantly, with the American public in mind.
The time has come for meaningful, regular and structured engagement between the two agencies. Tone from the top is important. And public accountability is equally so.
The CFTC’s unique structure
I’ll admit my bias for the CFTC’s regulatory structure given my background. But this bias is grounded in the unique attributes that allowed these markets to grow and innovate over the years.
It begins with the agency’s mission. It explicitly requires the agency to promote responsible innovation and fair competition. With the passage of the CFMA, Congress also gave the agency principles-based regulation and self-certification of products and rules to provide flexibility and encourage new approaches.
To promote responsible innovation and fair competition, Congress also provided the agency with its 4(c) authority, which allows the CFTC to exempt products out of its jurisdiction if, after public notice and comment, it deems it in the public interest.
These tools, in combination with the agency’s exclusive jurisdiction and state pre-emption, have allowed the agency to foster new ideas and products over the years.
Harmonization can prevent failures
As we think through ways to improve harmonization between agencies, it may prove useful to discuss where jurisdictional disputes have led to regulatory and market failure. One example is security futures products.
Single stock futures were banned in the US until passage of the CFMA in 2000. That law established a joint regulatory structure for the products with dual responsibilities for both agencies. While there was great excitement with the launch of this new class of products, only two exchanges ever registered as security futures exchanges and neither remains in business today.
Critics blame the dual regulation for their demise. Others blame the equities-style margin requirement on a futures-style product. In many ways the product was doomed from its start.
What are the lessons to be learned?
First and foremost, we need bright jurisdictional lines. People need to know what rules apply to which product to support the innovative nature of our markets. The markets want clear, legal certainty and one set of rules.
Second, dual regulation does not work. Regulatory systems are indeed holistic systems that make it difficult to pick and choose rules from two regulatory frameworks and expect that to work. These hybrid structures create uncertainty, unnecessary costs and lowest-common-denominator thinking. We can do better.
While we should avoid dual regulation, strong information sharing, cooperative examinations and coordinated enforcement are imperative to serve both agencies’ interests. This is similar to how domestic regulators have successfully recognized foreign regulatory approaches. If it works across international borders, surely it can work between two US agencies with offices three miles apart.
Lastly, political will and accountability matters. I have tremendous respect for the staff of both agencies, but their roles are to enforce their respective laws – not to take risks on innovative new structures. That is the role of the commissioners, and they must drive harmonization.
Having offered that perspective, I offered four suggestions to the agencies.
Four ideas for the future
First, the agencies should permanently reinstate the Joint Advisory Committee and amend its mission statement to include the promotion of responsible innovation in our markets. This will help bring public accountability and prioritize harmonization efforts at the SEC and CFTC.
Second, this Joint Advisory Committee should have the authority to conduct joint rulemakings on hybrid instruments that straddle securities and commodity futures. The agencies could discuss creating “safe harbors” for innovative products or expedited approval structures for market issues like portfolio margining. This could be enormously beneficial for new products like digital assets and traditional assets like treasuries, security futures products and single-name credit default swaps.
Third, let’s make sure we know what we’re talking about. The Joint Advisory Committee should create shared definitions and taxonomies for hybrid instruments and digital assets. Developing a common language and approach to new products will be key to their success.
Lastly, the agencies could begin cross-agency training and systematic secondment to improve the knowledge and trust levels of both agencies. Coordination requires trust and more cross-pollination among staff would surely benefit these efforts.
The pace of change is undoubtedly quickening in our markets. We must have a regulatory structure that can keep up with them.
