Potential Derivative Loophole #2: Not Cleared Trades Legal

Zach Carter at Alternet has found another potential problem with the way that that the Lincoln derivatives bill, passed out of the Ag Committee, has been merged into the Senate bill that the floor will debate this week:

Lincoln’s bill required central clearing for almost every derivatives trade, and the Dodd-Lincoln mash-up includes that language. Unfortunately, it also includes a brief section that completely undercuts that new rule. (For wonks, it’s Section 739, paragraphs A and B.) Under the current bill, there is no penalty for anybody who fails to centrally clear their trades—even though the bill labels this activity illegal. What’s more, even though this behavior is illegal, the trade itself is still valid. In other words, banks are required to bring their trading into the open. But if they don’t shed light on their trades, nothing will happen to them. I wonder what banks will choose.

“That’s breathtaking,” says Michael Greenberger, who served as Brooksley Born’s top deputy at the Commodity Futures Trading Commission during the late 1990s. “It’s essentially telling the world that we have all of these rules, but we aren’t going to enforce them.” Born and Greenberger spearheaded an effort to regulate derivatives during the Clinton years that was thwarted by Alan Greenspan, Larry Summers and Robert Rubin.

I’m hoping to get a bit of crowd-sourcing going on here, as there are people with far more extensive legal expertise who perhaps read this, and this is going to move with very little debate or comment. So it’s important to get the derivatives language correct, because these are things where even a small change can essentially undo the whole point of what people are trying to accomplish. More to follow….

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2 Responses to Potential Derivative Loophole #2: Not Cleared Trades Legal

  1. This is a huge nothingburger. This addresses one very narrow private right of action (i.e., one party to a derivatives contract suing the other) — which, as applied to the clearing requirement, would be nonsensical anyway. It has absolutely nothing to do with administrative enforcement of the clearing requirement. It’s just factually untrue to say that “there is no penalty for anybody who fails to centrally clear their trades” because of this provision.

    Sorry, but this is just further proof that anything Michael Greenberger says about derivatives law should be presumed to be false until proven otherwise. Honestly, even a novice lawyer would know this stuff off the top of his/her head.

    You want a real derivatives loophole? Look at the definitions in the end-user exemption. Lincoln claimed in her letter that her end-user exemption would be “surgical” — iwell, this is about the least “surgical” exemption ever. Seriously, I had thought of multiple ways around it before I even finished reading the definitions! (And I don’t really deal too much with HF legal structures in my practice, so real HF lawyers would no doubt have a field day.)

  2. Pingback: Derivatives « Rortybomb

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