Japan’s financial watchdog and central bank have implored the Commodity Futures Trading Commission (CFTC) to hold off for at least a year on applying cross-border OTC derivatives regulations for fears of international overlap and conflict.
In line with the G20 countries’ commitments to reduced systemic risk in financial markets, the Dodd-Frank Act and corresponding Japanese regulation aims to push as large a portion of OTC derivatives trading onto exchange-like platforms and clear them through central counterparties.
But OTC derivatives regulation in the Dodd-Frank Act arguably has more extraterritorial reach than the regulations of most G20 jurisdictions, aiming to limit risks emanating from an overseas entity of a financial group which could directly flow back to the whole group by requiring registration of US persons outside the US and the registering of any transactions non-US persons have with US persons, no matter where in the world they are.
In a joint letter to CFTC chairman Gary Gensler, Bank of Japan executive director Hideo Hayakawa and Financial Services Agency (FSA) vice commissioner for international affairs Masamichi Kono said they were concerned such rules created overlapping and conflicting regulation.
“We urge the Commission to consider deferring the application of its regulations on cross-border transactions until an internationally consistent approach on how to address cross-border regulation of OTC derivatives would be developed (e.g. for at least one year and renewable, if necessary),” wrote the Japanese regulators.
Hayakawa and Kono have asked Gensler for a deferral of the application of CFTC regulations with respect to non-US persons and specifically Japanese firms.
“CFTC regulations, including swap dealer registration should, as a matter of principle, not be applied to Japanese financial institutions established and conducting businesses in Japan,” read the letter. “Even if Japanese financial institutions would be required to register as swap dealers under limited circumstances, these requirements should be the least onerous, and a sufficient preparation period needs to be ensured.”
Substitution stay of execution
Tokyo has also asked for an extension of the application of substituted compliance, whereby firms won’t have to directly comply with CFTC rules if they comply with a comparative regime. The central bank and FSA want the CFTC to make clear the details of what substituted compliance means, including due process and timing.
“While we welcome [substituted compliance], we have two concerns in this regard. The first concern is that the scope of application of substituted compliance is too narrow. We request it to be further extended, so that overlap or conflict with Japanese regulation could be avoided as much as possible,” wrote the Japanese regulators. “The second concern is that the details, including the procedure and implementation timeline of ‘substituted compliance’ are not clear in the proposal.”
While the CFTC has proposed to make comparability determinations on an individual requirement basis, such as mandatory clearing and trade execution facility, rather than the foreign legislative/regulatory regime as a whole, Tokyo has asserted the determination should be on a country-by-country basis, in a comprehensive manner from the viewpoint of whether or not foreign regulation is broadly in alignment with US regulation and consistent with the overall objectives of the G20 commitments.
Minimising de-minimis
The FSA and central bank also want the CFTC to exclude certain transactions from the calculation of swap transactions in regard to the de-minimis threshold for non-US persons.
Dodd-Frank says foreign entities engaging in swap dealing transactions with US persons at less than the de-minimis level would not be required to register or be regulated as swap dealers.
But Hayakawa and Kono transactions between non-US affiliates of non-US persons under common control and US persons, as well as transactions between US branches of non-US persons and US persons, should not be included in the de-minimis threshold calculation.
The request from Tokyo is not the first time Japanese market supervisors have raised concerns over the effects of US regulation. In February, Japan was one of a number of countries raising fears the so-called Volcker rule ban on prop trading by deposit-taking institutions would adversely impact foreign bond markets.