CFTC Advisory Committee Knocks Basel III Endgame
Commentary by Tim Byrne
The Global Markets Advisory Committee ("GMAC") approved (i) a report with recommendations examining the "harmful impact" of the Basel III proposals on the derivatives markets; and (ii) recommendations to "support and facilitate industry implementation of the BCBS-IOSCO [framework] for streamlining of variation margin practices."
In its report on the Basel III endgame, titled "The Impact of the US Bank Capital Proposals on End-Users that Rely on Cleared Derivatives Markets," the GMAC Subcommittee on Global Market Structure highlighted the negative (indirect) impact Basel III would have on users of derivatives. According to the Report, the adoption of the Basel III requirements would: (i) "reduce the capacity of US banks to offer clients access to derivatives markets;" (ii) "reduce liquidity in derivatives markets;" (iii) "increase the costs of hedging for end-users and, as a result, increase costs for their customers;" (iv) "disproportionately harm smaller end-users and non-public companies;" (v) "increase systemic risk" by effectively discouraging central clearing; and (vi) "create an unlevel playing field for market participants, including across jurisdictions," specifically disadvantaging US clearing firms as compared to those based in the European Union and the UK. A chart on page 3 of the report purports to show that the combined effect of the Basel III endgame and GSIB surcharge could raise the capital requirements imposed on the six US GSIBs by over 80%.
The Report contained a series of recommendations to the Basel III requirements, including, for example, removing or exempting certain activities associated with cleared derivatives from the requirements of the proposals. The GMAC report also contains a summary of comments from third parties as to the negative impact of the Basel III endgame on the derivatives markets.
The second recommendation, GMAC Technical Issues Subcommittee Recommendation, emphasized the necessity for efficient management practices of collateral and liquidity, during times of volatility in the market. GMAC approved the Subcommittee's recommendation that firms consider: "the legal and operational challenges that could inhibit seamless exchange of margin and collateral calls; granting greater flexibility in bilaterally agreed acceptable collateral; advantages of standardiz[ing] and automation of their non-centrally cleared margin processes; and the potential benefits of third-party services to help improve non-centrally cleared variation margin processes." GMAC recommended industry-wide implementation of the BCBS-IOSCO recommendations for streamlining the variation margin practices.
The recommendations were approved by GMAC without objection on June 4, 2024.
Commentary
It is notable that an Advisory Committee of the CFTC is so overtly critical of a proposal put forward by the banking regulators and seems at least doubtful of the impact of the SEC's rule on central clearing of US Governments. The Advisory Committee's recommendations tend to be influential. With respect to the capital proposals, the report assesses both the Basel endgame and the GSIB surcharge and includes granular recommendations as to each.