Blanche Lincoln 's Senate Agriculture committee voted 13 to 8 (including lone Republican Grassley) to pass a bill that goes a good ways towards establishing real oversight of the derivatives (and other financial innovations) market. See Dennis & Kane, Senate committee approves derivatives oversight bill, Washington Post, Apr. 21, 2010.
The bill, known as the Wall Street Transparency & Accountability Act of 2010 (available in the Senate Agricultural website) is generally tougher on derivatives than the current Dodd bill on financial regulatory reform, but leaves considerable loopholes that will need to be closed if real financial reform is to be achieved. It seems fairly close to the Obama administration's proposal (with separate rules for "swaps" under the Commodities Exchange Act generally regulated by the Commodities Futures Trading Commission (CFTC) and for "security-based swaps" under the Securities Exchange and Investment Acts regulated by the SEC)--which caused much consternation among Wall Street banks, but had commentators worried about the exceptions and discretion.
As described in the WaPo article:
Lincoln's legislation calls for banning big Wall Street firms acting as brokers for commercial companies and financial speculators who want to trade derivatives. It also would require nearly all derivative contracts to be traded in public on exchanges and approved by a separate body called a clearinghouse.
Those dealing in derivatives would have to raise money to cover unexpected losses, in case one party to the contract defaults. Lincoln also said swap dealers will have a fiduciary duty, just like investment advisers, to act in the best interest of their clients. The draft of her bill provides a relatively wide exception for agricultural and other commercial companies but still requires them to raise money for derivative trades.
Some officials view the legislation as too friendly to the commercial firms who have sophisticated derivatives trading desks, while overly punishing financial firms. If allowed to stand, they have said, the market would simply shift its activities away from Wall Street to the commercial firms, critics argue, but become no less dangerous to the financial system. Id.
The bill would also prevent the Fed or FDIC from using federal funds to bail out Wall Street firms who engage in derivatives--those swap desks must be spun off or the firms will not be able to receive any federal assistance. According to Lincoln, the bill's refusal of Fed funding for risky derivatives trades will require that banks choose whether "they want to be banks or [whether]they want to engage in the risky trading that caused the collapse of firms such as AIG." RTT News, Senate Agriculture Committee Passes Derivatives Reform Bill (Apr. 21, 2010).
The exception from mandatory clearing is intended to cover end-users who are actually hedging business risks, such as electric cooperatives. The summary describes this exception this way: "Commercial businesses and manufacturers who use these markets and customized contracts to manage risk will still be permitted to do so without imposing additional margin costs." See the Ag Committee's summary of the bill. In my view, however, that is a gaping loophole that lets a agribusiness interests off the hook, especially if those "customized contracts" are not hedges of commodities but tax minimization transactions or regulatory avoidance transactions.
As the Wall Street Journal noted when Lincoln revealed her proposal last week, the proposal is "likely to draw the ire of the largest Wall Street banks." See Crittenden & Favole, Lincoln: Derivatives Bill to Provide '100% Transparency', Wall St. J. (Apr. 16, 2010). But the view seems to be that financial reform will pass, and this suggests that it will contain at least some form of derivatives regulation. See Dennis & Murray, Once critical of finanical regulation, Republicans change their tone, Washington Post, Apr. 21, 2010.
As I've said before, regulating derivatives is essential. Regulation needs to be comprehensive, however, and disincentivising and perhaps banning specific types should also be in the package. It is hard to find a good rationale for permitting naked credit default swaps, which amount to casino bets that compound any misinformation in the markets and multiply the volatility.