|Washington, D.C. – U.S. Senator Mike Enzi, R-Wyo., said the Senate defeated a measure today that could have fundamentally changed the way emerging energy markets operate.
An amendment offered by U.S. Senator Dianne Feinstein, D-Calif., to S. 14, the National Energy Policy Act, would have created a new regulatory scheme for transactions in energy markets. The amendment was defeated by a vote of 55-44.
Enzi said the amendment would have burdened energy and other derivative traders with new regulations and costs that could have resulted in greater price volatility in energy markets. Enzi believes the Commodities Futures Trading Commission already has the authority to oversee manipulation in the energy trading markets. The selling of derivatives is a form of insurance through which companies that cannot afford risk pass it on to companies that are willing to accept the risk.
Enzi said the amendment could have caused confusion about which regulator may oversee or not oversee individual participants or components of the marketplace.
"Before we make any fundamental change we should at a minimum try to understand the ramifications first," said Enzi.
Enzi's complete statement follows.
Statement of Michael B. Enzi of Wyoming
The Energy Bill, S. 14
Energy Derivatives Amendment
The proponents of the amendment believe that the trading of derivatives, especially in the energy area, were the cause of the energy problems faced by western states in recent years. Specifically, the proponents believe that energy trading of derivatives by Enron contributed significantly to the energy problems. Unfortunately, the problems that caused Enron to fail were based upon failures in corporate governance and outright fraud. Chairman Greenspan has testified several times before Congressional committees that derivatives did not cause the collapse of Enron.
Last year we debated the same issue and we voted it down. The issue of derivatives trading is one of the most complicated and detailed issues to come before us. If you are a derivatives leader – or a small company that uses derivatives to stabilize revenues or a purchaser of derivatives, this would be a stimulating experience. Unfortunately, I must admit that as Chairman of the Securities and Investment Subcommittee of the Banking Committee I have encountered extremely complex market structure issues, however, the discussion of derivatives goes well beyond those issues.
Nobody in the Senate really knows what a derivative is, including myself. These are very complicated, tailored instruments, each instrument being unique, which explains why, from the very beginning of the trading of derivatives they have been deregulated. In very basic terms, the selling of derivatives is a way for companies that cannot afford risk to pass it on to companies that are willing to accept the risk – a form of corporate insurance. However, beyond this simple definition, the experts should be left to structure and negotiate the instruments.
While the amendment before us is very similar to last year's amendment offered, the changes made to the amendment do not completely solve the underlying problems. In fact, the amendment may have cause for greater confusion as to the jurisdiction of derivatives between the Commodities Futures Trading Commission, the Securities Exchange Commission, the Office of the Comptroller of the Currency, or the Federal Energy Regulatory Commission.
In 2000, during the debate on the Commodities Futures and Modernization Act, we discussed extensively the oversight and regulation of energy derivatives. What we concluded was that the proper amount of oversight for a new and emerging business had been put into law. I believe that we took the proper course. That law gave the Commodities Futures Trading Commission additional powers to regulate market manipulation where appropriate.
One argument made time and again during the debates last year and this year is that somehow the 2000 legislation exempted these derivatives and swaps from regulation. This argument is not true. They never have been regulated.
In fact, Congress acted in passing the Futures Trading Practice Act in 1992 to give the Commodities Futures Trading Commission specific power to exempt these derivatives and swaps as being inappropriate for regulation under the Commodities Future Trading Commission, which has the job of regulating futures, not tailored swaps between sophisticated customers. The Congress passed the Futures Trading Practice Act in 1992 that directed the Commodities Futures Trading Commission to grant these exemptions. Those exemptions were granted in the previous Administration and the issue has not been controversial before. Nor have these swaps and derivatives ever come under Federal regulation in terms of an ongoing regulatory process.
Taxpayers take a dislike to the addition of programs to increase their tax burden. A poem that I have found from the play, Big River, describes the emotions from a taxpayer point of view. The third verse goes:
"Well you soul selling no-good
I ought to tear your no-good
Perambulatory bone frame,
And nail it to your government walls
All of you, you Bureaucrats."
During his testimony before the Senate Banking Committee last March, Chairman Greenspan reiterated that it was crucially important that Congress and federal regulators permit the derivatives markets to evolve amongst professionals who are most capable of protecting themselves far better than Congress, the Federal Reserve, the Commodities Futures Trading Commission or the Office of the Comptroller of the Currency could possibly do. Unfortunately, there is a considerable downside for the federal government to get involved where the individual private parties are already looking at the economic events of their trading partners.
With respect to the Enron matter, there is no indication that the trading of energy derivatives contributed in any way to the collapse of Enron. Proponents of the amendment argue that Enron had such a large market share of this business that they were able to have undue influence over energy trading. However to the contrary, during and after Enron's collapse there were no interruptions of trading.
One fear that existed in earlier debates, and still exists today, was that the CFTC did not have the regulatory power to correct abuses in the trading of derivatives. However, on page 43 of the Senate companion bill, S. 3283, to the Commodities Futures Modernization Act of 2000, paragraph (4)(B) gives the Commodity Futures Trading Commission the power to intervene and enforce any action where fraud is present. In listening to the proponents of this amendment, one would believe that federal regulators are powerless in the energy trading markets. Not only does that power exist, but it was strengthened in the 2000 legislation by a provision written into the energy section of the bill in the House of Representatives. In paragraph (4)(C) is a provision relating to price manipulation that grants the Commodities Futures Trading Commission the power to intervene in cases where price manipulation occurs.
It should be noted that the Commodities Futures Trading Commission on April 9th of this year issued a "Report on Energy Investigations," which details civil and criminal enforcement actions brought in energy-related markets since the passage of the Commodities Futures Modernization Act in 2000. The powers granted to the Commodities Futures Trading Commission appear more than sufficient to oversee market manipulation and, therefore, make the unwieldy regulatory scheme proposed by this amendment unnecessary. I request that the entire Report on Energy Investigations go into the record.
Furthermore, I believe that the amendment is overly broad and if adopted will likely decrease market liquidity because of increased legal and transactional uncertainties. Additionally, energy companies may be discouraged from using derivatives to hedge price risks resulting in increased volatility in the energy markets. In the end, I believe that this will hurt the very consumers the legislation seeks to help.
The amendment appears to grant the Federal Energy Regulatory Commission with primary jurisdiction over energy derivatives, but if the Federal Energy Regulatory Commission determines that the derivative or financial instrument is not under its jurisdiction then the Federal Energy Regulatory Commission should refer the derivative or financial instrument to the appropriate federal regulator. Unfortunately, this will create great uncertainty for market participants as to which agency's regulatory scheme an energy derivative would fall under.
In addition, it goes without saying that federal agencies are wanting to expand their jurisdiction to get bigger. It should be noted that while the Federal Energy Regulatory Commission seeks to expand its authority to regulate the energy derivatives markets, other federal agencies, particularly the financial regulatory agencies, believe that such a regulatory scheme may be detrimental to the market.
The amendment also would subject to regulation a broad class of "covered entities" including both electronic trading facilities and "dealer markets" that are not otherwise trading facilities. And as discussed above, this definition may be too broad as to deter participants from entering the energy trading markets.
In addition, the amendment would permit the CFTC to impose notice, reporting, price dissemination, and record keeping, among other requirements. Not only would these requirements apply to dealer markets, but also to exemption commodity transactions on such an entity.
The secondary amendment that would exempt metals from the proposed regulatory scheme of the underlying amendment is not a good idea. Congress should be very cautious of carve-outs without fully understanding the implications. With regard to metals, Congress may start a slippery slope where the initial carve out is for the metals industry and then move on to other industries. I believe that we would need to explore this in the Committees before having it considered on the floor. Therefore, I urge members to resist the "free vote" without knowing all of the consequences.
Letters were recently sent to the Senate Energy Committee by the Chicago Board of Trade, the Chicago Mercantile Exchange and the New York Mercantile Exchange opposing legislation introduced this Congress that is very similar to the amendment before us. Various other groups have been outspoken about this amendment including the National Mining Association, the International Swaps and Derivatives Association, and the Bond Market Association, just to name a few.
In addition, during last year's debate on the energy bill, the President's Working Group, comprised of the Chairman of the Board of Governors of the Federal Reserve, the Secretary of the Department of the Treasury, the Chairman of the SEC, and the Chairman of the CFTC, opposed a similar amendment. Individually, the Chairman of the CFTC and the then Chairman of the SEC sent letters directly to me opposing the energy derivative amendment.
On the overall topic of derivatives, Chairman Greenspan stated, "Although the benefits and costs of derivatives remain the subject of spirited debate, the performance of the economy and the financial system in recent years suggests that these benefits have materially exceeded the costs."
If the proponents of this amendment are attempting to remedy the problems caused by Enron, I do not believe that this amendment will make a difference to prevent future Enrons. However, if last year's Sarbanes-Oxley Act had been in place sooner then the corporate governance requirements of the Act may have served as an early warning system to Enron's Audit Committee and it would have uncovered the fraudulent activities early in the process.
I am very concerned that if we adopt this amendment then we may fundamentally change the emerging derivatives markets. Once this structure is in place, it may place such a burden on the market participants that it may not be worthwhile to pursue. In addition, the amendment may cause unintentional confusion as to which regulator may oversee or not oversee individual participants or components of the marketplace. Before we make any fundamental change we should, at a minimum, try and understand the ramifications first.
For every reaction, Congress tends to have an overreaction. I believe that this is the case here. Market manipulation concerns with the energy trading markets are already overseen by the Commodities Futures Trading Commission. The pursuit of a new broad-based regulatory scheme for the oversight of energy trading may be an unnecessary addition to the market.
Like Chairman Greenspan, I too believe that derivative trading, even in the energy derivatives area, has been extremely beneficial to our economy. Therefore, I request that members vote against this amendment.