Regulators' national focus risks hurting global financial markets.

Plans by the US to finalise new requirements for over-the-counter (OTC) derivatives by October have attracted bitter criticism from other regulators who argue that the lack of agreement on the cross-border application of these rules could create regulatory arbitrage. This surely cannot be what the G-20 hoped for when it called on its constituents to seek greater transparency in OTC derivatives trading – calling for more deals to move to trading venues, be processed through clearing houses and be backed by collateral or insurance.

While in agreement on the broad principles, the US and the EU – the largest markets for OTC derivatives – have diverging views on the intricacies of the new rules. While the US is understandably eager to fast-track these reforms – its privately negotiated derivatives market is worth a massive $300,000bn – other countries that may be affected by the rules, when using US institutions for trading, for example, are less thrilled by the speed that the US is passing the reforms.

The UK’s Financial Conduct Authority has been particularly vocal in its objection. In a speech written for the International Swaps and Derivatives Association conference, which was held in London in September, the authority’s chief executive, Martin Wheatley, warned of the risks of inconsistency across borders, describing the potential for regulatory arbitrage as a “race to the bottom… that inevitably colours the way we look at issues such as clearing house margin requirements between the EU and US”.

In the post-financial crisis regulatory world, idiosyncrasies have almost become the norm. The EU pushed its mandate by calling for a financial transaction tax, despite receiving internal legal advice suggesting that such a levy would not be compatible with existing laws. The European Central Bank requested that clearing houses where more than 5% of activities are euro-denominated be located in a eurozone country, in spite of single market principles and the fact that vast amounts of euro-denominated transactions are settled through London. And, after boasting about its ambitions to become a leading centre for renminbi settlements, the UK demanded that Chinese banks opening in the City operate as subsidiaries, rather than branches, forcing them to obey UK capital and liquidity rules, which caused the Chinese banks to consider locating in Luxembourg instead. 

It seems that the biggest challenge facing the world’s leading financial centres right now is not how to protect tax payers through strong regulation. It is about controlling the influence that national regulators exert on international markets and making sure that the very markets that regulators are trying to protect do not end up being the victims of those rules.

It may be time for the International Monetary Fund to act as a regulatory referee to red card well-meaning initiatives that threaten the cohesion of the global financial markets. 

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