AEI Event with CFTC Commissioner Giancarlo
American Enterprise Institute
“21st Century Markets Need 21st Century Regulation: Remarks from CFTC Commissioner J. Christopher Giancarlo”
Wednesday, September 21, 2016
Key Topics & Takeaways
- Reg AT: Commissioner Giancarlo criticized Regulation Automated Trading (Reg AT) for requiring that proprietary source code be accessible to the Commodity Futures Trading Commission (CFTC) and Justice Department without a subpoena. He noted the unease expressed by market participants who are worried about having to hand over proprietary source code. Giancarlo expressed concern that if the CFTC adopts such a provision, the Securities and Exchange Commission (SEC) and other regulators will follow.
- “Catching Up” to the 21st Century: Giancarlo laid out his outline for how to “catch up” to the 21st century: 1) Embrace innovation; 2) Stand up for intellectual property; 3) Repurpose rules for the digital age; 4) Unburden the U.S. economy; and 5) Champion American markets.
- Liquidity Crunch: Regarding U.S. markets, Giancarlo reiterated his warning of a liquidity crunch, pointing to the CFTC’s September 1st implementation date for margin requirements on uncleared swaps as an example, highlighting that the Asian swaps markets almost came to a halt due to “chaos and confusion” caused by the new margin rules, a consequence that he claimed could have been avoided.
- Speculation: Giancarlo explained that while speculators allow buyers and sellers to “meet across time,” there is a concern that such investors have new tools, such as fast trading systems, and are able to use investment leverage to “skew the market.” He noted that it is a legitimate concern and that it is important to have a “deep” understanding of how such new technologies work, however he argued that the CFTC does not yet have that understanding.
Speakers
- J. Christopher Giancarlo, Commissioner, Commodity Futures Trading Commission (CFTC)
Remarks
Commissioner J. Christopher Giancarlo, Commodity Futures Trading Commission (CFTC)
In his prepared remarks, Giancarlo commented on the continuous transformation of global trading markets – from analog to digital, human to algorithmic trading, and standalone trading pits to seamless global trading “webs” – adding that the CFTC has not kept pace with the “modern” markets. He continued that when it comes to digitizing financial markets, automated trading can provide benefits, including enhanced trading liquidity, increased access to markets and increased productivity through speed and sophistication. However, Giancarlo added that such digitization comes with new challenges, such as increased spikes in market volatility due to the speed of executions and the risk of computers misinterpreting data that humans once analyzed.
Giancarlo referred to the CFTC as an “analog regulator in an increasingly digital world,” and gave the example of swaps rules stifling technological innovation. He continued that while global financial centers are competing with each other daily to attract investment and trading around the world, the U.S. is “falling behind.” When it comes to new financial technology (“FinTech”), Giancarlo opined that while global regulators embrace such innovation, the U.S. regulatory framework remains “complex, conservative, and opaque” with limited regulatory initiatives geared towards FinTech.
Regarding swaps execution facilities (SEFs), Giancarlo commented that the rules adopted in 2013 were “poorly designed” and disproportionately modeled on U.S. futures markets. He then criticized the CFTC’s rulebook due to the majority of the rules for listed futures being written for 20th century analog markets, despite the emerging world of automated, non-human decision making. Giancarlo next discussed Regulation Automated Trading (“Reg AT”), adding that registering automated traders does not “begin” to address the complex public policy considerations that arise from the digital revolution in modern markets. He criticized Reg AT for requiring that proprietary source code be accessible to the CFTC and Justice Department without a subpoena, noting the widespread unease from market participants worried about having to hand over proprietary source code. Giancarlo expressed concern that if the CFTC adopts such a provision, the Securities and Exchange Commission (SEC) and other regulators will follow.
Giancarlo then laid out his outline for how to “catch up” to the 21st century: 1) Embrace innovation; 2) Stand up for intellectual property; 3) Repurpose rules for digital age; 4) Unburden the U.S. economy; and 5) Champion American markets. In order to embrace innovation, he continued, the CFTC and other U.S. regulators must use a forward looking approach and give FinTech “breathing room” to develop, as well as listen and learn about how rules need to be amended to allow for advances. For intellectual property rights to be well protected under the law, Giancarlo explained that the CFTC “must” continue to obtain a subpoena to access the source code of market participants, otherwise it damages the integrity of the Commission and “antagonizes” the relationship they have with market participants. He continued that cybersecurity risk is the number one threat to financial markets, that the Federal government has been a “poor guardian” of private, confidential information, and cautioned that regulators “must not be a weak link in the system.”
In order to repurpose rules for the digital age, Giancarlo stated that the CFTC needs to return to being a principles-based regulator, rather than rules-based, and move beyond “old command and control” government solutions. He continued that regulators must allow market participants to conduct their business however is best suited to meet their needs, not the way regulators believe is best suited. Regarding the unburdening of the U.S. economy, Giancarlo explained that overregulation is a barrier of capital investment that normally would stimulate job creation and wage growth – therefore regulators must consider rules to determine whether they are advancing or restraining the economic process. Lastly, regarding U.S. markets, he reiterated his warning of a liquidity crunch, pointing to the CFTC’s September 1st implementation date for margin requirements on uncleared swaps as an example, highlighting that the Asian swaps markets almost came to a halt due to “chaos and confusion” caused by the new margin rules, a consequence that could have been avoided.
Discussion
Innovation
Peter Wallison, moderator and Senior Fellow at AEI, started the discussion by asking how innovators are hindered by existing regulation by the CFTC. Giancarlo explained that technology is “always moving forward” and that regulators are “always playing catch up,” adding his fear that rules of engagement are “fall[ing] behind the tech curve” and becoming less serviceable to market participants.
Wallison asked what other global marketplaces, such as London, are doing that the U.S. is not when it comes to innovation. Giancarlo replied that the Financial Conduct Authority (FCA) created Project Innovate, a program where innovators meet with a set of regulators that understand technology and the rules that would have to be redesigned to allow innovators to continue their work. He continued that Singapore, Australia, Hong Kong and Japan have since mimicked this program, but not the U.S.
An audience member asked if there would be a problem if the CFTC “runs away” with innovation and leaves other regulators behind. Giancarlo explained that he is not worried about regulatory arbitrage that would come about should one regulatory agency move forward faster than another, and that sometimes regulators “watch what others do” and follow along. Giancarlo stated his hope that his outline will be followed by other regulators and not just the CFTC.
International Regulation
Wallison then asked if firms located in the U.S. can subject themselves to market regulation in another country, to which Giancarlo replied “yes.” He continued that marketplaces are “increasingly” global, and that capital will flow where it is “most warmly recognized.”
Wallison asked how to get individual market actors, those that regulate the markets, to “open up” regulations. Giancarlo noted that when the CFTC implemented swaps reforms, rather than listening to platform operators on how they do business and allowing them to design their platforms in a way that best works for them, the Commission instead instructed the platform operators on how they should conduct business, yet he asserted that no foreign regulators do this. He continued that the request for quote (RFQ) is not “written in the stars,” and that it is “blind” to auction-based technology that is “swiping everything we do.”
An audience member asked about the evolution from user- to investor-dominated markets. Giancarlo explained that while speculators allow buyers and sellers to “meet across time,” there is a concern that such investors have new tools, such as fast trading systems, and are able to use investment leverage to “skew the market.” He noted that it is a legitimate concern and that it is important to have a “deep” understanding of how such new technologies work, but argued that the CFTC does not yet have that understanding.
Principles-Based Regulation
Wallison asked what it would mean for the CFTC to transform from a rules-based to principles-based regulator. Giancarlo explained that the Commission used to be principles-based, but that Dodd-Frank changed it and that the CFTC “need[s] to return.” He continued that the Commission should take futures rules that were written in an analog environment and “repurpose” them, as principles-based regulation is the “only way with such rapid technological transformation.”
Congressional Action
An audience member asked if Giancarlo’s outline can be carried out by the CFTC on its own or if it will need help from Congress. Giancarlo explained that while much of the outline can be done at the CFTC without Congressional action, he would welcome it.
For more information on this event, please click here.
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American Enterprise Institute
“21st Century Markets Need 21st Century Regulation: Remarks from CFTC Commissioner J. Christopher Giancarlo”
Wednesday, September 21, 2016
Key Topics & Takeaways
- Reg AT: Commissioner Giancarlo criticized Regulation Automated Trading (Reg AT) for requiring that proprietary source code be accessible to the Commodity Futures Trading Commission (CFTC) and Justice Department without a subpoena. He noted the unease expressed by market participants who are worried about having to hand over proprietary source code. Giancarlo expressed concern that if the CFTC adopts such a provision, the Securities and Exchange Commission (SEC) and other regulators will follow.
- “Catching Up” to the 21st Century: Giancarlo laid out his outline for how to “catch up” to the 21st century: 1) Embrace innovation; 2) Stand up for intellectual property; 3) Repurpose rules for the digital age; 4) Unburden the U.S. economy; and 5) Champion American markets.
- Liquidity Crunch: Regarding U.S. markets, Giancarlo reiterated his warning of a liquidity crunch, pointing to the CFTC’s September 1st implementation date for margin requirements on uncleared swaps as an example, highlighting that the Asian swaps markets almost came to a halt due to “chaos and confusion” caused by the new margin rules, a consequence that he claimed could have been avoided.
- Speculation: Giancarlo explained that while speculators allow buyers and sellers to “meet across time,” there is a concern that such investors have new tools, such as fast trading systems, and are able to use investment leverage to “skew the market.” He noted that it is a legitimate concern and that it is important to have a “deep” understanding of how such new technologies work, however he argued that the CFTC does not yet have that understanding.
Speakers
- J. Christopher Giancarlo, Commissioner, Commodity Futures Trading Commission (CFTC)
Remarks
Commissioner J. Christopher Giancarlo, Commodity Futures Trading Commission (CFTC)
In his prepared remarks, Giancarlo commented on the continuous transformation of global trading markets – from analog to digital, human to algorithmic trading, and standalone trading pits to seamless global trading “webs” – adding that the CFTC has not kept pace with the “modern” markets. He continued that when it comes to digitizing financial markets, automated trading can provide benefits, including enhanced trading liquidity, increased access to markets and increased productivity through speed and sophistication. However, Giancarlo added that such digitization comes with new challenges, such as increased spikes in market volatility due to the speed of executions and the risk of computers misinterpreting data that humans once analyzed.
Giancarlo referred to the CFTC as an “analog regulator in an increasingly digital world,” and gave the example of swaps rules stifling technological innovation. He continued that while global financial centers are competing with each other daily to attract investment and trading around the world, the U.S. is “falling behind.” When it comes to new financial technology (“FinTech”), Giancarlo opined that while global regulators embrace such innovation, the U.S. regulatory framework remains “complex, conservative, and opaque” with limited regulatory initiatives geared towards FinTech.
Regarding swaps execution facilities (SEFs), Giancarlo commented that the rules adopted in 2013 were “poorly designed” and disproportionately modeled on U.S. futures markets. He then criticized the CFTC’s rulebook due to the majority of the rules for listed futures being written for 20th century analog markets, despite the emerging world of automated, non-human decision making. Giancarlo next discussed Regulation Automated Trading (“Reg AT”), adding that registering automated traders does not “begin” to address the complex public policy considerations that arise from the digital revolution in modern markets. He criticized Reg AT for requiring that proprietary source code be accessible to the CFTC and Justice Department without a subpoena, noting the widespread unease from market participants worried about having to hand over proprietary source code. Giancarlo expressed concern that if the CFTC adopts such a provision, the Securities and Exchange Commission (SEC) and other regulators will follow.
Giancarlo then laid out his outline for how to “catch up” to the 21st century: 1) Embrace innovation; 2) Stand up for intellectual property; 3) Repurpose rules for digital age; 4) Unburden the U.S. economy; and 5) Champion American markets. In order to embrace innovation, he continued, the CFTC and other U.S. regulators must use a forward looking approach and give FinTech “breathing room” to develop, as well as listen and learn about how rules need to be amended to allow for advances. For intellectual property rights to be well protected under the law, Giancarlo explained that the CFTC “must” continue to obtain a subpoena to access the source code of market participants, otherwise it damages the integrity of the Commission and “antagonizes” the relationship they have with market participants. He continued that cybersecurity risk is the number one threat to financial markets, that the Federal government has been a “poor guardian” of private, confidential information, and cautioned that regulators “must not be a weak link in the system.”
In order to repurpose rules for the digital age, Giancarlo stated that the CFTC needs to return to being a principles-based regulator, rather than rules-based, and move beyond “old command and control” government solutions. He continued that regulators must allow market participants to conduct their business however is best suited to meet their needs, not the way regulators believe is best suited. Regarding the unburdening of the U.S. economy, Giancarlo explained that overregulation is a barrier of capital investment that normally would stimulate job creation and wage growth – therefore regulators must consider rules to determine whether they are advancing or restraining the economic process. Lastly, regarding U.S. markets, he reiterated his warning of a liquidity crunch, pointing to the CFTC’s September 1st implementation date for margin requirements on uncleared swaps as an example, highlighting that the Asian swaps markets almost came to a halt due to “chaos and confusion” caused by the new margin rules, a consequence that could have been avoided.
Discussion
Innovation
Peter Wallison, moderator and Senior Fellow at AEI, started the discussion by asking how innovators are hindered by existing regulation by the CFTC. Giancarlo explained that technology is “always moving forward” and that regulators are “always playing catch up,” adding his fear that rules of engagement are “fall[ing] behind the tech curve” and becoming less serviceable to market participants.
Wallison asked what other global marketplaces, such as London, are doing that the U.S. is not when it comes to innovation. Giancarlo replied that the Financial Conduct Authority (FCA) created Project Innovate, a program where innovators meet with a set of regulators that understand technology and the rules that would have to be redesigned to allow innovators to continue their work. He continued that Singapore, Australia, Hong Kong and Japan have since mimicked this program, but not the U.S.
An audience member asked if there would be a problem if the CFTC “runs away” with innovation and leaves other regulators behind. Giancarlo explained that he is not worried about regulatory arbitrage that would come about should one regulatory agency move forward faster than another, and that sometimes regulators “watch what others do” and follow along. Giancarlo stated his hope that his outline will be followed by other regulators and not just the CFTC.
International Regulation
Wallison then asked if firms located in the U.S. can subject themselves to market regulation in another country, to which Giancarlo replied “yes.” He continued that marketplaces are “increasingly” global, and that capital will flow where it is “most warmly recognized.”
Wallison asked how to get individual market actors, those that regulate the markets, to “open up” regulations. Giancarlo noted that when the CFTC implemented swaps reforms, rather than listening to platform operators on how they do business and allowing them to design their platforms in a way that best works for them, the Commission instead instructed the platform operators on how they should conduct business, yet he asserted that no foreign regulators do this. He continued that the request for quote (RFQ) is not “written in the stars,” and that it is “blind” to auction-based technology that is “swiping everything we do.”
An audience member asked about the evolution from user- to investor-dominated markets. Giancarlo explained that while speculators allow buyers and sellers to “meet across time,” there is a concern that such investors have new tools, such as fast trading systems, and are able to use investment leverage to “skew the market.” He noted that it is a legitimate concern and that it is important to have a “deep” understanding of how such new technologies work, but argued that the CFTC does not yet have that understanding.
Principles-Based Regulation
Wallison asked what it would mean for the CFTC to transform from a rules-based to principles-based regulator. Giancarlo explained that the Commission used to be principles-based, but that Dodd-Frank changed it and that the CFTC “need[s] to return.” He continued that the Commission should take futures rules that were written in an analog environment and “repurpose” them, as principles-based regulation is the “only way with such rapid technological transformation.”
Congressional Action
An audience member asked if Giancarlo’s outline can be carried out by the CFTC on its own or if it will need help from Congress. Giancarlo explained that while much of the outline can be done at the CFTC without Congressional action, he would welcome it.
For more information on this event, please click here.