Geithner: Futures contracts remain available

WASHINGTON -- Treasury Secretary Tim Geithner reassured lawmakers July 10 that the Obama administration would make sure country elevators and others still would be able to use futures contracts so that farmers can hedge their crops, but said derivative contracts would have to be cleared on exchanges. If the contracts are customized -- individualized for the particular farmer or other entity with special characteristics or delivery dates -- they would be subject to new procedures, increased regulation and some new capital requirements.

Geithner appeared at a joint House Agriculture Committee and Financial Services Committee hearing on the regulation of derivatives. A total of 111 House members who serve on those committees were there to ask him questions, House Agriculture Committee Chairman Collin Peterson, D-Minn., says. The House Agriculture Committee has jurisdiction over futures regulation and the House Financial Services Committee is in charge of banking and other financial services.

Congress and the administration are planning new financial regulations in reaction to the crisis that resulted when a division of American International Group, an insurance company, sold insurancelike contracts and did not have any money to pay them off. The U.S. government stepped in to avoid a worldwide financial collapse.

Clearing contracts

In his opening statement, Geithner said the core of the administration's effort on derivatives will be to require that all standardized derivatives contracts be cleared through well-regulated exchanges or regulated electronic trade execution systems and to increase capital requirements on customized derivatives so that market participants do not attempt to use the customized derivatives to evade regulation. Most of the derivative activity that Geithner wants to regulate would be in the financial services industry, but the regulations would apply to agricultural futures markets as well.

Rep. Leonard Boswell, D-Iowa, told Geithner he was concerned about the need for grain elevators and other rural businesses that deal in derivatives to register with an agency.

"They've got to hedge," Boswell said. "They've got to be careful. They get caught out there in a weak position and they can go down, and there's no market out there at the marketplace for the producer."

Geithner responded, "We are preserving, and I think it's appropriate to preserve, the ability of grain elevator operators' whole range of companies and businesses across the country to make sure they have the ability to hedge against the unique and specific risk they face. But again, the markets as a whole, even in those customized areas, need a greater level of transparency, oversight and protection."

Looking for balance

Rep. Jim Costa, D-Calif., noted to

Geithner he was worried about the impact that increased capital requirements backing derivatives would have on agricultural companies.

"Commodity hedgers don't generally have the same access to cash and capital in order to be a player in these markets," Costa said. "Their assets oftentimes tend to be tied up in reinvestments and their own company growth. What sort of impact do you think this is going to have on capital requirements on nonfinancial entities that I think have an appropriate role to be engaged in this market, to have the access to it?"

Geithner told Costa that administration officials would take "a careful look" at the issues he raised and, as the proposal develops, would be happy to discuss it with him further.

"We want to get the balance right," Geithner said. "A systematic source of problems across our financial system was inadequate capital, people taking risks that they did not understand, could not support. So we want to make sure we fix that, but we're going to try to be careful to get the balance right and we'll be happy to respond to any detailed concerns raised when you see our proposals."

Costa also said he was worried that the new regulations might result in trading becoming consolidated in firms that are regarded as "too big to fail." Those are the types of firms that the government had to bail out.

"I don't think our proposals carry that risk, but we'd be happy to respond to any concerns raised by them," Geithner said.

Geithner said the Obama administration will propose writing broad principles on the regulation of over-the-counter derivatives into statute, but leave the details up to regulators.

Geithner diverged from his prepared testimony to mount a vigorous defense of the administration's plans for rewriting financial regulations and its response to the economic crisis.

Beating status quo

Critics who charge that it is too soon to rewrite financial regulations and that the process should wait for a more stable financial time and move more slowly "are essentially arguing we maintain the status quo and that is not something we can accept," Geithner said.

"Without reform," he added, the United States "will be weaker as a country."

In response to Republicans' statements that there are signals the economic stimulus package is not working, Geithner said the package has stopped local governments from firing teachers and firefighters, stabilized the financial system and credit concerns "have receded."

He acknowledged that unemployment still is increasing and said "what the economy is going through is a very necessary and healthy adjustment as (Americans) go back to living within their means." He added, "We do not have an economy that is growing again."

Rep. Maxine Waters, D-Calif., asked if the problems did not prove that credit default swaps are so dangerous they should be prohibited, but Geithner said the credit default swaps "do provide an important economic function in hedging against risk" and that their proper regulation is a challenge that Congress and the administration can handle.

On the even more controversial "naked" credit default swaps, Geithner said, "I do not believe it is necessary to ban them, but they need regulation."

Rep. Brad Sherman, D-Calif., asked Geithner whether derivatives being issued today would ever be subject to a bailout and said he was giving him the opportunity to tell Wall Street that there would be no bailout on derivatives being issued today or to tell constituents that they might be on the hook for them.

When Sherman rejected

Geithner's attempt to get into a philosophical discussion on the subject, Geithner declined to answer further, saying "You are asking me to give an irresponsible answer."

House Financial Services Committee Chairman Barney Frank said he and Peterson had agreed that they "will be significantly expanding the regulation of derivatives."

Noting that there have been complaints that the Obama administration has not proposed enough structural change such as merging the SEC and CFTC, Frank said, "that's the wrong issue. What we should be held accountable for is making substantive changes in the rules. Who does these things is less important to me than what's done."

In a related development, CFTC Commissioner Bart Chilton said July 10 that the CFTC will move aggressively to rein in excessive speculation in the energy and metals markets by issuing new regulations as soon as October, Reuters reported.

"We're looking at a pretty fast timeline. We're going to use our authority to the fullest extent possible. That doesn't mean we're going to be draconian or go too far," Chilton said, according to the Reuters report.

The CFTC has said it will hold hearings on excessive speculation this summer.