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By Ronald Fink
Congressional legislation doesn't go far enough to prevent credit derivatives from posing systemic risk, the chairmen of the Securities and Exchange Commission and Federal Deposit Insurance Corporation told the Financial Crisis Inquiry Commission on Wednesday.
SEC head Mary Schapiro and FDIC head Sheila Bair both testified that the bills proposed in the House and Senate fail to address the risk to the financial system posed by credit defaults swaps that are used for speculation instead of hedging.
"There are holes" in the bills as written, Schapiro said in response to a question from former Commodities Futures Trading Commission chairman Brooksley Born about derivatives in which neither party has an interest in the securities of the creditor the contracts are written against. Such so-called "naked" or "empty creditor" swaps are used for speculation in credit risk rather than for hedging against it.
Schapiro testified that such swaps will continue to pose a risk to the financial system if legislation as currently proposed is approved. Bair agreed, and said the issue is "at the top of my agenda" for reform.
An early version of a bill that was approved in December by the House Financial Services Committee contained provisions to curb the use of naked swaps, but those provisions were dropped under intense lobbying pressure from the banking industry.
A bill that Senate Banking Chairman Christopher Dodd of Connecticut proposed a few weeks later contained no language concerning naked swaps.
Moreover, both bills would continue to exempt many if not most OTC derivatives from a proposed requirement that they be traded on exchanges.
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