Following the recent financial crisis, the Obama Administration undertook sweeping financial market reforms to regulate what caused the United States to sink into the worse economic turmoil of the past decades. On the evening of May 20, the U.S. Senate passed the first draft of a bill––the most ambitious piece of legislation since the measures adopted during the Great Depression of the 1930s. The bill must now be reconciled with the one passed in December 2009 by the House of Representatives, to become a combined bill that will be submitted to a vote by both houses of Congress and then sent to President Obama for signature.
The text passed by the Senate includes several amendments proposed by the various Senate committees, prior to its passing with all Senators voting. Some measures incorporated in the bill are quite innovative, such as the one that aims to establish more transparency in derivatives markets, a provision that was turned down by the House of Representative (the counterpart to the French National Assembly) in its own draft of the bill.
On April 21, 2010, the Senate Agriculture Committee voted 13 to 8 to adopt a new amendment to supervise derivatives markets, many of which involve agricultural commodities.
Banning large investment banks from derivatives markets
The U.S. Senate Agriculture Committee amendment on derivatives incorporates three key measures:
1. Eliminating over-the-counter1 (OTC) trading of derivatives to bring transparency and establishing derivatives exchanges. Instead of being traded between two parties in a private negotiation, financial products would now be traded in organized and public derivatives markets, such as futures or options markets;
This last item, which triggered an outcry in the financial industry that uses derivatives as a major source of income and risk coverage, is a momentous measure. As recently pointed out by Bertrand Munier3, momagri Chief Economist, the major banks active on financial markets widely invested in derivatives futures markets––in particular agricultural markets that fluctuate conversely to stock exchanges––to cover their portfolios risks. Hence the excessive financilization of agricultural markets for the past few years: According to the UNCTAD figures published in its latest report for the years between 2002 and 2008, the number of transactions in futures markets was multiplied fivefold in volume and twentyfold in value ($13 trillion traded in June 2008)4. Such type of financialization was not a neutral factor in the 2008 soaring prices that caused the global food crisis in a few weeks only.
2. Requiring that trades be routed through clearinghouses to boost oversight. As independent bodies, clearinghouses approve trades, replace all players and stand for the means to stabilize markets2 ;
3. Lastly, and this is the most significant measure, banning large investment banks from derivatives markets.
Agriculture against finance
Consequently, it is not surprising that this amendment results from the U.S. Senate Agriculture Committee’s efforts. The move to regulate, for the first time ever, derivatives markets––estimated to reach $450 trillion––came up following the food and financial crises. The U.S. Senate Permanent Subcommittee on Investigations had, in June 2009, published a report that pointed a finger at speculative positions by major financial institutions (the indexed funds as well as the banks’ major investment funds) in soaring commodity prices, which generated the food crisis5. In one of its most recent studies, the UNCTAD also argued for a “forceful” and “coherent” intervention by public authorities in futures markets, especially agricultural markets6.
It remains to be seen if the plan will actually be incorporated in the financial regulation bill, since the American Congress will present it for a vote together with other measures. While the investment bank J.P. Morgan estimates that such measures would generate revenue losses of $700 million to 2 billion, we should not be surprised that the banking lobby has launched an all-out attack in the up-coming battle. According the Anglo-Saxon press, over 1,500 lobbyists are involved. Several Republican Senators have already proposed amendments that would curb the impact of the Agriculture Committee amendment, or even strip out its contents. The Upper Chamber has, up to now, kept the proposition. However, the steadfastness of the measure remains threatened, since an amendment introduced by Democratic Senator Christopher J. Dodd, which aspires to find the middle ground is to be discussed on May 18. And nothing guarantees that the text survives the showdown with the bill of the House of Representatives, where no measure of this type has ever been passed…
Agriculture against finance: the stakes involved are vouching for a heated combat. As The New York Times7, writes, if the amendment was passed, it is probably due to the times when dealing with agriculture and food security were more important for the country than dealing with finance. At a time when one of six persons in the world suffer from hunger, managing speculation is not longer an issue of community rivalry: It is an issue of common sense. This is why, even if it might be necessary to touch up the U.S. Senate Agriculture Committee amendment to improve it, we can only salute this initiative that bears witness to the pragmatism and perceptiveness of the U.S. Senate on such a crucial issue.
For a look at the key amendments to the Senate Financial Regulatory Bill, please visit:
1 The over-the-counter (OTC) market is a market where trading is contracted directly between a seller and a buyer. It is the opposite of an organized market, where transactions are made through an exchange. Such transactions are often less standardized, or made in a looser regulatory framework. An over-the-counter market provides less transparency than an organized market.
2 The clearinghouse thus becomes the buyer for all sellers and the seller for all buyers. As soon as a bilateral transaction is recorded in the clearinghouse books, the parties involved only deal with the clearinghouse itself. With a mind to protect the market, he clearinghouse asks the parties for a security deposit in the amount of one- or two day-price maximal fluctuation, and then asks for a margin call every working day. Amounting to the same sum but in opposition for the two parties, the margin call stands for the depreciation for one, and the appreciation for the other, of the traded contracts on a daily basis. Failure to pay margin calls on time usually entails, on the next day’s opening session, the automatic liquidation of the position of the party at fault.
3 Please see momagri May 17, 2010 article, “Speculative Funds: Food is not a Game”, by Bertrand Munier.
4 Please see UNCTAD March 19, 2009 report “The global economic crisis: systemic failures and multilateral remedies”. The English version of the document can be downloaded at: http://www.unctad.org/Templates/webflyer.asp?docid=11200&intItemID=2068&lang=2
A critical analysis of the report is available on the momagri website.“The UN Conference on Trade and Development (UNCTAD) Advocates Monitoring Speculation in Agricultural Futures Exchanges” by Paul-Florent Montfort, May 11, 2009
5 Please see momagri September 7, 2009 article . “The U.S. Senate denounces excessive speculation on agricultural futures markets”
6 Please see momagri May 11, 2009 article , Crisis roots according to UNCTAD,
7 ”A Finance Overhaul Fight Draws a Swarm of Lobbyists”, The New York Times, April 19, 2010.