Swapping swaps for futures

The hottest topic of the day is the migration of swaps to the futures market, which appears to have taken regulators somewhat off guard.  The basic idea is that market participants will prefer to use futures contracts that mimic the performance of swaps rather than using the swaps themselves.  The apparent motive behind this migration is the impending regulation of the swaps market, with the imposition of the usual regulatory requirements relating to margin, block size, transaction reporting, central clearing, swap dealer registration, etc.

On January 31, 2013, the CFTC held a public roundtable to solicit input on the benefits and burdens of this migration.  Written comments can be retrieved from the agency website and a video of the day-long session will be available there soon.  The trade press is also providing extensive coverage of the views of scholars and partisans on this matter.

Certain basic principals can easily be agreed upon, regardless of where one's interests may lie.  Opportunities for "regulatory arbitrage" between the swaps and futures systems should, naturally, be eliminated or at least minimized.  The increased burden on "end users" who use swaps to hedge their actual risks in the marketplace should also be held to a minimum, although that will undoubtedly be a non-zero number.

Where the regulatory lines are drawn, and how they are adjusted with experience, will certainly be a matter of intense debate and unavoidable experimentation; much of this is unexplored territory.  But regulators and Congress must keep the broader picture in mind.  Futures and swaps are often, rightly, analogized to insurance policies.  It is less common to recognize the costs of regulation as part of the premium, as real as that cost is.  Dodd-Frank and its implementing regulations are intended to be insurance against catastrophic failure of the national and international financial system.  The "regulatory premium" for that policy will never exactly reflect the corresponding risk in such a complex and dynamic system, but burdens, fair and unfair, must be borne to provide a better system than the one that exploded five years ago.