Cox: Voluntary regulation doesn’t work

Voluntary regulation of investment banks does not work, Securities and Exchange Commission Chairman Christopher Cox testified on Capitol Hill today. “The last six months, during which the SEC and the Federal Reserve have worked collaboratively with each of the firms pursuant to our memorandum of understanding — have made abundantly clear that voluntary regulation doesn’t work,” Mr. Cox said in prepared testimony at a hearing of the Senate Banking Committee on turmoil in the U.S. credit markets. He referred to the SEC’s program of voluntary supervision for investment bank holding companies, the Consolidated Supervised Entity program, which was put in place by the SEC in 2004. “The failure of the Gramm-Leach-Bliley Act to give regulatory authority over investment bank holding companies to any agency of government was, based on the experience of the last several months, a costly mistake,” Mr. Cox said in his testimony. Gramm-Leach-Bliley allowed banks, brokerage firms and insurers to combine after years of separation that was required under Depression-era laws. The $58 trillion notational market in credit default swaps is “another similar regulatory hole that most be immediately addressed to avoid similar consequences,” Mr. Cox testified. Neither the SEC nor any regulator has authority over that market, even to require minimal disclosures, he said. The SEC’s enforcement division is focused on using antifraud authority over that market, he said, “even though swaps are not defined as securities.” A credit default swaps buyer “is tantamount to a short-seller of the bond underlying the CDS,” Mr. Cox said. CDS buyers do not have to own the bond or other debt instrument on which the CDS contract is based, meaning they can “naked short” the debt of companies without restriction, he said. “This potential for unfettered naked shorting and the lack of regulation in this market are cause for great concern,” he said, asking for authority to regulate the products.