COMMENTS BY LEO MELAMED
Futures, Derivatives and Public Policy
February 25-26, 1999
is probably hard for most of the people in this room to fathom
that a mere thirty years ago, for all intents and purposes, there
was no futures industry. Oh, don't get me wrong, in 1969 there
were corn and pork bellie pits, as well as a variety of other
agricultural products traded at the CBOT and CME, not to forget
Maine potatoes in NY, but to suggest that those futures markets
compared to today's futures industry is like equating the Hoboken
little leaguers to the New York Yankees.
years ago our federal governing agency had but a few small offices
in the basements of the Department of Agriculture and the CBOT,
and operated on a budget that today wouldn't even pay for the
meager space they occupied. The exchanges operated basically
in a self regulatory environment and were allowed to make all
the appropriate business decisions without securing approval
from the dozen or so people that made up the Commodity Exchange
Authority of that day. No contract approval process, no economic
justification, no jurisdictional issues.
yet, as history bears witness, that time frame represented the
most fertile and innovative period in the history of our markets.
Arguably, one of the most innovative periods in the history of
American markets. In just four years, between 1972 and 1976,
a financial revolution occurred in Chicago which, I dare say,
changed the course and history of world finance.
International Monetary Market of the CME for the first time in
the history of markets brought financial products to the futures
floors, an event hailed by Nobel Laureate Merton Miller as the
most important innovation in finance of the 20th century; the
Chicago Board of Trade created the first organized securities
options exchange, and later extended the reach of financial futures
with the introduction of the long bond. It is not a terrible
stretch to claim that the global financial derivatives explosion
that followed during the next two decades, sprang from the ideas
fostered by the Chicago revolutionary innovations. And all of
that occurred at a time either before the CEA was constituted
with present day authority, or before the CFTC could formally
initiate its newly ordained powers. One cannot help but wonder
whether the strength and magnificence of the American financial
service sector would have been what it is today had the federal
government been just a tad quicker in coming to our rescue in
the years that followed this financial revolution, the futures
industry not only become an indispensable member of the American
financial structure, it has grown and prospered. But at a tremendous
cost. A cost which allowed vigorous competitors, ones who did
not have equivalent regulatory burdens, to succeed far and away
faster and better than did the industry that fathered most of
the original ideas. The regulatory burden we suffered, ordained
with the best of intentions, not only impeded our potential by
virtue of unnecessary bureaucratic demands, but failed to keep
up with the dramatic changes that technology and globalizations
our market applications became so materially different from the
ones which prompted the creation of the CFTC, our customer base
became so materially different from the "mama-papa" clientele
of the 1970s, the financial world so different that even if there
was a legitimate case for the regulatory authority we endured
in the past, it has no place in the present and certainly no
legitimacy in the future.
me just three brief slides to illustrate what I have been saying:
In 1974, at the time of the CFTC birth, the total global volume
on all exchanges for both futures and options was approximately
28,287,995, of which approximately 99% was agriculturally or
1998, the total global volume and all exchanges for both futures
and options, was 1,691,295,945, of which approximately 89% was
financial. It represents an astounding growth of 5,879%. A figure
that could easily be used in an attempt to prove how productive
the federal regulatory authority has been.
so fast. Better than 50% of that growth occurred on foreign exchanges
where the regulatory burdens are considerably less. American
futures exchanges were able to grow by a rate of 2,174%. Still,
that doesn't sound to shabby, but unfortunately that's not the
a complete appraisal of the value of regulations we must compare
the growth of exchange traded derivatives with that of off-exchange
derivatives, the so-called OTC markets, where the regulatory
discipline is considerably less. To do that I used 1987 as a
starting date since prior to that there is a lack of accurate
The 1987 global financial derivatives volume on futures exchanges
(I used financial contract volume for this comparison because
the vast majority of global derivatives contracts are financial
in nature) was approximately 322,303,070.
1998 that figure had grown to 1,454,514,513, an impressive increase
By comparison, the 1987 notional amount of outstanding contracts
off-exchanges was $865 billion.
1998 that figure had grown to $70 trillion (BIS figures) an increase
contract volume compared to value of outstanding contracts is
not a perfect comparison, it can serves as a fairly accurate
proxy for the picture it is telling us. In other words, off-exchange
derivatives -- without the formal regulatory structure or self-regulatory
discipline of exchange traded financial instruments -- grew something
like 23 times faster in just the last 11 years.
am here to make this plea and this point. The exchange markets
and the OTC world are rapidly converging. We are quickly approaching
the day when seamless integration between electronic interdealer
brokerage and derivatives exchanges, on a common technological
platform, via interconnected networks, will be the standard application
rather than the dream for the futures.
OTC market has already adopted many of the traditional risk management
techniques used in exchange clearing houses, namely collateral/margin
deposits, regular margin calls, bilateral and multilateral netting.
Similarly, exchange clearing houses are beginning to offer a
variety of clearing services to OTC markets: swap clearing and
hybrid markets that will support integration of derivatives,
cash and repos. Our customers are the same and are products are
similar. Gone are most of the mama-papa speculative accounts
that needed protection from the sharks --- most of our customers
are now the sharks.
us a level playing fields so that we can compete.
the Treasury Amendment. It is appropriate to treat all
derivative contracts the same. This means adopting a rational,
comprehensive regulatory program and treating currency, interest
rate, and equity derivatives in identical fashion.
but one minor exception relating to nonexempt securities) Repeal
the Shad Johnson Accord.
legal certainty to the OTC derivatives markets.
Exchange Regulation and Increase Exchange autonomy by making
the Commission a true oversight agency, no more no less. Its
power to control and/or prescribe contract terms, trading rules
and surveillance procedures on derivative exchanges should
be limited to remediation of deficiencies and statutory violations.
New contracts and rules, as well as changes to existing rules
should not require advance CFTC approval. Each exchange should
be free to define its own trading practices and procedures.
Commission has the tools to prevent fraud and manipulation and
to cure bad rules and bad contracts if such occur.
new cyberspace world will bring real empowerment to the investor.
Information technology will be to the 21st century what electricity
has been to the 20th century.
national, and economic borders will dissolve. Fortunately, American
institutions and exchanges are best positioned to lead in such
an environment because we have the knowledge and mechanisms to
use capital efficiently. To compete in the globalized world that
is at hand, the chains on futures exchanges must be removed.
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