Basel III could undermine national laws allowing corporate clearing exemptions.
Legislators in the US and Europe have increasingly shown a willingness to let corporate end-users of OTC derivatives remain free of central clearing requirements. That’s a triumph for treasury, which has brought careful lobbying muscle to bear. But another set of rule-setters, operating internationally from the drab Swiss town of Basel, wants to change the economics of bilateral OTC instruments in such a way that they could be pushed into clearing nonetheless. Treasury needs to strategize carefully to counter this new threat.
The Basel Committee on Banking Supervision’s new draft bank capital and liquidity rules, dubbed Basel III (see here and here), contains a provision that would force banks (read: most big dealers) to put more capital behind bilateral OTC derivatives transactions, even if the counterparty was a corporate that, under its native country law, was exempt from clearing requirements. If the Basel III rules are adopted, and implemented by individual countries, that would raise the cost of these instruments, making it more likely that dealers and hedgers would find it more economical to turn to clearinghouses.
The legislation now being debated in the US Senate, and the sketch being considered by European Commission regulators, would have similar requirements for bilateral deals between dealers and other major financial players, but would let corporates more or less off the hook.
That has been applauded by many treasurers in the US and Europe. They have argued that forcing them to post and maintain margin would be both costly and add an unwanted element of risk to their cash flows. This could make the whole process uneconomical—increasing risk in the corporate community.
The Association of Corporate Treasurers and the European Association of Corporate Treasurers submitted comments (which, along with the many letters submitted by members of the financial community, are available on the BIS website) pointing out this danger. The corporate lobby has been successful in explaining the exigencies of business hedging to domestic lawmakers—but that might turn out to have been in vain if Basel III makes clearing a fait accompli anyway.