Extraterritoriality

1. REFORM OF THE FINANCIAL SERVICES INDUSTRY AND ITS IMPACT ON U.S. COMPETITIVENESS Extraterritoriality

2. Understanding Extraterritoriality Extraterritorial Jurisdiction: describes the efforts of national legislatures to impose their laws and regulations on governments and citizens outside of their borders. (KPMG International Cooperative, 2012)

3. Problems Arising from the Extraterritorial Reach of New Regulations Unilateral extraterritorial regulations can be problematic for many reasons, including: • the need for cooperation with foreign regulators when it comes to enforcement, • reciprocal unilateral actions by foreign regulators can result in confusion and inefficiency, thereby negatively impacting the financial markets, • conflicting foreign and U.S. regulations may prove irreconcilable, and • they can spark an onslaught of litigation.

4. The 2007-2008 Global Financial Crisis • The global financial crisis that struck at the beginning of 2007 was the most severe economic downturn since the Great Depression of the 1930s. • In an effort to contain the crisis and limit the extent of the damage, the USG authorized up to $700 billion to be used to bail out the financial services and automotive industries. The bailout is formally known as the Troubled Asset Relief Program (TARP). • Besides the TARP, the federal government instituted a multitude of other rescue and stimulus programs. • The crisis led to the most far-reaching financial regulatory reform since the Glass-Steagall Act of 1933.

5. Leading Causes of the Crisis Most experts agree that there were several principal causes of the crisis, including: • the breakdown or failure of existing financial services regulations, • policies that did not keep pace with new technologies, • a belief in the ability of markets to self-regulate, • a trend toward deregulation, • U.S. promotion of homeownership through mortgage subsidy programs and tax incentives, • a Federal Reserve policy of keeping interest rates low throughout the early to mid 2000s, • easy credit, • low household savings, • high levels of household and U.S. government debt, • an increase in OTC derivatives trading and trading in other exotic instruments, and • global current account imbalances.

6. Dodd-Frank • Formally known as the Dodd-Frank Wall Street Reform and Consumer Protection Act, it was signed into law on July 21, 2010. • The purpose of Dodd-Frank is “to promote the financial stability of the United States by improving accountability and transparency in the financial system, to end ‘too big to fail’, to protect the American taxpayer by ending bailouts, to protect consumers from abusive financial services practices, and for other purposes.”

7. Dodd-Frank Cont’d. • The key objectives of the legislation are to repair the reputation of the U.S. Government, restore confidence in the U.S. financial services industry and prevent another financial crisis from occurring. In order to accomplish these objectives, Dodd-Frank: • Seeks to identify risks to the financial stability of the U.S. from both financial and non-financial organizations. • Seeks to promote market discipline among financial services providers by eliminating expectations that the Government will shield them from losses in the event of failure. • Creates a way to respond to emerging threats to the stability of the US financial system .

8. Dodd-Frank Cont’d. • Aims to curb excessive risk-taking. • Ends the possibility of additional “too big to fail” bailouts. • Creates a system to improve transparency and accountability for exotic instruments such as over-the-counter derivatives, asset-backed securities, hedge funds, mortgage brokers and payday lenders. • Creates new consumer protections and establishes an independent regulatory agency to enforce them. • Establishes new rules on executive compensation and corporate governance by requiring reporting by all public companies on CEO to median employee pay ratios, golden parachutes, and other compensation data. • Establishes new rules for credit rating agencies. • Provides a means to better enforce regulations already on the books. • Requires higher capital requirements for banks.

9. Dodd-Frank Cont’d. The Volcker Rule: • Aims to reduce the amount of speculative investments on large firms' balance sheets and essentially bans proprietary trading. • Limits banking entities to owning no more in a hedge fund or private equity fund than 3% of the total ownership interest. • Improves transparency and requires that banks disclose their relationships to and dealings with hedge funds and private equity funds to ensure that there are no conflicts of interest.

10. Dodd-Frank Cont’d. • One of the key criticisms of Dodd-Frank is that many of the required regulations still remain unwritten. • At least six existing regulatory agencies and three new ones will be involved in the rule-making process. • The affected agencies are required to issue “hundreds of rules to implement reforms”. (GAO, 2011)

11. Dodd-Frank Cont’d. New Regulatory Agencies Created Under Dodd-Frank: • Financial Stability Oversight Council, • Office of Financial Research, and • Bureau of Consumer Financial Protection. Existing Regulatory Agencies Affected by Dodd-Frank: • Federal Reserve System (The Fed), • Federal Deposit Insurance Corporation (FDIC), • Securities and Exchange Commission (SEC), • Securities Investor Protection Corporation (SIPC), • Office of Thrift Supervision, and • Office of the Comptroller of the Currency.

12. Potential Extraterritorial Impact of Dodd-Frank The sections of Dodd-Frank that are of greatest concern to U.S. interests and to the global financial services industry as a whole are related to the following: • Regulation of OTC derivatives, • Higher bank capital requirements, • Restrictions on proprietary trading (i.e. the Volcker Rule), and • Specialized disclosure provisions.

13. Costs vs. Benefits of Regulation Costs to the U.S. Private Sector (related to compliance): • Ongoing Uncertainty Over Various Pending Regulations Linked to Dodd-Frank • Costs of Restructuring in Anticipation of New Regulations • External Auditor Fees and Fees Related to Strengthening Internal Controls • Legal Fees • Lost Productivity • Creation of an Unlevel Playing Field for U.S. Firms

14. Costs vs. Benefits of Regulation Cont’d. Additional Costs to the U.S. Private Sector (related to compliance): • Activities Restrictions, Including Limitations on Proprietary Trading • Higher Capital Requirements • Whistleblower Bounty Program • Tax Implications • Specialized Disclosure Provisions • Designation of Systemically Important Financial Institutions (SIMIs)

15. Costs vs. Benefits of Regulation Cont’d. Costs to the U.S. Government (related to enforcement): • Requires higher staffing levels at regulatory agencies and an increase in annual appropriations to pay for higher agency operating costs. • Risks retaliatory / reciprocal foreign regulatory oversight in U.S. markets. • Risks an increase in regulatory arbitrage. Regulatory arbitrage is defined as a practice whereby firms capitalize on loopholes in regulatory systems in order to circumvent unfavorable regulation.

16. Costs vs. Benefits of Regulation Cont’d. Additional Costs to the U.S. Government (related to enforcement): • Risks that a foreign government will adopt weaker standards in order to attract more business. • Risks that financial services firms will engage in forum shopping -- seeking the least regulated market in which to base their operations. • Risks that the U.S. Government will lose tax revenue if large numbers of financial services firms relocate overseas.

17. Costs vs. Benefits of Regulation Cont’d. Benefits to Investors, Consumers and the U.S. Financial System: • Greater Stability of the U.S. Financial System • Renewed Investor Confidence • Greater Consumer Protections • Improved Corporate Governance and Transparency • Improved Accuracy and Reliability of Financial Statements • Fraud Prevention • Elimination of “Too Big to Fail” • Reduction in Conflicts of Interests and Predatory Banking Practices

18. GAO Findings and Policy Recommendations • The United States Government cannot afford to repeal Dodd-Frank and forgo much-needed financial regulatory reform. • In November 2011, the GAO released a report on its review of progress to date in the implementation of new financial regulations required by Dodd-Frank.

19. GAO Findings and Policy Recommendations Cont’d. The GAO highlighted the following areas of concern: • Concerns about the breadth of issues and the number of regulatory agencies concurrently issuing regulations. • As independent regulatory agencies, federal financial regulators are not required to conduct cost-benefit analyses prior to issuing new rules. • They are also not required to follow Office of Management and Budget (OMB) guidance on conducting such analyses. • Dodd-Frank requires coordination between certain agencies, and specific rules or subjects, but for the most part, federal financial regulators are not required to engage in significant coordination with one another when drafting new rules. • Little is known about the potential impact of all of the new Dodd-Frank regulations, given that few that are currently in effect and the ones that are have only been in effect for a short time. • Financial regulatory agencies also do not have adequate plans in place to systematically collect and analyze data to assess the impact of the new rules.

20. GAO Findings and Policy Recommendations Cont’d. There are four key recommendations in the GAO report: • Federal financial regulators must take steps to strengthen the rigor and transparency of their regulatory analyses by better incorporating OMB’s regulatory analysis guidance into their rule-making practices. • The Financial Stability Oversight Council should work with the regulatory agencies to formalize coordination policies . • The regulatory agencies should develop plans that determine how they will measure the impact of Dodd-Frank Act regulations after they go into effect. • The Financial Stability Oversight Council should direct the Office of Financial Research to work to identify and collect the data necessary to assess the impact of Dodd-Frank regulations on among other things, the stability, efficiency and competitiveness of U.S. financial markets.

21. Sources • Alper, Alexandra. “Bankers Air Fears Over Scope of U.S. Swaps Rules.” Thompson Reuters Accelus Dodd-Frank Watch. 9 February 2012. http://www.complinet.com/dodd-frank/news/articles/article/bankers-air-fears-over-scope-of-us-swaps-rules.html • Cleary Gottlieb. “Dodd-Frank: One Year Later.” 27 July 2011. http://www.cgsh.com/files/News/d3b7c782-5cae-4332-88be-358ac68b2156/Presentation/NewsAttachment/a072cdb4-5bc5-49ff-b34c-35a62d910c56/CGSH%20Alert%20-%20Dodd-Frank%20-%20One%20Year%20Later.pdf • Financial Regulatory Reform Center. “Derivatives.” http://financial-reform.weil.com/derivatives-introduction/#axzz1q609Csdg • Fontevecchia, Agustino. “Dodd-Frank Failing on Volcker Rule, Derivatives, Credit Rating Agencies.” Forbes Magazine. 6 June 2011. http://www.forbes.com/sites/afontevecchia/2011/06/06/dodd-frank-failing-on-volcker-rule-derivatives-credit-rating-agencies/ • Forex Forums. Dodd-Frank Funny Cartoons and Quotes. http://forexforums.com/forums/general-forex-discussions/35239-dodd-frank-funny-cartoons-quotes.html

22. Sources Cont’d. • Government Accountability Office. “Dodd-Frank Act Regulations: Implementation Could Benefit from Additional Analyses and Coordination.” November 2011. http://www.gao.gov/new.items/d12151.pdf • Investopedia. “Regulatory Arbitrage.” http://www.investopedia.com/terms/r/regulatory-arbitrage.asp#axzz1qA3hAn6F • KPMG International Cooperative. ”Extraterritoriality.” Frontiers in Finance. February 2012. http://www.kpmg.com/global/en/issuesandinsights/articlespublications/frontiers-in-finance/publishingimages/february-2012/february2012/21011.html • Milken Institute. ”Curbing the Extraterritoriality of Dodd-Frank’s Derivatives Regulation: An Examination of the Swap Jurisdiction Certainty Act.” 9 February 2012. http://www.milkeninstitute.org/publications/publications.taf?function=detail&ID=38801305&cat=Arts • Public Company Accounting Oversight Board. “PCAOB Adopts Interim Inspection Program for Broker-Dealer Audits and Broker and Dealer Funding Rules.” 14 June 2011. http://pcaobus.org/Pages/default.aspx