On January 15, 2014, the Senate Subcommittee on Financial Institutions and Consumer Protection held a hearing entitled “Regulating Financial Holding Companies and Physical Commodities.”  The purpose of the hearing was to explore the regulation of financial institutions operating in the physical commodity markets.  The witnesses for the hearing were: Norman Bay, Director, Office of Enforcement, Federal Energy Regulatory Commission (“FERC”); Vince McGonagle, Director, Division of Market Oversight, Commodity Futures Trading Commission (“CFTC”); and Michael Gibson, Director, Division of Banking Supervision and Regulation, Board of Governors of the Federal Reserve System (“Federal Reserve”).

Senator Sherrod Brown and others criticized the Federal Reserve’s timing of its issuance of an Advanced Notice of Public Rulemaking (“ANOPR”), issued on January 14, 2014 (the day before the hearings), that seeks comment on financial institutions’ role in the physical commodities markets.  Specifically, Senator Brown was critical of the Federal Reserve’s slow response to Senators’ calls for regulation of bank-owned commodities, stating, “Why now?  Why did it take so long?”  Senator Elizabeth Warren was also critical of the Federal Reserve’s ANOPR when she commented that the ANOPR was a “step forward but a meager one,” stating “I think we already have ample evidence that the [Federal Reserve] needs to place additional restrictions on how banks trade and warehouse physical commodities to reduce systemic risk and protect consumers from market manipulation.”

In his testimony, Mr. Gibson stated that based on the comments received on the ANOPR, the Federal Reserve could impose additional restrictions including reductions in the maximum amount of assets or revenue for such commodities activities, increased capital or insurance requirements, and prohibitions on holding certain types of physical commodities.  The Federal Reserve is accepting comments on the ANOPR until March 14, 2014. 

Additionally, the hearing touched on recent energy-related accidents and natural disasters, including the 2010 Deepwater Horizon drilling rig explosion that cost BP Plc more than $42 billion.  In its ANOPR, the Federal Reserve questioned whether banks can shoulder the high costs and liabilities that result from major energy disasters such as Deepwater Horizon and the San Bruno, California pipeline explosion.  Mr. Gibson testified that there has been a substantial increase since 2008 in the amount and types of commodities activities conducted by the firms the Federal Reserve supervises, and that the “recent catastrophic events involving physical commodities have increased concerns regarding the ability of companies to mitigate potentially extraordinary tail and other risks.”

Also at issue was the cooperation of federal agencies in policing the gas and electric futures markets for market manipulation.  Senator Warren questioned why a Memorandum of Understanding (“MOU”) for information sharing between the CFTC and FERC was only recently completed when the Dodd-Frank Wall Street Reform and Consumer Protection Act required the agencies to complete a MOU by 2011.  Senator Warren pressed both FERC and CFTC witnesses on whether the MOU would allow both agencies access to the information they need to oversee the energy markets.  Both Mr. Bay and Mr. McGonagle stated that the MOU allowed for the information sharing between the two agencies that was necessary for each to oversee their respective area of the energy market.

The MOU between FERC and the CFTC was executed on January 2, 2014.  It provides that each agency will promptly provide information related to market surveillance or an investigation into potential market manipulation under an agency’s jurisdiction upon request by the other agency (see January 10, 2014 edition of the WER).

A copy of Mr. Bay’s testimony is available here.  A copy of Mr. McGonagle’s testimony is available here.  A copy of Mr. Gibson’s testimony is available here.  A copy of the Federal Reserve’s ANOPR is available here.  An archived copy of the hearing is available here.