Worried Fed seeks to curb Wall Street banks commodity trade
Credit: Reuters/Jason Reed
U.S. Federal Reserve Vice Chair Janet Yellen testifies during a Senate Banking Committee confirmation hearing on her nomination to be the next chairman of the Federal Reserve, on Capitol Hill in Washington November 14, 2013.
In a 6-0 vote, the Fed board agreed to publish a preliminary notice laying out its concerns and potential remedies, following months of growing public and political pressure to check banks' decade-long expansion into the raw materials supply chain.
Facing a clearly uneasy regulator, some banks such as JPMorgan Chase & Co are already quitting the commodity trade, a once-lucrative business that has reaped billions of dollars of revenue for Wall Street over the years but is now facing diminished margins and stiffer capital rules.
In a 19-page document that included two dozen questions, the Fed offered a host of reasons for imposing new restrictions in the interests of limiting potential conflicts of interest and protecting the safety and soundness of the banking system, invoking incidents including BP's Deepwater Horizon disaster and last summer's oil-train tragedy in Quebec.
'The recent catastrophes accent that the costs of preventing accidents are high and the costs and liability related to physical commodity activities can be difficult to limit and higher than expected,' the Fed said in the notice.
It is the Fed's first detailed public discussion since it shocked the banking industry last July by announcing a 'review' of its 2003 authorization that first allowed commercial banks such as Citigroup to handle physical commodities.
It comes just one day before a senior Fed director goes before a second Senate banking committee hearing on the matter.
U.S. Senator Sherrod Brown of Ohio, who led the first such hearing last summer, said the measure was 'overdue and insufficient', warning that consumers and end-users risked paying higher commodity prices until new curbs are imposed.
CONFLICTS, RISKS AND CAPITAL
Beyond the financial risks, the Fed is also seeking comment on potential conflicts of interest for banks, and the risks and benefits of additional capital requirements or other restrictions - measures that have been hinted at in the past.
The Fed said that new limits on ways in which banks may deal in physical commodities were up for debate: the authority to trade raw materials as 'complementary' to derivatives; the investment in commodity-related business as arm's-length merchant banking deals; and the 'grandfather' clause that has allowed Morgan Stanley and Goldman Sachs much wider latitude than their peers.
The 'advance notice of proposed rulemaking,' which is an optional initial step in the sometimes years-long process of making new regulations, seeks comments until March 15.
The Fed also questioned several previously cited justifications for allowing banks to trade in physical commodities such as crude oil cargoes and copper pallets.
It said, for instance, that although most banks are not allowed to actually own infrastructure assets, those that lease storage tanks or own physical commodities held by third parties may nonetheless face a 'sudden and severe' loss of public confidence if they are involved in a catastrophe.
They also said that several banks' recent moves to sell all or parts of their physical trading operations 'may suggest that the relationship between commodities derivatives and physical commodities markets ... may not be as close as previously claimed or expected.'
(Reporting By Karey Van Hall and Emily Stephenson; Editing by Leslie Adler and Grant McCool)
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