Regulation Of Derivatives Market A Concern To Federal Reserve
While in some ways the current global recession began with the collapse of the U.S. housing market and the subprime mortgage meltdown, much of the ensuing damage was amplified because of the explosive growth of the over-the-counter(OTC) derivatives market. It will also be exceedingly difficult for the Federal Reserve to develop a regulatory structure for this complex and unwieldy market that many observers have called a ticking time bomb for the financial system.
The government has been holding hearings recently on revamping the entire regulatory structure of the entire financial system in order to prevent the kind of shocks that nearly brought it to it’s knees over the past year. A major concern for the Fed is the currently unregulated OTC derivatives market and some of it’s members gave their views before Capitol Hill today, on ways to finally regulate a market that is pretty much a festering wound waiting to happen.
The events of the last two years have demonstrated the potential for difficulties in one part of the financial system to create problems in other sectors and in the macroeconomy more broadly. OTC derivatives appear to have amplified or transmitted shocks. An important objective of regulatory initiatives related to OTC derivatives is to ensure that improvements to the infrastructure supporting these products reduce the likelihood of such transmissions and make the financial system as a whole more resilient to future shocks.
The key goal of any of the changes to the financial regulatory structure will be to dampen systemic risk and the derivatives market as it currently stands poses a grave threat to future global financial stability. Unfortunately the task ahead at this point may be akin to closing the barn door after all the animals have already left.
Because the market has grown so large in such a short time, it will take a global effort from central banks around the world to realize any significant changes in the short term for it to be effective. At this point acting on it’s own, the Fed’s can only realistically try to mitigate any possible shocks to the financial system as opposed to attempting to prevent them entirely.
