LONDON Global financial regulators seem to have thought better about imposing ambitious new rules on physical oil markets.
Instead they are leaning towards a modest set of record-keeping requirements for price reporting agencies (PRAs) that largely codify existing practice and are in line with voluntary commitments the agencies have already given.
Back in March, the International Organisation of Securities Commissions (IOSCO) issued a consultation paper which floated the idea of "setting up independent oil market regulators for physical oil markets, either focused exclusively on oil PRA activity or more broadly on the physical oil markets themselves" or a scheme of statutory regulation for price reporting agencies.
In an update on the results of the consultation, published on Tuesday, IOSCO appears to have backed off from these controversial ideas. There is no mention of creating a new system of market regulation, setting up new regulatory institutions, or subjecting PRAs to some form of direct oversight. Instead the consultation recommends a more limited and indirect course that builds on the existing system of regulation for derivatives markets.
According to the update: "Possible approaches include ... an independent review committee at (each) PRA providing regular reports to stakeholders, some form of mandatory and appropriately transparent audit of the PRA's compliance with recommendations, and/or a follow up review by IOSCO, in collaboration with (OPEC, the International Energy Agency and the International Energy Forum), of the extent to which PRAs have adopted and implemented the final recommendations to be made by IOSCO."
The ultimate sanction would be to prevent organized futures and options markets from using assessed prices to calculate settlements for derivative contracts if the prices are not produced in compliance with the guidelines.
According to the updated consultation paper: "Market authorities might also consider whether to make compliance with IOSCO's recommendations a condition for a market to list a commodity derivatives contract referencing a PRA assessment."
The update focuses on what it calls "preliminary areas of potential concern": the transparency and objectivity of price assessments; how changes are made to benchmarks; the role of individual judgment; preventing the potential for manipulation; completeness of the data available to price assessors; record-keeping; audit trails; and complaint handling.
The outlined remedies are modest - mostly a lot more documentation and record-keeping about general procedures and the information used to reach particular assessments.
Everything in the consultation paper has already been promised by the agencies in the voluntary "Price Reporting Code for Independent Price Reporting Organisations" published by Platts, Argus and ICIS at the end of April as part of their response to the review process.
None of the recommendations will result in a significant change to current arrangements. There will be a modest increase in paperwork and bureaucracy, but otherwise very little will change.
For example, the voluntary code promises that agencies will publish their methodologies and "take into account feedback received from subscribers, data contributors and other market participants" in the context of any review of methods, including changing the basis for calculating benchmarks.
The code commits agencies "where reasonable and practicable" to "consult with market participants in relation to any material proposed changes to its price assessment methodologies." It promises prompt and fair complaint handling procedures, and that agencies will maintain proper and up to date records to explain its assessments.
In a softening of its previous idea that market participants might be compelled to submit data on transactions to the PRAs, IOSCO is now suggesting a requirement that if they choose to submit data, they should be required to report all relevant transactions, not just some of them.
REGULATORS BACK DOWN
The leading price assessors will be quietly satisfied. The more radical changes floated in the consultation that would have constrained their business model or confiscated and socialized their intellectual property have been watered down or abandoned.
In particular, they will remain free to design and modify their assessments, rather than having to seek prior approval from a board dominated by industry or regulators, with its inbuilt tendency to entrench vested interests.
IOSCO appears to have recognized its members currently lack authority to regulate physical markets or the internal business model of the agencies. It may have a top-level mandate from G20 leaders to prepare recommendations, but there is an insufficient statutory basis for regulating physical markets or interfering with intellectual and business property.
With regulators already embroiled in a fierce fight over implementation of the U.S. Dodd-Frank Act and the EU Markets in Financial Instruments Directive there is zero chance of getting lawmakers to grant them sweeping new powers to implement an ambitious new regulations in the near future.
Instead, IOSCO is concentrating its fire on the use of price assessments in the physical market (where it has no jurisdiction) on the settlement of derivatives contracts (where it has clear statutory authority), which is a more sensible legal approach.
IOSCO may also have realized there is no industry consensus on whether, let alone how, to reform the current process. For everyone who wants an overhaul of the process, or the way that a particular benchmark is calculated, there is someone else who supports the process and wants a given price assessment to remain unchanged.
Price assessments are usually zero-sum (someone gains and someone loses). It is not possible to rise above these vested interests to identify an agreed upon way forward.
LACK OF TRANSPARENCY
Nonetheless, the price reporters have every reason to be angry about the way the "Consultation on the Functioning and Oversight of Oil Price Reporting Agencies" has been conducted.
From the start, the review appears to have concluded something is wrong, without being able to articulate precisely what the problems are that need addressing. Instead, the review has presented a laundry list of unsubstantiated complaints about how the agencies operate, including insinuations about possible conflicts of interest, errors and manipulation, without presenting a single piece of hard evidence.
Elsewhere, I have been critical of calls for a strict quantitative approach to analyzing the costs and benefits of financial regulations. In most cases, calls for quantification and "smart regulation" are nothing more than a disguised attempt to thwart regulation by erecting impossible hurdles and mandating controversial quantifications that will keep economists, lawyers and the courts arguing for years.
But in this instance, IOSCO has not even presented a qualitative case for new regulation. There are vague claims about potential problems and concerns, but a total absence of hard evidence to back them up. IOSCO has failed to make even the most basic case that regulations are needed. Little wonder the review appears to be edging towards codifying the status quo, with a new layer of documents on top to make the regulators feel better.
The consultation process itself has also been highly non-transparent - which is ironic, since lack of transparency is one of IOSCO's major concerns about the PRAs.
In the United States, the Commodity Futures Trading Commission (CFTC) has published all comments received in response to its rulemakings on its website.
Launching its consultation in March, IOSCO promised that "all comments will be made available publicly, unless anonymity is specifically requested. Comments will be converted to PDF and posted on the IOSCO website. Personal identifying information will not be edited from submissions."
In fact, IOSCO has now confirmed that none of the comments will be published until the final report is issued, at which point it will be too late for them to be relevant.
As the CFTC has realized, transparency in rule-writing is essential because so many respondents have a vested interest in the outcome. So it is a shame IOSCO has kept the process hidden from the public, diminishing its credibility.
Overall, the review appears to be leaning towards a set of recommendations that are reasonable as much as innocuous. But this no way to write new international financial regulations. If price assessment agencies changed their methods in such a haphazard way, the regulators would come down on them like a ton of bricks. It is time to hold IOSCO to the same standard.
(John Kemp is a Reuters market analyst. The views expressed are his own)
(Thomson Reuters competes with Platts, Argus and ICIS in providing information to the energy markets.)
(Editing by Anthony Barker)