WASHINGTON--The economic problems created by credit default swaps for American International Group and other firms is likely to result in federal regulation of the swaps market in general and insurance companies in particular, a regulatory analysis firm said.

In an investment note today, Sam Leaman of Washington Analysis said several congressional hearings this week indicate that tightening regulation of the credit default swaps market will probably be one of the first orders of business for Congress next year.

Citing hearings this week by the Agriculture Committees of both the House and the Senate, Mr. Leaman said regulation of CDS "will undoubtedly be part of next year's revamping of the regulatory structure for the financial services industry."

In fact, Mr. Leaman said, "the congressional agriculture committees are already at work on preparations for such regulation."

Mr. Leaman said a 1999 rewrite of the Commodities Exchange Act explicitly exempted credit default swaps from government regulation, "but that won't happen this time."

Since 1999, he said, this market has "grown exponentially and their $60 trillion value is of great concern to many in Congress."

In addition, he said, "the failure of AIG largely due to credit default swaps increases the odds for insurance regulation as well, either as part of the massive regulatory overhaul of the financial sector or as a standalone measure."

Mr. Leaman based his comments on hearings before the House and Senate Agriculture Committees, which have jurisdiction over commodities and derivatives markets.

He noted that at the House panel's hearing, Rep. Collin Peterson, D-Minn., called for swift action to rein in credit default swaps and indicated his panel will take the lead in providing such legislation.

Mr. Leaman also said that at the Senate hearing, Sen. Tom Harkin, D-Iowa, chairman of the panel, said he would "get a bridle on unregulated credit default contracts."

He said at the hearing that the opaque nature of the business amounted to little more than a "crapshoot without any guarantee that the money will be there to back up the bets," Mr. Leaman said.

While the exact structure of financial regulation is yet to be determined, Walter Lukken, the acting chairman of the Commodity Futures Trading Commission (on which the agriculture committees have oversight) said at the House hearing: "If we are to avoid repeating the mistakes of the past, we must strive to increase the transparency of these transactions and find ways to mitigate the systemic risk."

While the suggestion proposed by the International Swaps and Derivatives Association for a clearinghouse for credit default swaps is a first step, it will probably not provide sufficient regulation to satisfy the congressional agriculture committees, Mr. Leaman said.

Meanwhile, at the state level, New York has already taken action to regulate some swaps that it said classify as insurance transactions subject to state regulation, but the variety known as "naked" swaps do not meet that criteria.

Special Reports /

Credit Mess Will Push U.S. Insurer Regulation, Analyst Says

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