H/T JOSH ROSNER

Highlights:

Pursuant to congressional requests, GAO reviewed financial derivative products, focusing on: (1) the extent and nature of derivatives’ use; (2) what risks derivatives pose to individual firms and the financial system; (3) firms’ and regulators’ attempts to control these risks; (4) gaps and inconsistencies in U.S. regulation of derivatives; (5) whether financial reports provided adequate information on firms’ use of derivatives; and (6) the implications of the international use of derivatives for U.S regulation.

GAO found that: (1) the outstanding amount of derivatives at the end of 1992 was at least $12.1 trillion; (2) the rapid growth and increasing complexity of derivatives activities increase risks to the financial system, participants, and U.S. taxpayers; (3) relationships between the 15 major U.S. dealers that handle most derivatives activities, end users, and the exchange-traded markets makes the failure of any one of them potentially damaging to the entire financial market; (4) the Group of Thirty has proposed benchmark risk management practices, and regulators have issued guidelines for bank dealers, but there are no comprehensive industry or federal regulatory requirements to ensure that U.S. derivative dealers follow good risk-management practices; (5) significant gaps and weaknesses in federal regulation of derivatives dealers include limited regulatory authority over security and insurance firms’ derivatives activity, insufficient risk-disclosure requirements, inadequate information collection standards, inadequate documentation and testing of internal controls, and inadequate rules for financial reporting of derivatives activity; and (6) regulators are attempting to improve derivatives regulations and accounting rules, but the complexity of derivatives makes the task difficult.

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