Prices in derivatives markets are often quite volatile. This has led some authorities to be reluctant to permit the establishment of such markets - in part because they fear that this volatility will cause increased price volatility in the underlying (cash) market. But derivatives markets exist only for products and instruments that are likely to have significant price volatility. Derivatives markets are useful because they help people manage the risk associated with this volatility. A regulatory scheme which imposes unnecessary costs on derivatives markets will reduce or bar the use of derivatives. The effect of this will be to make some business enterprises more risky than they need to be.
Regulators must remember that the purpose of regulation is not to prevent price volatility. It is ensure that prices in derivatives markets reflect supply and demand. The purpose of regulation is not to ensure that no one goes bankrupt. It is to contain and minimize the systemic effects of such an event. The purpose of regulation is not to ensure that investors do not lose their funds. It is to ensure that appropriate safeguards against customers' losing their money due to fraud are in place.
Those responsible for monitoring the performance of derivatives regulators should not expect the impossible of the regulators. They should not expect regulators to ensure that prices are not volatile. Nor should they expect regulators to protect market participants from the all the possible consequences of volatility or the consequences of their own decisions. If the financial authorities want the benefits associated with having derivatives exchanges, they must realize that there will be times when some are dissatisfied with the performance of these markets. They should hold their regulators accountable for having cost effective means of achieving market integrity, financial integrity, and customer protection in place, but not for being unable to control the forces of supply and demand and not for being unable to prevent market participants from making unwise decisions.
