A quarrel among regulators could add up to billions in savingsfor Wall Street banks.

At stake is a proposed rule that has dragged on for years thatcould require firms like JPMorgan Chase & Co. and MorganStanley to set aside tens of billions of dollars in collateral whentrading swaps with their own affiliates. Now, a last-ditch effortby bank lobbyists has helped spur some regulators to second-guesshow strict they should be, according to three people familiar withthe discussions.

The Office of the Comptroller of the Currency (OCC), whichregulates some of the largest banks that deal in swaps, is leaningtoward insisting only an affiliate post collateral to the bank,said the people, who requested anonymity because the final ruleisn't yet public. The Federal Deposit Insurance Corp. (FDIC) hasbacked a version of the rule proposed in September, demanding botha bank and its affiliate put up collateral, the people said.

Swaps trading—when it was largely unregulated—amplified thefinancial crisis seven years ago. An aggressive collateral rulewould help prevent affiliates from collapsing and leaving taxpayerson the hook, Thomas Hoenig, vice chairman of the FDIC, said in aninterview. Banks also are hiding behind the complexity of the ruleto say it puts them at a competitive disadvantage with foreignrivals, he said.

“It's never a competitive disadvantage to operate in a morestable and robust financial system, as the banks that entered thefinancial crisis with the lowest capital levels quicklydiscovered,” Hoenig said.

Transfer Risk

Financial firms have argued they shouldn't be required to put upcollateral in swaps transactions with their own divisions, whichthey say they do to hedge risks. For example, under the version ofthe rule the FDIC has advocated for, JPMorgan would be required topost collateral against a trade of non-cleared swaps with its U.K.brokerage, and the U.K. brokerage would have to post collateral toJPMorgan as well. Andrew Gray, a JPMorgan spokesman, declined tocomment.

The firms typically do these trades to transfer risk from theiraffiliates to their deposit-backed banks, where they enjoy betterborrowing rates. Current practice doesn't call for collateral inthese transactions.

The FDIC's Hoenig said trades with overseas units can exposebanks to serious risks. If an affiliate implodes and drags down theU.S. holding company, the FDIC would have to prop up themess—keeping depositors' money safe and using Dodd-Frank Act powersto rebuild a healthy version of the parent company. If banks arerequired to post collateral to their units, it reduces thelikelihood that the FDIC would have to intervene in a crisis, hesaid.

The biggest swaps dealers include JPMorgan, Morgan Stanley,Goldman Sachs Group Inc., Citigroup Inc., and Bank of America Corp.It's difficult to estimate how much money is at stake for themgiven the complexity of the market. If the final rule is lessstringent than the September proposal, they could reduce thecollateral they have to hold by tens of billions. That's a slice ofabout $644 billion in collateral that would be held by banks innon-cleared swap trades, according to preliminary OCCestimates.

Forcing the banks to hold extra collateral would hurt liquidity,said Adam Gilbert, a former JPMorgan executive who now advises onfinancial regulation at PricewaterhouseCoopers LLP. Firms may findit so costly they decide not to do the internal transactions atall, he said.

'Question Marks'

Trade groups representing Wall Street banks—the Clearing HouseAssociation, American Bankers Association and Securities Industry,and Financial Markets Association—have fought to shield banks andtheir affiliates from the demand. In a June letter to regulators,they said if their members aren't exempt for all interaffiliateswaps trades, then only a limited number of units should have toset aside funds.

Officials at the Commodity Futures Trading Commission (CFTC),which along with the Securities and Exchange Commission (SEC) issupposed to provide a parallel version of the bank regulators'rule, have also expressed concerns. J. Christopher Giancarlo, aRepublican CFTC commissioner, has said the requirement would driveup banks' costs for trading, which would then be passed toclients.

“I still think there are some question marks,” Mark Wetjen, aDemocrat on the CFTC, said in an interview.

Morgan Stanley and other bank executives pushed for an exemptionfrom the CFTC at a public meeting at the agency's headquarters inMay. The executives said the requirement would hurt their abilityto manage risks. Mark Lake, a spokesman for Morgan Stanley,declined further comment.

The OCC “has always supported” making banks collect collateralfrom uninsured affiliates, said Bryan Hubbard, an OCC spokesman,who declined to comment on whether the agency wanted the banks toalso post collateral to their units. Spokesmen for the FDIC, CFTC,and Federal Reserve—the other banking agency working on therule—declined to comment on the debate.

Lawmakers have also been involved in the swaps battle. Earlierthis year, the House Agriculture Committee, which oversees theCFTC, drafted broad derivatives legislation.

“Interaffiliate swaps are an important risk management tool,”Representative Randy Neugebauer, a Texas Republican on thecommittee, said in a emailed statement.

Debate on the legislation quickly turned partisan. Republicansstruggled to win support for provisions easing swaps rules fromDemocrats, who said the bill would open up loopholes for WallStreet to exploit. Staff for Representative K. Michael Conaway, theTexas Republican who serves as chairman of the agriculture panel,reached out to industry lobbyists asking for their help wooingDemocrats.

“We'd like for it to be really bipartisan,” a Conaway staffmember wrote in an email obtained by Bloomberg News.

In the end, Conaway and Neugebauer decided the agriculture billjust wasn't the right place to deal with the issue, according totheir spokesmen. With legislation on hold, the debate remains inregulators' hands.

–With assistance from Dakin Campbell in New York.

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