The Commodity Futures Trading Commission has initiated legal action against Arizona, Connecticut and Illinois, seeking to enforce state laws against prediction markets.
In announcing the filings, CFTC Chairman Mike Selig called out state regulators for “inconsistent” obligations:
“The CFTC has clear and longstanding exclusive jurisdiction to regulate prediction markets. But recently, state regulators have tried to impose inconsistent and contrary obligations on CFTC-registered prediction markets. In response, the CFTC and [The United States Department of Justice] today filed three separate complaints in federal district courts against the states of Arizona, Connecticut, and Illinois to reassert our statutory authority over these markets.”
CFTC argues Congressional intent to preempt state law
Much of the CFTC’s complaints echo the arguments provided in existing prediction market litigation – specifically, that states are preempted from enforcing its gambling laws against designated prediction markets due to such platforms being regulated by federal law conferring exclusive jurisdiction to the CFTC.
“Event contracts, including sports-related event contracts that are listed on [designated contract markets], are covered by the [Commodity Exchange Act], and the CEA prohibits States from invading the CFTC’s exclusive jurisdiction over event contract transactions offered by and executed on federally regulated DCMs,” the CFTC argued. “By prohibiting these DCMs from operating [without a license] or by conditioning their operation on compliance with [state] laws and regulations, Defendants directly interfere with Plaintiffs’ authority pursuant to the federal scheme imposed by Congress through the CEA.”
The CFTC goes into great detail to explain its claim of preemption, including discussing the history behind Congress’ enactment of the CEA and explaining why Congress gave the CFTC exclusive jurisdiction over federally regulated exchanges:
- Congress first passed laws creating a “comprehensive federal regulatory framework for futures markets” in 1921, “even over objections that the new legislation would displace some States’ regulations.”
- Congress further expanded federal oversight of futures markets in 1936 with the passage of the CEA.
- In 1974, “Congress amended the CEA to explicitly give the CFTC exclusive jurisdiction over commodity derivatives transactions including futures, options, and swaps traded on federally regulated exchanges.” In doing so, “Congress recognized the need for uniform, nationwide regulation of futures and options markets because concurrent regulation by the states or other federal regulators such as the Securities and Exchange Commission could lead to ‘total chaos.’”
- Subsequent amendments to the CEA “reinforced and clarified” the CFTC’s exclusive authority over futures transaction on CFTC-regulated DCMs while clarifying that states may pursue actions against non-federally regulated exchanges.
- Congress’ passage of the Dodd-Frank Act extended the CFTC’s “exclusive jurisdiction to encompass transactions involving swaps,” thereby removing “all authority for States to regulate swaps of any kind, creating a complete framework for the CFTC’s exclusive jurisdiction and occupying the regulatory field” over event contracts.
In sum, the CFTC wants courts to acknowledge that it is up to the federal government, and not individual state laws, to determine what is allowed on CFTC-designated markets. The CFTC highlights its duty of issuing guidance and providing clarity to protect innovation and that it is currently in the process of writing and revising rules applicable to event contracts that would be negated if states were allowed to dictate how prediction markets operate.
Complying with both sets of laws not an option
The CFTC further states that compliance with both state and federal law would be impossible for two main reasons.
- DCMs are required to provide “impartial national access,” which would be impacted if states were allowed to ban contracts.
- Applying other state-imposed restrictions and/or requirements such as local licensing, fees, enforcement, and specific hardware “would create the very patchwork that Congress set out to prevent.”
Looking forward for prediction markets
In discussing its reasons for litigation, the CFTC highlighted:
- The need to proactively confront states that seek to interfere with the CFTC’s exclusive jurisdiction over prediction markets and event contracts, and
- affirmative litigation allows the CFTC to present its position of preemption without threat of looming enforcement action currently faced by its operators.
The primary indication of congressional intent is the language of the statute and of utmost importance is court recognition that the CEA’s statutory definition of a “swap” broadly extends to cover event contracts. Rulings on this issue have been divided, and it would appear there is no party better to argue the impact of the CEA’s regulatory framework than the CFTC. Expect to see the CFTC initiate additional lawsuits in other jurisdictions in which courts have either already sided with the states or civil/criminal penalties have been threatened against its registrants.
Additionally, look for the CFTC to potentially challenge state bills that could negatively impact, restrict, or otherwise prohibit prediction markets. One such example is Kentucky HB 904, which seeks to prohibit licensed operators from being involved with or conducting business as a prediction market operator in the state.
