A battle is brewing over how the swaps or derivatives market is regulated.

As part of the Dodd-Frank Wall Street reform law, the Commodity Futures Trading Commission agency was tasked with the job of monitoring the $700 trillion derivatives market. Derivatives are the instruments behind JPMorgan's (JPM) recent loss of at least $2 billion and the trades that helped blow up AIG (AIG), Lehman Brothers and Bear Stearns.

But CFTC chairman Gary Gensler said Thursday that the agency can't do that if Congress enacts proposed cuts to its budget.

A House Appropriations Committee proposed on Wednesday to reduce the CFTC's budget by 12% to $180 million. President Obama had requested a 50% increase in the agency's budget.

Speaking before an audience Gensler acknowledged as potentially hostile to regulations at the Sandler O'Neill + Partners Global Exchange and Brokerage Conference Thursday afternoon, he called the proposed cuts an explicit acknowledgement that Congress "sides with Wall Street."

He said it's already difficult to regulate the futures industry with the CFTC's existing team of 700 people. Adding swaps, which are eight times the size of the futures market, to the CFTC's work makes regulation of either industry nearly impossible.

The House Appropriations Committee's proposed cuts will go to the entire House of Representatives later this month for a vote.

Still it's not the CFTC's only hurdle for regulating the swaps market. At this point neither the CFTC nor the Securities and Exchange Commission can say what a "swap" is. That's something that's being discussed at by both agencies.

Generally speaking, a swap or derivative is simply an insurance contract promising a certain stream of payments tied to a stock, bond or commodity price. Both sides take wagers on how the underlying asset will perform. One side gets the regular cash payments, and the other holds the security.

But that's my definition. The SEC and CFTC must continue to iron out what the U.S. government considers a swap. That's one of several issues that need to be resolved before swap dealers will be forced to register with the CFTC and submit to its regulations.

Gensler said he hopes that will happen by the fall, more than two years after Dodd-Frank legislation was passed by Congress.