Geithner on defensive over reforms - Attacked over role of Federal Reserve/Washington Post Editorial: Overload at the Fed?

Geithner on defensive over reforms - Attacked over role of Federal Reserve
By Tom Braithwaite in Washington
Copyright The Financial Times Limited 2009
Published: June 18 2009 15:48 | Last updated: June 18 2009 17:18
http://www.ft.com/cms/s/0/b7f9ffda-5c14-11de-aea3-00144feabdc0.html


Tim Geithner met immediate resistance to his regulatory reform package on Capitol Hill on Thursday, the start of what promises to be a lengthy sales pitch to protect the proposals from critics in Congress.

At a Senate hearing, the Treasury secretary defended his proposal to grant new systemic risk regulation powers to the Federal Reserve, an issue that is vulnerable to being overturned by sceptical lawmakers.

“You cannot convene a committee to put out a fire,” Mr Geithner told the Senate banking committee, insisting that the Fed was the best body to guard against risks that build in a large institution and could pollute the entire financial system.

The Fed’s new role as systemic risk regulator will be supplemented by a council of regulators, according to the reform plan, but Mr Geithner and Lawrence Summers, chief economic adviser to President Barack Obama, are determined that the real power resides with the central bank.

“I think that they’ve got the best incentives to make sure that those basic safeguards are strong enough to help us withstand future crises,” said Mr Geithner.

Richard Shelby, the senior Republican on the committee, said the proposals presented a “grossly inflated view of the Fed’s expertise”. David Vitter, a Republican from Louisiana, said new accountability placed on the Fed was “really crossing a line” in compromising the bank’s independence.

Not only Republicans but also Democrats have also argued that the Fed should concentrate exclusively on monetary policy. Opposition to a proposal that the government has the power to seize and wind up a failing institution is another problem for Mr Geithner, who has to convince lawmakers or see his white paper comprehensively rewritten.

The Senate is set to be the main stumbling block to passing the reforms, according to Congressional aides. The House of Representatives, which will hear from Mr Geithner on Thursday afternoon, is more divided on party lines with most of the dominant Democratic bloc happy to proceed quickly.

“Every financial crisis of the last generation has sparked some effort at reform, but past efforts have begun too late, after the will to act has subsided,” Mr Geithner said. “We cannot let that happen this time.”

In his testimony, Mr Geithner said that the Fed was “best positioned” to regulate systemic risk. “It already supervises and regulates bank holding companies, including all major US commercial and investment banks.”

“Our plan gives a modest amount of additional authority - and accountability - to the Fed to carry out that mission,” he said. “But it also takes some authority away.”

Mr Geithner is proposing to divest the Fed’s consumer protection role and give it to a new Consumer Financial Protection Agency. Chris Dodd, Democratic chairman of the committee, and a lawmaker the administration needs on its side if it is to pass the bulk of the proposed legislation, said the Fed had “dropped the ball entirely” on consumer protection.

Big US companies ranging from Wall Street banks to insurers, hedge funds and private equity firms face fundamental changes in the business environment if the package of reforms is passed.



Washington Post Editorial: Overload at the Fed? President Obama's financial regulation plan gives the central bank a starring role.
Copyright by The Washington Post
Thursday, June 18, 2009
http://www.washingtonpost.com/wp-dyn/content/article/2009/06/17/AR2009061703123.html


THE ORIGINS of the Federal Reserve System lie in the financial panic of 1907, when the United States averted economic collapse only because J.P. Morgan improvised emergency private-sector loans to troubled Wall Street firms. Washington's response was to create the Fed as a politically independent "lender of last resort," with the authority to supervise banks. And although the Fed failed its first big test, the Great Depression, it has generally used its twin powers of money creation and bank regulation more wisely since then. Three decades ago, the Fed under Chairman Paul A. Volcker rescued the United States from murderous inflation, albeit at great short-term cost in economic growth. So it is natural that, in the current crisis, President Obama would assign the Fed some heavy lifting in the financial regulatory reform plan he unveiled yesterday.

Under the plan, the Fed's authority to order corrective action at riskily managed bank holding companies would be extended to any financial firm -- including insurance firms or investment bank subsidiaries -- so large and "interconnected" that its failure could bring down the financial system. The Fed would be responsible both for identifying a potential AIG and Bear Stearns and for imposing stricter capital requirements on them. In dire situations, the Fed could push such firms into a new form of government-run emergency resolution.

This new approach to the "too big to fail" problem grants one of Fed Chairman Ben S. Bernanke's fondest wishes. It addresses the situation that Mr. Bernanke and the Treasury Department faced in September 2008, when Lehman Brothers collapsed but the government had no legal alternative to bankruptcy. The proposal raises questions, however. A government list of systemically important firms is tantamount to a list of government-backed firms -- though the plan mitigates this risk by requiring them to hold more capital. The biggest challenge could be to the Fed's independence: The broader its control over the financial sector, the more it will get lobbied, directly or indirectly. Any political capital the Fed spends on its regulatory function is capital it might not have to defend monetary policy.

Already, the Fed's massive interventions in the economy have drawn fire in Congress, which is probably why the Obama administration did not give it even more power. Indeed, the Fed would have to consult with a new Treasury-headed Financial Services Oversight Council made up of other regulatory agency leaders. And, in perhaps the biggest concession, the Fed would have to check with Treasury before exercising its emergency power to expand its balance sheet. As the Obama plan moves through Congress, many will no doubt ask why the Fed can be counted on to spot systemic risks when it did not use its power to help rein in such highfliers as Citigroup. There may also be questions about the role of past monetary policy in enabling Wall Street's excessive risk-taking. Regulation is important, but sound monetary policy is equally crucial to systemic stability. Congress should make sure that any new powers granted to the Fed are consistent with the independent fulfillment of its primary mission.