Financial Times Editorial Comment: Senate vs Wall St/Plan to end Fed supervisory role draws fire

Financial Times Editorial Comment: Senate vs Wall St
Copyright The Financial Times Limited 2009.
Published: November 11 2009 20:14 | Last updated: November 11 2009 20:14
http://www.ft.com/cms/s/0/92766a02-cef9-11de-8a4b-00144feabdc0.html


Where Barney Frank, chairman of the US House of Representatives financial services committee, uses a scalpel, Chris Dodd, his counterpart in the Senate, wields a machete. Mr Dodd’s draft financial regulation bill cuts through the regulatory thicket, reserving some particularly savage slashes for the Federal Reserve. It improves on the House version; however, it does not avoid pitfalls of its own.

Mr Dodd’s staff have done solid work, including much that the crisis has revealed to be necessary. Pushing derivatives into central clearing and on to exchanges; giving shareholders a say on pay; stricter rules for securitisation and credit rating; “funeral plans”; and resolution authority over large financial groups are all welcome.

Of three important departures from the House version, two are improvements, one is a mistake.

First, Mr Dodd has not let turf wars get in the way of ending the existing regulatory architecture’s sprawl. Regulation is to be organised along functional lines rather than by type of product or company. The bill, mercifully, gives a new agency responsibility for consumer protection instead of six existing bodies (such as the Fed which, absurdly, supervises credit cards). For everyday bank supervision, it scraps two bodies, prunes the Federal Deposit Insurance Corporation and the Fed, and sets up a new super-regulator.

Second, the House bill granted the Fed huge discretionary power to manage bank failures. Mr Dodd puts greater stock in rules that make it safe for large banks to fail by ensuring that shareholders and unsecured debtholders know from the outset that losses fall on them. Debt that automatically converts into equity and capital ratios that grow with groups’ size and complexity will prime markets to charge the right price for risk. So will restricting Fed emergency lending to individual banks.

But third, Mr Dodd’s desire to clip the Fed’s wings goes too far. A planned financial stability agency undoes his own brush-clearing and ignores that tools to manage systemic risk – system-wide capital ratios – must be co-ordinated with monetary policy. If the Fed and Wall Street are too close for comfort, it is a good idea to end the atavistic presence of banks on the boards of regional reserve banks.

Systemic responsibility must be with the Fed or with a body where Fed has pride of place. Mr Dodd wrongly emasculates it. Since his plan reduces the need for the Fed to act as lifesaver in a new crisis, he can safely leave it in charge of systemic supervision.







Plan to end Fed supervisory role draws fire
By Tom Braithwaite and Sarah O’Connor in Washington
Copyright The Financial Times Limited 2009
Published: November 11 2009 19:51 | Last updated: November 11 2009 19:51
http://www.ft.com/cms/s/0/883cbdd6-cef7-11de-8a4b-00144feabdc0.html


The Fed in Washington: lawmakers are still reeling from the implications of the central bank’s loan to AIG
Former Federal Reserve officials, bankers and academics voiced opposition to a plan that would strip the US central bank of its supervisory role as Congress paused for breath on Wednesday for the Veterans Day holiday.

The Fed faces a considerable threat from critical members of Congress, particularly in the Senate, as crystallised in the financial regulatory reform bill presented on Tuesday by Chris Dodd, chairman of the Senate banking committee.

The Dodd bill removes the Fed’s bank supervision and consumer protection roles and transfers them to two new agencies. But the 1,100-page text, being scrutinised in offices across Washington on Wednesday, also reconfigures the way the regional Fed banks are structured and restricts the bank’s emergency lending powers.

“If this slows down the process of being able to provide liquidity in an emergency, that could be a disaster and the unintended consequences of this could be just terrible,” said Frederic Mishkin, a former Fed board member and professor at Columbia University.

Lawmakers are still reeling from the realisation that the Fed can, in extreme circumstances, offer an unlimited amount of money to an individual organisation – as it did to AIG, the insurance group, among others at the height of last year’s crisis.

“The issue that is of concern to Congress is ‘is this organisation going out and acting in the interest of the taxpayer?’ and that’s a completely legitimate concern. But if you make the process too cumbersome you can get a disaster,” said Mr Mishkin.

“So there is this trade-off that sometimes you have to delegate to an authority in order to do things quickly because the benefits are so high and the costs of not doing so are disastrous.”

Last year, though, Ben Bernanke, chairman of the Fed, worked closely with Hank Paulson, then Treasury secretary, and Tim Geithner, then president of the New York Fed and now Mr Paulson’s successor, to craft a rescue package for individual companies and the entire banking system.

Leading Republicans in the Senate, such as Richard Shelby, ranking member of the banking committee, have not forgotten. With Mr Paulson having left and Mr Geithner ensconced in the Treasury, it is the Fed chairman who is most exposed to losing power.

The bill presented by Mr Dodd, although it was a Democratic-only introduction, was written with the aim of winning over Mr Shelby and his team, and assuaging some of their fears – also shared by some Democrats – that the Fed is too powerful.

AIG with its $180bn bailout casts a long shadow, provoking lawmakers into removing the ability for institutions to “charter shop”, as Mr Dodd said this week, by merging supervision powers of four regulators – most importantly the Fed – into one, even though the largest banks that caused most of the problems were not engaged in regulatory arbitrage.

“I don’t think that’s really been a significant problem to date,” said Paul Schultz, professor of finance at Notre Dame. “I understand the fear that banks or other institutions are going to seek the least stringent regulation . . . but I don’t see that contributed in any way to the 2008 problems.”

The American Bankers Association said the bill “would tear apart the existing regulatory structure only to create a new one that would produce conflicts among regulators, undermine the state-chartered banking system, and impose extensive new regulatory burdens on those banks that had nothing to do with creating the financial crisis”.

Not every banker or official is against the plans. Some bank lobbyists said it was a bold, no-nonsense stab at rewriting the rules; a focus on capital and a proposed requirement for large institutions to issue “contingent capital” that converts from debt into equity when a bank hits trouble received particular support. The Fed is one of the main advocates of this measure.

Richard Carnell, former assistant secretary for financial institutions at the Treasury, said Mr Dodd’s plan showed “real leadership . . . and political courage”. “It’s more ambitious than the [Obama] administration in many respects. I think the administration’s plan . . . constituted a major wimp-out,” he said.