The Financial Regulation Debate in One Post

Tim Geithner will be testifying before both Senate and House committees next Thursday on the administration’s proposal for financial regulation. In the meantime, there will be a lot of talk about financial regulation.

The Wall Street Journal (subscription required) and Washington Post (subscription not required) have been reporting on how the administration’s plans have been “pared back.” Those articles mainly dwell on the likelihood that the administration will not try to abolish and consolidate agencies as had once been thought possible (although OTS and OCC may be merged). This is interesting, given that Larry Summers just said that eliminating regulatory arbitrage was one of his key principles.

Tyler Cowen has some intelligent thoughts on why consolidation may not be such a great idea. My feeling is that consolidation could be good insofar as the current situation is clearly bad. I agree with Felix Salmon:

The current regulators have clearly failed at their jobs, there’s no reason for entities like the OCC and the OTS to continue to exist, and it’s worth remembering at all times that the number of large American financial-services companies with intelligent and sophisticated and effective regulation is, currently, zero.

(On just how bad the OTS is, see Planet Money’s podcast from last Friday.)

However, I agree with Cowen that consolidation in itself will not accomplish a lot. The real key, as in most things, is power, and here Cowen has another good point: “Many of the real regulatory problems are due to the preferences of Congressional committees and it is high time we admitted this.  How about reforming them?”

Finally, over at The Hearing, we have started an occasional series on various aspects of financial regulatory reform. So far we’ve had Lawrence Baxter and Joel McPhee, David Zaring, Dan Immergluck, Brett McDonnell, and blogging star Mark Thoma. More to come next week.

By James Kwak

28 thoughts on “The Financial Regulation Debate in One Post

  1. Not sure that I agree merging OTS/OCC/SEC will accomplish too much. Might just be the same regulators with the same mindsets overseeing the same industries (you know, walk out the door Friday employed by OTS, back in Monday am employed by some “new”, merged agency (see FINRA/NASD)). This is going to require a huge cultural change.

    Having worked with some of these folks, there is much that needs to be shaken-up. Changing the business cards won’t accomplish that.

  2. They seem confused as to whether the problem is organizational or cultural. Perhaps some part of it is organizational – like whether or not different agencies communicate with each other. But at the end of the day, actual oversight is going to depend on whether the people that comprise the organization actually care about what they are doing and whether they are capable of being intellectually honest about what is going on.

    Perhaps the original idea to consolidate these agencies under the Federal Reserve was intended to address a perceived lack of sophistication in the other agencies, but sophistication without some measure of intellectual honesty is worthless from an oversight perspective. The Federal Reserve was not a great example of an intellectually honest organization as this problem was under construction.

  3. Zerohedge has a post claiming the Fed has been illegally dabbling a little in the market:

    “Which is why we were greatly troubled when we learned recently on good authority that Federal representatives may have opened multiple undisclosed-type accounts with none other than State Street Global Advisors over the past few months. All of these accounts are allegedly handled by one single trader, who is cocooned and isolated from interaction with other partners.

    Zero Hedge can, as of yet, not vouch for this being 100% factual and is asking readers who may have additional knowledge of the situtation to please come forward and share their views ( If, indeed, the Federal Reserve or other derivatives of the administration, are now directly involved in trading, managing repo terms, stock lending, collateral distribution and other liquidity-crucial aspects of what was once an efficient market, then indeed this rally could be written off not merely as the biggest short covering rally of all time, but one that has been explicitly orchestrated by those who should be most impartial to an efficiently working market.”

    If this is anywhere close to being true, we got big, no enormous problems with the Fed and our Regulatory agencies.

    Expecting the current enthroned cast of clowns to clean up the currnet regulatory banking mess is akin to the old fox in the henhouse line. Ain’t gonna happen.

    With Obama canning the Inspector General of
    Americorp today, ending the investigation of the New Black Panther Party, giving his ACORN cronies billions, giving the UAW huge interests in Chrysler and GM, and wiping out the Chrysler Dealership competition for crony Mack McLarty, it is very apparent we have a very corrupt thug in the White House. He can’t, and shouldn’t be trusted with reorganizing our regulatory system at all.

  4. Not only should the regulatory focus be on power and not org chart boxes, the most immediate challenge is regaining an independent central bank.

    As we saw in the BAC/MER drama, it’s insane when the regulator is also an investor and the currency guardian and the policy arm of the government. When Hank Paulson and Ben Bernanke tell Ken Lewis to close the MER deal, in what capacity are they speaking? As one shareholder among many (OK, go to hell, we’re not buying the black hole)? As the guardian (your dollar is not my problem)? As the policy guru (I don’t care if you would prefer MER in my hands rather than a bankruptcy court)?

    Or as the regulator (I know I can’t disagree with you, because you can shut me down at your discretion)?

    The problem here is that we haven’t found a mechanism to ring-fence the regulator from the other pressure points in Washington. What we SHOULD have had was a regulator who would look at Citigroup in February and say “sorry, you are insolvent, I’m taking your banking license.” That regulator will only say that if he is structurally isolated from, say, the Administration, and as we saw with the Fed, there is no guarantee that even a formally independent body won’t decide at crunch time to become a policy arm.

    If we don’t have the will to regulate, we won’t do it, regardless of the org chart.

  5. The problem with present regulation debate it seems to me, is that one part of society has one goal for regulation and the other part has another.

    The free market system is not perfect. There are those who want to keep the market honest, transparent, open and free from fraud and manipulation. And in this group could also be thrown those people who believe that the market needs to be managed in terms of limits on the concentration of power, fiscal policy, monetary policy ad the appropriate application of our constitutional principles to the marketplace. Those are the aims of what these generally pro-capitalist types believe regulation is for.

    Then there are those who believe that the market should be additionally regulated to socially engineer society. These people believe a certain amount of coercion and market manipulation is just fine as long as it is done in the interest of some loftier goal like income redistribution or Universal health care.

    The words regulate or deregulate are often used in the same way and context for achieving these very different goals. it would be helpful and honest, when the terms ” regulate or deregulate” are used if these goals were clearly differentiated. But in the highly charged partisan debates of today, the regulation words are often deceptively used to give an illusion of arms length neutrality, when the real intent is something else.

    Both parties have capitulated to the monied interests of Wall Street, each often against their supposed principles and interests. When billions can be made through a small reinterpretation or change in the law, it becomes even more important that regulations are clear, and transparent with those implementing the regulations strictly neutral in their application of the law and subject to clear checks and balances.

    Unfortunately, we are not even close to that neutral place. Our regulatory system has become riddled with as many holes as a piece of swiss cheese, and our regulators are now heavily entangled in a web of deception benefiting only those who want to game the system, and/or grab greater amounts of power for their interests.

  6. One thing is crystal clear though… the more consolidation the more risk of incest.

    The bank regulations that came out from Basel and by which some regulators thought they could control for risks by inserting between the markets and the banks a block of arbitrary and outright silly capital requirements based on credit ratings, is more than enough evidence of how incest affects the brain.

  7. Who is the thug Paul??? Were you making reference to Dick Cheney and Halliburton??? The defense contracts where billions of dollars were spent in Iraq and nobody knows where the money went??? Or the thug Bush who went to give a speech recently at an economics club in Michigan where the unemployment rate is around 13%??? The thug Bush who let the SEC take an 8 year lunch break??? Paul I guess you’re not a man in his 50’s looking for a job in Michigan, Indiana, or Ohio now or you might have a different idea of what a thug is. And by the way Paul, IF YOU are a believer in the free market, which my guess is you PROCLAIM to be, you would applaud the closing of the Chrysler dealerships. Those would be closed (due to market factors) whether Obama was currently President or not.

  8. The BEST regulator would be to tighten the labor market so wages go positive in real terms and hopefully interest rates will go positive in real terms too.

    Once interest rates get high enough and financial asset returns low enough, there will be very little incentive to speculate in financial assets with debt.

  9. Since most of the “money” is debt, is it follow the debt and the interest payments?

  10. ““Many of the real regulatory problems are due to the preferences of Congressional committees and it is high time we admitted this. How about reforming them?””

    It seems to me that presidents have preferences too. Put campaign contributions and philosophies in there also with congress and presidents.

    How about some kind of board? Maybe 7 elected by the people, 2 appointed by the president, and 2 appointed by business?

    I want people to be able to vote for regulatory/economic issues without being distracted by gay marriage, abortion, big gov’t vs. small gov’t, and foreign policy.

  11. I’m sure many people will say I’m oversimplifying things. and yes there were several contributing factors to the banking crisis. But let me ask a question. You have something called the Glass-Steagall Act which for about 66 years worked fine (other than John McCain and the Keating 5 trying to weasel their way around those regulations with the S&L crisis in the early 90’s). Then about 8 years after the Glass-Steagall Act was repealed you see the major crisis we have now. Does it really take a rocket scientist to figure out the CRUX of the problem??? You don’t mix the average Joe’s savings deposits (commercial banks) with the Super-rich’s leverage investments (investment banks, arbitrage, hedge funds). It’s not rocket science folks. And when you create a situation where Wall Street cannot hold Main Street hostage, all the sudden those leveraged investments don’t look so attractive anymore. When you can’t threaten Joe 6-pack’s savings account, there’s a little more thought process put into “can we cover this swap/derivative if it goes down the toilet tomorrow?”.

  12. Success can snowball, said Mike Lux.

    Robert Reich is doing something very-very interesting right now. He has identified health care reform, and financial reform, as the two big fights coming up for the Obama administration.

    Reich’s blog is at:

    It looks like the first “big fight” is health care reform by virtue of timing. If health care reform is meaningful, it can mean a snowball effect for financial reform.

  13. And Paul, instead of insinuating that there is illegal government trading going on, and then asking us for evidence to support your claim, why don’t you find the evidence first, and then make your allegations?

  14. I would like someone to ask the Treasury Secretary about the Japanese guys with $134 billion in a suitcase. It’s either the biggest counterfeiting bust in history, or the biggest smuggling bust in history.

    According to the US Treasury’s TIC data, Japan had $661 billion in Treasury bonds total in Feb 2009. So these guys were carrying the equivalent of a significant proportion of Japan’s total foreign reserves in a suitcase. 20% of the total that US Treasury shows. To put it in perspective, Russia’s total holdings of US Treasuries per the same source is $130 billion.

    Worth looking into, don’t you think?

  15. It’s clear that having too many regulatory agencies doesn’t work. But consolidating them would create a one-stop shop for lobbyists. Solution: when regulations don’t work, get rid of the regulations.

  16. Why is it always some conspiracy? Isn’t it possible people just screwed up, and when it became obvious, they spent a lot of time trying to preserve whatever they got, and avoid spending time in jail?

    Greenspan kept interest rates too low for too long. We know that now. But is he a crook? Nah, he just screwed up. Bernanke too. Same mistake.

    If McCain had been elected, would he have kissed Wall Street goodbye and let the chips fall wherever? Not on your sweet butt would he have done that. This was a wholesale run on international banking. Forget the auto industry, just about all industries would have collapsed.

    Everyone in responsible positions screwed up. Pretty much all at the same time. That’s why the problem is so deep and as a result the consequences will persist for years.

    How to fix all this? After having our economy almost destroyed by poor regulation, I’m guessing regulation is going to be strengthened, no matter how high the howls from investment bank/commerical bank holding companies. Some separation between commercial banking and investment banking seems a no brainer.

    International supervision of leverage is needed. Standardization of some derivatives (the rest should be outlawed) is needed so that they can be traded in an open market where counterparty risk is eliminated.

    So-called “shadow banking” should be yanked out of the shadows: Another move that will require international cooperation.

    The government should require fiscal transparency, as well. Obama is trying to keep spending on balance sheet, but doing so identifies spending totals more so than in the past, and that frightens everyone because the totals are so high. They were high before but hidden. Nonetheless, as a practical matter it’s the right first step. We’ll have to start paying our bills and showing a willingness to sacrifice now in order to do so.

    Compensation needs to be regulated. This is not an impossible task. The fact is executive pay, across the board in almost every industry, has totally gone bonkers. These pay scales are a tell that the compensation packages are not competitively set, but quite the opposite. These are pay scales of cronies helping their friends.

    Self regulation ain’t going to work. The wife went out 40 minutes ago, I’ve cracked a few brewskis, an everythings becoming mush clearer.

  17. An underlying problem is that free markets, left to their own devices, use the following planning methodology.

    “Holy Crap we’re screwed. What do we do now?”

  18. I am sorry for your situation Ted.

    You see I have dealt with corrupt politicians like Obama for over thirty years. I represent clients who have with greater and greater frequency who have had their finances ruined, lives destroyed and their dreams crushed by some politician and/ or bureaucrat in pursuit of some illusionary socialist utopia.
    I am sick and tired of it.

    Cheney , when he took office, sold his Halliburton stock and gave the entire proceeds to charity. Now Bush is a different story. He let his department secretaries run wild with little or no supervision. The cronies of W’s father who heavily influenced his administration, like Scrowcroft, Powell, Baker, Gates, etc have all sold out to either Wall Street or the Saudi’s or both. You are right, there was absolutely no good reason why the SEC relaxed bank reserve rules for the investment banks under Bush. A harebrained move if there ever was one. Ditto for the bailouts.

  19. Zaring’s recognition that the current ad hoc approach with Treasury and Fed overseeing the various agencies’ response to the crises might make sense if one further component were to be added: institutionalize the Congressional Oversight Panel (Warren and friends) and the Special Inspector General (Barofsky) who together ask the Fed and the Treasury those embarrassing (and sometimes critical) questions that Congressional reps and senators can’t seem to ask.

    And make sure that the bank examiners and their supervisors get the training that they need. It shouldn’t be necessary to send them to boot camp at the banks. A good banking school would do or at least having academics from some of the good banking and finance programs do the training.

  20. Is the Crash of 2008 really just a big “oops?” Or has some dirty dealing gone on? I find it astonishing to think this collapse was just a perfect storm of idiocy – with absolutely no one breaking any laws at all.

    It is also fascinating that we’ve developed a culture in Washington where all regulators involved in finance apparently failed simultaneously. That’s mind-boggling to consider. How is such a culture created?

    And then, how can regulators “fail” so completely – yet no one has done anything wrong? Is their failure only the failure to implement new regulations? Or is it at all possible to consider that people have actually broken existing laws as they conducted their businesses in ways that destroyed the economy?

    What about insider trading? Martha Stewart spent nearly half a year in jail for insider trading (time she spent productively knitting ponchos with her cellmates.)

    I’d love to know if any of the players on Wall Street are being investigated for insider trades – it does not seem outside the realm of possibility that such an activity would have happened with this crowd at this time…

  21. I don’t mean to be the ultimate cynic, but anyone who believes that decisions will be made in favor of effective regulation of the financial oligarchs is patently nuts. It will not happen. It will be a toothless, stingless effort to placate the public (much like the Geithner/Summers plans to resolve the woes of the economy). If anything worth talking about happens, I will be completely stunned. I hate people who talk about things like the world ending, but this is just the tip of a global sized iceberg. By this I mean the approaching catastrophe caused by the elitists of the world looking the other way at all of our problems.

    I love the fact that you guys, James and Simon, still hold onto the hope that enough of us will listen and act to make a real difference. You know the old saying, “no pain, no gain,” and those who govern us will not cause pain, even if it is helpful (except by inaction, of course).

  22. Angelo Mozilo (Countrywide) has been charged by the SEC with insider trading.

    The Bush Administration was religiously anti-regulation, which translated into lack of enforcement of existing regulations and no desire for more stringent regulations. The regulatory agencies failed to do their jobs because the Bush Administration didn’t want them to do their jobs. Bank examiners can find problems all day long but their supervisors are the ones that decide how material the problems are.

  23. It’s not my situation, it’s an example which is easy to give IF you were a person of empathy. And if you could give an internet link (not some blog posting/but a legitimate source like WSJ or NYT) that states Cheney gave ALL his Halliburton stock to charity, I’m sure everyone would love to read about this fictional gesture to humanity.

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