Treasury Secretary Calls For Supercharged Fed, Streamlined Regulatory System

Treasury Secretary Henry Paulson wants to consolidate the nation’s financial regulators into a tripartite gang that can save the economy from distress and doom. The plan to give the Federal Reserve broad new regulatory powers and streamline the regulatory community has been in the works since last March, before the start of the subprime meltdown. Paulson is worried that the U.S. markets are no longer competitive with maturing world markets, some of which aren’t hampered by nuisances like regulation. After the jump we’ll explain the consumer impact of the plan and introduce you to your three new regulators.

This plan would consolidate a large number of regulators into roughly three big new agencies.

Bank supervision, now divided among five federal agencies, would be led by a Prudential Financial Regulator, which could send examiners into any bank or depository institution that is protected by either federal deposit insurance or other federal backstops. It would eliminate the distinction between “banks” and “thrift institutions,” which are already indistinguishable to most consumers, and shut down the Office of Thrift Supervision.

Any effort to merge the Commodity Futures Trading Commission with the S.E.C. is likely to provoke battles.

Yet another proposal would, for the first time, create a national regulator for insurance companies, an industry that state governments now oversee.

Administration officials argue that a national system would eliminate the inefficiencies of having 50 different state regulators, who have jealously guarded their powers and are likely to fight any federal encroachment.

The media is tripping over themselves to report the expansion of the Fed’s role, but consumers should care about other parts of the plan.

The federal insurance proposal is a huge giveaway for the insurance industry. Insurers would be able to evade strong consumer protections at the state level by opting-in to what would be comparably lax regulation from the Treasury Department. If approved, it is not unreasonable to expect higher rates and fewer protections.

The new Prudential Financial Regulator, which would gobble up the five regulators that currently oversee banks and creditors, could severely harm consumers. We don’t yet know who would steer the massive new regulator, or whether they would emulate the destructive model of the Office of the Comptroller of the Currency, which preempts state authority and then sits idly by as consumers are financially raped.

So what is the media focusing on?

Paulson couldn’t just ignore the subprime meltdown, so he is proposing a Mortgage Origination Commission, which would set baseline qualifications for mortgage brokers and chastise states for failing to adequately regulate the industry.

The plan also calls for broad new authorities for the Fed to oversee the market, “in effect allowing it to send SWAT teams into any corner of the industry or any institution that might pose a risk to the overall system.” The proposal would standardize emergency borrowing from the Fed’s discount window. In exchange for allowing non-bank failures to sally up to the window and beg for cash, the Fed will claim the ability to thumb through their books and balance sheets “in order to protect the Federal Reserve (and thereby the taxpayer).”

It is doubtful the plan will become law this year, but is an important vehicle for framing the coming debate over regulatory authority. Congress is going to put its prints all over the plan before it passes. The devil is in the details and Congress must ensure that any new regulatory environment isn’t hostile to strong consumer protections.

After all, even the Treasury Secretary acknowledges that his proposal may not be enough to prevent the next subprime meltdown: “At a fundamental level, the root causes of market instability are difficult to predict, and past history may be a poor predictor of future episodes of instability.”

Treasury Dept. Plan Would Give Fed Wide New Power [NYT]
Treasury’s Summary of Regulatory Proposal [NYT]

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  1. ARP says:

    So I understand what’s going on- we’re proposing to federalize many of these regulatory duties to an administration who doesn’t regulate anything (even the safety of our food and drugs). And this lack of regulation one of the causes of the credit crunch/sub-prime meltdown. Sound perfect.

    So, this is like the “blue skies” initiative that allowed companies to pollute more or the “healthy forests” initiative that allowed logging companies to clear cut forests.

    Gotta’ admit, their political strategy is good (even if their purposes are not).

  2. zentec says:

    The insurance industry has wanted this kind of oversight for a very long time. It has to drive them nuts to have to make huge payouts for hurricane claims and not be able to stick it to policy holders in Minnesota without having to dream up reasons and excuses.

    They’re right, this sort of arrangement streamlines the insurance industry in that they can just jack up your rates for fires in California and hurricanes in Florida even though your risk is the occasional thunderstorm.

    Brilliance!

  3. Sonnymooks says:

    This could wind up making insurance transferable from state to state.

    I.E. You could wind up bypassing your own states requirements on insurance companies and purchase insurance from companies in other states, like health insurance.

    I see a whole host of unintended consequences coming here, I’m not a fan of regulations or more regulations, I am also not a believer that something always needs to be done, they better really think this one out.

  4. Shadowfire says:

    Before everyone considers this a great thing, remember this is the -federal-government- we’re talking about here… regulating businesses and other entities is something that it’s never been good at. Lord knows the government’s doing a bang up job with our schools…

  5. humphrmi says:

    Re-organizing regulators won’t make the markets any more secure, it just gives the Federal government someone’s throat to squeeze when things go wrong.

  6. Adam Hyland says:

    @Shadowfire: For one, the federal government is as good as regulating businesses as any other level of government–it is their willingness to do so that is in question. and for the schools portion, please realize that the legal authority that the federal government holds over schools is fairly limited and the money given to them is not a significant fraction of their budgets.

  7. Trai_Dep says:

    Imagine what the TSA/Homeland Security has done for our air traffic/general welfare, only apply it to our economy. Perfect. What could go wrong?

  8. azntg says:

    Agreed with what everybody had to say so far.

    The Federal Government regulatory agencies recently have been showing signs of irresponsibiility and in some cases, complete neglect of the citizens that they are supposed to protect in favor of big businesses who can basically break laws and get anything their way now. The federal government, in some cases, have been referring to the states to do that duty while taking away their powers at the same time (or through means of preemption).

    I have very little confidence that a “streamlined” regulatory agency will improve the situation, especially when: 1) some of its constituencies can’t get the job done right in the first place and 2) the “streamlined” agency probably means adding another layer of bureaucracy.

    At the worst possible case, dual citizenship is looking attractive.

  9. humphrmi says:

    @azntg: Sorry, I agree with you up to your last sentence; what good does dual citizenship do anyone? If you want to leave the US and live somewhere else, you don’t need dual citizenship to do that.

  10. cronick says:

    Isn’t that picture from “Dr. Strangelove”? Or, maybe, “Fail Safe”? Either way, what exactly are you suggesting?

  11. deedrit says:

    A step closer to nationalized healthcare?

  12. Adam Hyland says:

    @humphrmi: You do if want to come back without visa problems. Also, some countries are just as picky about immigration as we are.

  13. ARP says:

    @cronick: It’s three references in one. Yes, its Dr Strangelove and the statement is actually a bit from the NASA episode of The Simpsons, where a reporter mistakenly believes that giant ants will be taking over the earth and attempts to ingratiate them by a faux welcome using the quote above (but substituting the financial part). Trust me, its much funnier if you see it.

  14. humphrmi says:

    @Adam Hyland: Balderdash. Plan ahead. Get your visa. Live wherever you want. The economic situation there is just as bad as it is here.

  15. bjarmson says:

    Given the Bush administration’s incompetence when dealing with, well, everything, I’m more than a bit skeptical when they come up with any proposals, let alone something major like this. I’m waiting for one of the admin spin doctors to say something like “how could we to know the housing market (ie bubble) would collapse when interests rates climbed back to normal after the Fed had dropped them (ie to the nearly free money rate for major banks) to revive (ie pump up) the economy when the dot com reverse happened (ie bubble burst).” The US economy now requires us to move from bubble to bubble to keep it going. The Fed has already began the opening moves to try and manipulate another bubble. At some point in time even the Chinese (whose economy depends on ours to grow) will have to say enough is enough, and either stop lending us money to buy their goods, or worse try to cash in their US debt markers. No bubble will save us then.

  16. humphrmi says:

    @bjarmson:

    The US economy now requires us to move from bubble to bubble to keep it going.

    You are absolutely right. Somewhere around late 2000, I remember a Fortune magazine cover headline that read “Everyone is making money in stocks”, about a year before that bubble burst. When the NASDAQ automated teller machine shut down, everyone switched to the Real Estate ATM. Now that machine is out of order, and it makes me wonder what the next ATM for America’s spending addiction will be.

    That last sentence was rhetorical; I know damn well our next crisis will be in the credit card industry.

  17. TechnoDestructo says:

    “Yet another proposal would, for the first time, create a national regulator for insurance companies, an industry that state governments now oversee.”

    Halle-fucking-lujah.

    @deedrit:
    How do you figure?

  18. humphrmi says:

    @TechnoDestructo:

    Halle-fucking-lujah.

    Are you being facetious, or do you actually believe that the federal government can do a better job of regulating the insurance industry than the states?

    We’re talking about the U.S. government, right?

    The same government that, for instance, regulates the quality of toys coming into the US from China? And that regulates the quality of meat that is sold in grocery stores? And that ensures the safety of aircraft? That government? Really?

  19. spamtasticus says:

    Hmmm Where are the people who were calling me an alarmist when I was spouting and ranting about my fear of the FED now?

  20. spamtasticus says:

    Make sure and watch this, It starts a bit dorky and childish but we deserve to be talked to like children sometimes for allowing this to happen. Understand the nature of banking and money or suffer the consequences.

  21. Adam Hyland says:

    @spamtasticus: You are alarmist. Most fears about the ‘Fed’ stem from a failure to understand the banking system, not the reverse.

  22. humphrmi says:

    @spamtasticus: That’s a great story, and I really enjoyed watching it (even though the Youtube video ended before the story was over). I’ve heard other great stories too.

    What this story overlooks is that a 1:1 gold based currency depends entirely on the mining industry. If we depended on a bunch of guys with shovels to determine how much currency is in the market right now, most of us would still be digging up turnips to make ends meet.

  23. CyGuy says:

    My concern is in taking away any regulatory or monitoring powers from Executive agencies that are subject to close Congressional oversight, and giving them to the Fed, who the Congress general does not practice strict oversight of for fear of interfering with what is supposed to be their primary mission of controlling monetary policy.

    I think this is foremost a gambit by Bush to siphon power away from an Executive branch which will soon be under control of a Democratic administration, and oversight by what will likely be an even more Democratic controlled Congress than we have now. Putting those powers in the hands of his handpicked buddy and former economic adviser, Bernanke.

  24. Adam Hyland says:

    @humphrmi: Oh. I didn’t watch it. was it another “gold is better” video? Boy I never get tired of those.

  25. ARP says:

    @spamtasticus: The concept itself isn’t that bad, it’s the the problem GWB has decided to politicize every last agency (DOJ, EPA, FDA, etc.) and decision rather than doing what’s best for the country.

    The current administration has decided not to regulate anything (safety of food, aircraft, media ownership, pollutants, etc.) and we’re in a much worse spot for it. So yes, with the current administration, its a bad idea. Now with another administration (repub. or dem.) that would actually fund the efforts and use its powers to regulate as needed, think long term, actually consider the consumer.

  26. humphrmi says:

    @Adam Hyland:

    was it another “gold is better” video? Boy I never get tired of those.

    It’s like watching Shrek, or The Princess Bride. I love a mystery ending. It always gets me.

  27. mikelotus says:

    Its lack of regulations in investment banks and other sources of lending that now exist that did not exist when banks were regulated during the depression that has helped get us here. Read what Joe Nocera says in the NYT today and enlighten thyselves. And anyone that rants about not needing more regulations evidently won’t mind if our financial accelerate movement back to the Street in London I guess. If people don’t believe that its a fair deal, then they won’t bring there money to that market place. Regulation, and Adam Smith talked much about this, is a fundamental requirement to a fair and efficient market. Accept for the idiots at Treasury, Robert Rubin where are you?, there seems to be wide spread agreement thankfully. Here is the article: [www.nytimes.com]

  28. humphrmi says:

    @mikelotus: The article assumes that the problems with today’s failing mortgages are unregulated banks. Most sub-prime mortgages are from regulated lenders. A fat lot of good that did us, or will.

    “I think investment banks need to be regulated,” Mr. Kudlow told me flatly. He added that although he often disagreed with Mr. Frank, he felt that he was “a good thinker and not a knee-jerk liberal.” I’ll tell you, I nearly fell off my chair.

    Woah, let’s all fall in line with more Federal regulation, because Mr. Nocera almost fell off his pedestal^H^H^H^H^H^H^H^H chair. So Investment Banks are the problem, not the mortgage brokers or rating agencies or everyone before the IB’s got their hands in it, its all the Investment Banks fault.

    We have, for instance, four bank regulators, including the Federal Reserve and the F.D.I.C., with overlapping duties. Insurance is regulated by the states, not the federal government. Investment banks are handled by the Securities and Exchange Commission. Securities brokers have to pass a test, abide by all sorts of rules and be licensed in order to sell stocks. Mortgage brokers, meanwhile, are completely unregulated.

    So the problem is clear: Federal regulation is working! So let’s regulate the investment banks! Forget the mortgage brokers, they’re either small potatoes or out of business now. And by all means, insurance, which is already regulated by the states, is completely at fault for this mess! Let’s regulate them!

    BTW in my previous post I likened the “gold standard” video posted by @spamtasticus to Shrek or Princess Bride. My apologies to Princess Bride and Shrek fans everywhere; this fairy tail is far less entertaining than those movies.

  29. ennTOXX says:

    @ARP: You took the words right out of my mouth. For me to comment now would be like you repeating yourself… :||

  30. @mikelotus: “Regulation, and Adam Smith talked much about this, is a fundamental requirement to a fair and efficient market.”

    Moreover, the NYSE is one of the most-regulated stock exchanges in the world and COMPANIES WANT TO BE ON IT FOR THAT REASON. Investors are far more willing to invest with all of those regulations in place, as onerous as they may be for companies to meet. Many other countries have tried for deregulated stock markets in the hopes of luring companies that do some pro-forma whining about the NYSE’s regulations, but none of them ever move if they can help it.

    Proper regulation HELPS business; it doesn’t HINDER it.

  31. Trai_Dep says:

    “Regulation” under the GOP playbook means, “turning a blind eye while pummeling states’ efforts to create a fair playing field”. Bonus points for politicizing it to favor Republican donors. Scoff all you’d like and I’ll point you to six years of Republican shenanigans too numerous to cite here.
    That’s like putting Michael Vick in charge of the ASPCA, then complaining that caring for abandoned pets is clearly a waste of time.
    Repeal the repeal of Glass/Seagal. block “the shadow banking system” from operating unless they simultaneously bankroll their bets’ downsides, no gov’t bailouts (unless the firm (and shareholders) are liquidated) and make bonuses have to be paid out under a five-year plan (thus making investing in bubbles less individually lucrative).
    Investors, and the markets, require accurate information to operate. Use regulation to make it so and we’ll ALL prosper in the long run.

  32. Trai_Dep says:

    @humphrmi: You’re aware that it was the i-banks that created the vehicles that allowed mortgage companies to get laughably bad loans off their books as soon as the checks were written, correct?
    Previously, if a bank wrote a bad loan, their books would take the hit. Thus there was an incentive for banks to only make rational loans.
    It’s these vehicles that opened the floodgates. No i-bank activity in this area, no sub-prime meltdown.
    That’s where this effort is coming from.
    Perhaps if you spent more time educating yourself on finance, and less on the Gold Standard, you’d be able to contribute more constructively in the future.

  33. bjarmson says:

    The main problem with finance and economics is that no one actually has a clue how they work. If they did we wouldn’t get into negative economic situations on a regular basis. Another problem is while many (particularly those who make loads of money off it) praise the “market” as some kind of “natural law” of existence, few big players really want it to work within its alleged “rules.” Co-optation, collusion, insider trading, cartels, and outright gangsterism, to name only a few ways to get around market forces, are preferred methods rather than letting market forces take their course. There was relief and acclamation on Wall Street and within the large banks when the Fed bailed out Bear Stearns, not wailings about the government not letting the market run its course. This has become the standard, even in our “Free Market” loving country. The little people out in “Free Marketland” are at the whim of market forces, while certain big corporations (Chrysler, Bear Stearns, Saving & Loans, etc) can expect the government to step in to save them. We’re playing with different rules here.

  34. Trai_Dep says:

    Well, there ARE a number of people, even non-professionals, that DO understand how economics and finance work. It’s just that their disinterested, constructive ideas are trumped by ideologues or players lining their pockets that push through bad economic policies that end up requiring gov’t bailouts when their predictably catastrophic policies bear poisoned fruit.
    The “Free Market” types are the most annoying, since they know so little about the matter at hand, yet are the ones whose pocketbooks are hurt – along with the rest of us – as these bubbles inevitably burst. The annoying part is their so-called solution: even less regulation.
    It’s like having a mildly retarded child who likes playing with pans on a blazing stovetop who comes back for more, petulantly asking that the flames are turned even higher for the next time. It’d be fine if was only their clumsy hands getting burned, but unfortunately, we all live in the same house…

  35. EnBuenOra says:

    Don’t miss the money quote from the New York Times article:

    “The Fed oversaw this meltdown,” said Michael Greenberger, a law professor at the University of Maryland who was a senior official of the Commodity Futures Trading Commission during the Clinton administration. “This is the equivalent of the builders of the Maginot line giving lessons on defense.”

    The article:
    [www.nytimes.com]

    The Maginot Line:
    [en.wikipedia.org]

  36. bjarmson says:

    Not sure I’d trust someone from the Clinton admin giving us words of wisdom on economic matters. These folks decided just to ride the dot com bubble, hoping they wouldn’t be around when it burst. As for his Maginot Line analogy, I’m not sure what he means. The Maginot Line actually did what it was intended to do. The Germans didn’t attack it, they just went around it and through an area the French thought couldn’t be traversed, the Ardennes Forest. Then again, maybe it’s a great analogy since when one economic problem is supposedly solved, another just pops up to take it’s place. When you have an economy based on a need for perpetual growth and you start running up against resource limitations/excessive expenses you begin to understand just what an exponential curve is all about.

  37. @zentec:

    Everybody bitched about this after Katrina. How come insurance rates are so high? Honest men and women can’t insure their businesses! The idea is to increase the risk pool to all Americans, which will result in higher rates, lower coverage, and more expansion into risky areas. Which, of course, is what everyone asked for without understanding the cost and now seems completely undesirable.

    As for the rest of the proposed regulations, it all sounds like deck chairs to me. The incentive structure of the mortgage origination industry was the primary problem, not the securitization process – why doesn’t that seem to be addressed by any of this? What about Level 3 assets, and the constant devil of mark-to-market accounting that causes such horrible collapses when liquidity dries? That’s been a huge regulatory question since Enron and Treasury hasn’t even touched it. Idiots.

    As I’ve said a thousand times in my life, the SEC is the best-run bureaucracy in the country. Don’t defang them, give them their funding, and don’t give them more than they should be handling. They are the only thing keeping this industry honest, and they don’t need to take on commodities too after the inevitable “streamlining” of the budget going to two separate entities now. If you want to fix things, how about a major modification of SOX to address L3 accounting and cut the reporting down a little? Everyone’s chasing paper and issuing reports instead of making money or catching crooks.

  38. tz says:

    Read: The fed will take taxpayer’s money (borrowings or interest) and use it to bail out their Wall St. corporate cronies.

    I am first for free markets and pure capitalism.

    That does mean the poorest consumer and the highest paid CEO are equal under the law – and for that matter the market.

    But if we are to have socialism it ought to benefit the greatest number of people and the poor first.

  39. @tz:

    That’s the wrong read.

    Banks are going to come out firing all their guns against this.

  40. disavow says:

    @Trai_Dep: “The Democrats are the party that says government will make you smarter, taller, richer, and remove the crabgrass on your lawn. The Republicans are the party that says government doesn’t work and then they get elected and prove it.” — P.J. O’Rourke

    Superagencies like this are based on optimistic assumptions that, given what we know about bureaucracy and human nature, just don’t make sense. Accountability can be improved if everybody reports to the same person, but only if that person is competent and ethical (think “Department of Homeland Security”). Also sometimes it’s good to have organizations with shared responsibilities in order to keep each other honest.

    “in effect allowing it to send SWAT teams into any corner of the industry or any institution that might pose a risk to the overall system.”

    So regulation is bad, but intervention is good. Okay.

  41. @zentec: Excellent! So now I have to pay for the a-holes who like to live in a place that is 10 feet f-ing below sea level and are shocked that hurricanes are devastating.

    Now I really do hope there is a full meltdown that will make the Fed irrelevant. Deck chairs on the titanic = SPOT ON.

  42. Bobg says:

    Let’s see now. This act, allowing total financial regulation of our money system, will give broad powers to the same government that allowed a 20 year old with a one room office to get a 300 million dollar contract to supply 40 year old, worthless ammunition to Afghanistan. I wonder why I’m a little hesitant to embrace this proposal.

  43. Orv says:

    @humphrmi: The next crisis will be the credit card industry, most likely, but that doesn’t answer the question of what the next bubble will be. I’m guessing commodities, especially gold. The price of gold has been skyrocketing just like the price of housing did, and all kinds of people are jumping into gold because they believe it can only go up in value.

  44. Mr. Gunn says:

    HRHKingFriday: OK Everybody. Repeat after me. EVERYONE is in danger of some sort of natural disaster, no matter where they are.

  45. Mr. Gunn says:

    disavow: Yeah, regulation might not be great, but intervention can be necessary. Sounds like the nuanced view necessary when dealing with a complex subject.

    If regulation is needed domestically, it’s also needed internationally. If the unregulated foreign markets can really succeed long-term with minimal regulation, then we don’t need regulation domestically.

    Sustainable(as determined by who else but regulators) growth is certainly the way to go, but sometimes seems like the only way we’d get that is by increasing individual life-span.

  46. Charles Duffy says:

    @Mr. Gunn: That’s not to say that all risks are the same, or that people don’t have the ability (when deciding which part of the country to live in) to mitigate those risks.

    I’ll take tornados over earthquakes or flooding any day.