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Feb 18
2010

Why the Fed deserves more blame than other bank regulators

Posted by Ron F in Securities and Exchange CommissionRiskRegulationPhil GrammNew York Times Co.Glass-SteagallFederal ReserveFedderivativesCongressBernankeBanksbanking reformBankingbank failuresAlan Greenspan

Ron F

Whether a Treasury-led council of bank regulators would be more or less effective at heading off systemic financial risk than the current set-up remains to be seen.

But it couldn't be much worse. So the nonsense that St. Louis Fed President James Bullard told the Times today about the Fed's role in the financial crisis needs to be called just that.

The Fed isn't just another regulator, like the Federal Deposit Insurance Corporation or the Office of the Comptroller of the Currency. Congress expressly made it the uber-regulator when it passed the Gramm-Leach-Bliley Act in 1999. Yeah, that's the law that put the nail in the coffin of Glass-Steagall and paved the way for the meltdown.

So where does Bullard get off saying that other regulators deserve as much blame as the Fed for failing to foresee the crisis?

On more than one occasion, Alan Greenspan defended the use of credit derivatives as an effective means of reducing systemic risk, and the Fed under him did nothing-yes, that's correct, zero, nada, zilch-to restrain bank leverage. And if the central bank was ultimately in charge of the whole show, as it was thanks to Congress, why should it not bear more responsibility for what happened?

Is Bullard suggesting that the FDIC and OCC could have told Greenspan to go to hell? Somehow I don't think that would have worked.

Of course, the other bank regulators share the blame. But as the so-called "umbrella" regulator of the system, as Gramm-Leach-Bliley pronounced the Fed, the central bank under Greenspan and Ben Bernanke had the primary responsibility for overseeing the system. Sorry, guys, but you do indeed deserve the lion's share of the blame for regulators' failure to do their jobs

While I'm at it, I wish the Times for once would find someone other than Fed bank presidents to comment on its role. What does it expect them to say, anyway, that they want less power?

Permit me to offer up a personal anecdote that illustrates what's going on here. Not long after banks helped blow holes in Procter & Gamble and Orange County, Calif., and destroy Metallgesellschaft in the early 1990s, all thanks to derivatives, I went to Capitol Hill to talk to Henry Gonzalez, a Texas democrat and "populist" who headed the House Financial Services Committee at the time, about his proposals for tighter oversight of the market, which would have involved giving the SEC more power to regulate the contracts.

He turned me over to one of his assistants, who over a sandwich in his office, explained that I didn't understand the first thing about financial regulation when I wondered where the Securities and Exchange Commission had been during those affairs, which of course led to big losses for investors.

As Gonzalez's assistant put it, the SEC was not about to start a turf battle with the Federal Reserve by pushing for tighter derivatives regulation, because the Fed's turf involved the banks and the central bank was heavily influenced by them.

"When one guy grabs you by the tie, you kick that guy in the balls," the Beltway veteran artfully explained between bites of his sandwich.

Sure enough, Gonzalez's efforts to rein in derivatives went nowhere.

UPDATE: I see I'm not alone in complaining about the reporting in this article.

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