Analysis: Financial reform has many cooks stirring pot

By Mark Felsenthal

WASHINGTON (BestGrowthStock) – The U.S. financial regulatory overhaul, touted as the most significant change in generations, is to some a missed opportunity to streamline supervision among a crowded field of government agencies.

Many blame a convoluted and outmoded rule-making structure for failing to spot and put a halt to bank and financial market activities that led to the worst financial crisis in decades.

Yet the rewrite of Wall Street rules Congress approved on Thursday leaves much of the regulatory architecture intact, eliminating only a single agency, the much-derided and politically weak Office of Thrift Supervision.

Analysts say the remaining thicket of agencies leaves gaps that financial firms can exploit to take on risks that could lead to the next wrenching boom-and-bust cycle.

“The biggest disappointment with the bill is the failure to consolidate the banking regulators further, because it does open us up to regulatory arbitrage” as banks shop around for the most lenient overseer, said Douglas Elliott, an economic studies fellow at the Brookings Institution.

The financial crisis laid bare pervasive problems in lending and financial markets that had been festering unchecked for years. After the meltdown, many analysts urged thinning the field of regulatory agencies to sharpen the focus of oversight.

Early drafts of the regulatory overhaul proposed a single bank regulator and would have merged the Securities and Exchange Commission and the Commodity Futures Trading Commission. But in the face of pressure from community bankers worried about being overshadowed by larger firms and agencies themselves defending their usefulness, lawmakers backed away from radical restructuring.

Only the OTS, tarred by lapses after the crumbling of some of the most important institutions under its supervision — such as Washington Mutual, IndyMac and American International Group — was deemed expendable.


“They basically punted,” said Cornelius Hurley, a former Federal Reserve lawyer who is now a professor of banking law at Boston University.

The danger, critics say, is that with multiple regulatory agencies, banks and financial activity will continue to seek out the most permissive supervisory regime, and regulators may be tempted to lower standards to broaden their turf.

Also, with resources divided among a multitude of agencies, a large and influential financial firm may be able to dictate terms to its watchdog.

“Over the long run, the business will end up getting done where it’s cheapest to do it on a day-to-day basis,” Elliott said. “It’s distinctly cheaper to operate under lax regulation.”

The rules rewrite aims to stop banks from shopping for a regulator by clearly assigning specific regulators to different categories of institution. All national banks fall under the watch of the Office of the Comptroller of the Currency, the Fed will be in charge of bank holding companies, while the Federal Deposit Insurance Corp will patrol state-chartered banks.

The reforms also bar a firm facing regulatory action from slinking off to a different supervisor unless all of the regulators involved approve the switch.

The legislation further aims to bolster financial oversight by concentrating consumer protections in a single agency, and by policing system-wide risks with another new body, the Financial Stability Oversight Council.


Analysts say these safeguards address some, but not all, of the drawbacks of regulatory dispersion.

Chief among improvements is bestowing responsibility for supervision of any systemically important firm — whether a bank, a hedge fund, or an insurance company — to the Federal Reserve — the U.S. central bank, analysts said.

“I think you could have done more to simplify the U.S. regulatory structure but the big potential areas of falling between the cracks or regulatory arbitrage have been either eliminated or narrowed considerably,” said Richard Spillenkothen, a former director of bank supervision at the Fed.

In the end, analysts say a key to the success of regulatory reforms will be whether supervisors become bolder in their rule-writing and oversight in the face of likely industry opposition.

“It has more to do with the people and the attitudes,” said Boston University’s Hurley.

There is also the risk that public support for greater regulatory vigilance will fade when memories of the crisis and the recession dim.

“If the Zeitgeist shifts, and once more a big part of the population thinks the system is safe and the government is stifling innovation or lending, there’s ultimately no protection,” Brookings’ Elliott said.

(Editing by Leslie Adler)

Analysis: Financial reform has many cooks stirring pot