Financial Regulatory Reform Likely Not Enough

At the height of the credit market crisis last year, there were loud calls for dramatic changes in the regulation of financial institutions. Now that the sturm und drang has ceased, the reforms that will be realized will be much tamer.

Today the Treasury Department released a small torrent of information on the proposed changes to the financial regulatory landscape.  Although there are some helpful reforms, overall it isn’t the sort of sweeping, Rooseveltian change that felt like it might be in the offing six months ago.  Presumably, the proposal has been made less radical to help it slip past the minefield of special-interest lobbying and congressional power-struggling that must be negotiated when reforms in the regulation of the financial industry are sought.

On the positive side, the proposed changes would bring over-the-counter financial derivatives, like credit default swaps, under the oversight of the SEC and the Commodity Futures Trading Commission (CFTC).  Another change would give regulators greater flexibility in handling problems with large non-bank financial companies (think AIG).  The proposal increases the power of the Federal Reserve to regulate financial markets and creates three new regulatory bodies: a Consumer Financial Protection Agency, a national insurance overseer, and a Financial Services Oversight Council (charged with plugging regulatory “gaps”).

Negatively, it’s unlikely that the creation of a gaggle of new regulators will bring greater transparency or accountability to the regulatory process.  The proposal eliminates only one existing regulator – the Office of Thrift Supervision, which would be merged with the Office of the Comptroller of the Currency.  The proposal dodges the merger that seemed most obvious – the combining of the SEC with the CFTC, a move that would have brought major exchanges under one regulator.  Turf battles and disagreements between the two will be refereed by the Financial Services Oversight Council, an arrangement likely to result in glacially slow decision-making.  The SEC, which was largely AWOL before and during last year’s credit and Madoff crises, emerges from these reforms unscathed.

The most serious flaw in the plan is that it does nothing to tackle the gorilla in the room: the too-big-to-fail problem.  Having a huge concentration of capital and financial risks in a small number of huge banks was once considered a major problem, but now that the worst of the credit crisis seems past, that concern has vanished.

The Consumer Financial Protection Agency’s power would include power to effect improvements in the protections afforded to credit card users and mortgage borrowers.  When all is said and done, it probably won’t have the authority to regulate mutual funds, though such oversight would be a great boon to consumers.  Overall, the changes proposed are helpful, but they don’t tackle the protections that financial consumers really need.

About the author

Thomas Fisher, CFP®

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