Monday, March 31, 2008

Regulation Consolidation Abomination

Treasury Secretary Henry Paulson (left) released the much anticipated 218-page "Blueprint for Regulatory Reform" today.

The reform was reactionary measure taken by the US Department of the Treasury in light of the economic crisis that has consumed the US economy over the last half year (and more specifically, the collapse of Bear Stearns). However, regulation reform will not affect our current crisis; it is a preventative measure taken to safeguard against future crises.

Simply put, the plan consolidates five various federal regulatory bodies into a more cohesive institution with universal oversight. Bloomberg News calls the proposed blueprint, "the broadest overhaul of U.S. financial regulation since the Great Depression." However, economist Paul Krugman of the New York Times likens the rearrangement of the Fed's regulatory institutions to the "Dilbert Strategy" in which, in "order to hide [management's] lack of any actual ideas about what to do, managers sometimes make a big show of rearranging the boxes and lines that say who reports to whom."

The proposed plan does not expand the regulatory function of the Fed; it simply consolidates it. This assumes the current foreclosure crisis and subsequent Bear Stearns buy out could have been avoided had the warning signs not "slipped through the cracks." However, the proposed arrangement of regulatory institutions will not provide the "crack sealant" necessary to stop future crises at their on-set.

Despite that Paulson's proposed blueprint may be "the broadest overhaul of U.S. financial regulation since the Great Depression," it does not go far enough. At this current moment in time as well as plan put forth in the blueprint, the Fed is only allowed to regulate deposit-taking banks. In response to the Great Depression, the necessity for the Fed to insure deposit-taking banks was universally understood. In return, the Fed justly acquired a regulatory function of the institutions they would be insuring i.e. the banks.

Flash forward 79 years from 1929 to today: the financial superstar of Wall Street, Bear Stearns goes down in flames as a result of shady and risky lending. Who comes to the rescue? The Fed. While we have not established a FDIC for "investment banks/securities trading and brokerage firms" such as Bear Stearns, the Fed sent a clear signal to all analogous firms: "We will be there for you when times are rough."

Let me be clear, I believe it was a mistake to bail out Bear Stearns to begin with. However, what's done is done, and the super firms of Wall Street took notice.

If the Fed is going to insure Bear Stearns and the like, the Fed should have the same regulatory capabilities it has over the smaller deposit-taking banks it insures. The greatest overhaul since the Great Depression was gravely depressing. The Fed must take bold steps if it truly desires to prevent future crises. A rearrangement of regulatory institutions won't fool anyone; we need an expansion of Fed oversight and regulation.

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