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Thursday, June 4, 2009

Some Thoughts on the Republicans' Regulatory Reform Proposals

So far, all we know is what has been leaked. CNBC has the round up on what the Republicans will focus on.

Among other things, it would ban additional government bailouts and create a new bankruptcy court category for big institutions that pose a systemic risk — a clear alternative to the resolution authority concept.

Other key components would limit the Federal Reserve’s regulatory and lending authority; initiate the privatization of mortgage giants Fannie Mae and Freddie Mac, which have been under direct government control since their near collapse a year ago; and restructure the existing regulatory framework for depositary institutions, including the FDIC, such that supervision of bank holding company subsidiaries would be spread among various agencies rather than consolidated in one banking regulatory.

In particular, the proposal appears to strike at the Fed’s expanded role in the current financial crisis, which has raised alarms on both sides of the political aisle.

The plan would force the Fed’s special lending facilities to be transferred to the Treasury’s balance sheet after a certain period and curtail its ability to lend under the emergency powers in section 13.3 of its charter. The central bank would also be subject to new oversight, in the form of audits by the General Accountability Office.


If I had written the reforms myself, there would have been only marginal, though at times important, differences. (my reforms can be found here and here) I like the Republicans' focus on bankruptcy over bailouts. That's an idea I hadn't thought of that I could support depending on the details.

The most important part of their regulatory reform focuses on the Federal Reserve. I have long been talking about the expanded power that the Fed has been gaining. Controlling the money supply is an enormous amount of power and there is absolutely NO OVERSIGHT OF THE FED IN THIS ROLE. The Republicans want to change that. They are following the lead of Ron Paul in finally trying to hold the Fed to rules of audits.

When I first found out that no one but insiders has ever seen the books of the Fed I was shocked. Can you imagine that? The Fed is by far the most powerful institution in the world. Yet, we have no idea what their assets and liabilities are. No one outside the organization has ever seen their books. The first step to true reform of that institution is transparency. The power of the Fed can be implied from the fact that the organization has resisted every effort to ever open up its books. Meanwhile, it's power to oversee and regulate has expanded.

The President and the Democrats would like to go the other way on the Fed. They have no intention on asking for transparency and they not only want to make the Fed the systemic risk manager but also give it regulatory power over all financial institutions. (currently it is just banks)

The other part I really like is reforming Fannie/Freddie. That's something I have also long called for. That said, the Republicans only take one of two important steps. They are correct that they need to be fully privatized. There's one piece missing. These two form a duopoly in mortgage securitization. To end this, they also need to be broken up. It's absolutely necessary if we want any sort of stability in mortgages.

The other reforms are still vague. There is no reason to comment until I have seen the details.

The Republicans do absolutely have an opportunity to begin a very important and necessary debate over the role of the Federal reserve in our economy. This is a rather misunderstood organization, for instance it is actually private, and once it is fully opened up to the public, I firmly believe the public at large will be with the Republicans in favor of less power and more transparency of the Federal Reserve.

2 comments:

Anonymous said...

Wasn't one of the problems that Fannie and Freddie were privatized but nobody believed the government wouldn't bail them out? What keeps that from happening again?

mike volpe said...

Well, they are a Government Sponsored Entity. So, they are sort of privat and sort of public. So, that's a problem. First, they had access to a credit line from the Treasury, something no one else could get.

Also, because they were the only ones securitizing prime mortgages, everyone intuitively assumed that the government would bail them out if they failed.