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October 1, 2014

Here’s an idea: Gov’t Bank Regulators, not Wall Street bankers, should regulate Wall Street banks

Last week’s revelations about the supervisory practices of the New York Federal Reserve Bank raise a host of important questions: Who is the key stakeholder (and decision-maker) at the NY Fed?  Is it the team of in-house experts on bank regulation who ostensibly work for the public, or is it the group of Wall Street’s too-big-to-fail banks that the NY Fed is charged with supervising? And what is the NY Fed’s real mission? Is it “to ensure that the largest, most systemic supervised institutions have robust, forward-looking capital planning processes, sound liquidity risk management practices, and sufficient resolution planning” as stated in its 2013 annual report?  Or is it to look the other way when the banks’ regulatory compliance programs are not “up to snuff,” to avoid upsetting Wall Street’s largest, most politically connected banks? The tape recordings revealed by former NY Fed examiner Carmen Segarra suggest all the wrong answers: The NY Fed management has lost track of its priorities.

This is not a new problem. An internal report dating back to 2009 contains a similarly negative assessment of the NY Fed’s approach to bank supervision.  The report observes that “supervisors paid excessive deference to banks and as a result they were less aggressive” in conducting adequate supervision. “Too often,” the report adds, regulators were willing to “accept inadequate [data], as opposed to requiring data provided according to regulatory standards.”  More recently, noted author and Wall Street watchdog, Michael Lewis, put it this way: “The Fed encourages its employees to keep their heads down, to obey their managers and to appease the banks. That is, bank regulators failed to do their jobs properly not because they lacked the tools but because they were discouraged from using them.”

A lot has been said about the “revolving door” between financial regulators and financial institutions, where regulators become bankers and then regulators again, repeating the cycle over and over, but these tapes indicate that the problem runs deeper, to a regulatory capture of a more subtle type – the intellectual capture of public authorities.  Could it be that top officials at the NY Fed fundamentally believe in the superiority of the banks’ opinions and in the inferiority of their own staff’s views? Could it be that those regulators have embraced the view that the banks’ goal of always “maximizing shareholders’ value” at any cost is more important and noble than ensuring a safe and sound financial system in the U.S., one in which taxpayers no longer have to bail out the revenue maximizing banks?

The American people (and NY Fed staff) deserve answers to all of these important questions. Thankfully, U.S. Senators Elizabeth Warren (D-Mass.) and Sherrod Brown (D-OH) have called for hearings to get to the bottom of it.  And, Better Markets will be paying close attention.



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