FDIC Chairman Addresses Provisions of Obama Regulatory Reform Plan

By W. Bernard Mason

In a CNBC interview yesterday, FDIC Chair Sheila Bair spoke to some of the key issues contained in the Administration's recently released regulatory restricting proposal. Rather than characterize the proposal as "good", she suggested it was "an opening to the process". She said there was a definite need for reform, and the effort must move forward. She stated that ending "too big to fail" is the most important step in reforming the system, and the way to do that is to have a resolution mechanism that works even for very large entities. This mechanism should also impose market discipline on those who invested or extended credit without doing proper due diligence. This is a central focus of the FDIC in analyzing the proposal.

She said the good news is that a regulatory council has been proposed to oversee systemic risk interests; however, the FDIC wants "a seat at the table regarding decision-making on systemic risk", including input on capital standards and leverage constraints. She indicated the FDIC is currently guaranteeing over $6 trillion in deposits, and the agency has tremendous exposure to the financial system. Therefore, it should have a real say in systemic issues.

Ms. Bair stated that the proposed systemic risk responsibility and the Federal Reserve's existing monetary policy responsibility are two unrelated activities, and most of the developed countries have separated these functions, so this is a legitimate policy issue. Congress will need to look at where this authority and responsibility should be placed.

In her view there has been moral hazard and lack of market discipline created by the "too big to fail" doctrine, and this has been furthered by the lack of a resolution mechanism that can be applied to large financial organizations. Regulation plays a large part, but market discipline also must have an influential role. To the extent there is any sort of implied government back-stop, market discipline is diluted. Ms. Bair believes that in dealing with existing large financial entities, Congress must create a fund (separate from the Deposit Insurance Fund) that can institute risk-based assessments so that those entities that pose higher systemic risks will pay higher assessments. This would create economic disincentives to very large growth.

In her view, true regulatory consolidation would mean removing supervisory authority from all current agencies and placing it under a new entity, and also fold in the SEC and the CFTC. She has been perplexed by the Administration's focus on state charters vs. federal charters as something that needs to be addressed as part of regulatory consolidation. Her position is that the ability to choose between state and federal charters was never a contributing factor to the current crisis. "We've had dual banking for a couple of hundred years, now". The integrity of state charters is important to maintain.

As to whether a restructured regulatory system will protect from future crises, Ms. Bair stated that we will always be subject to business cycles, and this is why having a sound resolution mechanism is extremely important. She believes this should be the key focus for Congress.

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W. Bernard Mason is the Regulatory Relations Liaison for The Risk Management Association. He may be contacted at bmason@rmahq.org.