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Bernanke outlines regulatory reform to avoid repeating history

The Federal Reserve chairman says to avoid another financial meltdown, 'holistic' oversight of the banking system is crucial on a global scale, with especially close scrutiny for top institutions.

March 11, 2009|Frank James

WASHINGTON — Federal Reserve Chairman Ben Bernanke on Tuesday called for a major reform of the financial regulatory system to create more "holistic" oversight of the world's largest financial institutions in an effort to avoid a repeat of the problems that contributed to the present global financial crisis.

Bernanke, speaking to the Council of Foreign Relations, outlined a four-part strategy that he said could provide better regulation and help minimize systemic risks.

It included better supervision of financial institutions considered "too big to fail" and improved financial infrastructure to allow more transparency in transactions involving newer financial instruments, such as credit default swaps.

It also included a review of regulations to make sure they don't contribute to stresses on the financial system during economic downturns. Among such regulations under review would be requirements that banks keep more money on hand, which many have said have led banks to reduce lending.

The strategy also included the creation of an agency whose sole job would be to monitor potential dangers to the entire financial system.

"We must have a strategy that regulates the financial system as a whole, in a holistic way, not just its individual components," Bernanke said. "In particular, strong and effective regulation and supervision of banking institutions, although necessary for reducing systemic risk, are not sufficient by themselves to achieve this aim."

To financial institutions considered "too big" or "too interconnected" to fail, Bernanke said, regulators must apply greater scrutiny than before. And because the largest banking companies are global, regulators worldwide must apply similar rigorous standards.

"Any firm whose failure would pose a systemic risk must receive especially close supervisory oversight of its risk-taking, risk management and financial condition and be held to high capital and liquidity standards," Bernanke said.

He also called for an end to the Balkanized manner in which bank holding companies are regulated, with different federal agencies regulating various parts of the business. The central banker urged consolidating much of the oversight to prevent risky bank practices from falling through the cracks.

Federal officials have moved quickly and repeatedly in the last year to prop up a number of financial institutions whose mammoth size made their potential failure a danger to the entire financial system. Citigroup Inc., American Insurance Group Inc., Fannie Mae and Freddie Mac have together received hundreds of billions in taxpayer dollars to prevent their failures.

The repeated rescues have fueled outrage among lawmakers and taxpayers alike. They have come to see the companies as mismanaged money pits with out-of-touch senior managers whose priority seemed to be further enriching themselves.

At a recent Capitol Hill appearance, Bernanke said he himself was particularly angered by the AIG situation because the unnecessary risks the company took not only threatened to unhinge the entire financial system but also continued to soak up federal resources.

In his speech, Bernanke called for Congress to provide a legal framework that allows an insolvency at a nonbanking institution such as AIG to be resolved in an orderly manner, much as bank insolvencies are handled when the Federal Deposit Insurance Corp. steps in to take over a failed bank.


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