Embattled Treasury Secretary Timothy Geithner in an effort to restore his credibility outlined an unprecedented plan before a Congressional panel Tuesday that would give his department powers to seize non-banking financial companies.
The new powers would regulate large insurers, investment firms and hedge funds. The government through the Federal Deposit Insurance Corporation at present can seize only banks if they are on the verge of collapsing.
At first blush, the plan in its broadest outlines appears prudent.
However, its presentation will not receive top billing from Tuesday's hearing where Geithner and Fed Chairman Ben Bernanke made a joint appearance before the House Finance Committee. Members grilled the pair over their mishandling of the $165 million in bonuses paid to American International Group with taxpayer bailout money.
According to The Washington Post:
Giving the Treasury secretary authority over a broader range of companies would mark a significant shift from the existing model of financial regulation, which relies on independent agencies that are shielded from the political process. The Treasury secretary, a member of the president's Cabinet, would exercise the new powers in consultation with the White House, the Federal Reserve and other regulators, according to the document.
The administration's proposal contains two pieces. First, it would empower a government agency to take on the new role of systemic risk regulator with broad oversight of any and all financial firms whose failure could disrupt the broader economy. The Federal Reserve is widely considered to be the leading candidate for this assignment. But some critics warn that this could conflict with the Fed's other responsibilities, particularly its control over monetary policy.
The government also would assume the authority to seize such firms if they totter toward failure.
Besides seizing a company outright, the document states, the Treasury Secretary could use a range of tools to prevent its collapse, such as guaranteeing losses, buying assets or taking a partial ownership stake. Such authority also would allow the government to break contracts, such as the agreements to pay $165 million in bonuses to employees of AIG's most troubled unit.
The Treasury secretary could act only after consulting with the president and getting a recommendation from two-thirds of the Federal Reserve Board, according to the plan.
The authority to seize non-bank financial firms has emerged as a priority for the administration after the failure of investment house Lehman Brothers, which was not a traditional bank, and the troubled rescue of AIG.
"We're very late in doing this, but we've got to move quickly to try and do this because, again, it's a necessary thing for any government to have a broader range of tools for dealing with these kinds of things, so you can protect the economy from the kind of risks posed by institutions that get to the point where they're systemic," Geithner said last night at a forum held by the Wall Street Journal.
The powers would parallel the government's existing authority over banks, which are exercised by banking regulatory agencies in conjunction with the Federal Deposit Insurance Corp. Geithner has cited that structure as the model for the government's plans.
And, this from The New York Times:
Had the Treasury Department had the expanded authority last fall, administration officials have said, the government could have seized AIG and more efficiently wound down its operations in a less-costly manner. At Tuesday's hearing, Bernanke said that he had wanted to sue AIG. to prevent the bonus payments but was talked out of it by lawyers who warned that if the lawsuit failed, the government might have to pay double or triple damages in addition to the bonus.
“We need resolution authority to go in and be able to change contracts, be able to change the business model, unwind what doesn’t work,” the White House press secretary, Robert Gibbs, told CNN on Tuesday.
The administration has been criticized for failing to provide sufficient detail of its financial-rescue proposals. But on Tuesday, Mr. Gibbs appeared on several television interviews to begin making the case for the new authority.
“This isn’t anything crazy. This is exactly what the Treasury Department needs to deal with things like AIG.,” he said. It would allow the administration to address systemic risk, he added, without having to place a failing financial firm into bankruptcy.
The resolution authority — to take over non-bank financial institutions that pose a systemic risk until problems are resolved — was intended to be part of the administration’s comprehensive overhaul of the government’s financial regulatory system, which has been delayed as the Treasury dealt with immediate crises.
White House and Treasury officials decided amid the recent furor over AIG’s bonuses to push for the resolution authority now.
Geithner will appear again before the House Finance Committee on Thursday to discuss specifics of the proposed new authority.
I always have been skeptical of broad regulatory powers imposed by government because they tend to be too stringent, inflexible and costly for those forced to abide by them.
However, since the Reagan administration began the cycle of de-regulation, history proves that the financial institutions cannot police themselves and allowed greed to overpower judicious banking and investment principles.
Former Fed Chairman Alan Greenspan admitted this oversight on his part. It was on his watch and implicit approval that legislation was passed allowing the mergers of banks with investment brokerage houses. The first major catastrophe was Enron followed most recently by the failures of Lehman Brothers and AIG.
Despite its good intentions, the Obama administration must be careful not to fall down the slippery slope of excessive regulations. The backlash could be as catastrophic as we are observing under the current rules or lack whereof.