Statement of
Sheila C. Bair Chairman,
Federal Deposit Insurance Corporation
on
Strengthening and Streamlining Prudential Bank Supervision
before the
Committee on Banking, Housing
and
Urban Affairs; U.S. Senate;
Room 534, Dirksen
Senate Office Building
August 4, 2009
Chairman Dodd, Ranking Member Shelby and members of the Committee, I appreciate
the opportunity to testify on behalf of the Federal Deposit Insurance Corporation (FDIC)
on the importance of reforming our financial regulatory system. Specifically, you have
asked us to address the regulatory consolidation aspects of the Administration’s
proposal and whether there should be further consolidation.
The proposals put forth by the Administration regarding the structure of the financial
system and the supervision of financial entities provide a useful framework for
discussion of areas in vital need of reform. The goal of any reforms should be to
address the fundamental causes of the current crisis and to put in place a regulatory
structure that guards against future crises.
There have been numerous proposals over the years to consolidate the federal banking
regulators. This is understandable given the way in which the present system
developed, responding to new challenges as they were encountered. While appealing in
theory, these proposals have rarely gained traction because prudential supervision of
FDIC insured banks has held up well in comparison to other financial sectors in the
United States and against non-U.S. systems of prudential supervision. Indeed, this is
evidenced by the fact that large swaths of the so-called shadow banking sector have
collapsed back into the healthier insured sector, and U.S. banks -- notwithstanding their
current problems -- entered this crisis with less leverage and stronger capital positions
than their international competitors.
Today, we are again faced with proposals to restructure the bank regulatory system,
including the suggestion of some to eliminate separate federal regulators for national-
and state-chartered institutions. We have previously testified in support of a systemic
risk council which would help assure coordination and harmonization in prudential
standards among all types of financial institutions, including commercial banks,
investment banks, hedge funds, finance companies, and other potentially systemic
financial entities to address arbitrage among these various sectors. We also have
expressed support for a new consumer agency to assure strong rules and enforcement
of consumer protection across the board. However, we do not see merit or wisdom in
Sheila C. Bair Chairman,
Federal Deposit Insurance Corporation
on
Strengthening and Streamlining Prudential Bank Supervision
before the
Committee on Banking, Housing
and
Urban Affairs; U.S. Senate;
Room 534, Dirksen
Senate Office Building
August 4, 2009
Chairman Dodd, Ranking Member Shelby and members of the Committee, I appreciate
the opportunity to testify on behalf of the Federal Deposit Insurance Corporation (FDIC)
on the importance of reforming our financial regulatory system. Specifically, you have
asked us to address the regulatory consolidation aspects of the Administration’s
proposal and whether there should be further consolidation.
The proposals put forth by the Administration regarding the structure of the financial
system and the supervision of financial entities provide a useful framework for
discussion of areas in vital need of reform. The goal of any reforms should be to
address the fundamental causes of the current crisis and to put in place a regulatory
structure that guards against future crises.
There have been numerous proposals over the years to consolidate the federal banking
regulators. This is understandable given the way in which the present system
developed, responding to new challenges as they were encountered. While appealing in
theory, these proposals have rarely gained traction because prudential supervision of
FDIC insured banks has held up well in comparison to other financial sectors in the
United States and against non-U.S. systems of prudential supervision. Indeed, this is
evidenced by the fact that large swaths of the so-called shadow banking sector have
collapsed back into the healthier insured sector, and U.S. banks -- notwithstanding their
current problems -- entered this crisis with less leverage and stronger capital positions
than their international competitors.
Today, we are again faced with proposals to restructure the bank regulatory system,
including the suggestion of some to eliminate separate federal regulators for national-
and state-chartered institutions. We have previously testified in support of a systemic
risk council which would help assure coordination and harmonization in prudential
standards among all types of financial institutions, including commercial banks,
investment banks, hedge funds, finance companies, and other potentially systemic
financial entities to address arbitrage among these various sectors. We also have
expressed support for a new consumer agency to assure strong rules and enforcement
of consumer protection across the board. However, we do not see merit or wisdom in
consolidating federal supervision of national and state banking charters into a single
regulator for the simple reason that the ability to choose between federal and state
regulatory regimes played no significant role in the current crisis.
One of the important causes of the current financial difficulties was the exploitation of
the regulatory gaps that existed between banks and the non-bank shadow financial
system, and the virtual non-existence of regulation of over-the-counter (OTC) derivative
contracts. These gaps permitted lightly regulated or, in some cases, unregulated
financial firms to engage in highly risky practices and offer toxic derivatives and other
products that eventually infected the financial system. In the absence of regulation, such
firms were able to take on risks and become so highly levered that the slightest change
in the economy’s health had deleterious effects on them, the broader financial system,
and the economy.
Gaps existed in the regulation and supervision of commercial banks -- especially in the
area of consumer protection -- and regulatory arbitrage occurred there as well. Despite
the gaps, bank regulators maintained minimum standards for the regulation of capital
and leverage that prevented many of the excesses that built-up in the shadow financial
sector.
Even where clear regulatory and supervisory authority to address risks in the system
existed, it was not exercised in a way that led to the proper management of those risks
or to provide stability for the system, a problem that would potentially be greatly
enhanced by a single federal regulator that embarked on the wrong policy course.
Prudent risk management argues strongly against putting all your regulatory and
supervisory eggs in one basket. Moreover, a unified supervisor would unnecessarily
harm the dual banking system that has long served the financial needs of communities
across the country and undercut the effectiveness of the deposit insurance system.
In light of these significant failings, it is difficult to see why so much effort should be
expended to create a single regulator when political capital could be better spent on
more important and fundamental issues which brought about the current crisis and the
economic harm it has done. In addition, a wholesale reorganization of the bank
regulatory and supervisory structure would inevitably result in a serious disruption to
bank supervision at a time when the industry still faces major challenges. Based on
recent experience in the federal government with such large scale agency
reorganizations, the proposed regulatory and supervisory consolidation, directly
impacting the thousands of line examiners and their leadership, would involve years of
career uncertainty and depressed staff morale. At a time when the supervisory staffs of
all the agencies are working intensively to address challenges in the banking sector, the
resulting distractions and organizational confusion that would follow from consolidating
the banking agency supervision staffs would not result in long term benefits. Any
benefits would likely be offset by short term risks and the serious disadvantages that a
wholesale reorganization poses for the dual banking system and the deposit insurance
system.
regulator for the simple reason that the ability to choose between federal and state
regulatory regimes played no significant role in the current crisis.
One of the important causes of the current financial difficulties was the exploitation of
the regulatory gaps that existed between banks and the non-bank shadow financial
system, and the virtual non-existence of regulation of over-the-counter (OTC) derivative
contracts. These gaps permitted lightly regulated or, in some cases, unregulated
financial firms to engage in highly risky practices and offer toxic derivatives and other
products that eventually infected the financial system. In the absence of regulation, such
firms were able to take on risks and become so highly levered that the slightest change
in the economy’s health had deleterious effects on them, the broader financial system,
and the economy.
Gaps existed in the regulation and supervision of commercial banks -- especially in the
area of consumer protection -- and regulatory arbitrage occurred there as well. Despite
the gaps, bank regulators maintained minimum standards for the regulation of capital
and leverage that prevented many of the excesses that built-up in the shadow financial
sector.
Even where clear regulatory and supervisory authority to address risks in the system
existed, it was not exercised in a way that led to the proper management of those risks
or to provide stability for the system, a problem that would potentially be greatly
enhanced by a single federal regulator that embarked on the wrong policy course.
Prudent risk management argues strongly against putting all your regulatory and
supervisory eggs in one basket. Moreover, a unified supervisor would unnecessarily
harm the dual banking system that has long served the financial needs of communities
across the country and undercut the effectiveness of the deposit insurance system.
In light of these significant failings, it is difficult to see why so much effort should be
expended to create a single regulator when political capital could be better spent on
more important and fundamental issues which brought about the current crisis and the
economic harm it has done. In addition, a wholesale reorganization of the bank
regulatory and supervisory structure would inevitably result in a serious disruption to
bank supervision at a time when the industry still faces major challenges. Based on
recent experience in the federal government with such large scale agency
reorganizations, the proposed regulatory and supervisory consolidation, directly
impacting the thousands of line examiners and their leadership, would involve years of
career uncertainty and depressed staff morale. At a time when the supervisory staffs of
all the agencies are working intensively to address challenges in the banking sector, the
resulting distractions and organizational confusion that would follow from consolidating
the banking agency supervision staffs would not result in long term benefits. Any
benefits would likely be offset by short term risks and the serious disadvantages that a
wholesale reorganization poses for the dual banking system and the deposit insurance
system.