Financial regulation to get "Homeland Security" treatment

Washington Post:

The Treasury Department on Monday will propose a far-reaching overhaul of the nation's financial regulatory structure that would reshape the relationship between Wall Street and Washington and redefine the responsibilities of some of the federal government's most powerful agencies, according to administration officials.

The initiative calls for some long-standing government agencies to combine and others to disappear. Major players at the core of the nation's financial system, including banks, securities firms, insurance companies, commodity investors, and mortgage firms and brokers, may have to submit to increased oversight.

The Federal Reserve would gain the power to investigate any aspect of financial institutions that threatens the stability of the entire system, gathering information and taking action to combat risks to the financial system as a whole.

The Securities and Exchange Commission would lose some of its authority in the restructuring and be combined with the Commodity Futures Trading Commission, which regulates the trading of natural gas, oil and other goods.

Most of the plan, which Treasury officials call a "regulatory blueprint" for the coming years, will require congressional action. While getting bills passed appeared to be a remote possibility a year ago when work on the initiative began, the credit crisis and the near-collapse of the 85-year-old firm Bear Stearns have changed the political environment on Capitol Hill. Now even some Republicans, who normally oppose government intervention, are conceding that Washington needs to keep a closer eye on Wall Street.

The blueprint is necessary because regulation has not kept up with the pace of financial innovation, Treasury officials have said. Recent market inventions, including exotic mortgage securities and derivatives, have caused losses at major financial firms and triggered a credit crunch that has roiled Wall Street and is threatening the economy.

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The NY Times also produced a summary of the plan.

I think it is a mistake. We all know how dysfunctional Homeland Security became when it was created from several separate agencies. Instead of being more nimble it has been less nimble.

The Bear Stearn's problem stems from exempting brokerage firms from some of the requirements we impose on investors who engage in leveraged transactions. It also stems from poor risk analysis of those leveraged transactions. It is not clear to me now that they have a handle on that risk analysis. One reason it is not clear is that the market is still struggling to put a value on the instruments that were at the heart of the Bear Stearn's collapse.

Doing that risk analysis should be the starting point for any regulatory changes, but I think that would be put on hold in any massive reorganization.