|WASHINGTON—Senate Homeland Security and Governmental Affairs Chairman Joe Lieberman, ID-Conn., and Ranking Member Susan Collins, R-Me., Friday sent a letter to Treasury Secretary Timothy Geithner expressing their support for a more effective system of financial oversight that will eliminate overlap, duplication, and increase accountability. The Committee has held a series of hearings examining what led to last year’s financial crisis and how to prevent a similar crisis from occurring in the future. The Senators expressed their support for restructuring the fragmented financial regulatory system, in addition to strengthening financial regulations, as the Administration has proposed.
Below is the text of the letter sent to Secretary Geithner:
June 19, 2009
Hon. Timothy Geithner
Dear Secretary Geithner:
Reforming our financial regulatory system is one of the most difficult challenges facing the nation. This week, the Administration proposed numerous changes designed to strengthen regulations and address specific problems in our regulatory system. We believe that if our nation is to restore faith in our financial system and recreate the strong foundation we need for a dynamic market economy, we need to reform not just fiscal regulations, but the governmental organizations that enforce those regulations.
The jurisdiction of the Homeland Security and Governmental Affairs Committee includes studying the efficiency, economy, and effectiveness of all agencies and departments of the government; evaluating the effects of laws enacted to reorganize the legislative and executive branches of the government; and studying the intergovernmental relationships between the United States and the States and municipalities, and between the United States and international organizations of which the United States is a member.
Consequently, over the past few months, via hearings and discussions with numerous experts, our Committee has worked to understand how our financial regulatory structure has contributed to the current financial crisis and how it could be reformed to protect our economy.
Our nation’s financial regulatory structure has evolved over 150 years, largely in response to crises and market developments. Today, it is composed of nearly a dozen federal agencies, numerous self-regulatory organizations, and countless state agencies.
The system is outdated and inadequate. The financial world has undergone dramatic changes in recent years, revealing gaps in our regulatory structure and in the regulations themselves. The financial industry has consolidated, creating large, complex firms that often pose systemic risks beyond the capacity of our current regulatory organizations to supervise. Complex new products-such as credit default swaps-have been developed that are often poorly understood and unregulated. Many of these new products are carefully constructed to fall into the gaps between our numerous regulatory regimes.
Further, financial markets have become increasingly international, testing the ability of domestic regulators to supervise firms and coordinate with foreign partners. In good times, our fragmented system is merely inefficient.
The flaws of our current regulatory structure have contributed to a number of problems in the regulation of our financial services industry. First, our fragmented system has created overlapping jurisdictions between agencies, resulting in turf battles, coordination problems, and a general lack of accountability. Second, the current structure has created opportunities for regulatory arbitrage, as firms look for opportunities to switch to more "industry-friendly" regulatory agencies. Regulators, often funded by the fees of those they regulate, also compete to attract firms, resulting in a race to the bottom that weakens regulation and the integrity of the system as a whole. Third, with numerous U.S. regulators involved on any given issue, our regulatory structure complicates international cooperation-a significant problem when such cooperation has grown increasingly important in today’s global marketplace.
Highlighting the need for action, GAO added "Modernizing the Outdated U.S. Financial Regulatory System" to its high-risk series in January 2009. In making this designation, GAO stated, "The current regulatory approach has significant weaknesses that if not addressed will continue to expose the U.S. financial system to serious risks in the future… [D]etermining how to create a regulatory system that reflects new market realities is a key step to reducing the likelihood that the nation will experience a similar financial crisis in the future."
The goal of any structural reform must be to empower financial regulators with clear jurisdictions, broad authorities and distinct mandates that can articulate coherent national policies and focus on specific missions. To accomplish this, we must eliminate the gaps in our regulations and empower financial regulators to identify and mitigate risks before such risks threaten to affect the entire financial system. Through structural reform, we can also improve our ability to hold regulators accountable for their mission and ensure effective cooperation and coordination among these agencies.
Some of our free-market allies have undertaken fundamental structural reforms. Australia, for example, has consolidated an unwieldy regulatory structure into four primary agencies, each with clear and distinct responsibilities: (1) a financial stability regulator that focuses on the stability of the financial system as a whole, (2) a prudential regulator responsible for overseeing an institution’s financial condition and risk management practices, (3) a conduct of business regulator focusing on investor protection issues, and (4) a competition and consumer protection commission. To ensure coordination between these agencies and their functions, Australia also has a Council of Financial Regulators, which includes a representative from each of these four agencies.
Testimony at a recent HSGAC hearing demonstrated that, while it is certainly not perfect, Australia’s more consolidated structure, along with exceptionally tough prudential standards, has enabled it to weather the financial crisis better than most countries.
Establishing a council to monitor and identify problems and facilitate information sharing across the financial sector is a worthwhile undertaking. In the current economic crisis, many recognize that the absence of any regulator responsible for identifying and mitigating risks allowed the housing asset bubble to spread from sub-prime mortgage lenders to the financial sector as a whole. A council composed of the relevant financial regulators could help identify potential risks to the financial sector, and each regulator could contribute its expertise to prevent those risks from causing another financial crisis.
This and other models for structural reform deserve serious consideration. We are convinced that a more consolidated system for regulating our financial services industry offers our country the best opportunity to eliminate overlapping jurisdictions and duplication, increase accountability, and dramatically reduce regulatory arbitrage.
Financial regulatory reform is one of the most significant challenges our country faces. It is extremely important that we update and improve our financial rules and regulations governing, among other things, the mortgage market, derivative instruments, and private pools of capital such as hedge funds – all topics that you addressed in your recent proposals on how to fix our regulatory system. However, while critically important, reforming our financial regulations is only one half of the solution. To best address the challenges of today’s global marketplace and to mitigate the effects of the inevitable downturns of the business cycle, we must also reform our fragmented financial regulatory structure.
We look forward to working with you and our colleagues in the Congress to develop specific proposals that will work best in our country.
Joseph I. Lieberman Susan M. Collins