OECD Calls for “Dramatic” Overhaul of US Financial Regulation
The OECD calls for a “dramatic” overhaul of US financial regulation in its just-released Economic Survey of the United States 2008.
” While some progress has been made through informal and incremental cooperation agreements (memoranda of understanding) among regulators, in the longer term a more formal and dramatic process, such as that outlined in the Treasury blueprint, is likely to be necessary,” the OECD says.
“The Treasury blueprint provides a sensible starting point for addressing these weaknesses, with a proposal to consolidate the current system around three regulators: a market stability regulator responsible for overall financial risks potentially impacting the real economy; a prudential financial regulator responsible for the supervision of individual institutions, notably those benefiting from a form of government guarantee and therefore prone to moral hazard; and a business conduct regulator responsible for enforcing business related rules, notably protecting consumer interests.”
“However, the framework does not address explicitly whether it would be desirable to regulate financial institutions that are currently subject to no, or less demanding requirements, but may be or may become systematically important, notably hedge funds and private equity firms. The prudential supervisor needs to have authority over all systematically important institutions and all institutions that have access to the central bank’s credit facilities. The market stability supervisor, if it is separate from the prudential supervisor as the Treasury blueprint proposes, needs extensive access to financial sector data to be able to arrive at an independent judgment regarding systemic risks…. The market stability and the prudential regulators could be unified within the central bank (as in the Netherlands) which already has considerable responsibility in this area through monetary policy and as lender of last resort to the financial system. An argument can also be made for an independent market stability supervisor (as in Australia or the United Kingdom) to ensure focus on supervisory issues and avoid possible conflicts between monetary policy and prudential concerns.”
The OECD’s recommendartions:
- The new regulatory structure should feature unified supervision in line with the current business model adopted by financial conglomerates.
- The market stability supervisor, whether a separate institution or not, should have access to sufficient information to assess macroeconomic risks and have the tools to promote corrective action if needed.
- Financial institutions should hold capital against off balance sheet risks and assets held in so-called trading accounts.
- In order to foster competition and reduce moral hazard, the two government-sponsored enterprises should no longer have access to preferential lending facilities with the federal government; be more tightly regulated and subject to the same regulation and supervision (including capital adequacy requirements) as other issuers of mortgage-backed securities; and divided into smaller companies that are not too big to fail. This would imply that, in due time, new debts issued by privatized GSEs would be explicitly not guaranteed.
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