Wall Street History
Treasury's Regulatory Blueprint
On March 31, 2008, Treasury Secretary Henry Paulson, Jr.
unveiled what has been called the most sweeping revamp of the
regulations guiding our financial system since the 1930s. From
his accompanying report:
--The current U.S. financial regulatory framework includes:
Five federal depository institution regulators in addition to state-
One federal securities regulator and one federal futures regulator.
We also have additional state based supervision of securities
firms as well as self-regulatory organizations with broad
Insurance regulation is almost wholly state-based, with 50+
regulators. This structure raises a number of issues with an
international dimension that can be inefficient and costly.
SUMMARY OF RECOMMENDATIONS
Liquidity Provisioning by the Federal Reserve
--Treasury recommends specific enhancements to the process of
expanding access to Federal Reserve lending channels.
--First, future lending to non-depository institutions should be
calibrated and transparent.
--Second, the Federal Reserve should have access to sufficient
information on non-depository institutions with access to Federal
Reserve loans. This could include on-site examinations or other
means as determined by the Federal Reserve. The most important
information relates to funding and liquidity.
--This will provide framework for oversight of non-depository
institutions with temporary access to Fed lending while
recognizing the differences between banks and non-banks.
--The high levels of delinquencies, defaults, and foreclosures
among subprime borrowers in 2007 and 2008 have highlighted
gaps in oversight for mortgage origination.
--Treasury’s recommendation, which sets consistent national
standards for all types of mortgage originators and improves
enforcement at the federal and state levels, has three components.
1. Treasury recommends the creation of a new federal
commission led by a Presidential appointee, the Mortgage
Origination Commission (MOC), to evaluate, rate, and report on
the adequacy of each state’s system for licensing and regulatory
participants in the mortgage origination process. Federal
legislation should establish (or provide authority for the MOC to
develop) uniform minimum qualifications for state mortgage
market participant licensing systems.
2. Treasury recommends that the Federal Reserve continue to
write regulations implementing national mortgage lending laws.
3. Treasury recommends clarification and enhancement of the
Federal enforcement authority over these laws.
State Bank Oversight
--Treasury recommends the rationalization of direct federal
supervision of state-chartered banks. Treasury recommends a
study be conducted to streamline the regulation of state-chartered
banks with a federal guarantee by either the Federal Reserve or
--Rationalization in this area would result in a more efficient and
less duplicative regulatory system.
--Treasury recommends the establishment of a federal insurance
regulatory structure to provide for the creation of an Optional
Federal Charter. This structure is similar to the current dual-
chartering system for banking. An Office of National Insurance
within Treasury should oversee this federal regulatory structure.
--Treasury also recommends that, as an intermediate step,
Congress establish a federal Office of Insurance Oversight within
Treasury to establish a federal presence in insurance for
international and regulatory issues.
--These reforms would provide more effective, efficient, and
consistent regulation for national insurers and would enhance
product choice and innovation.
Securities and Futures
--Treasury recognizes the convergence of the securities and
futures markets and the need for reform and unified oversight
and regulation of the futures and securities industries.
--Treasury recommends a merger of the SEC and CFTC.
--Treasury recommends the following changes to reform the
SEC’s process for the securities market to prepare for the
1. the adoption of core principles for exchanges and clearing
2. an expedited SRO rule approval process,
3. general exemption under Investment Company Act for already
actively trading exempted products, such as exchange traded
funds, to improve the new product approval process consistent
with SEC investor protection standards.
4. new Congressional legislation to expand the Investment
Company Act to permit a new global investment company.
--Treasury also recommends statutory changes to harmonize the
regulation and oversight of broker-dealers and investment
advisers offering similar services to retail investors. Treasury
also recommends that investment advisors be subject to a self-
regulatory regime similar to that of broker-dealers.
LONG-TERM OPTIMAL REGULATORY STRUCTURE
Overview of the Optimal Model
--The current system of functional regulation, which maintains
separate regulatory agencies across segregated functional lines of
banking, insurance, securities, and futures, is largely
incompatible with today’s financial markets. Functional
regulation has several fundamental problems, including the lack
of a single regulator to monitor systemic risk.
--Treasury is seeking an objectives-based approach designed to
address particular market failures by focusing on three key goals:
market stability regulation to address overall conditions of
financial market stability,
prudential financial regulation to address issues of limited market
discipline caused by government guarantees, and
business conduct regulation (linked to consumer protection
regulation) to address standards for business practices.
--Three distinct regulators would focus exclusively on financial
institutions: a market stability regulator (i.e., the Federal
Reserve), a new prudential financial regulator (roles of the OCC,
OTS and NCUA), and a new business conduct regulator (most
roles of the CFTC and SEC, and some roles of bank regulators).
Market Stability Regulator
--The Federal Reserve would have the responsibility and
authority to gather appropriate information, disclose information,
collaborate with the other regulators on rule writing, and take
corrective actions when necessary to ensure overall financial
market stability. To fulfill its responsibilities to gather
information, the Fed would have authority to join in
examinations with the prudential and business conduct
--This new role will replace the Fed’s more limited, traditional
role as the supervisor of financial holding companies, bank
holding companies, and certain state-chartered banks.
--The Fed would have the ability to monitor risks across the
--A single prudential regulator focusing on safety and soundness
of firms with federal guarantees, similar to the OCC, but with
appropriate authority to deal with affiliate relationship issues.
--Prudential regulation in this context would be applied to
individual firms, and it would operate like the current regulation
of insured depository institutions, with capital adequacy
requirements, investment limits, activity limits, and direct on-site
risk management supervision.
--The prudential regulator would oversee firms with explicit
Business Conduct Regulator
--A new business conduct regulator would monitor business
conduct regulation across all types of financial firms. Business
conduct regulation in this context includes key aspects of
consumer protection such as rule writing for disclosures,
business practices, and chartering / licensing of certain types of
--The new business conduct regulator subsumes most roles of he
SEC/CFTC and authority over rules such as mortgage disclosure.
--This framework would eliminate gaps in oversight and provide
effective consumer and investor protection.
Wall Street History returns next week.