– Mark T. Williams, a former Federal Reserve Bank examiner, teaches finance at Boston University’s School of Management and is writing a book on the rise and fall of Lehman Brothers. The views expressed are his own. —
In the real world, outside the Washington Beltway, when someone does a bad job they do not get more work. The Council of Institutional Investors and the CFA Institute Center for Financial Market Integrity task force report agrees with this fundamental point: Don’t give the Fed the new job. As an ex-Fed examiner, I applaud this conclusion.
Creating an independent Systematic Risk Oversight Board (SROB) to monitor firms that pose significant risk to the market would inject new honesty to regulatory supervision. This sound proposal comes at a time when Treasury Secretary Geithner would like to give his former employer, the Fed, additional regulatory duties even if they have failed to earn this right. The report also is critical of previous light-touch regulation. The SROB would provide a firmer approach, not repeating the mistake made by the Fed of coming with a knife to a gunfight.
A new oversight board would provide a fresh approach to preventing banks and other financial firms like insurance companies from engaging in risky and financially harmful practices. Importantly, the task force report recommends restricting risk-taking activities, forcing banks to refocus on their core competencies – taking in deposits and making loans. Although banks can get into trouble making loans, such activities are more transparent and easier to monitor than the trading of derivatives that, in a flick of a finger, can blow up a firm. The report also advocates strengthening capital adequacy standards, important for a cushion against losses and insolvency.
Traditionally, banks have made money only three ways — loan interest, fees for services, and trading. It would be extreme to say that all banks should be restricted from trading. But there are many that lack the expertise, capital, trained staff, or sophisticated monitoring systems needed to adequately measure, monitor and control risk.