EM: Two years since the financial crisis erupted, what
are the main lessons learnt?
BF: When you have innovation in the private sector, it
is by definition outside of regulation because its
innovative. Its important for the public sector to stay
abreast of whats happening and adopt regulations which
create a kind of framework in which this new activity can go
forward. We were too long delayed in that because of the deep
conservatism of the people in power.
Specifically what weve learned is that there was a
discipline in the lender/borrower relationship that weve
seen eroded by securitization, and that a misalignment of the
impact of risk on individuals and on the organizations and on
the society are serious problems. We have individuals who were
incentivized to take risks because they didnt feel any of
the negatives and so they took too many risks.
EM: The Obama administration has put forth plans for
regulatory overhaul, but critics say that the plans dont
go far enough in terms of fixing the problems that precipitated
the crisis. Is the administration being soft on regulatory
BF: No. This job is going to be very tough, we are
going beyond [the administrations proposals]. There are
people who like to make these bland assertions. I certainly
think the administration has addressed every specific aspect of
the problem thats occurred to us, and in some cases
were going to go a little further; in some cases maybe
not as far. But the suggestion there is that there are some
major things that we should be doing that we are not, and
Im not aware what they are.
EM: The concern is that there is not enough focus in
terms of dealing with too big to fail banks
specifically that the Geithner plan would force banks to hold
more capital, when it was the activities of the banks, not
their lack of capital, that was at issue.
BF: The plan allows them to restrict certain
activities. In the first place there were certain restrictions
on derivatives over and above the requirements for more capital
and less leverage. In general, there will be an effort to push
derivatives onto either exchanges or clearing houses and to
require particular heavy capital for OTC [over the counter]
derivatives. So thats a part of it. Secondly, the
systemic risk regulator, whoever it turns out to be, will be
able to issue other cease and desist orders with regards to the
banks. Finally for non-banks, where the problem arose with
Lehman Brothers and AIG, were going to give new powers to
the federal government to dissolve agencies, to put them out of
business. That was part of the concern about too big to fail
because you had to choose between paying everybody and paying
nobody. That will be averted. We will also be restricting this
notion of making loans and then selling 100% of the loan to
somebody else. You have to have some risk retention. That
reduces risk everywhere. So these are the issues. 100%
securitized loans or derivatives are two examples of activities
we will be restricting.
EM: But one of the worries is the de facto creation of
a category of systemically important banks will, in effect,
perpetuate the idea of too big to fail.
BF: Were not going to create that category.
There wont be such a category. The systemic risk
regulator will be empowered to order more capital or cut back
in activities for any entity that it thinks is becoming risky.
There wont be a pre-ordained list.
EM: People are objecting to the idea of giving the
Federal Reserve the authority to supervise systemically
important banks, especially given its contribution to the
BF: There are people who have questions over the
competency of the Fed, but I think what youre likely to
see is a council of regulators doing it, not the
EM: Youve been pushing this idea of a council of
regulators to monitor financial firms. Why is this approach
superior to a single bank regulator?
BF: The answer is it has to be somebody. There is
concern about the Fed being the sole regulator. My own view is
that these concerns are exaggerated in terms of the
impact they will make. I think the functions are more important
than who wields them. I think any of several entities given the
authority to look at what AIG was doing etc, they would have
said we ought to reel them in.
EM: So you dont believe that the Fed is ideally
suited to the role of risk regulator?
BF: I would have been happy with the Fed alone, but I
think theres been political resistance to the idea of the
Fed doing it, that grew out of control with AIG. And I think a
council approach with some executive leadership is the best way
to deal with it. But I repeat empowering any responsible
set of individuals with that function is the major increment of
difference, and exactly who wields it is less
EM: The Federal Reserve has reportedly rejected
Secretary Geithners request for a public review of the
Feds structure and governance, and that the Fed has
rejected this request. Was it right to do so?
BF: I dont pay much attention to it. We are
going to increase the auditing of the Fed, and I think there is
reason to look at the appointment of regional bank presidents,
and the fact that they are appointed in a purely private way
but then have a vote on an important public issue. Well
get to that next year.
Beyond that and overlooked by many of the critics
is that one of the major pieces of the
administrations approach takes powers away from the Fed.
People only want to have a one-sided view. The biggest transfer
of authority into the consumer agency will come from the
Federal Reserve. The Federal Reserve will be the major loser of
existing authority when the consumer authority is transferred
into the consumer agency. We also plan to put some restrictions
on the Fed under Section 13/3, the power to lend money to
anybody they want.
EM: Given the competing proposal by senator Chris Dodd
for a single bank regulator, are you concerned that having a
rival plan may slow the process of getting this reform
BF: No. The function is more important than the
structure. I just left a very cordial meeting with Secretary
Geithner and Senator Dodd. That wont be an obstacle to
getting this done. Its not a first-order
My own view is that the opposition of the smaller banks and
the local banks make [a single bank regulator] impractical. We
will consolidate the two national bank regulators but we
wont throw the FDIC [Federal Deposit Insurance
EM: When do you expect a bill to get
BF: I think the president will get it in December; the
house will finish it in November. Senator Dodd is shooting for
November as well.
EM: Youre confident it will go through by the
end of the year?