Critical Failures in Multinational Systemic Regulation Identified

Published December 14, 2009

A U.S. House of Representatives subcommittee member is considering having the United States coordinate systemic risk regulation with the European Union, but experts say the effort may be too cumbersome to be effective.

The idea has been proposed by House Financial Services Capital Markets Subcommittee Chairman Paul Kanjorski (D-PN).
“When 20 different countries pull at [the] same ball of string, the more they pull, the knottier it gets,” warned former Comptroller of the Currency John D. “Jerry” Hawke Jr.

Bad Experiences
Now a Washington partner with the law firm Arnold & Porter, Hawke cited the six years it took the Basel Committee to develop risk-based capital standards for banks as evidence of the slog inherent in international financial oversight.

The Basel Committee, headquartered at the Bank for International Settlements in Basel, Switzerland, was established by government central banks in 1974 to promote international bank supervisory standards. Basel standards do not have legal force.

Hawke noted the risk-based capital standards endeavor was accompanied by a multiplicity of working groups and task forces and a proliferation of economists and lawyers aggressively promoting their own ideas, but when push came to shove with the global recession, all that intellectual purity proved irrelevant. The final product failed to help regulators assess the real value of bank capital and aid them in understanding how much time they had to fix the system, he said.

Unique U.S. Structure
One impediment to an international approach to systemic regulation is that the U.S. structure of bank supervision is unique, Hawke said. Whereas the Office of the Comptroller of the Currency (OCC) has large, on-site examination teams of upwards of 40 to 50 at Bank of America, Citibank, and other major entities, looking at everything and anything, some European examiners only visit their largest banks annually and with a much narrower focus.

“The motive of supervision is different. Our examiners get deeply involved in all aspects of banks,” Hawke said. “This is not true with our counterparts overseas.”

Former Federal Deposit Insurance Corporation Chairman William Isaac said it can take forever to work out agreements with global financial regulators, and the end product is usually watered down.

Still, Isaac said, cooperation short of perfection is a worthy goal: “We don’t need lockstep, just a general agreement that we need to improve regulation.”

Isaac said he thought in 1999 it would be an improvement to knock down the Glass-Steagall Act wall that prohibited commercial banks from owning investment banks, but the meltdown experience has proven otherwise. Repealing the law led to the creation of unduly complex and risky financial behemoths that could not be managed or regulated effectively, he said.

He doesn’t want to return to the straight-laced regulations that came out of the Depression but rather to the more liberal approach that emerged in the 1980s and ’90s.

Already International Coordination
Tim McTaggart, counsel to the Senate Banking Committee from 1991 to1994, said there is already a great amount of international coordination among regulatory authorities, particularly between the United States, Canada, and Western Europe.

McTaggart, a Washington partner at the law firm Pepper Hamilton, identifies three probems with these efforts. First is the multiplicity of overseers in this country versus the single-regulator approach in most of the rest of the world. The multi-tiered American system proved particularly onerous during the meltdown when the catastrophic problems of collapsing financial conglomerates could not be mitigated by a single silo.

Second and third, McTaggart said, were two core failures in Glass-Steagall’s successor, the Gramm-Leach-Bliley Act. The 1999 law did not account for systemic regulation, and it did nothing to promote cooperation among the prudential regulators. These sins of omission were compounded by the weaknesses of any number of the major players in the last 12 to 18 months.

McTaggart said achievable steps enhancing oversight globally would include efforts to coordinate how data are assembled. In addition, he said regulators ought to understand how each nation’s systems work and what the individual national regulatory priorities are.

International Risks, National Bailouts
The thinking that the global interconnectedness of financial holding companies begs for global solutions ignores the reality that while risk is international, bailouts are national, said Damon Silvers, a Congressional Oversight Panel member and AFL-CIO director of policy.

No taxpayer wants to foot the bill to save companies based elsewhere, said Silvers. And just as a host of competing domestic interests can dangerously slow down fixes here, he warns that an international regime for systemic oversight would be vulnerable to an exponential increase in political complexities.

When told of the comments by Hawke, Isaac, McTaggart and Silvers Wednesday, Kanjorski responded, “There are a lot of pessimists out there.” The US and Europe could “absolutely” act fast enough to avert a systemic crisis, he added.

Ted Knutson ([email protected]) is Complinet’s Washington, DC correspondent. Reprinted with permission from Complinet, Inc.,, provider of compliance solutions for the global financial services industry.