14 April 2008

The Fed Failed As Regulator - It Was in Good Company


Wall Street veteran Henry Kaufman says in an interview with the Financial Times this week: “Certainly the Federal Reserve should shoulder a substantial part of this responsibility. . . it allowed the expansion of credit in huge magnitudes."

In the Fed's defense, a significant feature of their failure was the chairmanship of Alan Greenspan, who is probably most personally responsible of all the Fed governors for failing to safeguard the US financial system. As the long term chairman he had a significant power and influence over the rest of the board.

Also in the Fed's defense, their failure was no worse than the failure of the SEC and the CFTC, the Bush Administration and the Republican Congress in acting in the public's best interests. However, Chairman Greenspan is a personal standout culprit to anyone who follows the markets closely.

We find it ironic indeed that the plans to 'reform' the markets include giving more power to the Fed, since they are most certainly culpable in the current fiasco, not a public agency, still opaque and unaudited, apparently lacking sufficient checks and balances and public oversight.


Kaufman says Fed failed as regulator
By Aline van Duyn in New York

Published: April 14 2008 03:39 Last updated: April 14 2008 03:39

Henry Kaufman, the distinguished Wall Street economist, has added his voice to the debate about the Federal Reserve’s role in the credit crisis, saying the central bank failed to give enough importance to its role as a regulator.

In a video interview with the Financial Times, Mr Kaufman criticised the Fed’s monetary policy. He said it allowed too much credit expansion over the past 15 years and that this contributed to the market turmoil.

“Certainly the Federal Reserve should shoulder a substantial part of this responsibility. . . it allowed the expansion of credit in huge magnitudes,” Mr Kaufman said.

“Besides its monetary policy approach, [the Fed] really indicated very clearly that it was performing its role as a supervisor . . . in a minute fashion, not in an encompassing fashion. Monetary policy had a high priority, supervision and regulation within the Fed had a smaller priority.”

Mr Kaufman, who is on the board at Lehman Brothers, has long advocated tougher regulation of the biggest financial firms, arguing that they need to be made “too good to fail”, rather than remain “too large to fail”.

The near-collapse of Bear Stearns last month, and the Fed’s intervention which resulted in a purchase of the Wall Street firm by JPMorgan Chase, has triggered a renewed debate about whether banks can regulate themselves, or whether regulators need to impose tougher rules.

The credit crisis, which stems from losses on securities backed by risky mortgages made during the height of the housing bubble, could lead to total losses and writedowns of nearly $1,000bn for banks and investors around the world, according to the International Monetary Fund.

Mr Kaufman said a distinctive feature of the financial crisis was “much greater lapses in official supervision and regulation than in earlier periods”.

He said there should be a new federal regulator appointed who would work with the Federal Reserve but who would have responsibility for “intensively” regulating the 30 or 40 biggest financial firms. Failure to do so could lead to a “crisis that’s bigger than the one which we have today”.

“The supervision of major financial institutions requires deep skills in credit, deep skills in risk analysis techniques and it requires within that organisation, very skilled, trained professional people,” Mr Kaufman said. “That is lacking in the supervisory area in the United States.”

He added that recent proposals from Hank Paulson, secretary of the US Treasury, to overhaul US regulation “lack focus”. “There is going to be some reform of financial supervision and regulation; hopefully it will be along my lines rather than the big compendium of suggestions that came out of the US Treasury”, he said.

Henry Kaufman Video Interview at Financial Times Online