FDIC’s Bair Says U.S. Needs Systemic Risk Council as Regulator

By | May 6, 2009

The United States needs a council of regulators to oversee threats to the financial system, in addition to a regulator to supervise the largest financial institutions, the head of the U.S. Federal Deposit Insurance Corp said.

In testimony prepared for delivery to the Senate Banking Committee on Wednesday, FDIC Chairman Sheila Bair said the Federal Reserve appears to be well-positioned to oversee systemically important firms.

However, she said a council that pulls in the U.S. Treasury, FDIC and Securities and Exchange Commission alongside the Fed should be charged with keeping an eye on system-wide risks.

“A distinction should be drawn between the direct supervision of systemically significant financial firms and the macro-prudential oversight of developing risks that may pose systemic risks to the U.S. financial system,” Bair said in the testimony, obtained by Reuters.

To replace the current ad hoc approach, U.S. lawmakers are examining how to wind down financial institutions that have become “too big to fail” — a designation forcing regulators to rescue them with taxpayer money because their demise could harm the U.S. financial system and the economy.

They are grappling with whether to prevent big firms from becoming too big or break up existing ones that may already be deemed too big for the U.S. financial system.

Another option being considered is whether they should be allowed to grow but impose systemic risk costs under an orderly resolution process.

Bair said in her testimony that the macro-prudential oversight requires many regulatory perspectives ranging from banks, securities firms, holding companies, among others.

“Only through these differing perspectives can there be a holistic view of developing risks to our system,” she said.

Minneapolis Federal Reserve Bank President Gary Stern, in separate testimony, said U.S. regulators should tackle systemically important firms through tighter oversight and higher capital buffers and failure to do so could be costly.

“Maintaining the status quo with regard to TBTF (too big too fail) could well impose large costs on the U.S. economy. We cannot afford such costs,” Stern said in his remarks.

Bear Stearns, Lehman Brothers, Merrill Lynch, American International Group Inc, Washington Mutual, Wachovia, Fannie Mae and Freddie Mac are among the biggest casualties in the financial crisis stemming from subprime mortgage market.

Bair, whose agency manages receiverships, urged the committee to consider the FDIC’s model for a resolution framework for handling troubled institutions of systemic importance.

“While no existing government agency, including the FDIC, has experience with resolving systemically important entities, probably no agency other than the FDIC currently has the kinds of skill sets necessary to perform resolution activities of this nature,” Bair said.

She said that no single agency should decide to resolve a systemically important firm which should be given disincentives from growing too large by assessing fees depending on their size and complexity, she said.

She added that systemically important firms should be required to hold larger amounts of capital and liquidity buffers and face leverage restrictions.

Bair said cases of past bank failures had illustrated that taking over a depositary institution can be very complex because of the burdens placed on the parent company that could be forced into a costly bankruptcy proceeding.

As a result, the FDIC should also have the power to wind-down a failed banking depositary unit’s holding company, Bair said.

“A realistic resolution regime would send a message that no institution is really too big to ultimately fail,” she said.

(Additional reporting by Alister Bull; editing by Neil Fullick)

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