WASHINGTON — Facing an angry public at home and restless allies abroad, Treasury Secretary Timothy Geithner on Thursday outlined the broad brushstrokes of one of the most sweeping overhauls of financial regulation in the nation's history.
Geithner presented to the House Financial Services Committee the Obama administration's six-point regulatory blueprint for beefing up financial regulation. The plan doesn't create vast new programs; instead, it seeks to build on existing structures and fill in the gaping regulatory holes exposed by the current global crisis.
It would subject lightly regulated segments of the financial sector, such as hedge funds and private-equity firms, to greater scrutiny. They'd have to register and provide confidential information to the federal government, but they wouldn't be required to make public disclosures.
The plan also would establish more standardization for many of the complex, esoteric financial instruments known as "derivatives," which are amplifying today's global crisis.
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"These are very complicated, very consequential, very difficult sets of questions," Geithner told the committee, which is the starting point for legislation that will be needed to achieve many of the administration's regulatory goals.
The Obama administration's rollout of broad regulatory goals comes days before next week's meeting in London of leaders of the 20 most developed economies. European allies are demanding quick movement on tighter international regulation of finance, and Geithner's program helps set a tone for the April 1-2 discussions.
"This is both good for America and at the same time a signal to the rest of the world that we don't need you to tell us what to do. We know what to do," said Robert Litan, an expert on financial regulation at the Brookings Institution, a center-left research organization. "This is a sweeping comprehensive approach to regulating systemic risk."
The Treasury secretary's program includes changes to both regulatory structure and to financial products. On structure, Geithner repeated the administration's call for a super-regulator to be responsible for ensuring against any risk that menaces the financial system — possibly the Federal Reserve Board.
That proposal recognizes that there are a plethora of federal and state banking supervisors, and that these regulators all had oversight over some portion of the banking system, but none was responsible for oversight of the risks posed by investment banks or insurance companies with financial divisions.
"We've seen that the costs of these weaknesses and gaps are catastrophic to the system as a whole," Geithner said. "It just didn't work; it did not deliver what is has to deliver. And I think we have to start by making sure we have in place effective consolidated supervision over those entities that could pose potential risks to the system."
The creation of a systemic regulator is important because it's likely to result in higher capital standards for large banks and nonbank financial institutions that would come under much closer federal scrutiny.
"Historically, if you look at banks, you find an inverse relationship between their size and capital. The lesson here is we can't live with that inverse relationship anymore," Litan said. He expects that large financial institutions of all sorts will have to keep more capital protectively in reserve.
"If we go to a systemic risk regulator-type of model we're going to, in effect, be turning our regulatory system upside down," Litan said, with stronger capital requirements for large players.
Geithner's plan called for consolidating supervision but didn't advocate merging federal regulators. His predecessor, Henry Paulson, in a more detailed blueprint last year, suggested the potential merger of the Securities and Exchange Commission and the Commodity Futures Trading Commission, as well as merging two federal bank regulators, the Office of Thrift Supervision and the Comptroller of the Currency.
One surprise in the Geithner plan was what was missing, a call for federal regulation of the insurance industry — something Paulson felt was necessary, particularly in light of the colossal taxpayer bailout of American International Group.
In response to a question on Thursday, Geithner said only that "there is a case" for allowing some insurance companies to choose whether or not to be federally regulated
"He avoid going into the more contentious issues like insurance and hedge funds," said one industry official who's discussed the plan with Treasury. The official, who spoke on the condition of anonymity to permit candor since he must negotiate with Treasury, said the Geithner plan could change dramatically as it moves through Congress.
"It's a big first step. But it is a first step," the official said.
Geithner also repeated his request for so-called resolution authority, one of his six pillars for regulatory overhaul. This would give Treasury the power to seize and dismantle large financial institutions such as investment banks or bank holding companies, much as the Federal Deposit Insurance Corp. now does for smaller banks.
The financial-product proposals largely focus on the SEC, whose mission isn't the safety and soundness of institutions but the protection of investors. The Geithner plan would require hedge funds to register with the SEC; unregulated now, the funds invest large pools of money for the very wealthy, pension plans and endowments.
Hedge funds have grown so large and complex that some critics say they need direct supervision. Under Geithner's plan, all big financial institutions, including hedge funds, are likely to be subject to greater capital requirements — one of his six pillars of expanded financial regulation. Hedge funds also would have to provide more details about their investments to the SEC on a confidential basis, though not to the public.
Some Democrats in Congress have said that public reporting requirements should be imposed on hedge funds as they're on most other players on Wall Street. Geithner's proposal didn't go that far.
Geithner also proposed having the SEC seek new measures to prevent investors from withdrawing en masse from money-market funds. That happened late last year as the economic crisis deepened, forcing the federal government to guarantee the funds with financial backing.
Geithner was to take his case directly to the financial sector later Thursday. He was to address privately members of the Financial Services Roundtable, a trade association of financial institutions. The group's government affairs chief, Scott Talbott, said his association supports the six pillars of overhaul that Geithner outlined.
"We are supportive of them . . . but the devil is in the details," he said, pointing to a coming legislative battle.
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