The financial meltdown of September 2008 revealed the serious shortcomings of the nation's regulatory system, which has been riddled with holes created by Wall Street lobbyists and a pliant Congress. Yet all these months later Congress still has not adopted comprehensive reforms to rein in Wall Street's dangerous self-dealing. Now Senate Banking Committee Chairman Christopher Dodd finally has unveiled a promising proposal that would toughen regulation and help prevent the re-creation of conditions that help trigger the economic meltdown.
After months of unsuccessfully seeking a bipartisan solution, Dodd unveiled a bill on Monday that still could attract some Republican support. The Connecticut Democrat includes key provisions such as giving the government the power to wind down troubled financial institutions, increased capital requirements, new regulations on hedge funds and a say by shareholders on executive pay. Now financial reform needs to pass with those essential elements and a few more:
A strong consumer financial protection agency: The House bill includes a new, stand-alone consumer financial protection agency that would write rules protecting consumers and bring enforcement actions. But Republicans considered this a deal-breaker — too protective of consumers.
Dodd has put a new consumer watchdog agency within the Federal Reserve, hoping to attract some Republican votes. It has substantial rule-making and enforcement powers, but a stand-alone agency would be more independent.
Regulation of credit rating agencies: The financial crisis occurred in part because the nation's top credit rating agencies failed to ascribe a proper level of risk to securities backed by subprime mortgages. The House and Senate bills require more transparency and regulation of the agencies. They also would unwind federal regulations from reliance on credit ratings. But the proposals don't go far enough. No agency should be paid by the firm seeking the rating.
The Volcker Rule: Taxpayers were forced to rescue some banks that had gambled wildly on risky investments while taking federally insured deposits. President Barack Obama has endorsed an idea floated by former Fed Chairman Paul Volcker that would bar depository institutions or bank holding companies from participating in proprietary trading, owning a hedge fund or a private equity fund or being over a certain size. That way the FDIC and taxpayers wouldn't be on the hook in case of failure.
Dodd included the Volcker Rule in the Senate bill; the House language is weaker.
Regulation of derivatives: Derivatives, the complex instruments that helped fuel the financial crisis, need to be brought into the open. Had the insurance giant AIG been forced to trade in derivatives transparently, the company's serious overexposure would have been evident. Both bills provide for over-the-counter derivatives to be regulated and trades sent through clearinghouses so that risks can be monitored. But experts say there are large loopholes that would allow a substantial amount of derivatives trading out of sight. That is not good enough.
Dodd's proposal and the House bill are headed in the right direction. A little strengthening would make them even better.