American Banker Regulatory Symposium Remarks by Under Secretary for Domestic Finance Mary Miller
As Prepared for Delivery
WASHINGTON – Thank you so much for inviting me to join you here.
Today’s date evokes strong memories for me. Four years ago, on September 14th, I was working at a major investment management firm where I oversaw the fixed-income division. That Sunday, my entire staff was in the office.
We were still absorbing the extraordinary news that Fannie Mae and Freddie Mac had been placed into conservatorship the weekend before. We expected a bankruptcy filing by Lehman Brothers to happen imminently. We were hard at work trying to anticipate the impact that it would have on the financial markets. We had no idea of what lay ahead.
Over the next two days Lehman filed for bankruptcy, Merrill Lynch was sold to Bank of America and AIG emerged as a threat so large that the Federal Reserve would need to step in to prevent its collapse. In short order, Washington Mutual and the Wachovia Corporation were acquired by competitors.
Every corner of our financial system was ravaged by the crisis, and there was no playbook for how to respond. Markets were in total disarray. Investment grade credit ratings lost their meaning. Massive illiquidity drove asset prices down, making it hard to execute trades, price publicly traded mutual funds or secure even the shortest-term financing. A large money market fund “broke the buck.”
I’ve called it the ultimate stress test. While the financial system survived, the “patient” required significant rehabilitation. We are still repairing the damage to market confidence and our economy.
I know, and you know, that we don’t ever want to weather a storm like that again. That is why President Obama and Secretary Geithner remain committed to finishing the job of fixing our financial regulatory system. And that is why we need to work together to implement reform in a way that protects our economy and lays a strong foundation for growth.
I left my job in the private sector to work at Treasury because I wanted to help make sure we got this right.
A STRONGER, SAFER FINANCIAL SYSTEM
So where are we today?
We were given a big assignment, and we have made significant progress. Our banking system is far stronger than it was only a few years ago. Our nation’s financial institutions have raised hundreds of billions of private capital and are far less reliant on the so-called “shadow banking system” for funding. The government has closed most of the emergency programs put in place during the crisis, and has recovered the money it invested in the banks at a profit. Just this week, we announced a $15.1 billion positive return on the Federal Reserve and Treasury’s rescue of AIG.
The broader economy is also strengthening, although not as quickly as anyone would like. We have added more than 4.6 million private sector jobs over the last 30 months. Exports have rebounded, and the stock market has returned to near its pre-crisis peak. Even the housing market is stabilizing – and in many parts of the country, is starting to come back to life.
Financial reform has significantly improved our ability to monitor and contain risks to the financial system. Exchanges and clearinghouses have brought more transparency to derivatives markets. New institutions – like the Consumer Financial Protection Bureau, the Financial Stability Oversight Council, and the Office of Financial Research – are up and running. We now have the framework in place for better informed, better coordinated federal oversight.
We are also making good progress implementing many of the critical reforms contained in the Dodd-Frank Act – far more progress than is widely appreciated. Today, around 90 percent of the rules scheduled to be in place are either proposed or finalized. And we expect even more to take shape by the end of the year. That should leave consumers, businesses and other market participants with a much clearer picture of where we are headed.
So what role does Treasury play? Unlike the independent regulators, in most instances, Treasury does not write the rules. What we can do is listen to key stakeholders and raise potential issues for our colleagues as they arise. We can also bring regulators together to help make sure that our rules are coordinated and that our financial system is competitive and safe.
In some cases, Dodd Frank requires Treasury to play a formal role, such as coordinating the work on risk retention to re-start asset backed securities markets and for the Volcker Rule. But even on issues where we don’t have an official role, we are actively reaching out to our colleagues at the independent regulatory agencies.
As many of you know, Treasury officials have been meeting with Main Street bankers. We want to better understand the ways that rules and regulatory practices, new technologies, compliance costs and changing capital requirements are affecting their day-to-day operations. What you may not know is that we hold frequent meetings with senior regulators at the Federal Reserve, FDIC, OCC, and the CFPB as well as the state banking agencies to engage on these issues. This provides a vehicle for financial authorities to discuss the concerns of community banks.
We are focused on finding opportunities to strengthen communication, provide greater clarity, improve bank supervision, and reduce paperwork and other compliance costs. It is not in anyone’s interest to have duplicative processes or overlapping rules.
None of this is easy. All of this takes time — sometimes more than we would like. But I firmly believe that every rule we work on benefits from the input we receive. The details do matter. It’s not just about getting reform done. It’s about getting reform right.
Despite all of this progress and collaboration, opponents of reform want to repeal Dodd-Frank or significantly water down the rules. They apparently have forgotten what happened when huge amounts of risk built up inside our financial system. Or perhaps, they must have little memory of the events that unfolded just four short years ago – when major financial institutions were falling like dominos, when panic gripped the markets, when many rightfully feared that we were staring into the abyss of a second Great Depression.
This line of thinking is dangerous. We cannot afford another financial crisis. The price of reform is small compared to the price of another September 2008. The lost homes. The lost wealth. The lost businesses. The lost jobs. I fear that the further we move away from the crisis, the easier it is to forget its tremendous costs.
THE BENEFITS OF SMART REGULATION
We also can’t forget that we have a diverse banking system with more than 7,200 lenders – both big and small institutions. But I believe smart, well-designed rules can accommodate many of the differences between them. We must make our system safer but also minimize unnecessary compliance costs.
Consider how the Dodd-Frank reforms apply to Main Street banks. We often hear that small banks should not be treated like Wall Street institutions. We agree. Main Street banks did not cause the financial crisis. They play a critical role in local economies, supporting small businesses and spurring job growth.
Indeed, the authors of Dodd-Frank recognized this. Accordingly, the law focuses on the biggest and most complex financial companies and ensures that community banks and other small lenders are not subject to many of the requirements that mainly affect larger institutions. Dodd-Frank also contains a number of important provisions that put these banks on a more equal footing with their larger competitors.
First, Dodd-Frank raises deposit insurance permanently to $250,000, providing greater protection for one of community banks’ core sources of funding. And it helps ensure that the cost of deposit insurance is weighted towards firms that engage in more complex and higher risk activities.
The statute requires insurance premiums to be largely based on total liabilities, which are a more accurate reflection of risk than deposits alone. As a result, the premium burden is tilted away from smaller banks to larger ones.
Second, Dodd-Frank provides that large financial institutions must hold more and higher-quality capital and maintain larger liquidity buffers. We want these firms to be less likely to fail and help them withstand financial stress. These higher standards will force large institutions to operate within a framework that reduces systemic risk and will result in an effective governor on size. Community banks, which do not pose the same type of risks to the system, will not be subject to the same obligations.
Third, Dodd-Frank levels the playing field between small banks and nonbank financial service providers, such as payday lenders and independent mortgage brokers. A major failure of our regulatory system prior to the crisis was that these institutions were allowed to compete against traditional banks for the same customers without playing by the same rules. To fix this imbalance, Dodd-Frank gives the Consumer Financial Protection Bureau the authority to regularly examine nonbank financial companies that provide certain consumer financial products and services.
Fourth, Dodd-Frank works to protect small banks from excessive supervisory burdens. The primary regulator responsible for monitoring the safety and soundness of community banks will also be responsible for enforcing rules promulgated by the new CFPB. This coordination will allow small banks to avoid multiple exams.
More broadly, the CFPB is required by law to consider the impact of proposed regulations on the smallest banks, and in certain cases, to establish panels to seek direct input from such institutions before proposing a regulation. On issues ranging from mortgage loans to money transfers, CFPB staff has been in regular contact with community banks to make sure their perspectives are well-represented.
Finally, the Dodd-Frank Act provides regulators the tools needed to wind down, break apart, and liquidate large financial companies. With these new tools, culpable management will be replaced, creditors will suffer losses, and shareholders will be wiped out. And large financial institutions – not smaller banks or taxpayers – will rightfully pay any costs associated with the wind down.
PRINCIPLES FOR THE PATH AHEAD
So, what is the path ahead? And what can you expect? The coming months will continue to be busy ones as we move into the homestretch of the rule-making process. We are moving quickly but carefully. And as we proceed, we plan to keep several core principles in mind.
First, we will not back away from our fundamental responsibility of making sure our financial system is safe. But we need smart regulation that can make future financial shocks less likely and less damaging – and without unnecessary compliance costs. We want to make sure the rules are calibrated so they allow investors to take appropriate risks and do not restrict businesses from obtaining the credit they need to hire, invest and grow.
That means we must continue to listen to a range of views—whether from regulatory agencies, financial institutions, investor advocacy groups, or other crucial stakeholders. We may not always agree, but the rules adopted so far have all benefitted from broad engagement. Collaboration is key to getting our policies right.
Second, we will aim to keep our rules as simple as possible, but recognize that simplicity is not always synonymous with smart. A recent paper delivered at the annual Federal Reserve conference held in Jackson Hole has attracted a great deal of attention on the subject of financial regulation. It is entitled “The Dog and the Frisbee” and was prepared by two officials at the Bank of England. If I can paraphrase their argument, it is that financial regulation is becoming too complex to be effective, and that we need clearer, more straightforward rules to manage complex firms.
Now, who can argue with that? Unfortunately, reality is more complicated.
Let me take the Volcker Rule as an example. Its intent is clear: prevent banks from making speculative bets that put customer deposits at risk and potentially expose taxpayers to losses. But then, five regulators proposed a joint rule and 18,000 comment letters arrived addressing all kinds of issues and concerns. As it turns out, the devil is in the details…
It is hard to write a very detailed rule that would address every concern that we hear. But it is even harder to write a simple rule that is conceptually clear to handle the nuances of a complex financial system.
So, we will strive for simplicity with Volcker and the other reforms we are implementing. We understand its value. At the same time, we are mindful of the need to have smart rules that are responsive to the unique needs of our financial system and promote economic growth.
Last, I want to emphasize that while we are working hard to implement reform, we are also humble about the task at hand. I often say financial crises never follow the same script. Problems can surface in unexpected ways that will challenge even the smartest regulations.
It’s not just the rules that matter. It’s the vigilance of public servants, private sector managers, and investors alike. Our regulators must be appropriately funded so they have the resources they need to watch over the markets. Financial firms and market participants must put in place appropriate measures to manage risk. And none of us can afford to be complacent when we spot trouble in our financial system.
Here, I’m reminded of another essay involving a dog -- the famous Sherlock Holmes mystery, “Silver Blaze.” In that story, the great detective notices “the curious incident” of a dog who didn’t bark. Holmes concluded that the intruder must have been someone the dog knew very well.
This seems to be the same situation we faced four years ago, in September 2008. Our regulatory system, our rating agencies, our investors and financial analysts let us down because they didn’t bark, or didn’t bark loud enough. Everyone thought that they understood what was going on inside large financial institutions and just how complex securities would perform. But to a significant extent they did not.
I know, and you know, that we don’t ever want to weather another financial storm like that again. That is why we need to get reform right. That is why we must develop rules that are not just simple but sophisticated. And that is why we must all be alert to the risks as they arise.
We must ensure that America’s markets and financial institutions maintain their rightful place as the safest and soundest in the world. We can only achieve this by working together.
I look forward to working with you and I would be happy to take a few questions.