Federal Reserve May Get Power to Regulate Entire US Financial System

The financial sector may be getting new oversight that makes Sarbanes-Oxley look like a light administrative task. Congress is moving aggressively to bring a new regulatory structure over the entire US financial system, most probably concentrated within the Federal Reserve.

The legislation, championed by House Financial Services Committee Chairman Barney Frank (D-MA), would place a single regulator responsible for monitoring the "systemic risk" of the entire US financial system. In a recent statement Frank supported his proposal explaining, "we need to give some regulator the power to restrain risk-taking that is excessive."

Many debating the importance of this proposed legislation cite American International Group's (AIG) surprise failure--outside of the banking and mortgage industry. The argument is being made that prior to that failure, no federal official understood the threat one company's failure could cause to the entire US economy.

This unprecedented authority, proposed to be given to the Fed, would allow it to deeply examine the inner-workings of a broad range of companies. The thought of this concentration of power is bringing cautious concerns from many.

Under this legislation, the appointed regulator would have the authority to gather and analyze the internal methods and mechanics of banks, investment firms, insurance companies, hedge funds, and any other company significant enough to cause systemic risk to the US economy.

Congressional leaders are currently working under the steam of President Obama's campaign promise to overhaul financial oversight. However, there is no current indication that this specific approach is supported by Obama's administration. Ironically, a similar framework for regulatory reform was proposed by then Secretary of Treasury Hank Paulson.

Although there does seem to be broad support from politicians, financial experts, industry groups, an dconsumer advocate--there are addition concerns beyond consolidation of power. Some warn of stretching the Fed's responsibilities and capacity, as well as conflicts of interests with its current mission, managing monetary policy.

In addition, there are many lingering questions as to how this "systemic risk" regulator might carry out its duties. Could it direct changes within these companies or adjust risk ratios? What would its role be in relationship to existing regulators that already oversee portions of the financial system?

Fear often induces a call for control and government action, but is it wise? That is certain to be the question debated over the next several weeks.