World Bank President Robert Zoellick delivered an incredibly long speech today at Johns Hopkins University. He talked about the crisis and addressed a number of interesting topics, including regulation, central banks and reserve currencies. He also briefly touched on who he believes should have more power to regulate the financial markets -- and who shouldn't. He favors the Treasury getting this power, instead of the Federal Reserve. I favor an even more balanced approach.
First, why might the Fed be provided greater regulatory authority? Zoellick explains the rationale:
Stanley Fischer, Israel's central bank governor and a former IMF deputy, makes a case for combining the tools of monetary policy and prudential standards supervision in the central bank, based on organizational effectiveness.
In this case I will defer to this ever-so-profound advice: these are "days when we will be forced to choose between what is right and what is easy." Those words, of course, were muttered by brilliant fictional wizard Albus Dumbledore to Harry at the end of Harry Potter and the Goblet Of Fire. But seriously, the advice is good, and makes sense. It would certainly be easy for the Federal Reserve to take on this duty, but that doesn't make it the right choice.
Here's the reasoning Zoellick cites for why the Fed should not be the beneficiary of an expanded regulatory role:
Others suggest that one function will inevitably be treated as a poor cousin, or that one authority for both magnifies the risk of errors without a second opinion. Some even suggest a conflict of interest.
I've argued that latter reason myself. The others seem credible as well. So here's Zoellick's answer:
This debate will reflect different political traditions and attitudes towards banks and central banks. In the United States, it will be difficult to vest the independent and powerful technocrats at the Federal Reserve with more authority. My reading of recent crisis management is that the Treasury Department needed greater authority to pull together a bevy of different regulators. Moreover, the Treasury is an Executive department, and therefore Congress and the public can more directly oversee how it uses any added authority.
I see where Zoellick is coming from here, but I worry about giving the Treasury that much power as well. Clearly, there's a lot of political pressure on the Treasury, and it isn't really formally checked by Congress. I also worry about this function in the hands of a staff whose leadership changes every four to eight years with the election of a new President. Instead, I still support the idea for a board that manages systemic risk. Fed's input is important. But so are the thoughts of Treasury, FDIC, SEC and others.
Where I completely agree with Zoellick is through the idea that Congress and the public ultimately need to oversee this authority. That's why I'd go even further and assert that any resolutions that a systemic risk body proposes for greater regulation should also pass through Congress for a formal vote. Even a diverse board needs to be checked through Congress. After all, voters would have no way to directly replace anyone on this sort of systemic risk board we're talking about here.
Would passing resolutions through Congress make financial regulation more difficult? Absolutely. But that isn't always a bad thing. There is, of course, always a danger of overregulation. This mechanism would make overregulation more difficult, while the necessary regulation would likely still pass through pretty easily, since less controversial.