US regulators face Congressional pressure for risk reform

Systemic risk and market discipline are the subject of debate on Capitol Hill

WASHINGTON, DC – ‘Systemic risk and the financial markets’ was the subject of a full committee hearing of the US House of Representatives yesterday. The hearing was opened by ranking member Spencer Bachus, who claimed encouraging market discipline and discouraging moral hazard was a better approach than claiming that more and more interconnected institutions are now “too big to fail”.

“If we accept this premise – that every primary dealer is ‘too big to fail’ – then we also have to conclude that our financial markets are no longer capable of self-regulation and that government must exercise greater control, both as a regulator and as a lender – if not a buyer – of last resort. As I indicated at our first hearing on this subject two weeks ago, that is a conclusion that I am not prepared to accept,” said Bachus.

Bachus cited the Bear Stearns bailout and the current danger to government-sponsored lenders Freddie Mac and Fannie Mae as regulatory threats to principles of market discipline.

“What we ultimately need is to ensure that our regulators maintain a framework in which individual firms can fail while the system continues to function. We need to ensure that our firms strike the right balance between risk and leverage. Capital and credit must continue to flow to where they are most needed, but our financial institutions should not be taking outsize risks that will require repeated government interventions to save the system from recurring crises,” said Bachus.

Bachus has also written a letter (dated July 23) to the chairman of the Securities and Exchange Commission (SEC), Christopher Cox, on the need to extend the SEC’s emergency rules on naked short-selling to more institutions, to prevent market manipulation and abuse.