Since its inception, banking in America has been subject to regulation and supervision. For the most part, this relationship is symbiotic. At its best, regulation and supervision help prevent bad actors from undermining the reputation of the industry and hurting consumers; elevate good practices; and instill public confidence in the system.
Across the industry, supervisors have struck the right balance between lowering risk and allowing the banking sector to support the economy of the United States. This is a difficult job. Steering between too much and too little regulation is easy to articulate in concept, but takes an enormous amount of experience, judgment and hard work. American bank supervisors and bankers have led the world for well over a century in achieving the right balance between laxity and excess.
Even periodic crises, which are part of the natural ebb and flow of finance, have led to improvements in the system — the creation of the national banking system, the advent of the Federal Reserve and the birth of the deposit insurance system. I believe that the Office of Financial Research will prove to be another American regulatory innovation that will add value to the system — a new mechanism to identify financial bubbles before they become systemic risks.
However, in the wake of the financial crisis, we risk throwing the system out of balance and paying a steep penalty as a consequence. There is a myriad of new, well-intentioned, regulatory and supervisory responses that have the potential to create excessive burden and duplication that are just not justified by safety and soundness benefits.
One area of potential duplication and waste that has long concerned me, and is potentially made worse by the reaction to the crisis, is the multiplicity of financial regulatory agencies that focus on financial institutions. Why do we need three or more examinations of a bank by multiple agencies, focusing on many of the same issues? Increased supervision of a bank does not inherently increase safety and soundness and the cost to the system of having three or more agencies do one agency's job is considerable.
Accordingly, my own view is that a single highly professionalized agency focused on prudential supervision would lower the burden on individual banks and achieve a safer overall system. But attempts to do so in the U.S., which have been so successful in Canada and Australia, is not to be, at least in the short term.
Another way to achieve some of the benefits of a single regulator is to enhance the coordination among the existing regulatory agencies, particularly regarding onsite examinations. Let me suggest two approaches to such examination coordination.
Instead of all the federal agencies descending upon the same bank at the same time with overlapping requirements, the federal agencies could take turns conducting the examinations: one year the Fed, the next the OCC, and finally the FDIC. This would be similar to the way smaller state-chartered banks are examined. The state and the FDIC or Fed alternate years, thus lowering burden for the banks and the agencies but fulfilling legal and sensible supervisory obligations.
A second approach, and one that might better satisfy each agency's need for continuing contact with the bank, would be that for all examinations, one agency would take the lead but examination teams would be comprised of personnel from all the agencies.
Burden reduction is only one advantage of the examination approaches I recommend. Closer agency coordination should be designed to enhance the quality of the examinations and the analysis that follows. The dynamism of our financial system demands more of the agencies and their examination teams every day and coordination is necessary. Better coordination holds the promise of a better result, the promise of a win-win-win for the financial system, regulatory agencies, and the public. I strongly urge that these coordinated approaches to examination be implemented promptly in a few pilot locations.
Eugene A. Ludwig is a founder and the chief executive of Promontory Financial Group LLC. He was the comptroller of the currency in the Clinton administration.
