WASHINGTON — A conference hosted last week by the Federal Reserve Bank of Chicago served as a reminder that the philosophical disconnect between the industry and Congress has only widened in the aftermath of the market turmoil.
While congressional leaders were moving ahead on bills designed to stabilize housing prices or otherwise prevent the mortgage crisis from deepening, industry leaders in Chicago last week said no statutory changes are necessary. Though the industry promised fundamental changes when the crisis erupted in August, the message was clear — reforms will be modest by Washington's standards.
"The first thing we have to understand is the market will take care of most of it," said James Rohr, the chairman and chief executive officer of PNC Financial Services Group Inc. "We don't need legislation."
Congressional leaders such as House Financial Services Committee Chairman Barney Frank do not agree. The Massachusetts Democrat has argued in recent weeks that even though the Federal Reserve Board has proposed tough credit card rules, legislation banning certain card practices remains necessary.
The Senate Banking Committee, meanwhile, is poised to approve a bill today that would expand the Federal Housing Administration's ability to insure loans worth more than the value of a home.
Such ideas were greeted as heresy by some at the conference last week in Chicago, which is ground zero for free-market teachings.
Others also emphasized the need to ensure that any changes that may come do not stifle the market.
"The question for us is how can we identify when trains are out of kilter … without siphoning innovation and market development?" said Joe Price, the chief financial officer of Bank of America Corp.
In a college commencement address last week, B of A's chief executive, Ken Lewis, argued any changes should be in the form of "simplification" by having fewer regulatory agencies oversee the banking and financial system.
Despite the resistance to reforms in the shape of legislation, there was much hand-wringing in Chicago and shock that the issues have become so severe.
"I'm fascinated that a serious problem in a smallish portion of one part of the capital markets in one country has brought to its knees almost all portions of all capital markets everywhere in the world," said Jason Kravitt, a securitization expert and a partner at Mayer Brown LLP.
But he defended the securitization process and said institutions that behaved badly, even if their loan was later sold to another party, have been punished in the market.
"Mortgage brokers who brokered bad loans are out of business or have had their business really impaired," Mr. Kravitt said.
Mr. Rohr, whose company posted an 18% drop in first-quarter net income, blamed the industry for its negligent underwriting.
"When you think about the things we put on our balance sheet in recent years, we had no clue who it was or what it was," he said.
He added that the industry made assumptions that would prove wrong.
"One was that liquidity would be there forever," he said. "Secondly, we made the assumption that housing prices would go up forever and we'd always get our money back."
Fed Chairman Ben Bernanke told the conference that relying on models alone to determine how much capital should be held against risk was not sufficient. He also dismissed the theory that the originate-to-distribute model adequately spreads risk across the system so no single institution holds enough to topple it.
Richard Cantor, the managing director of credit policy and research at Moody's Investors Service Inc., was perhaps the most conciliatory. Like other rating agencies, Mr. Cantor's firm is under fire for assigning a triple-A rating to assets that ultimately proved far riskier.
"We were directionally right but otherwise way off," he said, explaining that his agency recognized trends including declining borrower and data quality coupled with slowing house price appreciations. "We did not anticipate their magnitudes."
He suggested the rating agencies missed the mark because of "group think" and because they followed the market consensus when applying a rating. "We have to up our game," he said.
Still, he put some of the blame on regulators, who he said should require more transparency.
"Regulators should instead consider imposing greater disclosure requirements for securitization sponsors so we can facilitate independent analysis," he said.
But for all the problems that were identified, it seemed there were few concrete solutions that would quench Washington's thirst for strict legislation. In what has become a familiar pitch in recent weeks, Mr. Bernanke again urged financial institutions to raise more capital to protect against losses.
He noted that international regulators are reviewing portions of Basel II to possibly require tougher capital standards for certain exposures.
But David Llewellyn, a professor of banking and finance at Loughborough University in the United Kingdom, cautioned that raising capital might not help the banking system. "We could have capital ratios of 60%," he said. "We could have liquidity ratios of 80%. We'll have a very safe banking system. We'll also have a very useless banking system."
Mr. Price said bankers should approach risk with a view of the broader issues facing the banking system."The biggest reminder we've received in the current environment is that all the great math … needs to be supplemented by a macro view," he said.
He acknowledged more disclosures could be helpful but cautioned that "we're not advocating the disclosure of reams of additional information."
Mr. Rohr said banks must perform better due diligence.
"Knowing your borrower was something that was just totally forgotten about," he said. "We left the door open and you can see the ramifications of that in many banks across the country."
He also expressed hope that investment banks, with their new authority to tap the Fed's discount window, will be subject to regulation akin to their commercial counterparts. "Anyone who has access to the Fed window ought to have the opportunity to work with the Fed every day," he quipped.
That was one area with which lawmakers appear to agree. Sen. Richard Shelby, the No. 1 Republican on the Senate Banking Committee, said Tuesday on CNBC that discount window access for investment banks should bring added scrutiny from the Fed.
Joseph Mason, an associate professor of finance at Drexel University's LeBow College of Business, argued regulators and the industry must be more proactive and not make changes just to reflect yesterday's crisis.
"One of the issues is to prevent being surprised and being caught with your pants down," he said. "We can't completely devote resources to just looking in the rearview mirror. We need to be looking out the windshield."
