WASHINGTON — If the 2008 financial crisis taught lawmakers only one lesson, it was that no one knew enough about the potential impact any failed institution would have to rest of the financial system.
It was a point quickly raised at the Senate Banking Committee's Security and International Trade and Finance subcommittee hearing by Sen. Mark Warner, D-Va. who pressed a top Treasury official on whether U.S. regulators have sufficient knowledge to accurately predict the impact a crisis in Europe would have on U.S. firms.
"We have seen a lot of published reports about U.S. bank exposure to Greece. But what level of confidence do you have — at the regulator level, at the FSOC level — [that] we have enough knowledge to know not only the depository exposure, but … money market exposure, counterparty exposure? Do we have enough current real-time knowledge?" said Warner.
Lael Brainard, undersecretary for International Affairs for the Treasury Department, said some of the reforms under Dodd-Frank and by the Financial Stability Board will help over time given that many of these reforms are still in the process of being implemented.
"The direct exposures particularly to the most vulnerable periphery countries are relatively modest at this juncture," said Brainard. "In terms of the information we have on other entities in the system, there is much greater, much more detailed information available on money market funds... that was a critical development from the crisis. Insurance is still a work in progress, but I think we're going to see that moving along at a rapid place. Those reforms as they move forward will make a material difference in terms of regulators and supervisors visibility into the system."
Even with "moderate" direct exposure to depository institutions, Brainard stressed to lawmakers that "Europe's financial crisis poses the most serious risk today to the global recovery."
"Our recovery in the U.S. remains fragile and all tool vulnerable to disruption beyond our shores," she added.
Earlier this month, Federal Reserve Board Chairman Ben Bernanke testified that U.S. banks' exposure to debt-ridden countries such as Greece, Ireland and Portugal so far is "quite minimal."
"It isn't so much the direct exposure that concerns me," said Bernanke testifying before the Joint Economic Committee on Oct. 4. "Rather as we have seen in the last few days — it's been very evident — market uncertainty about the resolution of the Greek situation, about the broader resolution of sovereign debt issues and European banking issues has created an enormous amount of uncertainty and volatility in financial markets. It's through that volatility and indirect effects that we're being affected now."
Testifying on a separate panel, Uri Dadush, senior associate and director of the International Economics Program for the Carnegie Endowment for International Peace sought to quantify the potential damage for lawmakers.
He said U.S. banks have $850 billion in direct exposure to the Euro zone, nearly half of which is exposure to banks within the European Union. Additionally, there is $1.8 trillion in indirect exposure because of derivatives contracts and guarantees.
"These numbers do not include U.S. exposures to banks in the UK and other European countries outside the Euro zone which are themselves exposed," Dadush said in prepared testimony.
Still, Brainard repeatedly made the point that the European leaders have the ability to leverage the $440 billion European Financial Stability Fund to minimize contagion — and by extension, U.S. exposure.
Additionally, she said, standard setting bodies like the Basel Committee on Banking Supervision and the Financial Stability Board have set up new capital, liquidity and leverage rules, which are in the process of being implemented in order to ensure all countries are moving in lock step.
A report from the Basel Committee released this week found that Europe and China are ahead of the U.S. in implementing the new Basel III rules, while Saudi Arabia is furthest along.
Equally as pressing to lawmakers is how Europe is moving ahead with similar reforms like those called for under Dodd-Frank to maintain a level playing field with U.S. counterparts.
"What assurance can you give me with all of these other problems that they have … that in the midst of that they are sitting there trying to figure out how to put the 'Volcker Rule' in place … and following the leadership of the United States?" said Sen. Mike Johanns, R-Neb.
Brainard said she shared equal concern on this issue, but tried to offer some assurance to lawmakers.
"I could not share more fully your concern that as we move to put into place new mechanisms to ensure the vibrancy and resiliency of our system that we move in lockstep to ensure that other financial centers around the world … move in synch with us, so that we don't inadvertently undermine the safety and soundness of our system by providing regulatory arbitrage opportunities or equally importantly create a competitive disadvantage for our financial institutions," said Brainard.
