WASHINGTON — Sen. Richard Shelby raised concerns with bankers on Thursday that "too big to fail" would survive if a proposed $50 billion fund to help unwind failing financial institutions remains in the Senate's latest regulatory reform bill.
Senate Banking Committee Chairman Chris Dodd's bill would require that all institutions with more than $50 billion of assets contribute to the fund, which would be used only to resolve troubled systemically important institutions.
Shelby, the ranking Republican on the panel, said the provision, among others, was being debated on both sides of the aisle. Though he did not flatly oppose creating such a fund, he raised concerns and said more discussion is needed.
When "you put the honey pot out there, sometimes it's going to be used in unintended ways," Shelby said in remarks at an American Bankers Association conference. "If the money's there, is it really there to bail out somebody?"
"What we want to do, and I hope we are wise enough to do it, is to create some kind of resolution authority to make sure that, if something goes under, it is wound up. It is not propped up, it's not dragging along, it's not walking dead with the Secretary of Treasury on one arm and the Fed chairman on the other."
Under the bill, the Treasury, Federal Deposit Insurance Corp. and Federal Reserve would have to agree to put a company into liquidation after a panel of three bankruptcy judges agreed it was insolvent.
Federal Reserve Board Gov. Elizabeth Duke echoed Shelby's remarks at the conference, saying the existence of a fund may be troubling. "One of the most important reasons to have financial reform is to do away with this concept of 'too big too fail'," she said.
Duke stressed the importance of authorizing some agency other than the Fed to safely wind down a failing systemically important company, but she left it up to Congress to devise a funding solution.
"If you fund it before anything happens," it "gives the appearance of an FDIC insurance fund," she said. "It's there to protect some creditors of these financial institutions, then you run the risk of defeating your original purpose."
Reiterating Fed Chairman Ben Bernanke's remarks on Wednesday, Duke said the Fed should have a much larger role supervising banks of all sizes, not just the largest institutions as proposed in Dodd's bill.
The legislation would limit the Fed's supervision to the parent companies of banks with more than $50 billion of assets. This would narrow its scope to 55 holding companies. The Fed now supervises 4,974 holding companies and 844 individual state-chartered banks.
"I'd hate to see the Federal Reserve become focused too narrowly on the activities of just the largest institutions," Duke said.
Appearing later at the same conference, several other Fed officials agreed, saying community bank supervision is vital to how the central bank conducts monetary policy and protects financial stability.
"Community banks are important to the banking system and … economy and, therefore, continue to be important to the Federal Reserve," said Thomas Hoenig, the president of the Federal Reserve Bank of Kansas City. "It would be a tragic irony if the outcome of this crisis is a gain in power for the largest firms at the expense of the other 6,800 regional and community banks. If so, it would be a win for Wall Street."
Under Dodd's proposal, Hoenig's district would be one of two in the Fed system that would no longer regulate any banking institution. The other would be St. Louis; the Atlanta, Richmond, Minneapolis and Dallas districts would oversee three institutions or fewer.
President Sandra Pianalto of the Federal Reserve Bank of Cleveland expressed similar sentiments but also spoke of the importance of maintaining the central's bank independence. She cited another provision of the Dodd bill that would allow the president to appoint the head of the New York Fed, who would also have to be confirmed by the Senate.
"We're independent — there is no constituent that is requiring us to vote for political reasons one way or another," she said. "We're voting based on our judgment of how the economy is going to unfold and to meet the two mandates that we have, and that is sustainable economic growth and price stability. Making that process political, I think, would be devastating to our country. Financial markets around the world would become concerned about the credibility and integrity of our system and economy."