For bankers, for the economy and for ordinary working men and women, the next several months will be critical. Congress, the bank regulatory agencies and the administration will be debating and possibly enacting into law measures that will reshape our financial regulatory mechanisms. A new regulatory regime has the potential to change the structure of banking, the availability of credit and the underpinnings of the economy itself.
Amid such change and uncertainty, it's easy to feel dazed at times. As one American policy icon put it to me recently, "I get dizzy thinking about all the issues, let alone trying to make sense of them." In the face of such complexity, holding to a small number of organizing principles can help us achieve good public policy that supports sound financial institutions, informed consumers and a growth economy. Let me suggest seven such principles.
Minimize unnecessary burdens wherever possible. Every new rule or piece of legislation should be scrutinized to make sure we are achieving our policy goal in the least intrusive way possible. Inefficiencies can be lethal to financial institutions, restricting their ability to extend credit. It goes without saying that safety and soundness and fair treatment of consumers are paramount. But rules become counterproductive when they amount to "make-work" for financial executives. Busy work diverts bankers' attention from the important job of effectively managing their businesses and thus hinders their ability to fulfill banking's role of nourishing the economy. Furthermore, rules can be so complex that they become "traps for the unwary" as opposed to effective ways to obtain a good public policy result. We must remember that more rules are not better and bigger agencies are not better. Better is better.
Don't rush to judgment. The regulatory issues that are being debated by Congress and the regulatory bodies are of monumental importance. While the administration has done an exceptionally fine job teeing up the key issues to be considered, the issues themselves are complex, and may produce great or grave outcomes. Congress must have time for a full debate that engages our best financial experts. We have highly able regulators right now, and with the heightened focus on good regulation that has come from the financial crisis, even our creaky regulatory mechanism can do a good job of keeping the system safe while a thorough debate occurs.
Simplify the regulatory system, but maintain the checks and balances that lie at its heart. Our alphabet soup of regulatory agencies is a result of history, not design yet one of the current system's strengths is that it encourages the expression of differing points of view. Honest debate among our regulatory officials should be welcomed, not discouraged. We don't need dozens of hands to screw in the regulatory light bulb, but we do need more than one set of hands to get the job done while maintaining a healthy discourse.
Remember that financial policy does not reduce down to capital. I personally am a fan of a fortress balance sheet, and I believe that the excessive amount of leverage we allowed in the financial system was deeply misguided. However, requiring excessively high amounts of Tier 1 equity does not ensure a safer and sounder financial institution. On the contrary, capital is only one arrow in the regulator's quiver, and not even the most potent one.
While limiting leverage makes sense, relying only on leverage actually creates incentives for financial institutions to make more risky, high-return loans as opposed to more safe, low-return loans, because the capital charge for the risky and safer loan is the same. And needless to say, excessive amounts of capital do not encourage lending.
Uphold the power of examiner judgment. We cannot afford a regulatory system that is so rigid that it hampers the ability of examiners to use their discretion. Financial institutions are not only about processes and procedures, mathematical models and structures, but importantly a good financial institution is about good people. Examiners must have the elbow room to function as umpires; they must have the clout to "call them as they see them." While examiners did not perform perfectly in the current crisis, a root cause of the crisis was not examiner error; it was un- and under-regulated financial institutions and un- and under-regulated parts of regulated financial institutions.
Focus regulatory attention first on the un- and under-regulated sectors of the financial system. Banks are already heavily regulated and carefully examined. To make our financial system more stable, the parts of the financial system that operate in the shadows of regulation must also be bathed in sunlight.
Recognize that community banks and large banks are different animals. Community banks perform a vital role in our national economy, and they cannot possibly meet the same standards as large multinational institutions. At this writing, out of 8,200 U.S. banks, there are 4,957 with assets under $200 million and three with assets exceeding $1 trillion. Just think of the difference between a $200 million institution, how it runs and what rules should apply to it in comparison with a $1 trillion institution an institution 5,000 times its size. Any new regulatory regime must take this dramatic difference into account.
In sum, opening up the door to new legislation and regulation is a bit like opening up a tiger's cage. Before we open that door, we'd better have some sense as to where the tiger is going to prowl so that we don't all get eaten.