Testimony to the Senate Banking Committee yesterday included a revelation about the Federal Reserve´s contribution to the mortgage crisis that, while it isn´t new, raises the possibility that not every mistake the venerated agency made has yet come to light.

In her prepared statement to the committee during a hearing on consumer protection efforts, University of Connecticut law professor Patricia McCoy pointed out that the that the Fed, which should have been conducting examinations of the nonbank lenders it regulated (those owned by bank holding companies but not owned by a bank or a thrift), failed to do so until after the Jackson Hole conference in August 2007, when then-Federal Reserve Board Governor Edward Gramlich called attention to the oversight. "Only then did the Fed kick off a `pilot project´ to examine the nonbank lenders under its jurisdiction on a routine basis for loose underwriting and compliance with federal consumer protection laws," McCoy wrote.

That's juse one example of a failure by the Fed to see the bigger picture. As the regulator of the holding companies Citigroup and Bank of America Corp., the Fed was responsible for keeping those institutions out of trouble too--and there's no need to elaborate on how well that worked out.

Isn´t the Fed supposed to know better? The time is ripe for an investigation into just how little judgment it did exercise when regulating nonbank bank holding companies and their subisidaries. And if the agency failed to promulgate rules and enforce them under its own authority, as it did when for three years following the passage of legislation on "unfair and deceptive acts practices," then how can it be trusted to take on extra duties as a systemic risk regulator?

There seems to be a pointed lack of outrage at the Fed, even though such rage does exist toward the Office of the Comptroller of the Currency and the Office of Thrift Supervision. Those banking regulators aren´t cast as heroes these days, but the Fed hasn´t lost its luster in quite the same way. In fact, despite initial criticism from market players that Fed Chairman Ben Bernanke should have acted more quickly and boldly to stem the financial crisis by slashing interest rates, confidence in the Fed as a standard-setter and a wise regulator seems to have grown, bolstered by Treasury Secretary Henry Paulson´s regulatory restructuring blueprint and other industry-driven calls to make the Fed the regulator of systemic risk.

It´s time to wonder why there´s nearly unanimous support from bankers and market participants for making the Fed the boss of all regulatory efforts. Its reputation for strictness and prudence, upon closer inspection, doesn´t seem to hold up well.

Despite the acute pain financial firms are experiencing right now, they may still be hoping to minimize the impact new regulatory restructuring efforts have on them first and foremost, with concerns about the effectiveness of a new regulatory power coming in second. If that´s the case, then the Fed may be just what they desire, and just what the grander market should fear the most.