Regulatory Overhaul = Summers Job Creation Program?

Today, the Administration is sharing its vision for the future of the financial system. To us, it seems more like a job creation program for Lawrence Summers, the Director of the White House’s National Economic Council. It’s long been rumored that he wants the top job at the Federal Reserve (Fed) should Fed Chief Bernanke’s term not be renewed in early 2010. Summers, a former Treasury Secretary, and known for his hands-on, at times confrontational approach, seems an odd fit for what is traditionally a job for calmer spirits. The proposed overhaul of the financial system sheds light on this: the Fed may be converted into the nation’s top regulator. Naturally, it will then require someone with executive experience; a prerequisite Lawrence fulfills well and who other than Lawrence Summers should be taking this job? We respect Mr. Summers, but should the most important reform of the financial system in 80 years be designed around one person?

We are most concerned that reform efforts are shooting in the wrong direction. Most notably, we are concerned about the independence of the Fed. Traditionally, while the Fed has an important regulatory function, it is primarily concerned with its dual mandate of price stability and maximum sustainable growth. It traditionally fulfills this function through monetary policy, influencing things like money supply, interest rates, and the cost and availability of credit.

As part of the financial crisis, the Fed has veered into fiscal policy, providing credit to specific sectors of the economy; Bernanke calls these activities credit easing. By providing specific funding for mortgages, credit card portfolios and car loans, amongst others, the Fed is deciding on issues that should be decided by Congress. The Fed has already shown how it completely underestimates the political repercussions of engaging in such programs, practically with no oversight. Congress has started to ask tough questions. These questions are likely to intensify and, in our view, will undermine the credibility and effectiveness of the Fed. For the Fed, the appropriate way to avoid the political minefield is to stay out of fiscal policy.

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