Regulatory Reform Is Needed, and It's Nothing New

By extending its "lender of last resort" facility to non-banks, the Federal Reserve has broken new ground. And in exchange for its support, it seems to be only reasonable that the broker-dealers who now have access to the Fed's largesse become more accountable to the Fed under is regulatory-supervisory function.

Treasury Secretary Henry Paulson appears to be resisting calls for a greater role for the federal government, instead relying on voluntary measures and reversing his prior opposition to increasing the role of the government-sponsored agencies such as Fannie Mae (FNM - commentary - Cramer's Take) and Freddie Mac (FRE - commentary - Cramer's Take).

Today, Paulson was explicit. He not only endorses the Fed's actions (no big surprise there), he also seemed to recognize the need to reform the regulatory environment, including acknowledging that discount-window facilities require the Fed's supervision. This could be simply shifting some of the regulatory-supervision responsibility from the SEC to the Fed.

The lament expressed by the Martin Wolf, economics editor at the Financial Times, that the outcome of the financial crisis will be more regulation and that the Fed's action are "moral hazard made visible" -- a lament that has apparently been echoed by some senators -- seems misplaced. Even with an improved share price, does anyone really think Bear Stearns' (BSC - commentary - Cramer's Take) owners or employees have been bailed out ?

Bear's customers and counterparties may have been bailed out, but not Bear itself. Just as firemen don't give lectures on the dangers of playing with matches as a house is burning down, policy makers have a duty to protect the overall system. Meanwhile, journalists like Wolf and senators who are caught up in the electoral cycle have the luxury to worry about moral hazard.

Some of these purists seem to see these steps as what Friedrich Hayek called the "road to serfdom," but the U.S. housing market has not been a laissez-faire exercise in the U.S. at least since the Homestead Act in the middle of the 19th century. And ironically, this is the 75th anniversary of the New Deal, which saw the birth of Federal Home Loan Banks. The U.S. government has had a significant presence in the housing market ever since. Moreover, the Federal Reserve was created in a large measure as a response to what were perceived as market failures -- especially in the circuit of capital.

Wolf argues that the "rescue of Bear Stearns marks liberalization's limit." He writes, "Remember Friday, March 14, 2008: it was the day the dream of global free-market capitalism died." Really? Where has he been ?

Surely, the U.S. and other countries found the limit to the deregulatory regime and the Reagan-Thatcher revolution long before this month. Just like strong fences make good neighbors, markets work best when there is a strong regulatory environment. This is not a leftist stance. Look at the speeches by good capitalists like Alan Greenspan, Robert Rubin and Lawrence Summers about the lessons they drew from the Asian financial crisis a decade ago. They all defend a strong, transparent regulatory regime.

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Marc Chandler has been covering the global capital markets in one fashion or another for nearly 20 years, working at economic consulting firms and global investment banks. Currently, he is the chief foreign exchange strategist at Brown Brothers Harriman. Recently, Chandler was the chief currency strategist for HSBC Bank USA. He is a prolific writer and speaker and appears regularly on CNBC. In addition to being quoted in the financial press, Chandler is often a guest writer for the Financial Times. He also teaches at New York University, where he is an associate professor in the School of Continuing and Professional Studies. While Chandler cannot provide investment advice or recommendations, he appreciates your feedback; click here to send him an email.