Wednesday, September 12, 2018

Regulatory Capture

by Bill McBride on 9/12/2018 09:08:00 AM

Caroline Baum writes at MarketWatch: Opinion: An overlooked element of the financial crisis: To err is human

There’s a name for what happened. It’s called regulatory capture, and it means just what the name implies. Regulators become sympathetic to those they are supposed to be regulating, losing sight of their actual function.

Granted, some of the financial chicanery was going on in the accounting department, but regulators have access to the information they need to fulfill their supervisory and regulatory responsibilities. All they have to do is ask.
This happened, but not at the field level. Here is an excerpt I wrote from the WaMu hearing:
"My opinion is the OTS examiner in charge during the period of time I was there did an excellent job of finding and raising issues. Likewise, I found good performance from the FDIC examiner in charge. What I can't explain is why the superior in the agencies didn't take a tougher tone with banks, given the degree of negative findings. … seemed to be a tolerance there or political influence of senior management of those agencies that prevented them from taking more active stances …" James Vanasek, who was the former chief risk and credit officer of WaMu from 1999 to 2005.
I noted:
We have seen this over and over. Every time the inspector general's office issues a report on a failed bank, the field examiners had correctly identified the problems - usually going back to 2003 or so - but no further action was taken.

Vanasek is arguing this was possibly because of "political influence of senior management of those agencies" - the political appointees in charge. I've heard the same thing from examiners.
And from the Financial Crisis Inquiry Commission report Crisis
• We conclude this financial crisis was avoidable. …

Despite the expressed view of many on Wall Street and in Washington that the crisis could not have been foreseen or avoided, there were warning signs. ... Yet there was pervasive permissiveness; little meaningful action was taken to quell the threats in a timely manner.

The prime example is the Federal Reserve’s pivotal failure to stem the flow of toxic mortgages, which it could have done by setting prudent mortgage-lending standards. The Federal Reserve was the one entity empowered to do so and it did not.
And I noted:
This is absolutely correct. In 2005 I was calling regulators and I was told they were very concerned - and several people told me confidentially that the political appointees were blocking all efforts to tighten standards - and one person told me "Greenspan is throwing his body in front of all efforts to tighten standards".