Geithner Issues a Call to Action

U.S. Treasury Secretary Timothy Geithner delivered a speech this week at New York University's Stern Business School to kick-off the massive effort to craft new financial regulations to comply with the Dodd-Frank Act of 2010.  In his speech, he promised to streamline and simply the rules while working to codify them at an expeditious pace.  He also provided the following call to action for the financial services industry.

For the financial industry, your core challenge is to restore the trust and confidence of the American people and your customers and investors around the world. You will have to make your own decisions about how best to do that, but, I thought, given that I'm here in New York, I'd offer a few suggestions as an interested observer.

Don't wait for Washington to draft every rule before you start changing how you do business. Get ahead of the process and out in front of your competitors. Find new ways to improve disclosure for your consumers.  End hidden fees. Don't push people into loans they can't afford.

Demonstrate to your business customers – small and large – that after running for cover during the peak of the crisis you are ready and willing to take a chance on them again. Change how you pay your executives so you are not rewarding them for taking risks that could threaten the stability of the financial system.

Make sure you have board members who understand your business and the risks you are taking. And, focus on improving your financial position so that your financial ratings, your cost of capital, the amount you have to pay to borrow, all reflect your own financial strength and earnings prospects, not the false expectation that the government will be there in the future to rescue you.

You can do all of that right now, even before the first new rule of financial reform is written.

Secretary Geithner is right to encourage banks to move now in the right direction as opposed to waiting for the rules to be written.  Doing so will not only better prepare the companies for the change to come, but will also provide a significant competitive advantage that will surely result in a similar increase in shareholder value.

Increasing Demand for Strong ERM Solutions

A new survey by IDC Financial Insights confirms that demand for Enterprise Risk Management ("ERM") solutions is increasing as the new regulatory environment becomes more certain in the wake of the financial crisis. This is not a surprising result to readers of this blog, but one that will become even more apparent as we enter the latter half of 2010 and into 2011.  Here is an excerpt from the survey as reported by American Banker and Bank Technology News.

The microscope that’s fixed on enterprise risk management is getting more powerful, from both internal and external sources, says IDC Financial Insights. In its 2010 survey of senior risk managers at Tier One and Tier Two U.S. banks, the research firm found that both top management and regulatory agencies are paying more attention, and that delinquency and other customer credit risks linked to the banking crisis are still front and center.

Key findings from this study include the following:

• Enterprise risk management is now getting more attention from internal (boards) and external (regulators) parties than ever before.


• The overall economy still has question marks, which is increasing the pressure on consumers and commercial customers to make payments – stress on delinquency is still front and center.


• With the focus on speed, accuracy, and efficiency, cloud or hosted risk management solutions are gaining more and more consideration by financial institutions. When asked about whether the institution is looking to replace in-house solutions with hosted solutions over the next 12 months, 25% of respondents gave a positive answer.


• According to the survey results, 58% of respondents are concerned about increased levels of systemic risks over the next 12 months.

Well constructed ERM programs are the best antidote to the increasing pressure from key stakeholders such as regulators and boards. For help in determining the necessary steps to construct your program, visit www.WheelhouseAdvisors.com.

A Week to Remember

This week has been full of activity that will shape the nature of enterprise risk management ("ERM") programs in the months and years to come.  First, the logjam in the U.S. Senate finally broke with the start of floor debate on financial regulatory reform.  At the same time, hearings into the dealings at investment banks during the height of the financial crisis surfaced some interesting points on the need for more integrated risk management across financial institutions.

There were also several risk management industry conferences with significant keynote addresses.  A great summary of these events can be found on the OpenPages blog.  OpenPages is a strategic partner with Wheelhouse Advisors and provides a technology platform that enables the integration of risk management practices within companies.  As companies look to ready themselves for regulatory reform and strengthen their ERM programs, they will certainly need solutions like OpenPages to become more resilient to the rapidly changing risk and regulatory landscape.

No doubt that this will certainly be a week to remember for the evolving state of ERM and regulatory reform.

Financial Regulatory Debate Continues

The debate over financial regulatory reform continues in the U.S. Senate according to a report from Bloomberg today. There seems to be agreement on the ultimate goals of regulatory reform.  However, senators do not seem to agree on where the responsibilities for regulation should reside.  Here is an update on new legislation that is currently in the works.

Senate Republicans led by Richard Shelby are drafting an alternative to financial-regulation legislation that Senator Christopher Dodd is developing after bipartisan talks collapsed this month, two Shelby aides said. Shelby’s plan will likely aim to create a consumer protection unit within a new bank regulator instead of the standalone agency sought by Dodd and President Barack Obama, said the aides, who requested anonymity because the talks are private. It would shield taxpayers from costs of unwinding systemically important failed financial firms, the aides said. Also under consideration is a consolidated bank regulator, one aide said. The idea is supported by Dodd, who proposed eliminating the Office of Thrift Supervision and Office of the Comptroller of the Currency, and moving their powers, along with the bank-supervision powers of the Federal Reserve and the Federal Deposit Insurance Corp., to the new agency.

This alternative bill will also address how best to tackle regulation of systemic risk.  Currently, discussion continues around establishing a regulatory council led by the U.S. Treasury that will provide systemic risk oversight.  However, there continues to be doubt about the effectiveness of regulating by committee.

Regulatory Reform Moving Forward in 2010

It looks like the political environment in Washington is set to support a financial regulatory reform package this year. A recent poll published in The Hill demonstrates the sentiment for pushing forward on reform.  Here is what they had to say.

Washington insiders overwhelmingly believe Congress in 2010 will pass new regulations on the financial industry. According to a new poll by FD, a communications and strategy firm, 76 percent of Washington insiders say financial regulations will head to President Barack Obama’s desk this year. The FD survey included 300 insiders working in lobbying, government, media, nonprofits and think tanks, among other associations. The poll was conducted between Jan. 31 and Feb. 1 with an error margin of 5.7 percent.  The poll showed that insiders strongly believe Obama will attempt to move to the political center this year and that Congress will not pass healthcare reform, a limit on greenhouse gas emissions or new restrictions on campaign finance.

Is your organization prepared for the coming changes?  Visit www.WheelhouseAdvisors.com to learn how we can help.

Global Solutions for a Global Problem

Last week, the Wall Street Journal in the United Kingdom published an article featuring the views of Britain's Financial Services Authority Chairman Adair Turner.  Given the continued debate and relative inaction from the U.S. Congress, the thoughts from Lord Turner are particularly refreshing.  Here's what he had to say:

One, finance got too big. "We must be more willing to ask...whether the financial system is delivering its vital economic functions as efficiently as possible, or whether parts of it can, and before the crisis did, swell beyond their economically efficient size," he said in a recent speech.

Two, there was too much debt in the system. "There is a huge bias in the tax system towards debt," he said, largely because companies can deduct interest payments before computing taxable profits. "If we can't change that, then the regulatory approach needs to lean against that."

Three, regulators failed to curb excesses, but politicians hardly encouraged aggressive regulation. The cry for "better regulation" meant less regulation, both in the U.K. and U.S. The diagnosis of Britain's economic woes was that regulation was stifling entrepreneurship, he said.

Four, erecting a wall between ordinary deposit-taking and lending, on one hand, and trading on the other is impractical and unwise. Economies benefit when banks turn loans into securities or hedge their positions -- to a point. But by forcing banks to hold capital in the trading operations to provide thicker cushions to absorb losses -- he calls it "a bias towards conservatism" in trading beyond what is necessary for ordinary banking -- speculative trading will migrate away from banks toward hedge funds and the like, a change Lord Turner welcomes.

Five, for all the angst about the slow pace of post-crisis repair of the financial system, global regulators are making surprising progress toward consensus on a new regulatory regime. "We are attempting in 18 months to do changes far more radical than we did in Basel II that took between 12 and 15 years and dealt with some of the areas which proved to be less important," Lord Turner said, referring to the pact regulators reached in the Basel Committee on Banking Supervision that didn't avoid the crisis. Pushed by the newly empowered Financial Stability Board, the process, he said, "has worked better than I would have expected," he said.

Since the crisis was global in both cause and impact, it is encouraging that some are working towards global solutions to the problem.  As the regulatory reform effort unfolds, the U.S. must ensure that our reforms are aligned with our global partners.

Back to the Drawing Board on Derivatives Regulation

U.S. House Financial Services Committee Chairman Barney Frank (D-MA) distributed a proposal for derivatives regulation this week and it was the subject of a hearing by the committee yesterday.  A major part of the discussion centered on a potential loophole that would allow many corporations, if not all, to avoid the new regulation altogether. Here is what Bloomberg.com reported about the hearing and draft legislation prepared by Chairman Frank.

A plan offered by the Obama administration would subject all swaps dealers and “major market participants” to new regulations for capital, business conduct, record-keeping and reporting. Frank’s version would exempt corporations from that definition if they use derivatives for “risk management” purposes.

While Frank’s proposal is a “step in the right direction,” its “ambiguous” definition of risk management may leave a large number of corporations unregulated, Henry T.C. Hu, director of the SEC’s new division of risk, strategy and financial innovation, told the committee.

“As just about all swaps could be defined as being used for risk management purposes, we’re concerned that unintentionally the category of ‘major swap participant’ could have been narrowed so significantly, or even to a null set,” CFTC Chairman Gary Gensler told reporters after the hearing.

“Major hedge funds” may be excluded from oversight, as may the mortgage-finance companies Fannie Mae and Freddie Mac “because of course the government-supported enterprises use swaps for risk management purposes,” Gensler said.

It looks like Chairman Frank may need to re-educate himself on the use of derivatives and go back to the drawing board on this proposal.

Senate Banking Committee Chairman Presses Reform

Yesterday, the U.S. Senate Banking Committee conducted a hearing to discuss ideas for financial regulatory reform.  Senator Christopher Dodd, chairman of the committee, argued the case for streamlining the governmental agencies that currently oversee the nation's largest financial institutions.  In his remarks, he pressed the need for the creation of a new, single regulatory agency that will consolidate the handful of agencies that provide oversight today.  Here's what he had to say.

“I have heard from many who have argued that I should not push for a single bank regulator.  The most common argument is not that it’s a bad idea – it’s that consolidation is too politically difficult.  That argument doesn’t work for me,” said Dodd. “We must eliminate the overlaps, redundancies, and additional red tape created by the current alphabet soup of regulators.”  Dodd went on to detail priorities in bank regulation.  “We need to preserve our dual banking system.  And I feel just as strongly on that point as I do the earlier point.  State banks have been a source of innovation and a source of strength, a source of tremendous strength, in their communities.   A single federal bank regulator can work with the 50 state bank regulators.” The chairman also recognized the important role played by community banks.  “Community banks did not cause this crisis and they should not have to bear the cost or burden of increased regulation necessitated by others.  Regulation should be based on risk - community banks do not present the same type of supervisory challenges their large counterparts do.”

Streamlining oversight in this way will not only strengthen the regulatory framework, it will also eliminate much of the excess governmental spending and bureaucracy that currently exists.

Financial Regulatory Reform Debate Begins

Today, the U.S. House Financial Services Committee will welcome several experts to debate financial regulatory reform approaches.  Paul Volcker, former Federal Reserve Chairman and current Head of the President's Economic Recovery Advisory Board, will testify first by offering his views on how reforms should be enacted.   Here is an excerpt from his prepared testimony.

Important parts of the Administration’s proposed reforms can be – and some are being – implemented and enforced under existing authority. The Treasury has set out principles for capital and liquidity standards. Other prudential approaches are under consideration. Most notably risk management practices, for banks and certain other regulated institutions have been placed under urgent review. At the supervisors’ initiative, useful and needed steps are being taken to encourage more prudent compensation practices.

These are needed steps toward a stronger reformed financial system. However, I want to emphasize two inter-related issues of fundamental importance that run across the more particular elements of reform. One is a matter of broad regulatory practice: how to deal with the insidious, potentially risk-enhancing, spread of “moral hazard”, the presumption that systemically important institutions may be protected in the face of imminent failure. The overlapping question is one of administrative responsibility: in particular the appropriate role of the central bank (the Federal Reserve) in regulation, supervision and oversight of the financial system.

Mr. Volcker has defined the problem very well.  The answer lies in the need to decelerate the consolidation of financial institutions and accelerate the consolidation of regulatory oversight.  Just the opposite has occurred over the past few decades and led us to the brink of financial collapse.

Financial Regulatory Reform Takes Back Seat

As we are emerging from the financial crisis, the debate on Capitol Hill is firmly focused on health-care rather than financial regulatory reform.  It seems as though Congress can only single thread major legislation and, as a result, financial regulatory reform has taken a back seat.  However, the American Banker reported this week that the president is still intent on passing meaningful regulatory reform this year.  Here is what they had to say.

With much of the political world focused on health-care reform, the president appeared to signal that a financial services overhaul is still a priority for him. He reiterated that he hopes Congress will act this year — an increasingly unrealistic timeline by most estimates — and warned that bankers and other lenders cannot return to business as usual now that the crisis appears to be passing.

"The growing stability resulting from these interventions means we are beginning to return to normalcy," President Obama said in a speech at Federal Hall in the heart of New York's financial district. "But what I want to emphasize is this: Normalcy cannot lead to complacency. … We will not go back to the days of reckless behavior and unchecked excess at the heart of this crisis, where too many were motivated only by the appetite for quick kills and bloated bonuses."

Unfortunately, a well conceived plan to reform our financial regulatory structure has not been put forth. Without a clear plan, action will come later rather than sooner. Let's hope the bail-out band-aids hold long enough to see meaningful reform.

Regulatory Reform Details Begin to Emerge

Details of the Obama administration's plan for regulatory reform are beginning to trickle out and it appears as though the devil for financial institutions is truly in the details.  Here is what the Associated Press reported yesterday.

Under the administration's proposal, companies such as Citi, Goldman Sachs and others in a broad top tier engaged in complex transactions would face stricter scrutiny and have to hold more assets and more cash as cushions against a downturn. They also would have to anticipate their own demise, drafting detailed descriptions of how they could be dismantled quickly without causing damaging repercussions. Think of it as planning their own funerals — and burials.

Obama's plan, in short, aims to make it far less appealing to be so big. That was the middle ground the administration sought, a step short of an outright ban on systemically risky companies. "Without banning them we're providing some pretty heavy penalties for entering" the top group of institutions that could pose a risk to the entire financial system, said Diana Farrell, deputy director of the White House's National Economic Council. "The regulator might say to a large institution, 'Make sure there is very good reason to allow yourself to get that big, or that interconnected, or that complex because the penalties will wipe out any advantages, such as lower cost of capital, you might have.'"

Large financial institutions in the U.S. will face many regulatory challenges and should be preparing their companies for the imminent changes to come.  Many of these companies' strategic plans will be impacted by the new rules and the risks they carry.

Missed Opportunity

The Wall Street Journal reported yesterday that the White House is backsliding on its goal to streamline financial regulations.  While not surprising in the highly politicized world of Washington D.C., the compromise may haunt the current administration and others for years to come.  Here is what the WSJ had to say.

The Obama administration is backing away from seeking a major reduction in the number of agencies overseeing financial markets, people familiar with the matter say, suggesting that the current alphabet-soup of regulators will remain mostly intact.

Administration officials had suggested they might push for major regulatory consolidation in the wake of the financial crisis. But now they expect to call for most existing agencies to have broader powers to limit risk-taking by financial institutions, say the people familiar with the planning.

Opportunities to reform and eliminate duplicate activities do not come around very often.  This is truly a missed opportunity of the greatest proportions.  Companies facing changes in regulation among the spaghetti-like structure we have today will need to spend more to comply with conflicting rules that may or may not reduce risk in the long run.

As the great Thomas Edison once said, "opportunity is missed by most people because it is dressed in overalls and looks like work."  That is certainly the case here.

Making Their Move

As expected, the U.S. government is making its move to reform regulatory oversight and strengthen risk management practices at major U.S. financial institutions.   More will be required from these institutions, both in terms of capital as well as compliance and control.  Here is what the Wall Street Journal reported yesterday about U.S. Treasury Secretary Tim Geithner's plans.

Mr. Geithner is expected to call for a strict and consistent set of regulations for large firms, as well as more power for the government to monitor emerging risks to the economy. The new rules will likely require financial institutions to hold more capital as a buffer against losses and will bolster risk-management standards. All told, the proposals would mean significant expansions of power for the Treasury, Federal Reserve and other regulators.

Preparations for these sweeping changes must begin now.  Is your company ready?  Visit www.WheelhouseAdvisors.com to learn more about how we can help.