Federal regulation can save U.S. economy
WASHINGTON. (Galina Zevelyova for RIA Novosti) - On April 2, Federal Reserve Chairman Ben Bernanke, who is using the word "recession" only very unwillingly, said "there might be a slight contraction" in the U.S. economy during the first half of the year.
He was referring to the plummeting gross domestic product (GDP), which is the best indicator of economic health.
The other day, Treasury Secretary Henry Paulson proposed combining federal bank and thrift regulators, creating a federal insurance regulator and merging the Securities and Exchange Commission with the Commodities Futures Trade Commission.
This amounts to strengthening federal regulation in the sector, for the first time in the past 70 years.
Paulson's plan is most likely designed to prevent a repetition of such unpleasant surprises as the collapse of Bear Stearns, one of the nation's largest underwriters of mortgage bonds, which was ruined by the liquidity problem.
The Fed resorted to emergency financing of cash-strapped Bear Stearns to prevent panic on the market, but when it became clear that this measure would not save the bank, it decided to sell it to JPMorgan at a mere $2 per share, less than one-tenth the firm's market price two days before.
Paulson has proposed creating agencies to control the operation of financial market players and to strengthen the Federal Reserve's position over certain market players, such as investment banks and funds, insurance companies and other financial institutions that had been independent of the regulator.
According to the Treasury Secretary, the Fed should interfere only when banks' operation threatens the stability and health of the national financial system. The central bank's task is to maintain market stability in cooperation with other federal regulators.
Paulson proposed uniting the seven regulators into three agencies - the Federal Reserve, a new financial regulator, and an agency protecting consumers and monitoring business practices.
The U.S. system of financial regulation evolved in the 1930s, during the Great Depression. Many new types of banking and investment operations have appeared since then, but escaped the watchful eye of regulators. American experts say it was the lack of control over banks and other financial institutions that provoked the subprime mortgage crisis, also hitting other segments of the U.S. economy, which is now reeling into recession.
The proposed regulation measures are limited to the traditional Republican views of the market as a mechanism that needs minimum federal oversight. Yet Paulson's plan is the first attempt in the past 70 years to strengthen federal regulation in the financial sector.
The last time such steps were made was during the Great Depression of 1929-1933 by the Roosevelt administration. President Franklin D. Roosevelt's New Deal stipulated the federal regulation of production and marketing, a system of social protection and camps for the jobless. His administration approved banking reform laws, emergency and work relief programs, and agricultural programs.
Many banks were stripped bare at that time, and therefore all of them were temporarily closed in 1933 to stabilize the financial sector. Later, about 75% of them resumed operation under the supervision of the Federal Reserve. As a result, the number of banks in the United States was slashed and the volume of their assets increased. On Roosevelt's insistence, Congress approved a law guaranteeing deposits in case of a repeat financial crisis.
The Great Depression was much more dramatic, and federal interference in the economy more ruthless than Paulson's plan. According to the Treasury Secretary, his plan does not answer the current problems, but was brought forth by the need to adjust legislation to the financial system's current level of development.
The experience of the United States and other countries shows that a free market is good during times of progressive development, but can badly malfunction in periods of trouble, when only state interference can prevent or cushion the effects of an economic crisis. The scale of such interference depends on the depth and nature of the troubles.
The Republican administration, which has always been a wholehearted advocate of a free market, now has to play a more active role to prevent a recession in the U.S. economy, once the least regulated in the world.
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