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SEC commish, FINRA head: Reform financial services regulations

A climate for change has led SEC Commissioner Luis Aguilar and FINRA chief Rick Ketchum to call for the reform of financial services regulations.

It should shock no one when a Securities and Exchange Commission (SEC) commissioner and head of the Financial Industry Regulatory Authority Inc. (FINRA) talk about the need for reform of financial services regulations. The combination of a new Democratic administration, the economic meltdown and public anger over Wall Street's role has created the conditions for major changes.

As FINRA's Rick Ketchum said in a speech at the Compliance Week 2009 conference in Washington last week, investor trust and consumer confidence are at historic lows. Trillions of dollars were lost, and now trillions have been spent by government.

In Ketchum's assessment, much of the focus on reforming financial services regulations will be in areas that have not been traditionally regulated or are not transparent. "Stovepipe regulation in this country has not evolved with the marketplace," he said. "[Leading to the] sickening volatility and huge challenges that the economy has had to deal with."

Ketchum said we now live in a world "where there are entities that can have significant impacts across industries or international borders." As a result, he added, he believes that "some form of systemic risk regulation will exist in most countries by the end of 2009."

In this context, Ketchum defines a systemic risk as "a risk that can significantly impact a country or economy as a whole, as opposed to an individual company undergoing bankruptcy."

SEC Commissioner Luis A. Aguilar's keynote speech, "Reversing Course – Putting Investors First in Regulatory Reform," put similar focus on the need for systemic risk regulation. In his assessment, before further financial services regulations are formed, there must first be a search into the causes of crisis.

In his view, "the real problem is that we didn't have anyone willing to exercise existing authority to look deeply into questionable industry practices -- and to just say no when needed. Instead, we seemed to have had decision makers that weakened regulators and otherwise fostered 'unregulated' markets. Additionally, we often had regulators who failed to pursue their mandates or, at the very least, turned a blind eye to risky practices."

The real problem is that we didn't have anyone willing to exercise existing authority to look deeply into questionable industry practices -- and to just say no.

Aguilar cautioned against focusing on systemic risk or lack of relevant regulation as the sole cause of the economic crisis. "We need to be careful about blindly concluding that the regulatory structure is the reason that investors have lost confidence. The focus on systemic risk may be hiding the fact that we had institutions that were playing fast and loose with other people's money, and a deregulatory philosophy that let people get away with it."

In his view, the focus in forming new regulation "needs to be on ensuring the continuation of systemically important market functions, not institutions, and should have a clear focus on investor protections." Aguilar suggested a number of directions for such policy to evolve, including the formation of a "council of regulators" that would "avoid the inherent tensions and conflicts that could arise where one regulator has combined responsibility over monetary policy, a vested interest in the safety and soundness of particular institutions, and plenary powers to address systemic risk."

His other proposal, for an "integrated capital markets regulatory body," would merge the SEC, Commodity Futures Trading Commission and the U.S. Department of Labor's Employee Benefits Security Administration, though such a merger is unlikely to happen.

That said, clearly there is a strong push for, in Aguilar's words, a "regulatory regime with a comprehensive investment mandate" that provides for "strong and broad regulatory authority and vigorous enforcement, coupled with flexible exemptive power to permit dynamic regulation where needed." In the past, "there was a reliance on enlightened self-interest to protect the public good. One thing no one can depend on after this financial crisis is enlightened self-interest."

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