Academic journal article ABA Banking Journal

Keep Functional Regulation: How Financial Regulation Should-And Shouldn't-Evolve. Talking It through with SEC Chairman Cox

Academic journal article ABA Banking Journal

Keep Functional Regulation: How Financial Regulation Should-And Shouldn't-Evolve. Talking It through with SEC Chairman Cox

Article excerpt


Though his name is not on the law, Securities and Exchange Commission Chairman Christopher Cox served on the Senate-House Conference Committee that finalized the 1999 Gramm-Leach-Bliley Act. At the time, Cox was a Republican congressman from California with Harvard MBA and JD degrees. Gramm-Leach-Bliley, of course, repealed the Glass-Steagall Act of 1934, effectively reuniting investment and commercial banking, which put the six-term congressman in the position of overseeing what he had wrought when he was appointed SEC chairman in 2005. Cox inherited the challenge of creating a set of workable regulations--Regulation R--for the GLBA provision exempting bank broker-dealer operations from SEC oversight--a truly herculean task following seemingly endless negotiations with banks, brokers, and other regulators.

Contributing Editor Ed Blount met with Chairman Cox in his office in late August, five months after the shotgun merger of Bear Stearns and JPMorgan Chase. They addressed new directions for regulatory reform. Later, Cox updated some points in a follow-up conversation that took place after the fireworks of mid September.

Has Gramm-Leach-Bliley met all of its expectations? Would you do anything differently?

Chairman Cox Gramm-Leach-Bliley has at its core a sound concept, which is, "functional regulation." Writing the law, however, was an exercise in elaborate compromise. As a result, we noticed that, in writing regulations under the law, there are principles honored in the breach that have to be accommodated. It is at once a principle-based and very pragmatic approach. Therefore, I would say there is still substantial room for improvement in the Gramm-Leach-Bliley approach. The most significant problem in the law was the failure to assign to any agency the authority to regulate investment bank holding companies.

Where do you now draw the dividing line between the regulation of commercial and investment banks?

Chairman Cox This is an expression of the precept of functional regulation. The SEC has three-quarters of a century of experience in regulating broker-dealers. The Fed has nearly a century of experience in regulating commercial banks. It stands to reason that, both as we extend the collaboration between the Fed the SEC under our current authorities, and as we contemplate regulatory restructuring, we use that extensive experience as the "wind at our backs." It should matter less that, traditionally, one business or the other has been under the aegis of a particular agency, than that the agency's core competencies extend to that particular institution.

So, for example, should the Fed regulate deposit-taking activities and the SEC regulate asset services?

Chairman Cox Well, there is a bit of terra nova here. Prior to all of the major investment banks becoming part of bank holding companies, the question for Congress was whether it wished to make investment banking a federally-sponsored activity. Now, that question has given way to the more straightforward matter of applying the concept of functional regulation. Since the SEC has statutory authority to regulate the broker-dealer subsidiaries of all bank holding companies, our newly-agreed memorandum of understanding with the Fed provides a solid basis for making functional regulation work.

Until very recently, the updated Basel Accord was used as the supervisory standard for the five largest investment banks. However, the Basel benchmarks showed that Bear Stearns, just before its collapse, had far more than adequate capital. Is there a broader lesson for the reform of bank capital adequacy rules?

Chairman Cox Yes. The past year has shown that the Basel standards came up short for both commercial and investment banks. And this was our experience using the Basel II framework in connection with the capital adequacy measures that are used in broker-dealer supervision. …

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