Effective Supervision and the Evolving Financial Services Industry

By Jordan, Jerry L. | Economic Commentary (Cleveland), June 2001 | Go to article overview

Effective Supervision and the Evolving Financial Services Industry


Jordan, Jerry L., Economic Commentary (Cleveland)


Technology, market consolidation, international competition, and new legislation are changing the face of the financial services industry. How are the agencies responsible for ensuring the safety and soundness of our financial system responding? Jerry L. Jordan is president and chief executive officer of the Federal Reserve Bank of Cleveland. This Commentary is adapted from his keynote address to the 11th Annual Meeting of the Ohio Bankers Association on May 31, 2001.

When I was still in graduate school, more than 35 years ago, it would have been hard to persuade me that I would be approaching the end of my career before we started to think seriously about the post-Glass-Steagall banking environment. By the mid- 1980s, when I worked for a commercial bank on the West Coast, I had become sufficiently discouraged by the slow pace of banking reform that I thought I was making a joke when I would say, "The Berlin Wall will probably come down before GlassSteagall!" Gramm-Leach-Bliley was signed on November 12, 1999. I had been hoping it would be signed three days earlier on November 9, which would have made it exactly on the tenth anniversary of the collapse of the

Berlin Wall!

Bankers are no doubt still assessing the opportunities and strategic implications of Gramm-Leach-Bliley and the implementing regulations. At the same time, they are still digesting the impact of the Internet and wireless technology, ongoing bank mergers, and new financial products.

Banking regulators and supervisors, for our part, are pondering the implications as well. We know the system of supervision and regulation must be modernized to keep pace with a dynamic financial services industry.

To begin to do that, we need to address two basic questions. First, what public purpose do supervision and regulation ultimately serve? Second, apart from legislation, what forces are driving change in the financial services industry? We must answer these questions to anticipate how the system of supervision and regulation must change, so that these activities can accomplish their public purpose within the new financial landscape.

* Supervision and Regulation Are Different

Before we try to answer those questions, it is important to distinguish between supervision and regulation. These two words are often used interchangeably, or in conjunction with one another, to imply that both relate to the same concept or process. That can't be further from the truth. And, while we're distinguishing between the two, it might also be helpful to reverse the order and refer to these concepts as "regulation and supervision," since, as a practical matter, one typically follows the other.

Regulation refers to the rules or procedures that are designed to govern an industry's behavior. It is the prescriptions or boundaries imposed on the industry by legislators and regulatory bodies in an effort to "direct" it.

Regulation takes place in a political context democracies often use legislation to encourage the things society as a whole likes (such as economic development) and discourage the things it doesn't (thus, the sin tax). As globalization and technology advance, financial institutions become an easy target for additional regulation; new regulations might be seen as a way of thwarting money laundering, achieving community development goals, or channeling credit to needy borrowers, for example. Such uses are often a temptation that leads regulation away from

its true mission-to help establish the boundaries within which an industry can operate.

Supervision, on the other hand, is the monitoring or oversight function that takes place after the regulations have been passed. It ensures, among other things, that activities are conducted in accordance with those regulations. Bank supervision also involves assessing riskmanagement practices, helping boards and management make informed decisions, and, most recently, spreading best practices of the industry. …

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