Nov. 14 (Bloomberg) -- Two Obama administration officials stood up for the Federal Reserve after a key senator proposed stripping the central bank of its authority to supervise banks.

Austan Goolsbee, a White House economic adviser, and Neal Wolin, the deputy Treasury secretary, said the proposal by Senator Christopher Dodd would weaken the nation’s ability to guard against future financial crises. Dodd heads the Senate Banking Committee, which monitors the Fed.

“Systemically important institutions ought to be governed by the Fed,” Goolsbee said yesterday at the Bloomberg Washington Summit. Wolin, speaking at an American Bar Association conference in Washington, agreed that the Fed is “best equipped” to oversee the largest firms.

Dodd, a Connecticut Democrat, released draft legislation on Nov. 10 that would create a single regulator for banks, leaving the Fed to focus on monetary policy. The Obama administration would give the Fed expanded authority over the firms whose failure could topple the financial system.

Both proposals are intended to prevent a repeat of the regulatory lapses that contributed to the worst crisis since the 1930s and led to government bailouts of firms including American International Group Inc. and Citigroup Inc.

The two Obama officials said the Fed’s supervisory role gives it an understanding of banks and financial markets that can help it avert a meltdown.

Timely Information

“The Fed’s role as lender of last resort depends importantly on its supervision of the largest, most interconnected firms,” Wolin said. “Stripped of its supervisory role, the Fed would not have timely and complete information in a crisis.”

Goolsbee said that, with the economy on the mend and financial stocks rising, there’s a risk that the regulatory overhaul will stall. Obama “feels pretty strongly we can’t let this happen,” he said.

The S&P 500 Financials Index is up 135 percent since March 9, when the broader Standard & Poor’s 500 Index hit a 12-year low.

The Dodd proposal would create a new agency called the Financial Institutions Regulatory Administration. It would include the bank supervision powers of four agencies -- the Comptroller of the Currency, the Office of Thrift Supervision, the Federal Deposit Insurance Corp. and the Fed.

Amy Friend, chief Democratic counsel for the Senate Banking Committee, said Dodd plans to issue a revised draft of his regulatory overhaul on Nov. 16, and that his committee will begin formally considering the measure in late November.

Frank’s Measure

On the House side, Representative Barney Frank, the Financial Services Committee chairman, could complete work by Nov. 20 on a measure to regulate the companies that might pose a system-wide risk.

Goolsbee, the White House economic adviser, said he also worries that it would take too long to create a single agency out of four existing ones, and cast doubt on the single- regulator model. Dodd’s plan follows the lines of Britain’s single regulatory authority, Goolsbee said, and it “had a lot of problems” dealing with the recent crisis.

Kirstin Brost, communications director for the banking panel, contested Goolsbee’s comparison with the U.K. She said that the single bank regulator in Dodd’s bill wouldn’t regulate securities, commodities, insurance or consumer financial products.

Board Seats

“The last thing we would want would be to set up a U.K.- style regulator,” she said in an email yesterday. Brost added that Dodd’s plan would give the Fed a window on all banks’ activities by giving the central bank a seat on the boards of the single regulator, the FDIC and a new systemic-risk regulator.

“The Federal Reserve didn’t exactly do a stellar job handling systemic risk -- just look at how they failed to act on subprime mortgages,” Brost said.

To contact the reporters on this story: Robert Schmidt in Washington at rschmidt5@bloomberg.net; Sandrine Rastello in Washington at srastello@bloomberg.net.

Last Updated: November 14, 2009 00:00 EST