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George Links Slow Recovery to ‘Unresolved Problems’ at Banks

Federal Reserve Bank of Kansas City President Esther George said the sluggish expansion in the U.S. and elsewhere following the 2008 financial crisis may reflect a failure to adequately address the banking crisis.

“The slow nature of this recovery, the limited amount of new lending after more than four years and the continuation of banking issues in some countries may suggest that the actions we took left unresolved problems,” George said in a speech in Panama City, Panama. “We must consider whether what we are doing is sustainable in the long run or whether it only increases the chance of future crises.”

More than four years after the collapse of Lehman Brothers Holdings Inc., U.S. regulators are still grappling with how to reduce the risk taxpayers will need to rescue too-big-to-fail financial firms in a crisis. “We cannot expect to have a sound financial system if the key players in it are not held fully responsible for the choices they make,” George said.

Federal Reserve Bank of New York President William C. Dudley yesterday said regulators should press on with current efforts to curb the risk from too-big-to-fail financial firms rather than try to immediately dismantle them. George’s predecessor, Thomas Hoenig, as well as Dallas Fed President Richard Fisher and the St. Louis Fed’s James Bullard have all urged breakup of big banks.

Equity Infusions

The Kansas City Fed leader was critical of the $700 billion Troubled Asset Relief Program that provided equity infusions into banks without first requiring them to write down troubled assets and replace management.

“We must have the correct supervisory focus, particularly since we have not carefully followed some of the lessons of previous crises,” she said. “For instance, do we still need to clean up the banks and insist on better management?”

The Federal Reserve and other regulators said earlier this month they won’t hold banking companies to a Jan. 1 deadline they wrote into proposed rules for boosting the reserves lenders must hold against potential losses. The agencies are working to align U.S. banks with international standards set by the Basel Committee on Banking Supervision.

The Dodd-Frank law, the most comprehensive rewriting of financial regulation since the 1930s, subjected the largest banks to more scrutiny and higher capital requirements. The law requires large banks to draft contingency plans detailing how they would be unwound in a crisis and created a financial-stability council charged with monitoring excessive risk-taking.

Enhanced Supervision

“Today we are focused on enhanced supervision of the systemically important financial institutions, stress tests, macroprudential supervision and many other reforms,” George said. “These steps will not get us very far if we don’t first address the incentive problem in our financial institutions, insist on better bank management wherever needed and emphasize our traditional supervisory framework.”

George was the Kansas City Fed’s No. 2 official under Hoenig, who retired last year. She didn’t discuss monetary policy or the economic outlook in her remarks. George joined the Fed in 1982, spent much of her career in bank supervision and became first vice president in 2009.

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