Dudley Says Work Needed on Tools to Avert Financial Crises

  • U.S. regulatory authority too fragmented to stop new threats
  • Policy makers likely would respond too slowly to risks

Federal Reserve Bank of New York President William Dudley said U.S. policy makers are “a long way” from being able to identify developing risks to financial stability and act in time to prevent future crises.

“My own view is that while the use of macroprudential tools holds promise, we are a long way from being able to successfully use such tools in the United States,” Dudley said, according to the text of remarks he delivered Saturday at a conference hosted by the Federal Reserve Bank of Boston.

Dudley, who also serves as vice chairman of the Federal Open Market Committee, the Fed’s monetary policy panel, didn’t comment on current interest-rate policy or the economic outlook.

Dudley said the U.S. regulatory structure is fragmented, preventing any single regulator from being able to implement risk-reducing tools in a broad enough fashion.

“As a result, imposing macroprudential tools in the United States would almost certainly leave significant gaps in coverage,” he said, adding “it would be difficult to get all the relevant regulators on board in a timely way to implement macroprudential tools successfully.”

Dudley’s remarks came at a two-day conference focused on discussing how central banks could reduce the risk of broad financial crises. The Fed has taken a renewed interest in identifying potential systemic financial threats since the global meltdown of 2008-09 pushed the U.S. into its worst recession since the Great Depression.

‘Hardwired rules’

Dudley, responding to a presentation by Adam Posen, president of the Peterson Institute for International Economics in Washington, who argued for rule-based regulatory policy, said he saw some “potential advantages of hardwired rules.”

He cautioned, however, that such rules would have to be aimed at a broad swath of the financial system while risks could emerge in smaller sectors.

Dudley said the financial system is complex, and the first step for financial oversight is to figure out how broad regulatory tools interact with supervisory and monetary policies.

“When are these policies substitutes? When are they complements? How will they interact?,” Dudley said. “How will the governance work in coordinating across these three realms?”

Posen, in his paper, contended that the U.S. institutional framework for preventing crises was “likely to fail.”He said discretion within individual financial institutions was “huge,” forming a “recipe for creating uncertainty.”

Posen also said he was skeptical of the council of financial regulators created by the Dodd-Frank Act of 2010, known as the Financial Stability Oversight Council, due to what he termed Washington’s history of having difficulties in coordinating between multiple agencies. He called the FSOC “a mess.”

Dudley said policy makers can take “solace” that regulatory changes introduced after the financial crisis have reduced the potential negative impact of another shock.

“We may not be able to anticipate the next area of excess,” he said. “But with higher capital and liquidity requirements and the use of stress tests to assess emerging vulnerabilities, I think we are much better placed than we have been in the past.”

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