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: Jim Hamilton's World of Securities Regulation

By Jim Hamilton

President Obama Sets Forth Principles to Guide Reform of Financial Regulation

President Obama has outlined seven broad key principles involving transparency, systemic risk management, and investor protection that will guide Congress in passing legislation to reform the financial and securities markets. In an earlier address to a joint session of Congress, the President called for quick action on legislation to reform the nation?s outdated financial regulatory regime.

The first and second principles center on systemic risk. The first is to enforce the strict oversight of financial institutions that pose systemic risks to the markets. The second and related principle is to strengthen markets so they can withstand both system-wide stress and the failure of one or more large institutions. These principles dovetail with recommendations of the recent Volcker G-30 report and High Level Group report to the European Commission for a systemic risk regulator, a concept also endorsed by House Financial Services Chair Barney Frank.

It is crucial that a systemic risk regulator be created so that there is in place an effective early warning mechanism as soon as signs of weaknesses are detected in the financial system. And a graduated risk warning framework for ensuring that, in the future, the identification of risks translates into appropriate action.

A third principle is to encourage transparency in the financial system. This is a goal of a number of blueprints for reform. In conjunction with systemic reform, a fourth principle seeks to regulate financial products based on actual data on how actual people make financial decisions. This principle appears to dovetail with a congressional desire to create a Financial Products Safety Commission similar to the Consumer Products Safety Commission.

A fifth principle that must guide financial regulation reform is accountability, starting at the top. This principle incorporates tone at the top and the need to create a culture of compliance, effective risk management, and sound corporate governance. A sixth broad principle is to overhaul regulations so they are comprehensive and free of gaps. This principle appears to portend the regulation of hedge funds and other entities that currently create a gap in regulation.

There is a growing consensus to regulate hedge funds and other entities that may affect systemic market risk. Finally, the regulatory overhaul must be informed by the recognition that the financial markets are global. This will mean cooperating and coordinating with financial regulators in the European Union and elsewhere.

Full post as published by Jim Hamilton's World of Securities Regulation on February 26, 2009 (boomark / email).