Banking

Regulators and bankers need to seriously examine how well our financial system is serving us and at what cost, Federal Reserve Governor Sarah Bloom Raskin said in a July 23 speech. In remarks titled "How Well Is Our Financial System Serving Us? Working Together to Find the High Road," Raskin noted that public discussion since the 2008 financial crisis has focused on the particulars of that specific episode.

"Most people are aware that the staggering loss of jobs, income, and wealth we experienced were associated with what went wrong in the financial sphere," Raskin told a group of community bankers in Boulder, Colorado. "But we cannot forget the need to relate these results to the role that banks and other financial market entities should play in the first place. We need to ask how well banks and financial market entities are performing that role and how to assess the public and private sector costs associated with assuring that they play this role."

Business models and roads
Raskin contrasted "high road" and "low road" business models in financial institutions. She said that while regulators such as the Fed are working to encourage use of the high road, it is not a task regulators can accomplish alone.

The governor described traditional community banking as a high-road business model. Serving as financial intermediaries between borrowers who want to engage in economically productive activities—many of them businesses and homeowners in the bankers' communities—and depositors with funds to advance for those activities contributes to broad economic well-being, she said. On the other hand, low-road business models that ignore the core function of banks as intermediaries often produce misaligned incentives and poor risk management.

The low-road model, Raskin said, leads to choices "emanating from a business plan and culture focused largely on quick profits with little consideration of longer-term risks and costs, not only to individual firms, but also to the financial system more broadly."

Problematic models continue
Even after the financial crisis, those models persist, she said. Those low-road activities, such as proprietary trading, should not be conducted by institutions with government-insured deposits, Raskin added. She explained that she voted against adopting the Volcker Rule, which bans proprietary trading by federally insured banks and their affiliates, because she felt the safety and soundness safeguards built into the provision were insufficient.

"I was concerned that, as proposed, the guardrails were too broad and would allow banks to be able to go too far off the road," she said of the Volcker Rule. "Further, I was concerned that the guardrails as crafted could be subject to significant abuse—abuse that would be very hard for even the best supervisors to catch."

August 6, 2012