Tougher Bank Rules Coming But No Time Soon

By: CBS/AP
By: CBS/AP

(CBS/ AP) A Congress criticized for being asleep at the switch while financial problems festered is eyeing tough new regulations for investment banks and a new government role in the mortgage market as Wall Street reels from another round of collapses.

Just weeks after approving a housing-rescue package designed to help homeowners avoid foreclosure and prevent further spread of the credit crisis, lawmakers are considering more far-reaching actions to bring order to the freewheeling array of financial products and practices that have led some Wall Street institutions to the brink of failure.

They're also weighing what role, if any, the government-sponsored mortgage giants Fannie Mae and Freddie Mac should play in the future after a federal regulator took over the troubled firms last weekend. Lawmakers have dusted off a wide range of plans for the companies, which together own or back $5 trillion in mortgages - almost half the nation's total.

Options include taking the companies private altogether, morphing them into a public utility or a federal agency, or leaving them as government-sponsored entities that have private shareholders and profits, with tougher regulations.

The bankruptcy of Lehman Brothers, the forced sale of Merrill Lynch to Bank of America and new worries about the stability of insurer American International Group Inc. on Monday injected new energy into the emerging Capitol Hill debate about stiffer financial regulation. The discussion began in March after the near-collapse of Bear Stearns, when the Federal Reserve stepped in to guarantee $30 billion of the investment bank's assets, including risky mortgage-backed securities.

At the time, Treasury Secretary Henry Paulson said "the world has changed," and stepped-up regulation would follow the government help for the investment bank.

There's no chance that Congress will act on any of the ideas this year, with just seven weeks until Election Day and lawmakers scheduled to scatter in a couple of weeks to campaign. But they are likely to preoccupy the new Congress and the next president.

In the shorter term, lawmakers in both parties want to help key groups weather the financial storms. Republicans and Democrats support giving up to $50 billion in loans to the struggling auto industry before Congress adjourns. Democrats are pushing for a second economic aid package worth that much to fund public works projects, provide jobless benefits and send heating and food aid to the poor.

Paulson backed out of a Tuesday appearance before the Senate Banking Committee on the Fannie and Freddie takeover, telling lawmakers he was too engaged in the latest crisis to testify, the panel's staff said. Later, after learning Paulson would be speaking to a Washington think tank the same day, an aide to Sen. Chris Dodd, D-Conn., the committee chairman, called the Treasury chief's no-show "regrettable" and said Dodd would swiftly reschedule and "aggressively exercise the committee's oversight function."

Rep. Barney Frank, R-Mass., the Financial Services Committee chairman, is planning a session next week to explore the mortgage giant takeover.

Frank has long advocated a financial overhaul that would impose new controls on entities like investment banks and hedge funds that are outside the regulation of the Federal Reserve and other bank regulators.

Those institutions "have incentives to take a lot of risk, and leverage that risk, and too few constraints," Frank said earlier this year.

The practice of securitization - packaging a variety of assets, like mortgages, and reselling them as a new investment - "has dissolved the lender-borrower relationship in financial affairs," he said in April. "We need to find some regulatory replacements for that."

A push for tighter controls on financial institutions could find substantial support among Democrats, who blame the Bush administration for pursuing an ideological mission to deregulate at all costs.

"We should have learned this lesson. We did learn it for several decades. We need to relearn it," said Sen. Sherrod Brown, D-Ohio. Breaking down regulatory barriers has allowed "Wall Street greed to run amok," he said.

Appearing Tuesday on the three network morning shows, Republican presidential nominee Sen. John McCain told CBS News' The Early Show, "The economy is in crisis."

McCain offered no specific remedies during his appearances, though he said he agreed with Treasury Secretary Henry Paulson that the government should not bail out American International Group Inc., the world's largest insurer.

Democratic vice presidential candidate Sen. Joe Biden countered that the economic policies of McCain and the Bush administration had led to any betrayal of American workers. He argued that the Republican campaign's message was at odds with itself with McCain saying the economy's fundamentals were sound but that urgent repairs were needed.

"It seems like John's had an epiphany. Nine o'clock yesterday morning, John thought the economy was going great guns and the Bush administration was doing well, and today he thinks it's in crisis," Biden told The Early Show.

In truth, however, both parties have been loath to subject banks and other financial institutions - including Fannie Mae and Freddie Mac - to stiffer rules.

"You had a Congress that refused to apply regulations to them, and then the leveraging of Fannie and Freddie produced new Wall Street instruments that came to be sliced and diced to the advantage of short-term profit-taking, but long-term liabilities," said former Iowa Republican Rep. Jim Leach. Leach headed the Banking Committee when Congress overhauled financial laws to tear down Depression-era barriers between banks, insurance companies and investment firms.

"Then you have an unwillingness of Congress to impose a credible regulatory regime on investment banks," Leach added. "Basically, the lure of leveraging proved too great."

Leach said it will be up to Congress and a new administration not only to overhaul financial regulations, but ultimately to figure out how to restore global confidence in the financial health of the government.

He noted that Paulson's first bid to prop up Fannie and Freddie - by getting Congress to include an unlimited federal lifeline for them in the housing legislation - did little to allay fears in global markets about their financial health. That's why he had to step in last weekend and take them over.

"What that means," Leach said, "is that the sheen has gone off the good name of Uncle Sam."

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