WASHINGTON - President Barack Obama proposed sweeping new "rules of the road" for the nation's financial system Wednesday, casting the changes as a critically important response to the economic crisis and the greatest regulatory transformation since the Great Depression.
Obama blamed the financial crisis on "a culture of irresponsibility" that he said had taken root from Wall Street to Washington to Main Street, and he said regulations crafted to deal with the depression of the 1930s had been "overwhelmed by the speed, scope and sophistication of a 21st century global economy."
The Obama plan would give new powers to the Federal Reserve to oversee the entire financial system and would also create a new consumer protection agency to guard against credit and other abuses that played a big role in the current crisis.
Unveiling his proposal before an East Room audience, Obama blamed the financial crisis on "a culture of irresponsibility" and outdated financial rules that were created in the wake of the Great Depression of the 1930s but had been "overwhelmed by the speed, scope and sophistication of a 21st century global economy."
The Obama plan would give the Federal Reserve new powers to oversee the entire financial system, hoping that the central bank will be able deal with the kinds of problems that were allowed to build to such an extent that they ended up overwhelming the system last year, resulting in the collapse of some of America's largest financial institutions.
The Obama proposal would also create a new consumer protection agency to guard against the kind of mortgage and other credit abuses that played a major role in the current crisis.
Two lawmakers whose committees will play a major role said they would move quickly.
"We'll have it done this year," Sen. Chris Dodd, D-Conn., chairman of the Senate Banking Committee, said after Obama's address.
"Absolutely," agreed Rep. Barney Frank, D-Mass., chairman of the House Financial Services Committee. He joked that the White House had "threatened us with a severe chastening if we don't."
"There will be maybe some debate ... but I think we're all seeking the same results," Dodd said. He has advocated an alternative plan to strip the Federal Reserve of its regulatory role entirely and create a new consolidated bank regulator who would assume the roles that the Fed and Federal Deposit Insurance Corp. now play in helping regulate state-chartered banks. "There's not a lot of confidence in the Fed at this juncture," Dodd said.
Asked about Dodd's criticism of the Federal Reserve, Treasury Secretary Timothy Geithner told reporters at a briefing that the administration had looked at a range of alternatives to giving the Fed expanded powers as a systemic risk regulator and had come to the conclusion that "we do not believe there is a plausible alternative."
Lawrence Summers, head of the president's National Economic Council, said that those who believed this power should not reside with the Fed had the responsibility to make the case for some other agency.
The Fed's expanded authority and the rest of the new rules would reach into currently unregulated regions of the financial markets such as hedge funds and exotic instruments like credit default swaps.
The plan, laid out in an 88-page white paper, was the result of extensive consultations with members of Congress, regulators and industry groups and represented a compromise from bolder ideas that the administration had examined but ended up abandoning because of heavy opposition.
The regulatory overhaul would eliminate only one agency, the Office of Thrift Supervision, generally considered a weak link among current banking regulators. The beleaguered OTS oversaw the American International Group, whose business insuring exotic securities blew up last fall, prompting a $182 billion federal bailout. OTS also oversaw other high-profile blowups like Countrywide Financial Corp., IndyMac Bank and Washington Mutual Inc.
"There's still going to be holes in the system," said Douglas Elliot, a fellow at the Brookings Institute and a former investment banker. "The problem with having too many regulators is that things can slip through the cracks. Banks will find ways to move businesses into units that are regulated by the softest regulator."
The creation of the new consumer agency is aimed at guarding against the kinds of lending abuses which resulted in many Americans being saddled with far more mortgage debt than they could handle. That caused a record flood of mortgage foreclosures and billions of dollars in losses on mortgage loans and securities backed by subprime mortgages, failures which shook the financial system to its core.
"It was easy money," the president said. "But these schemes were built on a pile of sand."
Under Obama's plan, the Federal Reserve would gain power to supervise holding companies and large financial institutions considered so big that their failure could undermine the nation's financial system. But even as it gained new powers, the Fed would lose some banking authority to the new Consumer Financial Protection Agency.
Obama's proposal would require the Fed, which now can independently use emergency powers to bail out failing banks, to first obtain Treasury Department approval before extending credit to institutions in "unusual and exigent circumstances," a change designed to mollify critics who charged that the Fed needed to be more accountable in exercising its powers as a lender of last resort.
Private analysts generally gave the administration good marks for the efforts it had put forward although some powerful lobbying groups, such as the U.S. Chamber of Commerce, expressed opposition to parts of the plan.
Would the changes have prevented the current crisis?
"The Obama plan might not have forestalled the current crisis but it would have made it less severe and certainly not as catastrophic as it turned out to be," said Mark Zandi, chief economist at Moody's Economy.com and the author of a recent book on the housing crisis.
In conjunction with the Fed's authority over large financial institutions and the new consumer agency, Obama also proposed:
• Additional protections for investors, including greater disclosure by hedge funds, regulation of credit default swaps and over-the-counter derivatives that previously operated outside of government oversight, and new conditions on brokers and originators of asset-backed securities.
• A system for the orderly disposition of any troubled, interconnected firm whose failure would pose a risk to the entire financial system, together with rules that insist that financial institutions hold more capital for safety's sake.