Alex Brandon/AP Photo
Treasury Secretary Janet Yellen during a White House meeting with the South Korean president
When the acting head of the Office of the Comptroller of the Currency (OCC) Blake Paulson sent a letter to Senate leaders in April defending the agency’s practice of allowing federally chartered banks to effectively launder consumer loans at any interest rate, enabling evasion of state interest-rate caps, it was seen as a last straw. Paulson, a career OCC official who took over for Trump’s comptroller Brian Brooks, was generally carrying on his predecessor’s policies, including giving special bank charters to cryptocurrency firms. But endorsing a controversial rule that Democrats wanted to nullify, during a Democratic administration, was the limit. Paulson was replaced within three weeks.
The person making that decision was Treasury Secretary Janet Yellen, former chair of the Federal Reserve. The person she chose as the new acting comptroller was Michael Hsu, an associate director in the bank supervision and regulation division of the Federal Reserve. And just 10 days later, Hsu named as senior deputy comptroller and chief counsel Benjamin McDonough, who was most recently an associate general counsel in the Legal Division at the Federal Reserve.
These are just a few of a series of individuals who have shifted from career positions at the Fed into other parts of the financial regulatory architecture. For example, Nellie Liang, a Federal Reserve economist in multiple divisions for 30 years, is President Biden’s choice as Treasury undersecretary for domestic finance. Laurie Schaffer, a longtime lawyer at the Fed, currently serves as principal deputy general counsel at Treasury. Biden’s deputy national security adviser for international economic issues, Daleep Singh, previously headed the markets team at the Federal Reserve Bank of New York.
So far there’s been little meaningful distinction between the Trump and Biden eras on bank regulation.
While she does not appear on the Treasury organizational chart, Linda Robertson is working in the legislative affairs office, according to two sources. Treasury has not yet responded to a request for confirmation. The Fed hired Robertson, a former Clinton administration official and later Enron lobbyist, in 2009 as a liaison with Congress, at a time when the Dodd-Frank Act, which instituted a lot of new rules for the Fed, was being constructed.
It is not necessarily unusual for financial regulators to move between agencies. And federal regulatory agencies across the government have experienced their own blind spots and missteps over the years. But in some corners of the financial reform movement, the migration of Fed officials across the regulatory space is raising alarms. The Fed’s track record in identifying and dealing with regulatory infractions has been spotty, and in general it has been criticized for its closeness to Wall Street, particularly in the Trump years, which overlaps with when several of these individuals served.
“When’s the last time a company was afraid of getting on the radar of the Fed?” asked Arthur Wilmarth, a professor emeritus at George Washington University and author of the recent book Taming the MegaBanks: Why We Need a New Glass-Steagall Act. “When’s the last time these institutions took regulators seriously?”
Certainly, in the run-up to the housing bubble, the Fed was not seen as tough on banks, after longtime chair and Ayn Rand acolyte Alan Greenspan downgraded regulation and supervision in favor of allowing market discipline to govern. Greenspan and his successor Ben Bernanke insisted that the damage from subprime mortgages would not spread to the overall banking system, a serious error. The central bank “missed a great deal of the problems that led up to the 2008 crisis,” said Karen Petrou, co-founder and Managing Partner of Federal Financial Analytics, a banking consultant, and author of Engine of Inequality, a book about the Fed.
After the crash, policymakers noted the Fed’s dual mission of protecting the safety and soundness of the banking system and of protecting consumers. These were seen so much at odds that the Consumer Financial Protection Bureau was created to take the consumer protection function out of the Fed, which regarded it as a lesser imperative anyway.
Under Trump, the Fed’s vice president for supervision, Randal Quarles, consistently expressed the desire to “step back” from various banking regulations. Quarles led regulators in weakening the so-called Volcker rule, which prevents banks from engaging in risky trading with depositor money. He exempted nearly all banks from several capital and liquidity requirements, taking advantage of a giant loophole passed by Congress. He lowered the frequency of bank stress tests designed to monitor the financial system, and made them easier for banks to pass.
Last week, in testimony before the Senate Banking Committee, Sen. Sherrod Brown (D-OH) told Quarles that he “rolled back rule after rule,” adding that “our financial watchdogs shouldn’t be doing favors for the biggest banks.” Sen. Elizabeth Warren (D-MA) hammered Quarles for removing enhanced supervision from Credit Suisse, one of the banks hardest hit by the Archegos Capital scandal, suffering over $5 billion in losses, despite Credit Suisse failing a stress test in 2019 for, among other things, not being able to accurately predict trading losses. “Your term as vice chair is up in five months,” Warren said to Quarles, “and the financial system will be safer when you’re gone.”
This tendency has not really ended with the changeover in power. Reform groups have criticized the Fed for minimizing the severity of the Archegos debacle, and they howled when the Fed announced tentative plans to loosen its bank merger rules, which were already non-existent: there hasn’t been even a single challenge to a proposed bank merger in 35 years. Some of this is due to Quarles’s continued presence, but so far there’s been little meaningful distinction between the Trump and Biden eras on bank regulation.
The degree to which that is a function of the Fed’s internal culture is an open question. “Do people carry with them an institutional culture, and will that animate their philosophy in the job?” asked Saule Omarova, a financial expert and professor at Cornell University. While Fed supervisors do have a better understanding of the inner workings of the financial system, they also have a track record of industry capture and caring more about keeping financial conglomerates intact than identifying their hazards.
The highest-ranking Fed expat is of course Yellen, who evinced little interest in public about supervision and regulation when Fed chair, deferring to then-governor Daniel Tarullo. In 2015, Yellen defended Scott Alvarez, the longtime Fed general counsel and so-called “power behind the throne” at the central bank, who continually contradicted Tarullo in public about his desire to cancel various regulations. Earlier this year, Yellen demurred under questioning from Warren about designating asset managers as systemically important financial institutions. Her discomfort with strong financial regulation is a bad characteristic for someone who as Treasury Secretary controls the Financial Stability Oversight Council.
“Yellen I would suspect is taking all of her Fed experiences with her,” said Wilmarth. “The place is completely dominated by the economists, they dominate the supervisory side of things.”
Hsu, who was a fairly low-level employee at the Fed, has thus far suggested that he would be “measured and deliberative with his actions.” At OCC, he did stop implementation of a Trump-era rule that would have gutted the Community Reinvestment Act, which requires banks to devote lending resources to low- and moderate-income communities. And he is reconsidering the OCC’s decision to give bank charters to cryptocurrency firms, stating that there needs to be a “regulatory perimeter” set for such instruments. He has also vowed to hold steady on capital rules, which some large banks have wanted to weaken even further, but which many progressive reformers wanted to see restored to pre-Trump levels.
But colleagues of Hsu’s are more implicated in the policies of the Quarles Fed. McDonough, the new OCC chief counsel, was an acting special advisor to Quarles for part of his time as vice chair, and he worked on several of the deregulatory measures that Quarles pushed through, including the provision to weaken supervision for U.S. entities of foreign banks, which Warren criticized Quarles for after the Archegos scandal.
Liang, for her part, recently co-authored a paper with fellow longtime Fed staffer Pat Parkinson, which asserted that regulators should weaken the bank leverage ratio (the ratio of debt to assets) and that the Fed should construct a credit facility to serve as a permanent bailout fund for the repo market, which got into trouble in 2019.
Then there’s the issue that the fraternity of former Fed officials has taken up posts in various trade associations that lobby for weaker rules. The Bank Policy Institute, for example, contains several ex-Fed officials, including Liang’s co-author Pat Parkinson. Other colleagues still work at the Fed, and when the bank regulators get together to set new rules, the question becomes whether former Fed officials elsewhere will accommodate their previous agency.
Policymakers often sell the fragmented nature of the U.S. regulatory system as a selling point, with each piece of it having their own core expertise. However, as Wilmarth notes, “you’re not going to have much variety if the regulators all come from one place, even if they’re in different agencies.”
