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Financial reform would shift Fed's authority away from regional banks

Regional chiefs rally

Harry Smith spoke with Sen. Chris Dodd (D-Conn.) about his efforts to pass financial reform for American banks.

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The regional Fed chiefs, known as presidents, and their allies have made their case on Capitol Hill privately in recent weeks, urging lawmakers to keep bank supervision for all 5,000 bank holding companies and 850 state-chartered banks at the Fed -- not just the 35 or so largest ones.

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Bernanke and others have long argued that the relationships born of supervision help inform Fed policy more broadly -- by giving policymakers insights into economic conditions facing small businesses around the country. The Fed's ties with thousands of community banks around the country also give it a reserve of political backing when confronted with hostility in Washington.

"They need or think they need protection from the populists in Congress," said Allan Meltzer, a Carnegie Mellon University economist and leading historian of the Fed. "The Fed wants to be able to regulate the banks, so that the banks will support them politically when they need support."

For example, earlier this month, the Independent Community Bankers of America sent a letter to Dodd and Sen. Richard C. Shelby (R-Ala.), the ranking Republican on the Senate banking committee, urging them in part to keep the Fed as the regulator of small banks. But the letter also delved into matters beyond the daily affairs of community banks -- but of grave concern to Fed leaders -- by encouraging the senators to refrain from any steps that could undermine the central bank's ability to independently manage monetary policy.

Besides the steps that would shift power away from the regional Fed banks, other aspects of Dodd's bill are viewed with considerable skepticism at the central bank.

In a compromise between Dodd and Sen. Bob Corker (R-Tenn.), the plan would create a new, more powerful regulator of mortgages, credit cards and other financial products and place it inside the Fed. But the proposal does not allow the Fed chairman or its top leadership to direct the regulator. That restriction is meant to ensure that the consumer regulator is independent. But Fed leaders worry that they could be blamed for any mistakes the agency makes yet lack the authority to control it.

The Obama administration also has some qualms about the Fed's proposed role. Administration officials pressed Dodd to include more banks under the Fed's supervision. Ultimately, Dodd decided that banks with more than $50 billion in assets, rather than his initial proposal of $100 billion, would be placed under the central bank. Still, senior administration officials wanted the bill to give the Fed even more authority.

The fate of Dodd's legislation is unclear as it has yet to win public support from any Republicans and even some centrist Democrats have been noncommittal. The House has passed a separate bill to overhaul financial regulation that would have less dramatic impact on the balance of power in the Fed system.

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