Originally Posted by Villages Kahuna

The news of the day will be a broad and deep proposal by the President to change the regulation of banks, financial institutions and financial products. I've heard that the list of proposed new regulations is 85 pages long!

So how much new regulation do we need?

I have mixed emotions on this, with no real good answer. I spent 25 years being a banker and dealing with bank regulators. In my case it was the guys from the Comtproller of the Currency.

On one hand, the amount of regulation that we had clearly did not protect us from disastrous results within and among our banks, insurance companies and financial institutions. One might conclude that significantly greater regulation is clearly necessary.

On the other hand, I've dealt with the top level of bank regualtors. They are bureaucrats and typically are not always the brightest bulbs in the box. For sure I can tell you that they couldn't, didn't and won't ever be successful regulating the kinds of fancy financial derivatives that Wall Street concocts on almost a daily basis. (They tried. Believe me when I say that none of the partners in the failed investment banks or the banks that remain on TARP life support wanted or expected what happened to occur.) The senior bankers themselves didn't understand the risks being created by the highly-educated junior bankers dreaming up these profitable products, why should we expect regulators to be able to understand and control such risks.

So I have a quandry. I know that some new and better regulation is called for to prevent a recurrence of the financial meltdown we're experiencing. But I'm also convinced that the government regulators are not smart enough to outwit a bunch of big bonus motivated 28-year olds who dream this stuff up.

The only idea I can think of is that of a financial institution chooses to engage in the creation and involvement in financial derivatives, then they should be required to maintain huge amounts of capital to support those positions. Instead of a required capital ratio of 8-10%, make it 50-60% on exposure to financial derivatives. That would definitely slow down the interest in trying to make a lot of money with financial products that no one understands.

The only problem with my idea is figuring out how much financial exposure an institution has created for itself with these derivative products. That was the problem in the recent financial meltdown--institutions discovered that they had tons of exposure when they thought they didn't have any. Of course, their regulators didn't realize they had any exposure either!