One Regulator to Rule Them All

Part of the dominant narrative in Washington on the causes of the financial crisis is that competition among financial regulators allowed financial institutions to choose the weakest regulator, and also encouraged regulators to weaken their supervision and enforcement in order to attract more entities toward their charter. Hence the response of several prominent Democrat congressional leaders and the Obama administration calling for an elimination of both the Office of Thrift Supervision (OTS) and the Office of the Comptroller of the Currency (OCC), and their merger into a single “super” bank regulator.


But is this narrative based on fact or analysis, or simply mere assertion? Let’s start with a few counter‐​factuals: Fannie and Freddie could not choose their regulator, nor could Bear or Lehman. The worst‐​performing U.S. institutions at the very center of the crisis had no choice in their regulator. 


And of course, this was not simply a U.S. crisis. Northern Rock had no ability to choose its regulator. The UK, like much of the world, does not have multiple bank supervisors, but only a single supervisor. In fact, only three developed countries have multiple bank supervisors: the United States, Germany and Liechtenstein. If this was a crisis driven by competition among bank regulators, then most of the world would have been spared. 


What is the factual basis for merging the OTS and the OCC? Apparently the proposal rests upon the observation that both AIG and Countrywide owned thrifts at the time of their failure. In addition, the failure of thrift IndyMac was one of the largest bank failures to date. Therefore, the OTS must have been the weak link. However, both AIG and Countrywide acquired federally chartered thrifts late in the game; their failures were already “baked in the cake” long before they acquired thrifts. And in both cases: 1) the thrifts were very small parts of their balance sheets, and 2) the failure of AIG and Countrywide did not result from their thrift subsidiary. In relation to IndyMac, most of the entities regulated by the OTS specialize in mortgage finance, hence it should not be surprising that in the aftermath of a housing bubble, those engaging in mortgage finance fail at a greater rate.


Also it is worth remembering that prior to the savings and loan crisis, when there really was a significant difference between bank and thrift charters, thrifts could not choose to maintain their current business model and also flip charters. 


Since the case for merging regulators seems pretty weak, here’s an easy solution to address concerns regarding charter shopping: require the FDIC to base deposit insurance premiums on the historical and expected losses by charter.