|Guardians of Finance: Making Regulators Work
By James R. Barth, Gerard Caprio Jr. and Ross
By Leah Spiro
It was the perfect storm, a huge accident, a 100-year flood.
That's how Alan Greenspan, Henry Paulson, Ben Bernanke and
Timothy Geithner explain the crash of 2008-2009: as an
impossible-to-forecast act of God.
The authors of Guardians of Finance: Making Regulators
Work for Us beg to differ. To them, the crash was the
result of lapdog regulators starstruck by the very industry
they were supposed to be policing. Regulators failed to sound
the alarm on the financial industry due to basic human nature:
Why would they damage their own chances of smoothly segueing
into a high-paying job in the industry?
The problem is that financial regulators are a part of the
financial services industry "community," the authors say. They
interact with the industry on a daily basis and adopt its
views. "The public is sitting in the upper bleachers and the
regulatory officials can scarcely, if at all, hear their cry,"
they write. "We urgently need some way to hold regulators
accountable for their behavior." The authors know of what they
write. James Barth was chief economist of the Office of Thrift
Supervision and the Federal Home Loan Bank Board. Gerard Caprio
Jr. was an economist at J.P. Morgan and the World Bank. Ross
Levine is a professor of economics at Brown University.
Who are the "Guardians of Finance"? They are unelected
officials who are not directly accountable to the public. The
book takes a close look at the Federal Reserve System, the
Securities and Exchange Commission, the Treasury Department,
the FDIC and others, and analyzes each agency's
dysfunctionality. The Fed, with its system of regional banks,
is too intertwined with the banking industry; the SEC was
ineptly led by Christopher Cox, who is portrayed as a bumbler;
and FDIC examiners are too easily intimidated by Goliath
The authors harshly criticize the Dodd-Frank Act of 2010,
which they argue is doomed to fail. The new entities created by
Dodd-Frank, such as the Consumer Financial Protection Bureau
and the Office of Financial Research, are tucked into the Fed
and the Treasury, and thus are not shielded from the pernicious
revolving door. The CFPB and the OFR are not incentivized to
alert the public to oncoming financial train wrecks.
Barth, Caprio and Levine propose the creation of yet another
agency. They call it the Sentinel, with a capital S. This
agency will be an intellectual, investigative watchdog that is
truly independent. It will be staffed by forensic accountants,
financial economists and other technicians who are prohibited
from signing up for jobs in the financial services industry for
many years. It will have only one task: to write reports on how
well regulators are doing their jobs. It will have no power,
except the power to obtain any information it wants. The goal
is to shine light on regulatory problems, start an informed
debate and improve the operation of the financial system. For
example, "What if a Sentinel had highlighted the FBI's 2004
fraud report in mortgage finance and the fact that the Fed was
not responding to it?"
Guardians of Finance is a surprisingly lively and
provocative book about a hellishly complex and staggeringly
boring subject. True, a cynic would say the authors' motive is
full employment for economists. The Fourth Estate has a far
better track record as watchdogs. Yet the idea of a public
early-warning system is appealing. If nontaxpayer funding is
used, if the Sentinel is not located in Washington or New York,
and if Paul Volcker will head it, it is worthy of serious
Leah Spiro is president of Riverside Creative
Management, a literary agency.