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Fed Was Lax in Supervision of Banks, Kaufman Says

Fed Was Lax in Supervision of Banks, Kaufman Says (Update1)
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By Vincent Del Giudice

Sept. 2 (Bloomberg) -- The Federal Reserve has been lax in its role as a bank regulator, economist Henry Kaufman, president of Henry Kaufman & Co. in New York, said today in an interview on Bloomberg Radio and Bloomberg Television.

“Supervision and regulation has had a very low priority within the scheme of things in the Federal Reserve,” Kaufman, author of “The Road to Financial Reformation,” said.

The Obama administration has proposed the biggest revamp of the industry’s regulation since the 1930s, including charging the Fed with overseeing all financial firms that could pose a danger to systemic stability. Some members of Congress have proposed giving that responsibility to a council composed of the Fed, Treasury Department, Federal Deposit Insurance Corp. and other regulators.

At the same time, Fed Governor Daniel Tarullo, Obama’s first pick to the central bank’s board, is leading an overhaul of its bank examinations, with the goal of identifying potential threats across the industry.

Tarullo, a former Clinton administration economic adviser who analyzed bank regulations before taking up his current post in January, has said he intends to address flaws that preceded the 111 bank failures since the crisis erupted in August 2007.

Fed Chairman Ben S. Bernanke “did not recognize the financial crisis this country was facing,” and leaned toward the policies of his predecessor, Alan Greenspan, Kaufman said today. Bernanke then “acted with substantial force” once he understood the depth of the crisis, he said.

Fed spokesman David Skidmore declined to immediately comment.

Challenged Assumptions

The financial crisis “has challenged some of the assumptions and analysis on which conventional supervisory wisdom has been based,” Tarullo said on Aug. 4 in testimony to the Senate Banking Committee.

“Working with other domestic and foreign supervisors, the Federal Reserve has taken steps to require the strengthening of capital, liquidity and risk management at banking organizations,” Tarullo said.

Kaufman said government action helped avert a deeper economic slump.

“We would be beyond the recession today,” he said. “We would probably be in a depression.”

Excesses in mortgage lending have made it “difficult for many households to recover financially,” Kaufman said.

Kaufman also expressed doubts about imposing a so-called Tobin tax on financial transactions to limit the industry’s growth. He said banks would respond by raising fees paid by consumers.

Cost to Borrower

“It is wrong to pass on that cost to the borrower or the participant in the financial system,” he said.

The U.K. Financial Services Authority’s chairman, Adair Turner, has proposed such a tax. The idea is based on the work of James Tobin, who in 1971 proposed a tax on currency trading to deter speculation in the wake of the Bretton Woods system of pegging currencies. Tobin, who died in 2002, won the 1981 Nobel Prize for his work on financial markets.

(In the U.S., hear Bloomberg Radio on satellite radio: Sirius Channel 130 and XM Channel 129. In New York City, tune to WBBR 1130 on the AM dial.)

To contact the reporter on this story: Vincent Del Giudice in Washington vdelgiudice@bloomberg.net.

Last Updated: September 2, 2009 11:06 EDT