Regulatory Reform: What's Coming? - Jim Eckenrode, TowerGroup

Insights on the Obama Administration's Early Efforts to Strengthen Financial Services
Regulatory Reform: What's Coming? - Jim Eckenrode, TowerGroup
And so it begins. With Treasury Secretary Geithner's appearance before Congress, requesting greater authority over non-banking institutions, the Obama Administration is starting to flex its muscles in preparation for a complete re-shaping of financial services regulation.

In an exclusive interview, Jim Eckenrode, Banking Executive at TowerGroup, discusses:

Reaction to Geithner's initial moves;
How regulatory reform likely will unfold - and when;
Why the banking industry is on the verge of creating what he calls "a new hierarchy."

Jim Eckenrode is the Banking & Payments Research Executive at TowerGroup. He focuses his research and advisory activities on the major trends and directions in the global banking industry and, through that research, provides guidance and advice to senior-level banking and technology executives.

TowerGroup, a wholly owned subsidiary of MasterCard Worldwide, is the leading research and advisory services firm focused exclusively on the global financial services industry.

TOM FIELD: Hi, this is Tom Field, Editorial Director with Information Security Media Group. We're talking about this week's news in banking and we are speaking with Jim Eckenrode, banking executive with TowerGroup. Jim thanks so much for joining me.

JIM ECKENRODE: No problem, Tom, happy to be here.

FIELD: Just to sort of set context here, why don't you give us a sense of the type of work you do with TowerGroup?

ECKENRODE: Well, TowerGroup is a research and advisory firm focused on the financial services industry globally. We look at the intersection of business and technology and how market dynamics contribute to financial institutions strategy and how technology investments support that strategy.

FIELD: So, Jim, to start out, we've had some big news in the banking industry this week; let's go to Monday. Your initial thoughts on Secretary Geithner's plan for the toxic assets?

ECKENRODE: Well, you know, I think it is a good approach in that it incorporates a couple of objectives in dynamics that I think are important. One of which is that it's not the typical sort of good bank/bad bank scenario that we saw in previous crises, for example the thrift crisis where the FDIC just took over banks and worked out the toxic assets.

In this program, private investors are actually part of the solution, and the other thing that I think is good is that the securities that are being sold off, or the loans that are being sold off by banks and the securities that are being sold off by other firms are subject to a bidding process, and thus that establishes a market price for these assets, which is one of the things that has really been missing form any sort of discussions to this point in time. So I think it is a good solution to address those sorts of challenges.

FIELD: Well, the markets certainly seem to agree with you, and then just on the heels of that, Secretary Geithner and Ben Bernanke appeared yesterday before Congress. Now the story has been that they went there looking for extra authority; what exactly is it that they want the authority to do?

ECKENRODE: Well I think what--if you go back to the origins of the crisis, the fact is that over the period of the last 10 years or so a lot of product innovation was developed in the white spaces between financial institution lines of business. So for example, if you look at the value chain in the mortgage business, it started with a consumer borrowing money to purchase a home and ended with an investor buying mortgage-backed securities. The regulatory oversight of that value chain was fragmented.

You had the FDIC, you had the Office of the Comptroller of the Currency, you had the Federal Reserve, you had the SEC, the NASD all overseeing parts of that value chain, but there was not really a holistic picture across the value chain from a regulatory and risk management perspective.

The other thing is that there are, because of technology innovation among other things, new participants that have come into the industry that offer products and services and are able to take advantage of generally available technology to enter the financial services industry, and many of those participants have not been regulated in the same way that banks were, even though they were for all intents and purposes part of the financial services industry.

So if you look back at that TARP Bill, one of the provisions in the bill is that Secretary Geithner is expected to conduct an assessment and an analysis of the regulatory framework and identification of the participants in the financial services industry and bring to Congress recommendations for improvement, and I think what you are seeing is the beginning stages of that. The deadline for him to do that by the way is the end of April of this year.

So he's starting that movement toward a more holistic regulatory framework and one that I think encompasses participants in the financial services industry that were not regulated before now.

FIELD: Now Jim as you know, last year we saw a proposal for regulatory reshaping come from former Secretary Paulson. Given the early signals from the Obama administration and from Secretary Geithner, what kind of reform do you think we are looking at? Will it be similar to what Paulson proposed or something that is vastly different?

ECKENRODE: I don't think it will be vastly different. I think secretary Paulson had many of the pieces in place. Obviously, when he wrote the plan it was a very different environment. That was released about a year ago, and we had yet to go through the significant crisis in the September/October/November timeframe, which obviously has caused some delay in Secretary Geithner picking up those pieces and coming forth with a plan.

But I think the essential elements of the need to modernize the regulatory framework in recognition of the fact that the financial services industry and the customers and institutions/consumers and institutions that it services have moved on and have created a very different industry than the one existed when these regulatory frameworks were put in place. So I think that is really the continuing theme that you have to watch going through this, and I think those essential elements are still in place.

FIELD: So Jim, a lot of the talk the last couple of weeks has been about AIG, it's been about the Wall Street banks and about what is happening in Washington and New York. From everything that we have seen this week. what is the message to the Main Street banking institutions that they should be taking away from it all?

ECKENRODE: Well, I think it has to do with getting better and clearer control of the products and services that you are investing in, the lines of business that you choose to take on and the way that you conduct your business. During this crisis a lot of institutions sort of extended themselves beyond their traditional markets and beyond their traditional footprints in the race to gather short-term profit.

I think the message here is that those times are over for a good while now, and what it says to financial institutions is that they have to take a real serious look at their strategies, what they are trying to do and frankly what they are good at and what they are not so good at. It is going to, I think, kick off continued restructuring of the industry.

FIELD: So Jim, stepping aside from Wall Street and D.C. for a minute, we are almost a quarter of the way through this 2009. What do you see as the biggest issues that are confronting banking institutions right now, and I think probably you were just starting to talk about one.

ECKENRODE: Well, you know the biggest issue is obviously the economy. If you look back a year ago, we were all talking about the sub-prime mortgage mess and how that created defaults and asset backed and mortgage backed securities and CDO's and all of that, and that really impacted a handful of global financial institutions, and we saw an extreme period of restructuring and failures during the third and fourth quarters of last year.

But right now we are in a very different situation where we are not yet completely through that cycle, and at the same time the global economy is going through a significant slowdown. Whether you are talking about the United States, whether you are talking about the European Union or even whether you are talking about China, GDP rates are going south, if not negative, and unemployment rates are going up in many markets.

As a result we have got a much broader credit crisis that we are dealing with at the moment and that we are going to have to work through for the remainder of this year. We are not yet, I think, at the bottom in terms of seeing defaults across a wide range of consumer loan portfolios, not just mortgages, but student loans, auto loans, credit cards, etc. and even in the commercial side of the business, which has largely remained immune to a lot of this, but certain consumer lending portfolios, particularly property development and commercial real estate loans are also defaulting at increasing rates.

And so the challenge for banks going forward through the remainder of this year is can they continue to earn enough from their core business to fund loan loss provisions in those portfolios, and really how can they do a better job at managing those portfolios to limit the amount of losses that they see?

FIELD: Jim, one last question for you. I was reading through your biography, and I was struck by a statement that you made that the banking industry is on the verge of creating a new hierarchy. What do you mean by that?

ECKENRODE: Well, there is a new hierarchy in a number of different aspects. Frankly, when I wrote that it was before a lot of this happened and I was thinking of a different hierarchy then than I think is true today. I still do think that that new hierarchy will involve consolidation at the top end in the United States banking market.

I think the new hierarchy is going to involve stronger international players from regions not just that have been traditionally dominant in the banking industry like the United Kingdom or Germany or France or the United States, but new banking powers coming out of places like China, coming out of Brazil, coming out of India, coming out of Spain, etc. that I think will take their place on the world stage and really create a more dynamic and global banking industry going forward.

At the same time, as I said, I think we are going to see continued restructuring here in the United States and consolidation. We've already seen some of that in terms of the fact that well-known brands that we knew a year ago like Washington Mutual and Wachovia and National City are gone. We are going to see more of that and so that is the other part of this restructuring that I talked about.

FIELD: Going to be an exciting business to be watching this year, Jim.

ECKENRODE: It's never a dull moment, that's for sure.

FIELD: Jim, thanks so much for your time and for your insight today.

ECKENRODE: You are very welcome.

FIELD: We have been speaking with Jim Eckenrode, banking executive at TowerGroup. For Information Security Media Group, I'm Tom Field. Thank you very much.

About the Author

Tom Field

Tom Field

Senior Vice President, Editorial, ISMG

Field is responsible for all of ISMG's 28 global media properties and its team of journalists. He also helped to develop and lead ISMG's award-winning summit series that has brought together security practitioners and industry influencers from around the world, as well as ISMG's series of exclusive executive roundtables.

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