Regulating The Financial Services After The 2008 Economic Crisis

Running head: REGULATING THE FINANCIAL SERVICES 1

Regulating the Financial Services after the 2008 Economic Crisis

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REGULATING THE FINANCIAL SERVICES 2

Regulating the Financial Services after the 2008 Economic Crisis

Introduction

When the prices of real estate’s began to take a downward trend, when the mortgage

prices spiked, these were early signs of an impending economic crisis. These telltale signs were

observed in 2007, but the full-blown crisis hit the US in September and October 2008 and lasted

through to March 2009.This period also saw an increase in the prices of oil and other vital

commodities in the market. Mortgage firms including Fannie Mae and Freddie Mac the most

dominant in the US housing sector lost their market value. Lehman Brothers, an investment

bank, and AIG also collapsed despite government’s earlier intervention. Many citizens especially

those in the financial institutions lost their jobs adding to the masses of unemployed people. This

crisis was brought about by an unregulated shadow banking system and the housing boom

(Guynn, 2010). The government had to take drastic measures to alleviate the crisis. The

immediate response from the government was to reduce the interest rates and liquidize the

market by providing assistance to financial institutions and increasing government spending.

Since these were short term solutions, there was a need for the government to set up policies and

implement them in a bid to reform the financial sector and avert another economic meltdown like

the one of 2008.Since then, the US governments have been putting up policies to cater for this

(Guynn 2010).

Reforms in the Financial Sector

These reforms started out as proposals that would address different issues in the financial

markets such as consumer protection, shadow banking, banks’ capital requirements and

enhancing the powers of the Federal Reserve. To date, some of these proposals have been

REGULATING THE FINANCIAL SERVICES 3

implemented while amendments continue to be made as unexpected challenges continue to

emerge during the implementation process.

The Troubled Assets Relief Program (TARP) heralded by the Bush administration was

the first long-term policy. Its primary purpose was to continually avail credit to its citizens and

their businesses and protect homeowners from repossession of their homes by mortgage firms

due to their failure to service their remortgages. Additionally, it was to keep the American

automobile industry afloat which by extension would enable hundreds of people to retain their

jobs (Reyes, 2013; Weinberg, 2013).Treasury injected an initial amount of up to 700 billion

USD. Term Asset-Backed Security Loans Facility developed by the US Department of Treasury

had the goal of providing credit to households and businesses whose owners had high quality

asset-backed securities (Weinberg, 2013).

The Dodd-Frank Act was proposed to oversee the regulation and supervision of financial

institutions in 2010. Its primary purpose was to monitor financial institutions whose presence in

the commercial market was critical if they ever failed through the Financial Stability Oversight

Council (FSOC). Some of these establishments are JP Morgan Chase, Wells Fargo, Goldman

Sachs and Bank of America. The Act called for the dissolution of OTS (Office of Thrift

Supervision) which had the mandate to regulate the real estate lending by the banking sector. In

its place, a regulatory firm for consumer protection, Consumer Finance Protection Bureau and

another agency that analyses systemic risk would be put in place (Guynn, 2010; Keats, 2015;

Wenberg, 2013). CFPB would ensure that families are provided with credit facilities that match

their financial ability and needs. In this way, household savings will be preserved and consumers

will no longer have to strain while servicing loans they had no prior knowledge about. The last,

Orderly Liquidation Authority (OLA) would assist the government to monitor financial

REGULATING THE FINANCIAL SERVICES 4

institutions and advise on the dissolution of those that whose failure would negatively affect the

entire financial market. This systemic risk firm would also ensure affairs in the financial market

are run transparently (Reyes, 2013; Weinberg, 2013). This Act also required large financial

Institution to write a procedure of how they could be resolved under the US Bankruptcy code

without assistance from the federal government or risking the entire financial system. This

authority also gave the FDIC the power to replace the management of institutions that seemed to

be failing The Volcker rule under this Act put up stringent measures that regulate how banks

could trade and invest. The lending rules it has put in place are so strict, and hence banks do not

acquire so much profit through lending as was the case before 2008 (Guynn, 2010; Keats, 2015).

Another reform targeted Capital which is usually set by the Basel Committee under the

supervision of US regulatory agencies. The amount required as overall capital was increased for

traditional banks with the systemically important banks given higher raises. The Liquidity

standards will limit maturity transformation of banks. In times of economic stress, banks will be

required to build capital from their earnings rather than use it to pay dividends (Weinberg, 2013;

Keats, 2015). The Basel community came up with liquidity reforms such as the Liquidity

Coverage Ratio which gave a thirty day limit of Liquidity coverage. The second reform

regarding liquidity was the Net Stable Funding Ratio was put a period of one year. The huge

financial organizations are now required to reinforce their liquidity buffers and improve how

they manage liquidity risks. These banks were warned against undertaking compensation plans

that would have them getting involved in excessive risks. Their compensation practices should

be in tandem with corporate governance and be approved by the management of these

institutions (Keats, 2015).

REGULATING THE FINANCIAL SERVICES 5

The Housing and Economic Recovery Act was enacted to restore confidence in the

mortgage industry. The first reform under this Act was to assist an estimated 400,000

homeowners by providing insurance amounting to 300 billion dollars in mortgages. A new

regulator was also established to provide oversight to the government-sponsored housing

enterprises i.e. Freddie Mac and Fannie Mae, and the government home loans banks (Guynn,

2010). This new regulatory agency was formed from the merger of previous authorities in the

housing sector. Raising the limit of mortgages the government-sponsored enterprises would also

assure financial stability. This Act also allowed the provision of loans to refinance mortgages

where the lending party was required to reduce the initial mortgage amount while the

homeowner benefited from appreciation in price. It also directed the state government to

collaborate with communities to help them identify, purchase and renovate properties that were

initially foreclosed under the massive scale Assets Purchase program. The national debt was

increased to a figure of 800 billion to allow for Treasury to assist the government-sponsored

enterprises when the need arises (Guynn, 2010).

Conclusion

The financial crisis was attributed to liberalized borrowing and unlimited spending based

on projected assumptions that did not materialize. During the crisis period, the government

attempted interventions which further worsened the situation calling for the immediate

implementation of long-term policies. The regulatory policies have been implemented through

the Bush and the Obama administrations, and these measures have stabilized financial

institutions especially shadow banks to enable them to survive without federal assistance in case

of another crisis. Also, the actions allowed the government to predict a crisis due to the risk

monitoring function and thus avert it in time.

REGULATING THE FINANCIAL SERVICES 6

References

Keats, R. (2015). US Banks Played a Pivotal Role in the 2008 Financial Crisis. Retrieved from

http://marketrealist.com/2015/11/us-banks-played-pivotal-role-2008-financial-crisis/

Weinberg, J. (2013). The Great Recession and its aftermath. Federal History Reserve. Retrieved

from http://www.federalreservehistory.org/Period/Essay/15

Guynn, R.D. (2010). The Financial Panic of 2008 and Financial Regulatory Reform. Retrieved

from https://corpgov.law.harvard.edu/2010/11/20/the-financial-panic-of-2008-and-

financial-regulatory-reform/

Reyes, A. (2013). The Financial Crisis Five Years Later: Response, Reform, and Progress in

Charts.US Department of Treasury. Retrieved from

https://www.treasury.gov/connect/blog/Pages/The-Financial-Crisis-Five-Years-

Later.aspx

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