Democrats seek to give Treasury power over failing companies

By Tom Braithwaite in Washington

Published: October 26 2009 02:00 | Last updated: October 26 2009 02:00

US House Democrats will put forward draft legislation as early as today on how to regulate better and, when necessary, wind down the largest financial institutions - one of the thorniest areas of regulatory reform.

The draft law is expected to include a proposal giving the Treasury secretary the right to seize and wind up a failing company as long as he has the support of the US Federal Reserve Board and Federal Deposit Insurance Corporation.

An alternative idea, supported by Republicans, would introduce a fast-track bankruptcy procedure rather than give the government "resolution authority" to wind up companies.

Congress is likely to steer away from a third, more radical proposal that has garnered the support of senior figures on both sides of the Atlantic. Mervyn King, governor of the Bank of England, and Paul Volcker, the former Fed chairman, have called for a division between heavily regulated, utility-type banks and more lightly regulated, riskier companies that would be allowed to thrive and fail in a free market.

Phillip Swagel, assistant Treasury secretary in the Bush administration, said Congress should not give the government the power to seize companies. "I still do not see a way for the executive branch to do that transparently and fairly," said Mr Swagel, who is due to testify before the House financial services committee on Thursday, following an appearance by Tim Geithner, Treasury secretary. "I think we are much better leaving it in the hands of the judiciary."

Mr Swagel's warning comes in spite of his role working to save Lehman Brothers last year and on the troubled asset relief programme, which funnelled public money into banks.

"I appreciate the irony that a member of the five-person Tarp committee is saying [this]," he said.

More than a year after the bankruptcy of Lehman and the government rescue of AIG, Congress is still some distance from passing laws to reduce the chance of a repeat of the crisis and to deal with the fallout of a failure.

Barney Frank, chairman of the House financial services committee, faces a formidable task in dealing with an especially complicated and contentious area of reform that continues to divide even Democratic members of Congress and the administration.

But he and his team are confident that draft legislation, expected today or tomorrow, will hold sway, attracting solid Democratic support in spite of competing ideas.

Peter Wallison, fellow at the American Enterprise Institute, who will also testify before Congress this week, agreed with Mr Swagel. "The fatal flaw in the [resolution authority] idea is that you can't know in advance whether firms will cause a systemic breakdown if they fail," he said.

Mr Geithner's appearance on Thursday comes as he tries to inject momentum into the reforms and help Mr Frank steer a course through the competing ideas. Also testifying are Sheila Bair, chairman of the FDIC, and Daniel Tarullo, a Fed governor. The two regulators have been at odds over whether the Fed should have a primary role regulating systemic risk.

Mr Geithner will be pushed to fill in some of the practical details in regulating systemically significant institutions, such as how they are defined and how to strike the balance between giving them an implicit government guarantee that would allow them to borrow more cheaply from rivals and imposing such tough restrictions that they are severely weakened.

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