Fed Moves to Keep Watch over Subprime Lenders

Effective immediately, the Federal Reserve will start scrutinizing a class of bank subsidiaries that includes subprime lenders, determining whether they comply with all the government agency's consumer-protection rules and investigating customer complaints. But debate in Washington is centering on whether the Fed's move is actually a political gambit to preserve its own standing with the Obama administration. The change, announced Tuesday, gives the Fed broad new powers to oversee the practices of businesses owned by banks and their holding companies that previously fell through the regulatory cracks. Those non-bank subsidiary firms include home-equity and subprime lending arms, like Citigroup's CitiFinancial company and Wells Fargo Financial. The Fed's new policy is the latest, biggest step in a gradual expansion of its consumer-protection powers. As the housing and credit crises deepened, the agency has abandoned its traditional "laissez faire" role in favor of watch-dogging lenders of consumer credit. "The policy announced today… responds to a need for more effective supervision and consumer protection," the Fed said in a statement.

"It is designed to improve the Federal Reserve's understanding of the consumer compliance risk that certain products and services may pose." There is little doubt as to what those "certain products and services" are â€" subprime loans. Federal Reserve Governor Elizabeth Duke had alerted Congressmen in July of the agency's intent to focus on those lending instruments, when she testified before the House Financial Services Committee. "The recent problems in the subprime mortgage market revealed gaps in supervision and enforcement with respect to non-bank mortgage lenders," she said. "The Federal Reserve is fully committed to implementing its own program of supervision of non-bank subsidiaries of holding companies." But some critics say the Fed's new focus has more to do with increasing its political leverage in Washington than protecting borrowers. The Obama administration is lobbying for the creation of a single oversight entity for the banking industry â€" a Consumer Protection Finance Agency â€" which would strip the Fed and other existing agencies of most of their regulatory powers. President Obama "made it clear in his reform speech to Wall Street leaders Monday":http://dsnews.comarticles/obama-outlines-sweeping-financial-reforms-in-wall-street-speech-2009-09-14/ that the new CPFA would zero in on complex, risky offerings to consumers like subprimes and option adjustable rate mortgages. "By setting ground rules, we'll increase the kind of competition that actually provides people better and greater choices, as companies compete to offer the best product, not the one that's most complex or confusing," he said. That proposal could explain Duke's statement to the House's Financial Services Committee members. That committee's chairman, Barney Frank (D.-Massachusetts), and his Senate counterpart, Christopher J. Dodd (D.-Connecticut), are ardent supporters of the proposed CFPA and are currently working on legislation to create the agency. Even with the Fed's power grab, however, there are still gaps in the federal government's oversight of the banking industry: No one has authority to oversee lenders that are non-bank entities and aren't owned by holding companies. The Obama administration is promising a fix to that problem in its financial reform package early next year.