In effort to mend the “critical gaps” which have led to multiple failures within the nation’s financial system, Treasury Secretary Timothy Geithner unveiled Thursday morning the framework of a new regulatory reform for Wall Street. “To address these failures will require comprehensive reform — not modest repairs at the margin, but new rules of the road. The new rules must be simpler and more effectively enforced and produce a more stable system, that protects consumers and investors, that rewards innovation and that is able to adapt and evolve with changes in the financial market,” Geithner said during congressional testimony. Geithner discussed the need to create tools to identify and mitigate systematic risk, including tools to protect the financial system from the failure of “systematically important” financial institutions — an issue brought to the forefront amid spiraling anger over the bailout and then bonuses at American International Group Inc. (AIG). “The crisis — and the cases of firms like Lehman Brothers and AIG — has made clear that certain large, interconnected firms and markets need to be under a more consistent and more conservative regulatory regime,” read a press release from the Treasury Department Thursday. In addressing systematic risk — one of the four components of regulatory reform mapped out by Giethner’s team, and the first of which the Treasury will focus on — the Treasury said, like many officials this week, there must be a single independent regulator with responsibility over systemically important firms — regardless of whether they own a depository institution — and critical payment and settlement systems. The Treasury said it will also work to implement higher standards on capital and risk management for those “too big to fail” firms by setting more robust capital requirements and imposing stricter liquidity, counterparty and credit risk management requirements. Also, the regulator of these entities will need a “prompt corrective action regime” in the case capital levels decline — similar to the powers of the FDIC, Geithner explained. Another part of the Treasury’s plan in addressing systematic risk would require all private investment funds and hedge fund advisors with assets above a certain threshold to register with the Securities and Exchange Commission. See Full Story. “The Madoff episode is just one more reminder that, in order to protect investors, we must close gaps…” the Treasury said. Geithner proceeded to outline actions to extend federal regulation to all trading financial derivatives and develop stronger rules for money market mutual funds, in order to reduce the risk of runs on the funds. Geithner said his testimony today focused on systemic risk both because financial stability is critical to economic recovery and growth, and because systemic risk is expected to be a primary focus for discussions at the G20 Leaders’ Meeting in London on April 2. But in the coming weeks, according to the Treasury, Geithner will also outline a framework of action, likely to require legislation, in relation to protecting consumers, eliminating gaps in the nation’s regulatory structure and fostering international coordination. “We must not let turf wars or concerns about the shape of organizational charts prevent us from establishing a substantive system of regulation that meets the needs of the American people,” Geithner said. Write to Kelly Curran at Disclosure: The author held no relevant investment positions when this story was published. Indirect holdings may exist via mutual fund investments. HW reporters and writers follow a strict disclosure policy, the first in the mortgage trade.

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