On July 24, 2008 SEC Chairman Christopher Cox testified before the Congressional Committee on Financial Services concerning the reform of the financial regulatory system.
Given these business, accounting, and regulatory differences, imposing the existing commercial bank regulatory regime on investment banks would be a mistake. It is conceivable that Congress could create a framework for investment banking that would intentionally discourage risk taking, reduce leverage, and restrict lines of business, but this would fundamentally alter the role that investment banks play in the capital formation that has fueled economic growth and innovation domestically and abroad. Such a course could be justified, if at all, only on the grounds that, like commercial banks which have long enjoyed explicit access to government-provided liquidity, investment banks’ activities must be controlled in order to protect the taxpayer.
This, however, makes clear that the more fundamental question is not whether investment banks should be regulated like commercial banks, but whether they should have permanent access to government-provided backstop liquidity. And if Congress were to answer that question in the affirmative, it is difficult to imagine that our markets would not produce new entities, perhaps hedge funds or other non-regulated firms, to take over the higher-risk capital markets functions of the formerly robust investment banks. That, in turn, would simply raise today’s questions anew.