US Federal Reserve Initiates Investigation of New York Federal Reserve

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After a withering expose in The New York Times that showed bank regulators at the New York Federal Reserve sharing confidential information with Goldman Sachs (NYSE:GS) and earlier disclosure from secret tapes inside the New York Fed showed regulators providing the large Wall Street bank kid glove treatment, comes a two-pronged investigation and a call for structural changes.

In a letter to the Inspector General for the Federal Reserve System and the Consumer Financial Protection Bureau Thursday, Scott Alvarez, general counsel at the Federal Reserve Board of Governors, and Michael Gibson, director of banking supervision, both with primary offices in Washington DC, are requesting an investigation into the operations at the New York Federal Reserve and other locations.

“After consultation with the Chair and other Board members, we respectfully request that the Office of the Inspector General conduct a review of… the manner in which the Federal Reserve System conducts examinations of large banking organizations (with over $50 billion in total assets),” the letter requested. The vast majority of such banks are located in New York City.

The Washington DC-based inspector-general is being asked to examine if there are “adequate methods for decision makers to obtain all the necessary information to make supervisory assessments” and if there are channels, both within and outside the immediate chain of command, for decision-makers to be aware of divergent views about material issues regarding large banking organizations addressed by the members of the dedicated examination team?

Both of these questions appear to directly address the issues recently revealed in the press. The move comes as the Senate Banking Committee on Friday is taking up the question of the New York Fed’s supervision of large banks and “regulatory capture.” Tomorrow New York Fed President William Dudley is among those scheduled to testify at a Senate banking subcommittee hearing on the topic of regulatory capture. Regulatory capture occurs when those assigned with enforcing financial regulations provide favorable treatment to the institutions they supervise.

In a related move, Senator Jack Reed (D-RI) is introducing a bill that would make the New York Federal Reserve President a position appointed by the U.S. President and confirmed by the Senate. Reed said the change was warranted because “meaningful layers of accountability” are needed at the regulator in charge of supervision of Wall Street’s largest banks.

For its part, Goldman Sachs fired those involved in obtaining confidential information from the New York Fed. Friday New York Fed President William Dudley is expected to blame criminal charges against the banks for posing a threat to the country’s financial stability, a refrain heard from US Attorney General Eric Holder on several occasions. Ahead of the Senate testimony, Goldman Sachs stock price closed Thursday at $189.75, up slightly on the day.

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