Financial regulation reform, and why bailouts might not be evil

Treasury Secretary Geithner testified at the House Financial Services Committee again today, underscoring the need for financial regulation reform. Nothing new was proposed, but Secretary Geithner reiterated the Administration's proposals and urged quick action on reform.

Chief among the proposals are:
1. The formation of a consumer protection agency that would regulate all financial services; including credit cards and mortgage brokers     
2. Merging the Office of Thrift Supervision and the Comptroller of the Currency into one national bank supervisor;
3. Increasing the Federal Reserve's powers to regulate bank holding companies like Goldman Sachs
4. Creating a board with representatives from all the regulators to look for systemic risks and coordinate financial oversight policies
5. Increasing capital requirments and other regulations on large, "too big to fail" financial institutions, and using ex posts taxes on large financial firms to recoup the costs of any future bailouts

The strategy for finacial regulation reform is to try to pass individual pieces of legislation addressing each issue.  Some of these items will be easier to achieve than others.  House Financial Services Republicans agree on the need for increased consumer protections and an over-arching body to look at systemic risks and coordinate regulatory policy among agencies.  They differ on the future role of the Federal Reserve and on dealing with insolvent firms.  Republicans propose stripping the Federal Reserve of all of its regulatory powers, and giving them to the national bank supervisor.  The also propose a policy of no bailouts, even for systemically important firms.  Both of these proposals seem rather radical (and very unlikely to be implemented with a Democratic House, Senate and Administration), and it is likely they are designed to pander to anti-Fed and anti-bailout sentiment in voters.

Most of the Democratic proposals seem like reasonable responses to some of the problems that contributed to the financial crisis.  However, I wonder about the plausibility of the plan to recoup bailout costs ex post.  In a wide-spread financial crisis, where many or most large financial firms take large losses, an ex post tax could be a significant burden on the remaining (and as evidenced by their continued existence, the most prudent) financial firms as they attempt to recover. A thought that occurs to me-- which I am sure will be unpopular-- : in a situation where the risk was as widespread and systemic as it was in this crisis, not all of the blame rides on large financial firms.  Many individuals benefitted from cheaper credit prior to the crisis; credit that was, in retrospect, too cheap.  No regulations can foresee all future crises, and it is in part the responsibility of the government to adapt to evolving financial markets and address new systemic risks that arise.  Perhaps when the government fails at this, it should bear part of the cost of fixing it.