Attacks on the authority of the Financial Stability Oversight Council (“FSOC”) to designate non-bank financial firms as systemically important, and thus subject to the Fed’s oversight, are misguided.  Such authority is essential to the long-term maintenance of financial stability, because financial intermediation will increasingly move outside the current regulatory perimeter. The most effective way for FSOC to use designation authority, however, is prospectively: to negotiate size and regulatory constraints with firms to avoid designation, because the optimal number of additional systemic firms is zero.
Historically, financial crises have been of two general types: foreign exchange and domestic banking. A … Read more