A serious re-evaluation of how broker-dealers are supervised is overdue and should bring about higher capital requirements given the threat broker-dealers still pose to the U.S. financial system, a top Federal Reserve official said on Wednesday.
Eric Rosengren, the president of the Boston Fed and among the U.S. central bank's most influential voices on regulating wholesale markets, floated several rule changes that would limit the firms' reliance on short-term wholesale funding and reduce the risk of runs.
The Fed and other regulators have been pushing firms to bulk up their capital to avoid a repetition of the 2008 financial crisis, in which Lehman Brothers' failure highlighted how quickly broker-dealers can lose investors' confidence and access to cheap funds.
A "comprehensive re-evaluation of broker-dealer regulation is overdue," Rosengren said in remarks prepared for delivery to a conference at the New York Fed on wholesale funding risks.
His speech appeared to bolster the stance of Fed Chair Janet Yellen, and offer a handful of approaches as regulators attempt to fill in the gaps left by the landmark 2010 Dodd-Frank financial regulation law.
While the most direct way to reduce runs on brokers is higher capital standards, Rosengren said regulators could also limit the extent to which the firms could use short-term repurchase agreements to fund longer-term or higher-risk assets. Money market mutual funds could be prohibited from holding repos secured by such assets, many of which they are not allowed to hold, he said.
Rosengren also floated the Fed as a permanent liquidity backstop for broker-dealers - though he acknowledged that such an outcome seemed "unlikely."
Such moves "would have an impact on the profitability of broker-dealers," he said in his remarks. "But given recent history, that trade-off may be unavoidable and in the public interest from a financial stability perspective."
Rosengren did not comment on monetary policy or the economy.