Fed`s Plosser favors market discipline over rules

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Efforts to overhaul the financial system in the wake of a global banking crisis should rely more on market discipline and less on tighter regulatory oversight, a top Federal Reserve official said on Wednesday.Charles Plosser, head of the Philadelphia Fed, argued in prepared remarks to a forum in New York that the use of bonds that convert into shares would be useful in strengthening the banking sector.But he added that proposals that require the discretion of regulators to trigger the conversion are misguided, and would likely fail."Waiting for regulators to declare a crisis before debt could convert would be a mistake, since regulators may be too concerned that the announcement itself will worsen the crisis," Plosser told conference participants.Plosser also emphasized the need to eliminate the problem of firms that are perceived as being too big to fail, which gives them unfair advantages such as a lower cost of borrowing.He said financial authorities should make it clear that they can and will allow big financial firms to go under, and could make the threat credible by creating a bankruptcy court with special procedures for financial institutions.LIVING WILLPlosser said the difficulties in unwinding firms that operate in different countries could be resolved by asking institutions to choose which jurisdiction they would like to be dismantled in if they run into trouble."We dont really require a full harmonization of bankruptcy regimes across nations," he said. "It is enough to seek agreement about the creation of a special regime for financial firms."Plosser argued against a widely-debated proposal that would force all large financial institutions to come up with detailed plans for how they might be dissolved, a so-called living will.He said it might be better to wait until a firm is deemed to have too little capital -- but remains solvent -- before forcing them to undertake such an exercise ."For example, we might use the conversion of a firm's convertible debt as the occasion for requiring firms to begin serious planning for their ultimate bankruptcy," Plosser said.
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