Statements to the Congress - statement by David W. Mullins Jr - Transcript

Federal Reserve Bulletin, Nov, 1991

Statement by David W. Mullins, Jr., Vice Chairman, Board of Governors of the Federal Reserve System, before the Subcommittee on Oversight of the Committee on Ways and Means, U.S. House of Representatives, September 26, 1991

I am pleased to be here today to testify in connection with the regulation of the government securities market. Mr. Stemlight's statement has detailed both the role of the Federal Reserve Bank of New York in this market, including its relationship with the primary dealers, and the circumstances surrounding the disclosures by Salomon Brothers., The Board of Governors of the Federal Reserve System was actively involved in the consultations among regulators during this episode. In my prepared remarks, I shall first delineate the role of the Board of Governors in this market and then turn to the potential implications of this episode for regulatory and legislative initiatives.

The Board of Governors considers the U.S. government securities market to be the most important securities market in the world. It is important for at least three reasons. First, market conditions there determine the cost to the taxpayer of financing U.S. government operations. Second, this market serves as the foundation for other money and capital markets here and abroad and as a prime source of liquidity for financial institutions. Finally, and for us perhaps most important, the U.S. government securities market is the market through which the Federal Reserve implements monetary policy, and thus this market must be an efficient and reliable transmitter of our monetary policy actions.

Nonetheless, the Board of Governors has little direct regulatory authority over the U.S. government securities market. In this market, the Reserve Banks operate as fiscal agents of the U.S. Treasury, and the Federal Reserve Bank of New York also serves as the operating arm of the Federal Open Market Committee (FOMC). The Board, however, retains general oversight responsibility for all Federal Reserve Bank activities. Moreover, the Board of Governors bears the responsibility for determining overall policy for the Federal Reserve System with respect to this market and other matters. For example, by statute the Board consults with the Treasury and the Securities and Exchange Commission (SEC) on issues related to administration of the Government Securities Act. Because of these responsibilities and the importance of this market, the Board is committed to participating actively in the process of ensuring and enhancing the efficiency and integrity of this market.

The market under consideration here is at the center of the nation's financial system. Its depth and breadth are unparalleled. And it is because of the importance of the market for U.S. government securities that the events of recent months are of such concern. The price distortions in certain securities, the admissions of wrongdoing by Salomon Brothers, and the allegations of further misconduct have raised troubling questions about the government securities market. Although the government securities market has been extraordinarily resilient and has continued to function well over this period, this episode underscores the importance of ensuring the integrity of this market.

Of course, we must not overlook the fact that existing enforcement mechanisms appear to have been instrumental in this unfolding episode. These mechanisms included surveillance activities, inquiries, and other enforcement activities by the Federal Reserve Bank of New York, the Treasury, the SEC, and the Justice Department. Although senior officials of Salomon Brothers were aware of rule violations months before, the firm finally admitted wrongdoing only under the pressure of these advancing enforcement processes. And of course, these enforcement processes continue to move forward as we meet here today. It is already apparent to all observers that the consequences of willful violations in this area are quite severe indeed.

Although this episode has been a troubling one, it is not apparent that sweeping changes in regulation are warranted. It is clear that tightening up on enforcement would be efficacious in detecting and deterring future offenses. For example, the Federal Reserve has begun contacting customers bidding through dealers to confirm the accuracy of those bids. In addition, the Federal Reserve regularly receives information on dealer positions in when-issued securities. These reports were not actively monitored from an enforcement perspective because they were not designed for that purpose. Nonetheless, closer attention to them may be helpful in raising questions about situations with possible enforcement implications, and we will explore the redesign of this report to enhance its potential usefulness in the enforcement process. The Federal Reserve is committed to ensuring active monitoring of all incoming data and prompt referral of anomalous findings to appropriate regulatory authorities. We are working with other government agencies to ensure that an effective system of surveillance is in place.