Bernanke and Paulson should let some banks fail, instead of propping them up and regulating them, as they are already heavily regulated.

Paulson, Bernanke to Propose Tougher Scrutiny of U.S. Banks
By Jesse Westbrook

March 12 (Bloomberg) -- Treasury Secretary Henry Paulson, Federal Reserve Chairman Ben Bernanke and other U.S. regulators will propose tougher scrutiny of banks' capital in a report on lessons from the mortgage crisis, a government official said.

The results of the review by the President's Working Group on Financial Markets may be released as soon as tomorrow, two officials said on condition of anonymity. Paulson is scheduled to speak on financial markets at 10 a.m. in Washington.

Policy makers have said they aim to address deficiencies in how lenders make loans to homebuyers, then package the mortgages into bonds rated by credit ratings firms and sold by securities companies. Consumer advocates and legislators argue that the system failed to ensure that borrowers could repay the loans, and helped deepen a slump that has led to record foreclosures.

``There definitely needs to be broader oversight of the mortgage lending process,'' Paulson said in an interview with Bloomberg Television in Arlington, Virginia, on March 3. Last month, he said ``we need a strong policy response.''

One official, who read drafts of the report, said it will include proposals to strengthen supervision of banks' capital, amid concern they failed to protect against the risks they took investing in subprime securities.

Banks and securities firms posted more than $188 billion of credit losses since the start of last year as the mortgage meltdown rippled through financial markets. As lenders made it tougher to get loans and home values slid, delinquencies climbed.

Casting Blame

Blame for the debacle will be spread among bank supervisors, ratings companies and large banks and securities companies, the official said. Consumer advocates and congressional Democrats have blamed regulators for failing to halt abusive lending practices during the 2004 to 2006 mortgage boom that has now turned to bust.

The President's Working Group is chaired by Paulson and includes Bernanke, Securities and Exchange Commission Chairman Christopher Cox and Walter Lukken, acting chairman of the Commodity Futures Trading Commission.

Fed spokesman David Skidmore declined to comment, as did Treasury spokeswoman Brookly McLaughlin, SEC spokesman John Nester and Dennis Holden at the CFTC.

Marketing Securities

As the housing boom approached its peak, Wall Street firms marketed a new type of security backed by high-interest subprime mortgages issued to borrowers with poor or scant credit history. Standard & Poor's, Moody's Investors Service and Fitch Ratings often gave the assets top AAA ratings.

Investment banks including Bear Stearns Cos., Deutsche Bank AG and Lehman Brothers Holdings Inc. sold $1.2 trillion of the securities in 2005 and 2006, according to estimates by Brian Bethune, director of financial economics for Global Insight Inc. in Waltham, Massachusetts.

The working group will echo a report by U.S. and European regulators released last week, the official said. That release said supervisors are ``critically evaluating'' weaknesses in banks' risk management practices.

``Each supervisor is ensuring that firms are making appropriate changes,'' William Rutledge, head of bank supervision at the Federal Reserve Bank of New York, said in a statement March 6.

To contact the reporter on this story: Jesse Westbrook in Washington at jwestbrook1@bloomberg.net.