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Bernanke Backs Banning Dangerous Financial Products

First Posted: 12/01/09 05:12 AM ET Updated: 05/25/11 03:15 PM ET

Bernanke

Federal Reserve Chairman Ben Bernanke surprised members of both parties Thursday when he told a House panel that he believed transparency alone was not enough and that some financial products should be banned outright.

He acknowledged that the position represented a shift in philosophy for the Fed.

Bernanke's answer during the financial services committee hearing came in response to questioning from Rep. Tom Price (R-Ga.), who seemed alarmed by the Fed chairman's reversal and asked for an example of a product that ought to be banned.

Bernanke didn't miss a beat. "No-doc loans," he said, referring to loans given to borrowers with no documentation of their income or ability to repay.

Banning no-doc loans might sound like a common-sense approach but it slices to the core of free-market ideology, under which lending should be free from government interference.

"He surprised me. I didn't expect him to say that," said a pleased Rep. Maxine Waters (D-Calif.), a senior committee member. She noted that Treasury Secretary Tim Geithner has been unwilling to go as far as Bernanke and that most regulators say that such dangerous products should be cautioned against, but not outright banned.

Committee chairman Barney Frank (D-Mass.) said that it wasn't merely for the benefit of consumers that he wanted such products. Rather, high-risk financial products pose a threat to the entire system. He said that he has no problem with people being "stupid" and wouldn't outlaw behavior for that reason alone -- a reference to Frank's positions in favor of legalizing marijuana and online gambling.

The GOP also complained to Bernanke that a proposed consumer financial product agency would encourage banks to offer "plain vanilla" financial products -- such as easily-understood, fixed-rate, 30-year mortgages. Committee Republicans suggested that that was no role for the government.

Bernanke disagreed, explaining that sometimes financial instruments become so complex that whatever good they do is undermined by people's inability to understand them. That asymmetry of information and understanding leads to bad loans, busted homeowners and greater systemic risk.

"There are some circumstances where the benefits to the consumer are overwhelmed by the complexity," Bernanke said, in an unusually strong statement in support of consumers.

Bernanke also said that he supported limits on executive compensation and saw it as a "safety and soundness issue." There ought to be, he said, "important links between performance and pay."

From the back of the committee room, Rep. Michele Bachmann (R-Minn.) used most of her time to question the Fed chairman about, of course, ACORN. It wasn't quite clear what her question was, but, regardless, Bernanke had nothing for her.

"I just don't know," he said quickly, moving on.


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