WASHINGTON — The Federal Reserve, still dusting itself off from a fight that threatened to trim its powers, could emerge from a congressional overhaul of banking rules as the top cop over the nation’s largest financial institutions.
Senate negotiators are considering giving the Fed the authority to supervise nonbank financial institutions that are so large and intertwined that their failure could pose a risk to the economy, according to people familiar with the evolving legislation.
The Fed also would retain its power to oversee nearly two dozen bank-holding companies that hold about two-thirds of the banking system’s assets, according to the sources, who spoke on condition of anonymity because of the sensitivity of the discussions.
That would make the Fed, already one of the most influential agencies in the federal government, the main entity responsible for avoiding a future financial meltdown like the one that struck Wall Street in the fall of 2008.
For the once-embattled central bank, the Senate negotiations represent a remarkable change of fortune.
In November, Senate Banking Committee chairman Christopher Dodd wanted the Fed stripped of its supervisory powers so it could focus on its job setting monetary policy and modulating the economy. And in January, Fed Chairman Ben Bernanke survived a grueling Senate confirmation for a second term that had forced the White House to intervene.
Since then, Bernanke and Treasury Secretary Timothy Geithner have been making a case publicly and privately to Dodd and his main Republican negotiating partner, Sen. Bob Corker of Tennessee, to let the Fed retain certain supervisory powers.
“Bernanke has done better,” Dodd said Wednesday. “There’s an appreciation that the Fed — Bernanke particularly — handled the situation over the last year in a very difficult environment, handled it well.”
With its power to turn the dial on interest rates, the Federal Reserve has unmatched muscle to control economic growth, employment and inflation. It also is the country’s lender of last resort when banks can’t get their money elsewhere — a formidable tool that the Fed exercised fully at the height of the financial crisis.
The people familiar with the evolving legislation say the Fed would continue to supervise bank-holding companies with assets of $100 billion or more, while losing its power over thousands of smaller bank-holding companies and hundreds of state-chartered banks.
More significant, however, it would gain oversight of the nonbank firms that regulators identify as having the most potential to threaten the financial system’s stability in the future.
Extending the Fed’s power so that it supervises the biggest of the nonbank financial firms would give it power over the types of companies at the center of the 2008 Wall Street crisis, such as insurance conglomerate American International Group and the failed investment houses of Lehman Brothers and Bear Stearns.
“The key thing is that whoever the regulator is faces no barriers when it snoops around a systemically important institution, that it never encounters an out-of-bounds sign,” said Alan Blinder, a former Fed vice chairman and now a professor at Princeton University.
Blinder has argued for the Fed to exercise supervision over the largest and most interconnected financial firms.
