Hearing of the Capital Markets, Insurance, and Government Sponsored Enterprises Subcommittee of the House Committee on Financial Services - State of the Bond Industry

Interview

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REP. PRYCE: Thank you very much, Mr. Chairman, for holding this hearing today, for your leadership on this issue. It is clear we are facing a crisis of confidence, in the bond insurance marketplace.

Dating back to the 1970s bond insurers have served a very clear cut function, guaranteeing the timely payment of principal and interest on municipal bonds.

They have put investors further at ease about the risk of default in a marketplace that has a rate of default of less than 1 percent.

In the 1990s, insurers became to -- began to diversify into guaranteeing securities backed by pools of auto, mortgage, credit cards, student loans, and they didn't stop there.

In recent years, they branched out even further into risky debt products backed by some subprime mortgages. The stability of the industry rested on the assumption that the insurers and the rating agencies who rated them accurately priced the risk of default of these assets.

It is clear now that that they got it wrong. In recent months the prediction of record home loan foreclosures moved credit rating agencies to call into question the capital reserve levels of bond insurers.

To date, all but one of the major bond insurers has either been downgraded or placed on a negative watch. At least we could turn back the clock, increase capital reserves, and restore the reputation of the industry.

However, we are left with a future of a once-stable industry in limbo. Investors are not the only ones with something to lose. There are far-reaching consequences in our capital markets. Real concern exists that institutional investors required to invest only in AAA securities will be forced to sell.

And I am particularly worried, as is the chairman, about the effects on small towns, cities, and counties. In places like my district in Central Ohio, which use municipal bonds to help raise funds for important projects and improvements.

Downgrades on existing bonds and pressure on prices moving forward add to the cost of living in small-town America. This hearing is an important step in determining the future of the bond insurance industry.

I share the chairman's sentiment that this crisis gives us pause. In his list -- his lengthy list of possible solutions is admirable. We pause to evaluate the regulatory structure of the industry and need for better oversight.

I look forward to the testimony of all our witnesses today. Thank you very much for your participation and I yield back.

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REP. PRYCE: Thank you Mr. Chairman, and thank you Governor for your testimony.

There certainly is enough blame to go around and there is no sense in -- aside from the instructive nature of it pointing many fingers. The state of New York certainly has a lot on its plate now. And I was very interested to hear you say that in years past you had been up to the Hill talking about a federal regulatory role.

And I know that this current Congress and this committee has investigated that and has shown much interest in it. I just want to -- where you fall on that spectrum of advice you might give this committee as to how well that might work.

MR. SPITZER: Well, I am testifying with the superintendent of insurance of state of New York sitting behind me, so I am trying to be loyal to him, I don't think he wants me to support delimiting his jurisdiction in any way.

I will confess that -- you may remember I had -- and it went through an interesting dance with the other federal financial service regulators, whether the OCC, the SEC or the Fed at different times when I was attorney general arguing that state jurisdiction was critically important to not only fill in, but step into the front of the regulatory world when there was a void created by a failure of those federal regulatory entities that had jurisdiction but failed to exercise them.

And so I don't want us to fall into the mistaken view that merely creating a federal regulatory entity will solve the problem. There are many federal regulatory entities that could have acted but did not act.

That has been true in many crisis in the past whether it was the issue of the analysts -- which, you know, which was a crisis that cost investors untold billions of dollars and had its own consequences a number of years ago, or the context of insurance where there were other ways to address this.

Bottom line, I feel there might not be any harm that would result from having a more structured organized national regulator for the insurance sector. But I do not want there to be a regulator that would totally supplant the role of the states.

There is a dualism in the banking system and in many other areas of our financial services that benefits consumers and investors because where one regulator fails sometimes somebody else steps in and picks up the pieces.

And so the notion of a federal regulatory presence is something that we should consider. I asked and suggested several years ago the SEC expand its portfolio to include insurance especially given the convergence of so many financial instruments.

It is no longer quite as clear that there are discreet silos, as people call them of financial instruments, we might as well expand and have one entity that can examine all these products.

REP. PRYCE: And I don't disagree, I think part of the problem is that there are so many entities nobody knows who the ultimate authority and jurisdiction rests with, and you know, your garbage in garbage out analogy the, you know, if someone is responsible for assessing the risk of the garbage.

And that did not happen correctly in these facts as we have had the luxury of looking at them in hindsight. And so the dual nature of a regulatory system, I think, is something that this committee grasps well and has worked and could work.

So I just wanted to know if you were willing to go on record and I am --

MR. SPITZER: I certainly think it is something we need to look at. The devil is not only in the details but conceptually we need to think how this would work.

Frankly, many of the insurance companies that we -- let alone the bond reinsurance companies which, really as the chairman pointed out, a tiny little subsector of the industry.

The insurance industry itself, despite some of the voices to the contrary, does not support, in my experience, the creation of a federal entity.

There is a comfort level right now for reasons we could discuss, with the balkanized state-led regulatory structure, and I think that maybe part of the problem.

So it will be heavy lift, I will tell you, politically to move this forward. It might be better nonetheless for the markets to move in that direction.

But just to pick up on -- I guess it was my comment of garbage in garbage out that you picked up on -- I am usually for recycling. The problem is we are recycling this garbage in and out of the financial services sector and it is not helping anybody.

REP. PRYCE: All right, thank you very much Governor.

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