Fed Chief Says Increased Hedge Fund Regulation Not The Answer

by Glen Shapiro, LawAndTax-News.com, New York

09 May 2005

Speaking on Thursday at the Federal Reserve Bank of Chicago's Forty-first Annual Conference on Bank Structure, Federal Reserve chairman, Alan Greenspan argued that although concerns regarding the possible impact that hedge funds could have on the financial markets are legitimate, attempts by the government to increase regulation of the funds are misguided.

Under rules approved by the SEC last year, hedge funds have until February 2006 to register with the regulatory body.

The Fed chief observed that:

"Hedge funds have become increasingly valuable in our financial markets. They actively pursue arbitrage opportunities across markets and in the process often reduce or eliminate mispricing of financial assets. Their willingness to take short positions can act as an antidote to the sometimes-excessive enthusiasm of long-only investors."

"Perhaps most important, they often provide valuable liquidity to financial markets, both in normal market conditions and especially during periods of stress. They can ordinarily perform these functions more effectively than other types of financial intermediaries because their investors often have a greater appetite for risk and because they are largely free from regulatory constraints on investment strategies."

He went on to add that "it would be very difficult to design a set of capital requirements for hedge funds that is appropriately sensitive to the diversity and flexibility of investment strategies that different funds employ and to the lack of diversification in the portfolios of individual funds. A regulatory capital regime that was not extraordinarily risk-sensitive would be ineffective at constraining hedge funds' risk-taking. At the same time, it would impair their capacity to pursue strategies that enhance the efficiency and liquidity of our financial markets and thereby to contribute to the productivity and resilience of our economy."

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