With the Federal Reserve bound by Dodd-Frank, it will be unable to engage in rescue tactics needed to restore financial stability in the case that the European debt crisis spreads to the United States.
According to Dodd-Frank, the Fed is no longer allowed to aide individual financial firms during a financial crisis, BusinessWeek.com reports. In addition, the Treasury Department is prohibited from using emergency reserve programs to backstop money market funds. Additionally, the Federal Deposit Insurance Corp. now has to wait for Congressional approval before it can guarantee senior debt issued by banks.
Former vice chairman of the Fed Donald Kohn said that Dodd-Frank might have gone too far in limiting the flexibility of the Fed and other regulators to act in a financial meltdown, according to BusinessWeek.com.
According to Kohn, although the law may make a crisis less likely to occur, they may be harder to contain once they do.
As Europe’s sovereign debt troubles threaten to undermine U.S. banking and financial systems, the U.S. would not be able to “escape the consequences of a blowup in Europe,” Fed Chairman Ben Bernanke said, BusinessWeek.com reports. “The world’s financial markets are highly interconnected.”
The financial crisis brewing in Europe is already causing U.S. stock prices to fall.
The Standard & Poor’s 500 Index dropped to 1185.81 at 11 a.m. on Wednesday, which is down 5.4 percent for the month.