The chairman of the US Securities and Exchange Commission (SEC), a longtime proponent of deregulation, yesterday acknowledged that failures in a voluntary supervision programme for Wall Street's largest investment banks had contributed to the global financial crisis. He shut the programme down abruptly, saying the oversight programme was ''fundamentally flawed from the beginning.''

Companies have often sought greater autonomy and lesser government interference in their operations. This has increasingly led to calls for greater deregulation of the financial sector, a sentiment often shared by the regulators themselves. However, with the ongoing financial crisis gobbling up decades-old financial institutions and resulting in billions of dollars in losses, the rationale of such a ''hands-off'' approach is being questioned.

''The last six months have made it abundantly clear that voluntary regulation does not work,'' SEC chief Christopher Cox said in a statement. The programme ''was fundamentally flawed from the beginning, because investment banks could opt in or out of supervision voluntarily. The fact that investment bank holding companies could withdraw from this voluntary supervision at their discretion diminished the perceived mandate'' of the program, and ''weakened its effectiveness,'' he added.

Additionally, according to a report by the SEC's internal watchdog, issued yesterday, the agency had failed to adequately supervise investment bank Bear Stearns and limit the amount of risk it took on. Bear Stearns, starved of cash as customers and other banks doubted its solvency, was sold to JPMorgan Chase & Co in an emergency sale brokered in March by US officials. (See:  JPMorgan Chase acquires Bear Stearns for $2 per share)

The SEC's inspector general found the agency became aware of numerous potential red flags prior to Bear Stearns' sale. These included its concentration of mortgage securities, high leverage, shortcomings of risk management and lack of compliance with international capital standards. But the agency "did not take actions to limit those risk factors," said the audit requested by Republican Sen. Charles Grassley of Iowa.

Bear was part of the SEC's Consolidated Supervisory Entity (CSE) programme, in which five large investment banks volunteered to be monitored for capital and liquidity levels. Merrill Lynch & Co, Lehman Brothers Holding Inc, Goldman Sachs Group Inc and Morgan Stanley also participated. All five have now collapsed or reorganized, and the SEC said on Friday it was ending the CSE programme. (See: Goldman Sachs, Morgan Stanley surrender investment bank status  and Lehman Brothers heads for Chapter 11 as Barclays walks away)

The programme Cox abolished was unanimously approved in 2004 by the commission under his predecessor, William Donaldson. The CSE allowed the SEC to monitor the parent companies of major Wall Street firms, even though technically the agency had authority over only the firms' brokerage firm components.
The commission created the program after heavy lobbying for the plan from all five big investment banks. At the time, Henry Paulson was the head of Goldman Sachs. He left two years later to become the Treasury secretary and has been the architect of the administration's bailout plan. (See: Paulson for immediate approval of $700-billion package)

The investment banks favored the SEC as their umbrella regulator because that let them avoid regulation of their fast-growing European operations by the European Union.

Facing the worst financial crisis since the Great Depression, Cox has begun in recent weeks to call for greater government involvement in the markets. He has imposed restraints on short-sellers, market speculators who borrow stock and then sell it in the hope that it will decline. On Tuesday, he asked Congress for the first time to regulate the market for credit-default swaps, financial instruments that insure the holder against losses from declines in bonds and other types of securities.

The commission will continue to be the primary regulator of the companies' broker-dealer units, and it will work with the Federal Reserve (Fed) to supervise holding companies even though the Fed is expected to take the lead role.

The Fed had already begun regulating Wall Street firms that borrowed money under a new Fed lending programme, and the SEC had entered into an agreement under which its examiners worked jointly with Fed examiners, an arrangement that is expected to continue. (See: Bush administration announces $500-billion bailout package)

The SEC will continue to have primary responsibility for regulating securities brokers and dealers.