Finance and financial intermediation are not ends in themselves, but means for pursuing savings, investment, and consumption goals. Our debate about what we don't want intermediaries and financial markets doing must be informed by a better articulated view of what we do want them doing.

Moreover, as time passes, memories fade, and the financial system normalizes, it seems likely that new forms of shadow banking will emerge. Indeed, the increased regulation of the major securities firms may well encourage the migration of some parts of the shadow banking system further into the darkness--that is, into largely unregulated markets.

[A]s we and other agencies craft regulations to implement the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act) and adjust supervisory practices to meet these priorities, I think we must avoid a one-size-fits-all approach to supervision.

No one can argue with the need for stronger regulation to prevent the lending abuses that led to the current foreclosure crisis. However, I think it would also be unfortunate if the laws and regulations put in place to require other lenders to adopt the same responsible practices long used by community banks are so complicated and expensive that they have the unintended effect of forcing some community banks to leave the market.

[L]ending by community banks plays an important role in the ongoing economic recovery, especially by providing credit to small businesses. And it is absolutely critical that examination and supervision do not produce outcomes that are barriers to small business expansion.

Speaking before the Maryland Bankers Association, Fed Governor Raskin said "being a Governor in the post-financial-crisis era has made me much more sensitive to the importance of making sure we conduct examination and supervision in a way that helps ensure we think through potential consequences, such as unnecessarily hindering lending to creditworthy borrowers. Access to credit, after all, is a critical factor supporting recovery in our economy."

While the ability of businesses to access credit is a function of many factors, it is my view that the examination and supervision of the lender should not hinder the ability of creditworthy businesses to access credit. To be clear, I do not think this is occurring in any significant way, but it is an issue that we at the Federal Reserve focus on continually.

The Federal Reserve continues to encourage bank examiners to adopt a balanced approach to reviewing banks' lending to small businesses. We would like to foster an environment in which lenders do all they can to meet the needs of creditworthy borrowers while maintaining appropriately prudent underwriting standards.

[Despite provisions in the Dodd-Frank bill,] the FDIC retains considerable discretion in the use of funds to limit losses to some creditors, and the Treasury can invoke orderly resolution for firms that have not been subject to enhanced regulation. The Fed also retains some discretionary power to lend to non-bank entities. This creates continued uncertainty about possible rescues, as well as gaps in our ability to provide clear, credible constraints on the safety net.

It is ironic that in the name of preserving free market capitalism in this country, we have undermined it so deeply.

In the past, systemic risk had been thought of as involving a single large institution. In the recent cases, we invoked the systemic risk exception with respect to the system as a whole, thereby allowing assistance to flow to institutions of all sizes.

For its part, the Federal Reserve has also taken steps to assist smaller institutions. For example, all banks can borrow funds under the Federal Reserve Term Auction Facility, which operates much the same as the discount window, but offers longer terms. And Regulation D was recently modified to allow community banks to earn interest on excess reserves held in bankers' banks on a pass-through basis.

As the effects of the financial crisis and the resulting economic downturn have spread, there has been increased focus on preserving the gains made in low- and moderate-income communities over recent decades. Accomplishing that objective requires preserving the institutions that helped build these communities. Without strong CDFIs, attracting investments and capital to rebuild and revitalize communities would be even more difficult. Economic recovery, like economic development, is a bottom-up as well as a top-down process. Through their work at the community level, CDFIs, together with other community development organizations, can help build a sustainable recovery for all of us.

Right now, the financial system remains impaired, and there is considerable rhetoric about a so-called credit crunch. To be sure, some borrowers are encountering substantial difficulty in obtaining funding, but conversations with numerous bankers and their customers reveal a diverse set of circumstances, ranging from “business as usual” on the one hand to appreciable credit restriction on the other. One size clearly does not fit all, and it is important to recognize that the demand for credit from some sectors appears to have diminished, and its composition has shifted as well.

I expect the financial system to continue to involve a mix of capital markets and institutions, but with a wider array of institutions falling under regulatory supervision. Furthermore, I take it as given that there will continue to be large international institutions with operations in many countries, that is to say, regulatory jurisdictions around the globe.

Looking ahead, I see an ongoing role for securitization and the originate-to-distribute model. Securitization markets have shrunk dramatically over the last year and a half and in some cases have shut down altogether. I expect these markets to return, perhaps in simpler form and with more accountability.

For a free market system to be succesful, firms must be allowed to fail based upon a predefined set of rules and principles that market participants can rely on when determining their strategies and making decisions.  This is particularly important for financial institutions.  The key principles should apply if we are talking about a small bank in Tulsa or a large financial conglomerate in New York CIty.