Federal Reserve Governor Kevin Warsh said on Wednesday that regulatory improvements alone won't prevent future financial crises and the government must be willing to let firms fail.

Regulation is too important to be left to regulators alone. We need a system in which insolvent firms fail, Warsh told the New York Association of Business Economics.

Warsh's comments come as Congress mulls an overhaul of financial regulation after the worst banking emergency in decades. The Fed itself has been severely criticized for what lawmakers and many observers see as the failure to check risky lending practices and to rein in a house price bubble that led to the collapse.

Lawmakers are considering stripping the Fed of authority to oversee banks and responsibility for protecting consumers, leaving monetary policy as its sole function.

But Warsh said the Fed should continue to play a critical function in the supervision of financial firms.

Warsh said the causes of the crisis cannot be laid only at the feet of regulators. He said the mortgage finance system, in particular the roles of government-sponsored mortgage finance agencies Fannie Mae and Freddie Mac , should be examined. The federal government took Fannie and Freddie into conservatorship at the height of the crisis.

(Reporting by Kristina Cooke, writing by Mark Felsenthal; Editing by Kenneth Barry)

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