The Wall Street Journal is amused that, being unable to ignore the report from whistle-blower Carmen Segarra and the reports based on her tapes from the radio program This American Life, journalists have just discovered regulatory capture:
The financial scandal du jour involves leaked audio recordings that purport to show that regulators at the Federal Reserve Bank of New York were soft on Goldman Sachs . Say it ain’t so.
The news is being treated as shocking by journalists who claim to be hard-headed students of financial markets. One especially impressionable columnist calls it “a jaw-dropping story about Wall Street regulation.†The real scandal here is the excessive faith that liberal journalists and politicians continue to put in financial regulation. The media pack is discovering regulatory capture—a mere 43 years after George Stigler published his landmark paper on the concept.
The editors of the WSJ, sadly, don’t propose a solution to the problem. Eliminating regulation, presumably their preference, will not happen. Banks need bank regulations as much as non-bankers do.
I’ve proposed my solutions before. We need to increase fines on miscreant banks to a level where breaking the law isn’t considered an acceptable risk any more. We need to pay large bounties to whistle-blowers. And, most of all, we need to cultivate an adversarial relationship between bankers and regulators. There needs to be a career path for a young lawyer, economist, or accountant in which fame and fortune can be achieved that doesn’t run through the banks and that, indeed, makes you poisonous to banks. I think regulators should be allowed to keep a percentage of fines. It would at least align incentives.
In addition to showing that more regulations will not do what liberals think they will, it also shows that they do not have the effects that conservatives claim. The financial industry owns the politicians and the regulators. The financial industry is not forced to do anything, and few in the industry make such claims. It is the politicians, the political operatives, and the idiots who make these claims.
Bad regulations cannot be fixed by good regulators or more regulations. One incentive is for the good banks to be responsible for the bad banks. When they have to pay for the losses, they have a reason to want good regulations and good regulators. “Too big to fail” has a totally different meaning in this context.
I would just comment that regulators, keeping a percentage of fines, is inconsistent with giving regulators discretionary authority over what the regulations require. The practice will either be condemned by the courts or the regulator will have to stand up to some embarrassing cross-examination on personal finance. If the rules were simpler, transparent and didn’t require the expert legal counsel to interpret, enforcement wouldn’t be so difficult.
I agree. I don’t believe in broad discretion—not only is it fundamentally undemocratic and a violation of the rule of law it’s a prime motivator for regulatory capture.
Solutions depend on what we want to achieve. I take Minsky’s work (which tells us financial crisis is inevitable) seriously and consider regulations to prevent crises a waste of time; regulations to delay>/i> the next crisis are, however, a very good idea. Most of our attention should be devoted to institutional changes for mitigating the effects on our real economy. Stronger stabilizers and employment policies would go a long way.