Who Should Be The Regulatory Top Cop?

Felix Salmon has a particularly good post up this morning about bank regulation. He points to an article in the Guardian discussing the remarks of Adair Turner, the head of Britain’s financial watchdog agency, in which he essentially said that the financial services industry is too big and most of what it does is socially useless. He went on to suggest a tax on financial transactions might be in order.

You can read the entire Guardian article, and should because it’s excellent, but Felix’s take from it was that our problem is not regulatory capture but rather political capture.

Here is what Felix said:

I think that making the distinction, as Aditya does here, between “manifold failings” and “regulatory capture” is avery useful thing to do. A regulator who failed is not necessarily a captured regulator.

Aditya’s also right that the real problem here is that regulators are appointed by politicians, and it’s thepoliticians who are captured. The banks don’t need to capture their own regulators: all they need to do is capture the politicians who appoint them. If you’ve got Phil Gramm deciding who gets appointed, you’ve won your battle before it’s even fought.

He then goes on to argue that this state of affairs presents a good argument in favor of vesting most regulatory responsibility in the Fed. His logic is that the Fed is the most independent of all of the various regulators and thus the one most likely to be least influenced by the politicians.

Here is where I would part from Felix. While he may be right that the Fed is the hardest to corrupt via political meddling, that does not mean it is incorruptible. It enjoys its independence at the behest of Congress and whatever administration happens to occupy the White House and they stand ready and willing to alter the status quo when it suits their needs. In many respects, the independence of the Fed is really determined by the personality of the individual who happens to be its chairman. We have had notoriously independent men who have been willing to buck the politicians and we have had weak men who took direction too well. It’s the individuals rather than the institution that have at times presented an independent central bank.

As I’ve watched the infighting among the various regulators for a piece of the regulatory pie these past few months, I have warmed to the idea of a panel of overseers. I think that there’s a lot to be gained in having a group of people who have varying perspectives on financial institutions depending upon their specific mandates coming together and hashing out policy. By virtue of the fact that each have different mandates, they each bring a unique perspective on the industry that can help bypass the blinders that come from repetitive analyses.

More to the point, though, is that a panel of regulators is a much tougher target for the political class to attempt to manipulate. More regulators means more assistants and analysts touching the data and helping devise policy and that means more opportunity for informal policing via whistle-blowers. The likelihood that political meddling would go unreported is lessened, or the perception that it might be more likely to be reported is enhanced. Either way, attempts to influence policy would carry a greater risk of exposure in a scheme that utilizes a group of regulators. Quite simply, multiple targets are harder to hit than a single one.

Felix ended his post by saying that effective regulation requires stripping power from politicians. I don’t believe that is possible. We have to learn to live with the reality that they have and will retain power and try and utilize it to influence regulators. We need to make it hard for them to do that and increase the odds that they will be exposed when they try.

We might all take a vow to do one other thing. Whatever side of the aisle we might be on, when we see unnecessary interference from the political class we need to call them on it. Call them on it all the time, not just when we happen to philosophically oppose the social goals of the interference.

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