Can Financial Regulation Be Fixed?

Can Financial Regulation Be Fixed?

by James Kwak

By James Kwak
The tragicomic events of the past few months—the London Whale (what are we up to now, $6 billion), Barclays-Libor, HSBC laundering money have prompted renewed interest in better, stronger regulation of the financial sector. Not that it’s going to go anywhere: it’s an election year, the Republicans have a blocking majority in the House and a blocking minority in the Senate, and they are only going to gain Senate seats in November.
But we’ve been here before. Remember the financial crisis? The Obama administration’s response, codified in the Dodd-Frank Act, could be summed up as “better, stronger regulation”—instead of substantive changes to the industry itself. This misses the basic problem with our regulatory structure, as described by John Kay:

“Regulation that is at once extensive and intrusive, yet ineffective and largely captured by financial sector interests.
“Such capture is sometimes crudely corrupt, as in the US where politics is in thrall to Wall Street money. The European position is better described as intellectual capture. Regulators come to see the industry through the eyes of market participants rather than the end users they exist to serve, because market participants are the only source of the detailed information and expertise this type of regulation requires. This complexity has created a financial regulation industry – an army of compliance officers, regulators, consultants and advisers – with a vested interest in the regulation industry’s expansion.”

The only thing I would disagree with is the characterization of U.S. regulators as “crudely corrupt.” Yes, many Congressmen are “in thrall to Wall Street money,” but when it comes to the staff at the regulatory agencies I think the picture is more complex and closer to the “intellectual capture” that Kay describes in Europe. (This is something we discussed briefly in 13 Bankers and that I cover in more depth in my contribution to Preventing Capture.)