More Regulation?

The G-20 meetings that were held in London this past week resulted in President Obama agreeing to follow France's President, Nicolas Sarcozy, plan to regulate more tightly the once free markets.  Obama also pledged to repudiate U.S. policies towards freeing markets from excessive government interference.  The President's promises at the G-20 essentially reversed 25 years of free market policy spanning Presidents from both parties that ushered in  the largest growth in American wealth in history. 

The problem we are in today has little to do with lack of regulation and has everything to do with a) failing to enforce the regulations we have on the books; and b) sheltering risk takers from the consequences of their actions.  Many of the problems we have could have been prevented simply by enforcing the laws on our books.  If we don't enforce our laws, including punishing people for acts of fraud, we encourage people and entities to push the boundaries of what is acceptable.  Indeed, all laws, customs, mores, and social conventions are fluid concepts that derive from expansion of boundaries of what was once acceptable.  Laws and regulations are in place to put absolute limits on the extent to which these social conventions may be pushed.  Regulations as to capital ratios, executive compensation, and other minutiae on the day to day runnings of business have no place in our society.  The world is complex; businesses are complex.  One government solution does not fit all, nor should it.  No one wants a policy wonk sitting in a government building in Washington DC telling businesses in New York, San Francisco, Boston or elsewhere what ratios, salaries, employees they should have.  What is important is transparency and uniform standards of disclosure, not how the task is accomplished.  Essentially, we want transactions to be free from fraud and the best way to accomplish that is through transparency and mandatory disclosure.  In this day and age with modern communications and powerful computers, there is no reason that we can't have monthly reporting (or even weekly) rather than relying on quarterly disclosures.

The flip side of transparency, however, is another key area that we seemed to have forgotten.  That is, allowing the consequences of risk to fall upon the party assuming the risk.  Risk is a 4-letter word after all.  Not only is there an upside reward if the risk pays off, but there has to be a downside consequence when the risk doesn't pay off.  Spreading the risk among innocent parties (taxpayers in the case of the recent government bailouts) encourages riskier conduct than would normally be taken.  If risk is taken knowing that 100% of the upside is yours, but there is little  penalty on the downside, undisciplined risk will be assumed.  Bankruptcy has to be a viable option for every entity.  There can be no such thing as too big to fail.  The only role of government should be the orderly winding down of large institutions that have failed.    If we choose to insure bank deposits, the risk premiums paid by banks to the FDIC need to be set based on the risk undertaken by the bank, not a uniform premium across all banks.  Conservative banks that make solid loans in accordance with well established underwriting guidelines should be rewarded with lower premium and the ability to pass savings onto their constituencies.  Conversely, banks that take excessive risk need to pay a higher price because it will be more likely that taxpayer dollars will be needed to pay off depositors.  

Bankruptcy needs to be a viable option.  In many instances, it helps restructure loans.  It clears dead weight off the necks of individuals and businesses and allows them to once again become productive.  A few years ago we  changed our bankruptcy laws to make it more difficult for individuals to discharge credit card and other consumer debts in bankruptcy.   We need to revisit the wisdom of making it more difficult to restructure individual debt while at the same time allowing corporations to avoid bankruptcy.  While I have little sympathy for the individual that incurred debt beyond their means, the risk of that loss must be shared with the counter party lender that took the risk to allow the person to incur debt that couldn't be repaid. Without risk, the same practices that brought our economy to the brink of collapse will repeat and collapse will be inevitable.  

Choking the businesses with excessive regulation will not bring us out of this great depression 2.0, but enforcing laws to bring transparency to transactions and allow the consequences of risk to fall upon the risk taker will be a start to righting the ship.