In my other posts, I pointed to one solution : Rather than incentivizing the wrong people to do the right thing, how about making integrity the centerpiece of top level appointments?

Another solution is : complex regulations are the delight of corporate lawyers and make it more difficult to discern whether an agency is enforcing it or not.

In the Glass-Steagall paradigm, the web of interconnections linking household bank deposits to Lehman brothers simply would not have existed.

I think this is actually the assumption that has guided deregulation over the past three decades. Regulators have been stripped of their capacities precisely because we believe they are incapable of acting selflessly (http://www.tobinproject.org/welcome/conference_theory/papers/TheTobinProject_Leight.pdf). Although Bond Girl is correct that issues of capture are rampant, a prior question is why have the macro consequences of capture become more rampant in the last few decades (S&L, LTCM, current crisis)? Her story doesn’t account for the fact that for fifty years we were relatively crisis free — our regulators have not become more self-interested and the financial services industry has always been much better organized and resourced than the concerned public, so what has changed? I think it is that regulatory institutions have been enfeebled.

Bond Girl not only fails to account for any temporal variation in the degree or consequences of capture, but also fails to look across industries. I think that Moss/Oey (http://www.tobinproject.org/twobooks/pdf/New_Theory_Ch8_Moss_and_Oey.pdf) and Croley (http://press.princeton.edu/titles/8579.html) provides several examples of regulators that have served the social interest despite being faced with organized, countervailing industrial interests. She is too quick to generalize from a particular historical moment that may not actually be exemplary of regulation.

BG “Adding another layer of guards to guard the existing guards ultimately results in an infinite regress. I do not think it is cynical to suggest that, absent an actual paradigm shift with respect to accountability in the financial industry, we are just going to have more of the rent-seeking that has gone on to date and the economic calamities that ensue. For my part, I would propose opening up financial regulation to a small group of social entrepreneurs. Let people establish for-profit companies that can compete for government contracts to stress test the holdings of financial institutions independently and audit their records.”

Bond Girl’s generalization leads her to an ontological understanding of regulators as selfish and corruptible. This then forecloses the possibility of oversight in the public interest. What’s needed then is oversight in the private interest — we will simply create a regulatory industry that competes on the basis of diligence for government contracts.

Private credit rating agencies have not served the public interest, why should we expect that this new body of regulators would do any better? Also, how does this even solve the problem of capture? Now all an industry has to do is co-opt the few people who are awarding the contracts to the new private monitors — this can happen cognitively (i.e., deep capture — award the contracts to monitors that understand that what’s good for business is what’s good for America) or through more traditional forms of capture. Bond Girl is rightly upset about the revolving doors between the financial sector and financial regulators, but who does she think will staff these new private bodies?

BG: “The administration’s proposal appears to portray the financial crisis as nothing more than an accident of reasoning. Because financial regulation in our country evolved in a fragmented manner, regulators’ perceptions of risk were determined by their respective niches when a holistic understanding of risk was required to predict a market failure of this magnitude.”

Systemic risk is a clear example of an externality that needs to be regulated, so that the costs are born by those originating the risks.

Also, the push to regulate is larger than simply creating a new macro prudential regulator — think about CFPA or derivatives. This re-regulation doesn’t just take a holistic view, it takes a new view of the financial sector that recognizes the incentives these firms have to engage in activities that are contrary to the common good.

“Innovation” in finance means new angles on the game of parting a sucker and his/her money. Aside from hallucinagenic claims by the followers of Professor Friedman, no one disputes that financiers don’t “produce” anything tangible except income for themselves and their associates. Neither do lawyers, a therapists, or musicians.

However, we don’t need to eliminate or even regulate financiers any more than we need to do so to lawyers, therapists, or musicians. Beneficiaries of these services (the one’s into whose pockets the money moves, in the case of finance) don’t want them restricted, and losers in the money-moving game need to read Bond Girl’s article and get it that we will have fair, competent, and thorough regulation of finance on the same day we disband our military and the electoral college and return the western U.S. to Mexico.

What we actually need is simply honest and transparent reporting at all levels in the finance-government industry – say, at the level that’s required on a cereal box. Then let caveat emptor work its way, and at least the lessor fools who still believe in capitalism will have a fighting chance. Now, what are the odds of such a reform?

*) there is at gutenberg.org a great piece by Churchill http://www.gutenberg.org/files/9404/9404.txt who was in the exact same area (Malakand) they are fighting today – makes even an agnoist pray continuously that some supreme power may protect your and any other soldiers who may have to operate there
and by the way Churchill even in 1897 knew how to tell a story that can compete with all the thrillers out there

http://www.opinionjournal.com/editorial/feature.html?id=110008690

From FT –

“A judge refused to accept a proposed settlement between regulators and Bank of America over allegations of misleading investors in a proxy statement and pushed the Securities and Exchange Commission at a hearing late on Monday night to identify who at BofA was responsible for the alleged mis-statements.”

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“At root, our defenses against the corruption of financial regulation were ripped down by two decades of Friedmanomic dominance. The belief that government is essentially bad, no matter how well it is implemented, and the markets cannot be wrong. That, furthermore, free markets are right even when they are visibily distorted by gross market imperfections that any layman recognizes.

That greed _itself_ is good.”

By inviting knowledgeable commenters such as Bond Girl or StatsGuy to post full articles, J. Kwak and S. Johnson are making this blog legendary.

“Only $300,000?! That’s a steal.”

You still haven’t told us what we got for our money

Why, with all that authority & his supposed qualifications, did Geithner fail so miserably at his primary responsibility of preventing the crash of the financial system?