Regulation overkill won’t prevent another crisis

More than two-thirds of delegates who attended the Demystifying Regulators and Regulation session yesterday said they had to file reports with six or more regulatory agencies and of those, a third report to north of 11 agencies, writes Dick Pirozzolo. The session, moderated by Hester Peirce, senior research fellow, Mercatus Center, George Mason University, included a panel of distinguished academics who discussed the role of regulators since the 2008 financial crisis.

The number of regulatory bodies is no surprise. What is more, financial institutions often have to report to government agencies on both sides of the Atlantic. As Stuart Weinstein, professor of practice informed legal education and head of  Coventry Law School, put it: “In the US we have the SEC and the CFTC, House Committee on Financial Services and the Senate Banking Committee and finally we have the Federal Reserve. In the EU we have the European Commission and the EU Parliament. Then we have Esma, the prime mover in the European part of the universe, while in the UK we have the Financial Conduct Authority.

“As an American living in England, my little bank in Coventry has to report to all of them on my minuscule account.”

Reporting also requires vast amounts of data without much cost benefit analysis and in many cases with no human interaction with the data. Likewise, banks are reluctant to comply because of their desire to protect customer privacy. However, government agencies are interested in averages and there are numerous ways to obscure data about any specific individual.

Andrei Kirilenko, who was chief economist with the CFTC following the financial crisis and is now professor of the practice of finance, MIT Sloan School of Management, observed: “A lot of regulation is implemented as lines of code and the regulators are not quite ready to incorporate people on the technology level.”

Kirilenko underscored the reactive nature of regulation as well. He said there was nothing scientific about the way regulators went about their work. “You have something massive happen, a big crisis and there is an idea to do something so that it does not happen again. Let’s say a big branch hits your roof in a hurricane, what regulators typically do is to start chopping down branches from the neighbours’ trees.”

He added: “Typically after a crisis there is a bit of overreach. For example, the US Patriot Act. There has been some pull-back on that.” Kirilenko anticipated the same would hold true with financial regulations.

Weinstein pointed out that the spate of regulations stifled creativity and hampered chief executive decision-making. “Nowadays, the compliance people have the final say.”

According to the panellists, it is possible to favourably influence regulation, however, as Michael R. King, assistant professor and Bank of Montreal Faculty Fellow, Ivey Business School, Western University pointed out, letter-writing campaigns won’t do it. “Banks get hundreds of strongly worded letters from small banks,” that are then posted on the regulators’ website where “no one” reads them.

King also pointed out that banking trade associations represented too many diverse interests to be effective and that pointing out that regulations are too complex and costly is too vague and general. The panellists agreed that a much more effective approach was to meet on specific issues in small groups with a high-level person from the financial industry managing the process.

Adding to the complexity is that at times regulators disagree and often do not speak to each other. “It is up to you to educate and influence them to your desired model by letting them know what’s reasonable and what’s not reasonable,” King told delegates, adding, “These meetings have to be on the record and recorded, regulators cannot respond to private or ex parté meetings.”

In an effort find out if people had much faith in regulation, Peirce asked: “How long until the next financial crisis?” This is how the group responded:

• 2 years: 20 per cent

• 2-5: 39 per cent

• 5-10: 41 per cent

No one checked “never.”