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Do we really need state financial regulators?

“Hardly anybody has heard of the Roman poet Juvenal these days, which is a great shame. He was the first, as far as we know, to ask one of the central questions of political philosophy: “Who will guard the guardians?” He was rightly paranoid, arguing that someone must watch the watchmen, those who are entrusted to look after us – such as, to pick one example at random that he couldn’t possibly have conceived of, the Financial Conduct Authority (FCA). The problem, of course, is who will watch those who watch the watchmen? But Juvenal’s realism is not shared in the current political culture. We tend to assume that regulators are self-evidently superior to profit-seeking capitalists. Unlike the supposedly rapacious bankers, our regulator-kings are thought to be motivated by higher aims: the pursuit of the common good and other disinterested, noble goals. Not for them power or pay hikes.”

- Allister Heath.

He is talking about the FCA’s recent impact on the UK insurance industry. Not exactly stellar performances from the regulator. But then with all such bureaucracies, the “mission-creep” problem exists. Dragons are sought to be killed, mountains are built to be climbed. The FCA, like its counterparts in most other developed nations, is constantly looking to “consult” on new initiatives, such as cracking down on such naughtiness as “peer-to-peer” lending and crowdfunding; its recent regulatory overhaul on the UK wealth management sector, through what is called the Retail Distribution Review, has led a number of firms to drastically increase the minimum sums of assets a potential client must have to be taken on, creating what is called the “financial orphan” problem. The FCA’s predecessor, the Financial Services Authority (part of that organisation’s powers were sent back to the Bank of England by the current UK government about two years’ ago) was not particularly prescient or effective in heading off the sub-prime debt disaster, although no doubt some of its officials had worries.

The issue, as Allister Heath says, to remember about such organisations is not to single out individuals for wrath; some of them are highly intelligent and diligent people. I think it was Hayek or Friedman (Milton) who cautioned champions of free markets against the ad hominem fallacy of bashing civil servants. Rather, they said, if you create bodies with sweeping powers, and create incentive structures for empire-building, then this is the sort of problem you get. To take a different case, look at how the US War on Drugs, and greater budgetary powers, has led to the militarisation of US police.

The problem with the FCA is that it exists. Had we stuck to an order where laws were strictly enforced against force and fraud, and where people were enjoined to remember “let the buyer beware”, rather than treat consumers of financial services as nervous children, we’d be a lot better off. Yes, financial services can be complex, and yes, some of them sound very odd (try explaining financial derivatives to your average Joe). But in general terms there is no more reason why sales of such services should require any more state oversight than the sale of groceries or bathroom fittings.

10 comments to Do we really need state financial regulators?

  • Paul Marks

    What we actually need is private “regulation” – customs and practices evolved over time (but NOT forced on everyone).

    What the British courts called “restrictive practices” (even though no one was forced to use the City of London – there were stock exchanges in other places, such as Liverpool, and trading “off exchange” was legal) and destroyed with the so called “deregulation” (actually a GOVERNMENT TAKE OVER) of “Big Bang” and what came after it.

    Thousands of pages of government regulations – that do NOT stop private investors being looted.

    It is the same in the insurance industry or any other financial business.

  • I have always been a bit fan of Juvenal myself, and not just for his most famous quote.

  • Snorri Godhi

    I am embarrassed to admit that i did not know that the quote comes from Juvenal. However, it seems to me that the concept was implicit in Plato’s Laws and Aristotle’s Politics; specifically, in their advocating a system of mixed government in which distinct sets of guardians guard each other.
    Admittedly, Plato+Aristotle thought of this solution as second best, the ideal being one or more guardians so wise that they do not need to be guarded.

  • Kevin B

    Unfortunately, there is incredible regulation of both groceries and bathroom fittings. Sizes of baths, flow rates of showers, toilet cistern sizes, etc. etc. are all fiercely constrained because we are on an island in the Atlantic Ocean and therefore face repeated droughts. Or not.

    And while it is the EU which imposes many of these regulations, our own dear civil servants do love regulating us.

    (Or perhaps I missed the sarc. tag.)

  • re: “Rather, they said, if you create bodies with sweeping powers, and create incentive structures for empire-building, then this is the sort of problem you get. ”

    You cited some commonly known libertarian economists. There are other economists that study the problem that politicians and bureaucrats should be expected to act in their own self interest and negative consequences should be expected. Classical liberal James Buchanan won his nobel prize for founding work in the field of regulatory capture theory, which he termed “politics without the romance”, explaining in part that it is to be expected that special interests will have undue influence over government rather than the naive fantasy that it will act in the public’s best interest. George Stigler won his nobel prize for regulatory capture theory, explaining decades ago that:

    http://web.missouri.edu/~podgurskym/Econ_4345/syl_articles/Stigler_TheTheoryOfEconomicRegulation.pdf
    “”as a rule, regulation is acquired by the industry and is designed and operated primarily for its benefit””

    The Skeptical Libertarian blog suggests:

    http://blog.skepticallibertarian.com/2014/03/08/public-choice-the-science-of-political-skepticism/
    “It is worth mentioning that Public Choice is much more than just an effective libertarian retort against those aiming to fix market failure through government intervention. It’s called the theory of Public Choice rather than “Governmental Choice” for a reason. Public Choice theory is not inherently libertarian; it transcends libertarianism because it is a scientific investigation of how decision-making processes occur in particular institutional settings. That being said, those seeking to promote change towards a more free society would be wise to learn and study deeply the scientific findings of Public Choice.”

    A GMU economics professor blogging at Cafe Hayek attacked many economists (and implicitly the pundits who rely on them) for ignoring the lessons of various theories of government failure:

    http://cafehayek.com/2014/03/witch-doctory.html
    “Witch Doctory
    The theme of Jim’s talk was that it is not only intellectually sloppy or lazy but, in fact, deeply unscholarly and unscientific for economists today to ignore public-choice analyses of political decision-making.”

  • PS, oops, I meant James Buchanan won his prize for public choice theory (not regulatory capture theory, that was Stigler) Sorry, in a rush. (my prior post went to moderation, likely due to links, so if this appears first I’m commenting on a post that will appear).

  • Laird

    A good article and some perceptive comments here. Unfortunately, I fear that that you are preaching to the converted.

  • Paul, I see that the “Big Bang” is attributed to Thatcher – who was behind it?

  • bloke in spain

    @Paul
    “What we actually need is private “regulation” – customs and practices evolved over time (but NOT forced on everyone).”
    A lot to be said for that.
    I worked on the London Stock Market, late sixties early seventies. Well before Big Bang. In that time I saw one brokerage firm “hammered” – declared insolvent. One dealer banned from the market.
    It’s the latter event I’ll try to explain. Sorry if this is a tad technical, but it is technical.

    At that time, share dealings were done through middle-men. Jobbers. To buy/sell shares, a broker’s dealer went to one of the jobbers dealt in the stock & asked a price. Usually one checked the price with the other jobbers, dealt in the same stock & dealt at the best price. It wasn’t unusual to find one jobber offering to sell stock at the same price another was offering to buy. The technical expression was finding the price “choice”. (for obvious reasons). It was courtesy to inform the jobber of this fact. Occasionally, one would find one jobber willing to buy the share for more than another jobber was willing to sell it. The technical term for this was a “backwardation”. The form was to inform both jobbers of the situation. Neither were obliged to stick to the price quoted.

    Now none of this was “rules” in the sense of regulation. These were just practices to preserve an orderly market, in a time when information traveled at walking speed, transactions were penciled entries in books & dictum meum pactum was the guiding principal.

    What the dealer referred to above had done was to deal on a backwardation, without informing the other party. It was discovered & there was no valid excuse. When he went into the Market, the following morning, he discovered he’d become invisible. From then on, the entirety of the trading floor refused to acknowledge his existence. Permanently. End of career.

  • As a former commodity broker, I can say that bloke is entirely correct. Certain kinds of shit can make a trader an un-person.