Wednesday, December 16, 2009

Does Wall Street Really Need More Regulation?

Obama recently said on 60 minutes that Wall Street's irresponsibility caused the financial meltdown and therefore financial regulation is necessary to prevent additional crises. This might be true, but there are scenarios were it isn't.

For example, if the late-90's financial deregulation accelerated growth rates, its possible that 10 years later the increased gains are larger than the losses from the crash. In other words, if deregulation increased growth rates from 1% to 6.5%, but also led to a 40% crash after 10 years, the overall growth achieved would be about equal. Presumably then, deregulation (and its crashes) would be the better option if it pushed growth above 6.5%.

Personally, I have no idea how much deregulation accelerated growth and its definitely possible that regulation in response to the '08 financial meltdown could be smart and targeted enough to find a better middle ground of some increased growth with fewer crashes. However, its equally possible that exaggerated boom-and-bust cycles are an unavoidable reality of globalization. Furthermore, with markets having rallied dramatically since March, the crash downsides don't seem as bad today as they did last year.

There is little doubt that TARP helped avoid a full-blown meltdown, that government stimulus dollars aided the stock market recovery (though to what degree won't be clear for years) and that a double-dip is still possible. However, from where we stand today, the S&P500 is only down 15% since its August '08 pre-meltdown value, which suggests that governance* worked on some level. If the old system succeeded enough to pull the economy back from the brink, its less clear what new regulations might be beneficial.

The point of this post is not to argue against Wall Street regulation, but rather to demonstrate that the issue is not clear cut and that a crash doesn't always mean regulation is the right solution. However, what is really scary is that American politicians don't seem to be considering any of these possibilities or even comprehending the issue at a basic level. Unfortunately, the increasing complexity of economic issues, such as financial regulations, makes it virtually impossible for voters to hold elected officials responsible, which is as big a threat as democracy has ever faced.

*Governance is both formal and informal, which isn't the same as government/regulation, which is inherently formal


At February 16, 2010 4:05 AM, Anonymous Anonymous said...



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