Friday, October 27, 2006

Regulating the Regulators

On top of all the moral problems with regulation is a logical problem. Why are regulators more trustworthy than other people? Of course they’re not, and they don’t even have their own self-interest at stake (vs. say a businessman who is accountable to both his stockholders and his customers). So it turns out we now need overseers to check up on the regulators to watch the productive.
“Congress needs an independent analysis of whether the institutions that are responsible for protecting investors are keeping up in a fast-changing marketplace,” Mr. Grassley said yesterday in a statement. “It’s been a long time since there’s been this kind of thorough review. The integrity of our financial markets and, in turn, the well-being of individual investors depends on checkpoints that stop insider trading and manipulation.”
Unless we reject the whole idea of preventive law, ultimately this type of regress will end up with one person working and everyone else making sure he’s honest!

2 Comments:

Anonymous Ray Niles said...

I couldn't agree with you more.

As an investment professional focused on the electric utility industry, the most regulated industry in the United States, I have accumulated numerous concretes over the past 12 years of the inanity of regulation.

My experience, based on frequent personal interaction with both the regulators and the regulated, is that regulators, nearly to the person, are less competent than the people they regulate.

Imagine a 50-something highly educated and accomplished CEO of a $25 billion market capitalization company kowtowing to a 30-something attorney and political hack who happens to hold life-and-death regulatory power over his business. I've seen it, and variations of it, many times.

Executives of regulated companies have to flatter the regulators at conferences and meetings, spend countless hours educating the regulators on the simple basics of how their industry operates (so as to reduce the destructiveness of new regulations), and regularly second-guess their own actions for fear that a regulator or his political boss will be offended by them.

The results are several, the least of which is the many man-years of wasted time and unproductive employment at large corporations (e.g.: the full-time regulatory affairs teams at utilities and every other large corporation).

More ominously, innovations are delayed many years or never implemented at all. For example, in the utility world, numerous innovative technologies that could be deployed on the electric transmission infrastructure, such as high-speed Internet access, are never deployed because they require regulatory approval, and to get that the utilities must agree to "share" profits because, under the principle of regulation, the transmission lines really belong to the "utility ratepayers."

Even if the regulator is well-meaning (many of them actually are) and accomplished/intelligent (a rarity), by virtue of existing at the behest of politicians, they end up being destructive (which is why the only honest regulator would have to immediately quit his job). As an example, during the height of the California power crisis, a federal regulator appointed by Bush who publicly denounced price controls, imposed them anyway when he got a personal phone call from Bush. He knew the price controls would cause blackouts, and they did. He implemented them anyway.

A whole body of economic and philosophical literature provides good reasons why regulation is bad. Regulators are disinterested or "mis-interested" (corrupt), they are risk-averse, they cannot hold all the relevant information in their heads to regulate properly, etc.

I agree with all that, and add to it the image of a highly successful chief executive clapping with eager obsequiousness at the conclusion of a meaningless speech by a well-meaning but ignorant regulator who would never be hired by the utility she is regulating.

I hate to end on such a negative note, so I will add that quite a lot of innovation still gets pushed through eventually despite such regulation (even in the utility industry, thankfully). But the cost of the lost innovation and waste is enormous and growing.

9:38 AM  
Blogger Amit Ghate said...

Hi Ray,

Thanks very much for your comment. I agree completely, and would be interested in hearing more about your specific experiences as I had worked in a related field. If you're interested, you can contact me at thrutchemail@yahoo.com

regards,

amit

10:52 AM  

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