Financial markets should be free (ideally)

The less we regulate banks and financial firms, the safer we will be. Those of us that want safety, that is. (That would be me: I am morbidly timid.)  Here’s 10 bullet points saying why.

In my intro above the digital fold, I have slightly exaggerated. I am going to argue that regulation is hazardous. It is truer (but a bit more complicated) to say that de-regulation would optimise (balance) safety and risk (or, fear and greed) in a way which suits the Anglo-Saxon temperament.

Now read on (if you would).  

(1) Government involvement creates moral hazard
Financial firms know that if their failures are big enough, they’ll be saved

(2) Regulation makes people devious (or relaxed)
Risk-takers devote too much energy to satisfying and circumventing regulators instead of delivering the right safety and risk to their stakeholders.

(3) Regulation robs people of the right to risk
It limits the scope of people to choose risky ventures to increase their chance of profit. (People ideally don’t choose to reduce risk, but to optimise it.)

(4) But: governments can’t avoid regulation
If you know you’ve got to save firms, you to try to make them as safe as possible.

(5) How can Nanny let go?
The trick is for government to find the silver bullet. That is: to act just sufficiently to neither cosset nor corset capitalists, whilst being the backstop of last resort.

(6) Safety is for Continentals
The Anglo-Saxon economy believes the risks of under-regulation are smaller than the risks of over-regulation. The former may allow more collapses but the latter stifles capitalistic vigour.

(7) No regulation would be best
The safest markets would be completely unregulated. Fear would then make investors and consumers demand optimal safety (and more likely to get it).

(8) The single most important thing
It should be as clear as possible how much risk a firm is undertaking.

There was a total and totally understandable lack of this knowledge in the case of CDOs etc. In particular regulators, governments – and the media – cheered on the fearless Alpha Male Bankers.

(9) Why financial markets would self-regulate
The market would discipline risk by insurance, mutual assurance schemes, premiums charged, etc., and by demanding high capital resources. If you risk losing your shirt, you care about the cupboard it’s in. Also: financial centres (The City, Wall Street) would have a vested interest in being secure. If governments guarantee bank deposits, they should charge firms for the privilege.

(10) So the oddity is….
Regulation will have succeeded only when firms can fail without damaging the system. Governments can only keep us safe and affluent by making us feel at risk. If we are fearful, we will ensure the market keeps us as safe as is possible.

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Publication date

21 September 2009