Unavoidable Consequences of Regulation

Among the many interesting points that John Allison made in his excellent book, The Financial Crisis and the Free Market Cure, is that the regulators consistently favored the banks with risky behavior and failed approaches over the successful ones. The deposit “insurance,” the bailout, and the “cures” all reward the failures and punish the successes. This point is even clearer when Mr. Allison discusses the events after the crisis. BB&T was forced to lower, that’s right, lower its capital reserves by the regulators. It was forced by the regulators to change its decision making structure to conform to that in the failed banks and give up a process that had been a significant strength in the bank. The regulators were not interested in success. They were (are) interested in the politically required, currently popular priorities of the non-elected, politically appointed heads of their agency. The regulators were attuned to what the leaders in Congress wanted, not what the market demanded or what was good for the success of the bank or the service of the bank’s customers. This process of political fads is called having a social conscious.

But this is the way it has to be. For a regulator on site to see that a bank is functioning well and is controlling risk he would have to be able to think clearly, independently, and have a good knowledge of banking. None of those characteristics make good regulators. At the very least, the regulator is a bureaucrat who applies regulations. He knows those in detail and by name. His frame of reference is his superior and the head of the agency, not profits or efficiency of the business he regulates. He can’t care about what happens to the business and continue to be a regulator. He doesn’t consider cause and effect except in regard to his agency. He does not know if the regulations will work or not, or care. He doesn’t care about the success of the bank he regulates, only that it not fail worse than the other banks. He doesn’t want to stick out.

All of this is clear from Mr. Allison’s book. It is clear to me from my experiences in the securities business. Talk to your friends in regulated industries. Talk to anyone who has tried to start a new business, or put up a commercial structure.