Corporate Governance

Regulation and baseball: why the Paulson plan makes no sense

By Josh Silverman

A lot of ink has been spilled on Treasury Secretary Hank Paulson's plan to close the Commodity Futures Trading Commission, Office of the Comptroller of the Currency, and Office of Thrift Supervision, and shift their duties to the SEC.   Most of it relates to assumptions that multiple regulators are inefficient, or worse, counterproductive.  For example, industry lobbyist John Dearle told Bloomberg that "with overlapping, multiple regulators supervising the same things, you've got three well-intentioned outfielders running after the same fly ball.''   

We applaud Mr. Dearle on the analogy, but remind him that baseball teams do not avoid this problem by trimming their roster to a single outfielder.  Instead, they improve the communication among their players.  Financial regulators should follow the same approach.

The slash-and-burn mentality seems especially ill-suited to the current environment.  We are told that without Federal Reserve intervention, Bear Stearns would have gone bankrupt.  Through new facilities like TAF and TSLF, the Fed has also funneled well over a hundred billion dollars to aid other crippled institutions.  Are we really to believe that these institutions need less regulation?  And what pittance could we really expect to save through reduced headcount of regulators?

Merits of consolidation aside, we question the decision to vest more power in the SEC.  As discussed in prior Pomtalk articles, the agency has proved itself to be ineffective even in its current sphere of enforcement.  In contrast, the CFTC appears to be doing a much better job with its limited regulatory charge.  Recall that futures markets continued to function without any taxpayer bailout when Refco, one of the largest futures brokers, unraveled. 

Finally, the Paulson plan fights yesterday's war.  Even a cursory glance at the headlines over the past year indicates that today's problems lie in off-exchange structured financial instruments like collateralized debt obligations ("CDOs"), structured investment vehicles ("SIVs"), and auction rate securities ("ARS").  Consolidating regulators of different exchanges will not address threats posed by these instruments. 

The recent credit meltdown reaffirms our need for effective regulation.  Why take a step backward now?

Full post as published by PomTalk on April 21, 2008 (boomark / email).