Has regulation made financial markets less functional, instead of more?
Contributed to The Globe and Mail / Published March 25, 2016
Financial regulators are beginning to assess the unintended consequences of the vast array of regulations adopted in response to the global financial crisis. Some are questioning whether rules designed to create safer markets have made them less functional.
Senior representatives of the U.S. Federal Reserve and Treasury have recently acknowledged the role of new regulations in increasing market volatility, “de-risking” (i.e., large global banks no longer serving whole classes of clients) and in the shift of activities into more opaque parts of the financial system outside of the traditional regulatory framework.
An implicit premise in much of the current regulatory framework is the notion that markets fail because of individual culprits (and that stable markets can be achieved by weeding out the bad actors). This fairy-tale construct (in which every story has a hero, a villain and a victim) feeds a disconnect between our regulatory agenda and public confidence in the financial sector. We seem to be in a vicious cycle, where the aggressive focus of regulators on the “villains” contributes to a public perception that the financial sector is full of them. This approach has been overworked and may be out of date and destructive.