On the Futility of Regulation

By way of the Toronto Globe & Mail I see today FT is reporting that the Europeans (which means the Gauls and Teutons) are pressing ahead with new financial industry regulations, hoping against hope to pull the Brits along and also force the American hand.  In case you missed the history, know that new Batman and Robin Conservative/Lib-Dem coalition in the UK is resisting the EU regulatory push just as did Labour.  As far as that goes, the UK parliament is apparently not Hung.

Of course City financiers are hyperventilating (there’s a lot of that going around these days) about the damage new regulations will do to their businesses and, of course, they threaten a mass exodus.  As I said in The Peasants are Storming the Gate. Let Them Eat Cake?, if the financiers and the rest of the élite want leave to move to some unregulated lightly taxed jurisdiction, so be it – they will be pounding on the doors to get back in when Peak Oil turns the world upside down.

The Globe & Mail, hollow core of a newspaper that it is, reports without really giving the details of the proposed EU regulations (why did I link to it?).  Yves smith at nakedcapitalism instead provides an excellent take on the situation; an excerpt (Yves quoting Swedish Lex):

“What I find silly is that the Industry, in its efforts to convince the Parliamentarians, and the other relevant EU Institutions, are using the same bad old arguments like if you regulate in Europe, it will scare off investment and the pensions of ordinary people are jeopardized. Well yes, the EU does not welcome trashy short-term cancerogenus cash spreading from Cayman funds run by math nerds that design real nukes one day and their financial equivalent the next.”

Given the fright that the Global Financial Crisis put in all of us, I would say that the financial industry gets “it”; by which I mean it’s not so dumb to not understand that existing regulation is a farce, but that financiers believe western politicians may be obsequious enough and citizens docile enough that perhaps a round of faux regulations might suffice to persuade the peasants with their pitchforks to turn quietly back to their hovels and lives of serfdom.  I fear the financiers might have the peasants pegged – I don’t see Brits, French, Germans and Americans hitting the streets in protest (maybe they’re saving their legs and lungs to protest when come the cuts to the social safety net).

Now I’m not in favor of massive paternalistic regulation.  I usually doesn’t work because some evil genius will find a way around it eventually.  Plus regulators’ sophistication usually runs behind evil financial geniuses.   And the politicians who pass massive (faux) regulations either do not have a clue or are bought off, leaving what appears to be significant regulatory heft just so much Swiss cheese regulation.

The proposed EU rules appear sensible – they limit leverage, ask for more disclosure and transparency and ask that fund assets be held by European banks (the custody issue).  Nothing wrong with that.  For the financiers hyperventilating about leverage limitations…..well I never much liked investment models that require too much leverage that are used to magnify a small profit slice into a big gain.  In fact, applying the financier’s own market gospel, the Modigliani-Miller theorem would have them use no leverage and leave it to their investors to make that decision personally.  But of course, market theory applies only to everybody else; for the privileged few the operative philosophy is privatize gains and socialize losses.

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