The Need for a New Approach to Regulation

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I figured the above was apropos of the news around AIG's huge loss and the Government's "revised" rescue package; mind you I'm not characterizing the AIG situation in exactly the same manner as the comic panel, but it certainly feels that way now doesn't it?

There is no point in revisiting what led AIG to this point as I did that last week; however I will say that the situation begs for a new approach to corporate government and regulation. Namely that companies need to be monitored not only in terms of how well they're adhering to the "rules", but in terms of the amount of risk they pose to the economy if they were to go belly up, need a rescue, etc. The reason I'm advocating for "risk monitoring" is because while  business is often multiple steps ahead of the politicians and regulators, it's much easier (especially if the people doing the monitoring come from the business world) to asses the  amount of risk a particular company poses for the economy.

While placing caps on how large certain companies can get it's something that will make many people (myself included) cringe, the fact remains that without the caps we're allowing the creation of singular entities that have the capability of taking down large swatches of the economy with them if they run into severe difficulties.

After all we already have limits on the % of the nation's deposits a bank can obtain via acquisition (granted those rules have been ignored lately), and the FDIC can seize banks if their capitalization levels fall below a certain point so they don't fail and cause a panic. Why can't we take similar steps with other types of companies and place a cap on their growth, so that the health of the economy isn't depending on a small number of executives always making smart, rational decisions?

I guess on a go-forward basis we have to ask our selves the policy question: "is our belief in free market ideologies so strong that we're willing to suffer the consequences of allowing future companies to become the next Mortgage GSE(s), AIG, etc, instead of reigning them in to protect the stability of the overall economy?"

Disclosure: at the time of publishing the author didn't own a position in any of the companies mentioned in this article; the ideas expressed are solely the opinions of the author and shouldn't be viewed as financial or investment advice.

Comments

[jack kreg:]

"belief in free market ideologies",
what is free about telling Freddie and Fannie to back/guarantee home loans to unqualified borrowers, that is low or zero down payment and no verified income. Without these guarantees, what bank would have made these loans and kept it on its books!!
In a really free market, the gov would not back home loans to unqualified borrowers and banks would only make loans to qualified borrowers, with reasonable down payments and verifiable incomes.
That free market is alive a well in a closet in the USA.
Hopefully, we have stopped making loans to unqualified borrowers.

2008 Nov 10 04:43 PM

[katec:]

The fourth paragraph pretty well sums up what is needed in this country as a direct quote so there is no misunderstanding:

Why can't we take similar steps with other types of companies and place a cap on their growth, so that the health of the economy isn't depending on a small number of executives always making smart, rational decisions?

2008 Nov 10 05:22 PM

[Steven Hansen:]

"is our belief in free market ideologies so strong that we're willing to suffer the consequences of allowing future companies to become the next Mortgage GSE(s), AIG, etc, instead of reigning them in to protect the stability of the overall economy?"

we need a new approach to regulation. what is being suggested in this article has not been thought out, and is open for abuse especially if a government does not agree with what a company is doing (even if it is legal).

whatever new regulations evolve, they must be evolutionary, not revolutionary. there are always unintended consequences of "necessary" changes.

2008 Nov 10 09:10 PM