Give Them A Small Bank

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Includes: FAS, FAZ, FINU, FINZ, FNCL, FXO, IYF, IYG, KBWB, PFI, PSCF, RWW, RYF, SEF, UYG, VFH, XLF
by: David Merkel, CFA

It takes a thief to catch a thief. Thus I have a modest proposal for bank regulation. This could be applied more broadly to other forms of financial regulation also.

Why not require that all regulators spend time managing banks before they are appointed to be regulators? I think this would be very instructive to those who would become regulators, because they would see how issues at banks appear from the other side.

I am not suggesting that potential regulators “go native” and become sympathetic to banks. Working inside a financial institution can do the very opposite, and inform a regulator on what to be careful about. I want regulators to have the smarts that an insider perspective gives.

Think of me for a moment. I am not a fan of the insurance industry; I also don’t hate it, but I know it well. I know where the warts are. If I were a regulator, I would be feared by the industry, because there is almost nothing that I don’t know about insurance in broad. (I.e., I am not trying to brag, but I think that I am competent in analyzing insurers.)

My point is that we want intelligent regulators that cannot be bamboozled. That only comes with significant industry experience.

But industry experience isn’t enough. You want people who are intelligent critics, who can look at the industry and say that certain practices are wrong from a solvency or market conduct standpoint.

And thus I say, “Give them a small bank.” Let the Federal Government set up a bunch of small banks for prospective regulators to help manage for a few years. Being part of a senior management team would cue them into a wide number of problems as they try to make money in a competitive market. Let them interact with their regulators as well.

I write this because when I read what most broad bank regulators at the highest levels say, I think, “All you can do is suggest things should be tighter, but you have no good reasoning for what or why. Would that you understood the industry you are regulating.”

In general, it is a bad idea to have academic economists in regulatory positions, because they do not understand what they are doing, but merely follow their ideology. Far better to have practitioners that are skeptics be regulators, because they really know what is going on, and will not spare the industry over abuses.

As a dear friend of mine once said, “To truly loathe the public schools, you have to be one of the teachers.” In the same way, I say make the regulators work for the banks before they regulate them, so that they can properly loathe them.

Disclosure: None