Towards a More
Sustainable
Regulatory ProcessRegulatory Capture and
Mitigating Strategies
Dr. Stefano Pagliari [email protected]
Seminar „Towards a Sustainable Financial System‟
Stockholm, 12-13 September 2013
“Is it possible at all to create
an international regime that
prevents regulatory capture?”
George Stigler (1971) & the motor trucking industry
“as a rule, regulation is acquired by the industry
and is designed and operated primarily for its
benefit”
Dr. Stefano Pagliari
Towards a Sustainable
Financial System
Stockholm, 12/09/2013
Stakeholders
•Banks
•Other financial firms
•Non-financial business groups
•Consumers, NGOs, …
Regulatory policies
•Information
•Incentives
•Ideas
Regulators
• Rule-making
• Enforcement
• Supervision
When is the regulatory
process more likely to fail us?
3 Factors
Demand: Balance of Stakeholders
Dr. Stefano Pagliari
Towards a Sustainable
Financial System
Stockholm, 12/09/2013
3 Factors
Demand: Balance of Stakeholders
Supply: Institutional
Design of Regulatory
Agencies
Dr. Stefano Pagliari
Towards a Sustainable
Financial System
Stockholm, 12/09/2013
When is the regulatory
process more likely to fail us?
3 Factors
Demand: Balance of Stakeholders
Supply: Institutional
Design of Regulatory
Agencies
The Broader Political-Economic context
Dr. Stefano Pagliari
Towards a Sustainable
Financial System
Stockholm, 12/09/2013
When is the regulatory
process more likely to fail us?
Asymmetry among
stakeholders competing
for regulatory influence
Financial Resources
$1.4 million spent daily by
financial industry to lobby
Congress during crisis
Technical Expertise and
Information Asymmetries
Collective action problem
(deposit holders, investors,
and retail consumers)
Demand Side:
Balance of Stakeholders
Dr. Stefano Pagliari
Towards a Sustainable
Financial System
Stockholm, 12/09/2013
• 1999-2008:$2.7 billion in reported federal lobbying expenses by fin. Industry
• $1.4 million spent daily during financial crisis
Heavy bias towards business
Since the crisis:
Greater diversity of
stakeholders
Greater diversity within the
business community
Source: Pagliari and Young 2013
Pre-
Crisis
Post-
Crisis
%
Difference
Finance 75.1% 60.3% -19.8%
Non-financial business
groups
16.4% 24.2% +47.5%
NGOs / Cons. / Trade
Unions / Research
8.4% 15.5% +83.8%
USA EU UK
Financial business
groups
66.6% 70,6% 59.6%
Non-financial business
groups
23.2% 18.9% 28.1%
NGOs / Cons. / Trade
Unions / Research
10.2% 10.5% 12.2%
Capital Requirement Directive (CRD
IV)(2010)
Banks 43.7%
Non-bank financial groups 33%
Non-financial business groups 19.6%
NGOs / Cons. / Trade Unions / Research 3.6%
Dr. Stefano Pagliari
Towards a Sustainable
Financial System
Stockholm, 12/09/2013
Demand Side:
Balance of Stakeholders
Balance of stakeholders
Heavy bias towards business
Since the crisis:
Greater diversity of
stakeholders
Greater diversity within the
business community
Rule-making vs.
implementation
Dr. Stefano Pagliari
Towards a Sustainable
Financial System
Stockholm, 12/09/2013
Supply Side: Institutional
Design of Reg. Agencies
Independence of Regulators
Mandate
UK FSA mandate included to “have
regard to” the competitiveness of the
financial services industry.
Dr. Stefano Pagliari
Towards a Sustainable
Financial System
Stockholm, 12/09/2013
Supply Side: Institutional
Design of Reg. Agencies
SEC Staff Shares
traded in US
1939 1,700 260 mln
2001 2,900 2 bln.
2009 3,584 5.4 bln.
Dr. Stefano Pagliari
Towards a Sustainable
Financial System
Stockholm, 12/09/2013
Independence of Regulators
Mandate
Funding
226,400 employees - 4.5 UK FSA Staff
Supply Side: Institutional
Design of Reg. Agencies
Independence of
Regulators
Mandate
Funding
Staffing and Revolving Doors
Inter-temporal conflict of
interests
Preferential Access & Inside
Knowledge
Socialization, Psychological
Biases, & Intellectual Capture “It takes a thief to catch a thief” (F.D. Roosevelt)
The Broader Economic and
Political Context
Capture through the political
process
Electoral weight of financial industry
Banks and the financing of the real economy
Banks as buyers of sovereign-debt
Impact of the Eurozone crisis
Dr. Stefano Pagliari
Towards a Sustainable
Financial System
Stockholm, 12/09/2013
Source: FT from ECB data
Cyclical Nature of Capture
SlumpSlump
Crisis Crisis
Boom
Boom
Pressures on
regulators not
to „remove the
punchbowl
from the party‟
Electoral
pressures to
re-regulate
Pressures on
regulators not to
forestall economic
recovery
“on the whole, banks [in
the UK] did not have to
lobby politicians, largely
because politicians
argued the case for them
without obvious
inducement”
Dr. Stefano Pagliari
Towards a Sustainable
Financial System
Stockholm, 12/09/2013
the Bank of England as
“capital Taliban”
What can we do about it?
1. Promoting greater
balance and
diversity among
stakeholders
Dr. Stefano Pagliari
Towards a Sustainable
Financial System
Stockholm, 12/09/2013
What can we do about it?
1. Promoting greater
balance and
diversity among
stakeholders
2. Reforming the
institutional design of
regulatory agencies
Dr. Stefano Pagliari
Towards a Sustainable
Financial System
Stockholm, 12/09/2013
What can we do about it?
1. Promoting greater
balance and
diversity among
stakeholders
2. Reforming the
institutional design of
regulatory agencies
3. External checks and
balances
Dr. Stefano Pagliari
Towards a Sustainable
Financial System
Stockholm, 12/09/2013
1. Promoting Greater Balance & Diversity of Stakeholders
Breaking up large banks (S. Johnson)
Participatory Mechanisms
Tripartitism & Proxy advocates
E.g. Consumer Panels; Finance Watch
Promoting long-termism and
diversity in fin. industry lobbying
Compensation rules, fiduciary duties of boards, ownership.
Dr. Stefano Pagliari
Towards a Sustainable
Financial System
Stockholm, 12/09/2013
2. Reforming the Institutional Design of Reg. Agencies
Mandate: danger of conflicting/ambiguous
mandates
Internal decision-making
IMF‟s IEO: „strengthen the
incentives to “speak truth to
power”‟ and „create internal
advisory boards „to
challenge and think the
unthinkable‟
Dr. Stefano Pagliari
Towards a Sustainable
Financial System
Stockholm, 12/09/2013
2. Reforming the Institutional Design of Reg. Agencies
Mandate: danger of conflicting/ambiguous mandates
Internal decision-making
Staffing & Revolving doors
Mitigating strategies: e.g. disclosure, cooling off periods, complement “revolvers” and career supervisors
Promote diversity of experiences and training (e.g. IMF)
Funding
Level
Source
Dr. Stefano Pagliari
Towards a Sustainable
Financial System
Stockholm, 12/09/2013
Limits of existing checks
Board of Directors
Parliament
Media
3. External Checks & Balances
Dr. Stefano Pagliari
Towards a Sustainable
Financial System
Stockholm, 12/09/2013
Public Interest Review Bodies “The Sentinel” (Barth Caprio and
Levine 2012)
Reciprocal oversight from other domestic regulators Macroprudential regulators
Consumer protection bodies
Reciprocal oversight from foreign regulators Financial Stability Board‟s Peer
Review
Colleges of Supervisors,
IMF‟s surveillance (FSAP and ROSC)
3. External Checks & Balances
Dr. Stefano Pagliari
Towards a Sustainable
Financial System
Stockholm, 12/09/2013
Towards a More Sustainable
Regulatory ProcessRegulatory Capture and Mitigating
Strategies
Thank you for your attention
Dr. Stefano Pagliari [email protected]