Race to the Regulatory Bottom

Race to the Regulatory Bottom

Bill Black: Wall St. wants to compete with London for lack of financial regulation -   September 4, 2012
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William K. Black, author of The Best Way to Rob a Bank is to Own One, teaches economics and law at the University of Missouri Kansas City (UMKC). He was the Executive Director of the Institute for Fraud Prevention from 2005-2007. He has taught previously at the LBJ School of Public Affairs at the University of Texas at Austin and at Santa Clara University, where he was also the distinguished scholar in residence for insurance law and a visiting scholar at the Markkula Center for Applied Ethics.

Black was litigation director of the Federal Home Loan Bank Board, deputy director of the FSLIC, SVP and general counsel of the Federal Home Loan Bank of San Francisco, and senior deputy chief counsel, Office of Thrift Supervision. He was deputy director of the National Commission on Financial Institution Reform, Recovery and Enforcement.

Black developed the concept of "control fraud" frauds in which the CEO or head of state uses the entity as a "weapon." Control frauds cause greater financial losses than all other forms of property crime combined. He recently helped the World Bank develop anti-corruption initiatives and served as an expert for OFHEO in its enforcement action against Fannie Mae's former senior management.


Race to the Regulatory BottomJESSICA DESVARIEUX, TRNN: Welcome to The Real News Network. I'm Jessica Desvarieux in Baltimore.

Now joining us from Switzerland is Bill Black with his weekly report on financial reform and fraud. Bill, thank you for being here with us. What do you have for us this week?

BILL BLACK, ASSOC. PROF. ECONOMICS AND LAW, UMKC: Well, the subject that I'm giving the keynote address on—and this is a group that is Europe's preeminent meeting on financial derivatives—has to do with the competition in laxity and how it produces recurrent disasters and how we need to replace it with a competition in integrity.

This is prompted in part by events out of the United Kingdom. Folks will probably have noticed that the City of London has been bouncing from one scandal to another. And people have been wondering, well, is it something about the City of London, or is it just that the United States is picking on the City of London? Maybe U.S. banking regulators are trying to help our hometown banks by giving the Brits a hard time.

So, to go back a few years, in the leadup to the entire European crisis, Europe ran a tremendous experiment, and that experiment was the competition in laxity. And, by God, it won the competition in regulatory laxity with the United States. And the results were catastrophic for Europe, of course. So European banks have roughly twice the leverage of U.S. banks. That means roughly twice as much debt compared to equity. And when you have that kind of extraordinary leverage when you win, you win ultra big; and when you lose, well, everything goes to disaster really quick. And that's what happened in Europe. And within Europe, the leaders were the City of London, the financial district in the United Kingdom.

United Kingdom experimented with regulation in two ways. One, it said, you know, the problem is we've got too many different regulatory authorities. They might overlap and they might not see the overall needs of regulation. So we're going to create one super-regulator, the FSA, the financial services agency administration. And they did.

And the second thing they did is they said, we want to have really, really what they called light-touch regulation, because we want to win that competition in laxity with New York. We want the major banks to locate in the City of London, and we know that the CEOs, what they really want more than anything is incredibly weak regulation, so we'll give them that. And we can do that safely, because banks are good guys and they will help the economy.

Okay. Flash forward in time. Disaster, of course. Even before these scandals became public, in that essentially all the big banks failed in much of Europe as well and had to be bailed out and indeed are often owned in substantial part, even now, by the people of the United Kingdom and such. So that was not good. But also when they looked, they saw that the regulators were an utter disaster, that they did nothing.

Now, this became a political football at that point, because the Conservative Party wanted to blame the Labour Party, which created the FSA in this experiment, and said, ah-ha, we the Conservatives have an answer; let's go back to using the Bank of England as the primary regulator because the FSA failed so much.

Okay. But there's no real theory of why the Bank of England would be any better. And as the Barclay's scandal has revealed, the Bank of England was every bit as bad as the FSA. So nobody much expects this to work. That's the first area that's come up.

But my point is that they've now adopted a new jargon, and the new jargon is they want judgment-based regulation. And the conservative newspaper describing this, The Telegraph, said, what we need is regulators who can go toe-to-toe with the most powerful banks in the world.

DESVARIEUX: But they're going to need teeth to do that, they're going to need laws on the books to do that. Right, Bill?

BLACK: Well, the Telegraph folks said, well, actually what you need to do is get rid of a lot of regulation, because that creates a culture of resistance to regulation. So it's yet another excuse to win the regulatory race from the bottom.

What are the takeaways? You lose when you have a regulatory race to the bottom. Without regulatory cops on the beat, cheaters prosper. If cheaters prosper, then you create a Gresham's dynamic, in which bad ethics drives good ethics out of the marketplace, which is why the most elite banks in the world are actually dominated by fraudulent senior officers, as the recent scandals have revealed. And if there'd been any real investigations during the crisis, we could have prevented the entire crisis. That's the second great takeaway.

If you have a competition in laxity, who's going to fill the regulatory ranks? If you have an agency that's told, do nothing, smile at the bankers, and whatever you do, don't criticize them, because they have thin skins; praise them, praise them; indeed, venerate them; it's the new divine right of banks, as opposed to kings; are those regulators going to have any teeth? Are they able to go toe-to-toe? They have been selected by—you can think of it as evolutionary pressure to de-evolve, to stop being people with backbones, to become invertebrates. And you can tell an invertebrate to stand up all he wants, but he cannot do that, and they will not do that.

So we have to end the competition in laxity. It has only one result, which is always going to be financial crisis after massive financial bubbles and disaster. That is the history of financial regulation. And that's what I'm about to tell a bunch of European financial leaders and some governmental folks.

DESVARIEUX: Great. Great. Well, thank you for taking the time to speak with us, Bill, and we look forward to hearing your next report next week.

And thank you for joining us here on The Real News Network.


DISCLAIMER: Please note that transcripts for The Real News Network are typed from a recording of the program. TRNN cannot guarantee their complete accuracy.


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