As we pointed out earlier, the FDIC’s Sheila Bair makes a powerful case against a “super regulator.”
“We can’t put all our eggs in one basket,” Bair writes. “The risk of weak or misdirected regulation would be increased if power was consolidated in a single federal regulator. We need new mechanisms to achieve consensus positions and rapid responses to financial crises as they develop.”
Reformers often like to imagine that problems can be solved by the diligent application of honesty and intelligence. But the truth is we’re not very good at figuring out in advance what the next big crisis will be. And that means we cannot know in advance the single, appropriate regulatory structure that will be able to prevent the crisis. So while turf battles between regulators might seem inefficient, there’s good cause to support regulatory competition as a way of discovering the appropriate regulatory structure.
The clear advantage to Bairs approach–creating a council of federal regulators- is that it would prevent the concentration of resolution authority in the hands of a single set of regulators. That would make it harder for banks to capture and pervert this authority.
But it wouldn’t be without costs. The necessary cooperation between regulators would inevitably result in log rolling–trading favoured policies. “OK Sheila, I’ll give you consumer protection on credit cards if you give me the right to make Citi raise it’s reserves a few hundred basis points.” This can easily result in sub-optimal regulation and leave room for regulatory arbitrage.
Cynics will view Bair’s argument as a bit self-serving. After all, Sheila Bair would be far more powerful under her proposed council of regulators than she would if, say, Ben Bernanke were declared the super-regulator. But that is the beauty of competition: self-serving actions produce socially good results.