Organizations and Markets

Blame Basel, Not “Deregulation”

18 October 2008 at 12:57 pm Peter G. Klein 1 comment

| Peter Klein |

Says Charles Calorimis in the Saturday WSJ. First, as Calorimis points out, there wasn’t any deregulation. (Jacob Weisberg, what part of this can’t you understand?) Indeed, by any reasonable measure, government has grown more under George W. Bush than under any administration since LBJ — after this month, perhaps since FDR. Specifically, Calomiris notes:

Financial deregulation for the past three decades consisted of the removal of deposit interest-rate ceilings, the relaxation of branching powers, and allowing commercial banks to enter underwriting and insurance and other financial activities. Wasn’t the ability for commercial and investment banks to merge (the result of the 1999 Gramm-Leach-Bliley Act, which repealed part of the 1933 Glass-Steagall Act) a major stabilizer to the financial system this past year? Indeed, it allowed Bear Stearns and Merrill Lynch to be acquired by J.P. Morgan Chase and Bank of America, and allowed Goldman Sachs and Morgan Stanley to convert to bank holding companies to help shore up their positions during the mid-September bear runs on their stocks.

Even more to the point, subprime lending, securitization and dealing in swaps were all activities that banks and other financial institutions have had the ability to engage in all along. There is no connection between any of these and deregulation. On the contrary, it was the ever-growing Basel Committee rules for measuring bank risk and allocating capital to absorb that risk (just try reading the Basel standards if you don’t believe me) that failed miserably. The Basel rules outsourced the measurement of risk to ratings agencies or to the modelers within the banks themselves. Incentives were not properly aligned, as those that measured risk profited from underestimating it and earned large fees for doing so.

That ineffectual, Rube Goldberg apparatus was, of course, the direct result of the politicization of prudential regulation by the Basel Committee, which was itself the direct consequence of pursuing “international coordination” among countries, which produced rules that work politically but not economically.

Update: Here’s Larry White on the phantom deregulation.

Entry filed under: - Klein -, Bailout / Financial Crisis, Business/Economic History, Classical Liberalism, Public Policy / Political Economy.