Gillian Tett commented today on the growth of the ‘shadow banking‘ sector in relation to regulated banks. Tett’s anecdotal evidence suggests that shadow banking – basically those unregulated banking-like activities by hedge funds, investment vehicles, and other bodies – is not just growing but colonizing areas that regulated banks used to dominate. The reason is that Dodd-Frank only regulates the already regulated banks, like Citibank, which means it has become harder, more expensive, or just impossible to engage in certain financial transactions. While these shadow banks claim that this is all ok because they are responsive to investors, that is not particularly comforting by any stretch.
Tett seems worried but, somewhat oddly, her conclusion is that, if these shadow banks turn out to be just as bad the second time around, we might end up seeing this period as “(yet another) lesson in the unintended consequences of regulatory reform.” This is hardly the obvious conclusion. This sounds like the classic ‘perversity’ thesis – all attempts at regulation (or any political action) will produce the opposite or worse unintended results than the intended ones. Plenty of people noticed, during the debates over the Dodd-Frank bill, that if shadow-banking activities were not also brought into the light and regulated, then the regulations would be woefully inadequate. There is nothing unexpected about this emerging problem.
However, it does highlight an underlying problem with the political assumptions of the liberal model of regulation. Many liberal arguments during the debate over financial regulation were about how ‘if we just get the regulations right’ – or even, ‘if we just go back to the Glass-Steagal acts’ – then we can solve the problem. But the idea that we just had to figure out the right regulations fails to grasp the kind of struggle that would have been involved in a full scale regulation of the financial industry. Compared with the New Deal, and even the post-war boom period, the financial class today is much more powerful and influential. And serious regulation of finance would undoubtedly have imposed a dramatic constraint on the activities that have allowed the financial class to grow. It may very well have meant the shedding of far more financial jobs than have been shed, and permanently restructuring the activities of those who remained.
In other words, serious regulation would have required a full on assault on the financial class. I don’t think just a little bit of public reasoning about the ‘right regulations’ would have won financiers over. This would have required a kind of class war, at least in the sense of one well-organized, politically powerful set of interests would have had to defend and put its political muscle behind these regulations.
It is precisely those conditions that are absent. No amount of clever policy-wonkery can address those background problems. Worse yet, thinking about the problem as merely one for a bit of wonkery misses out on the political economy of something as seemingly remote and boring as financial regulation. Regulators and elected officials did not just ‘make a mistake,’ they played the only game in town.