Why Don't We Get the "Right" Regulations?

I’m with Pete Boettke:

The post Keynesians in my mind often pay lip service to the epistemic issues that Hayek raised, but not really. And they are often completely innocent of the public choice incentive issues in public policy, though they often rail against the political process under monopoly capitalism.  Here is the problem — we should demand behavioral symmetry between politics and economics.  The same epistemic and incentive assumptions we make for actors in the market should be the same we make for those in politics.  If political actors are omniscient, then economic actors should be omniscient; if market actors are plagued by uncertainty, then political actors should also be seen to be ensnared in uncertainty.  If political actors are viewed as paid off by rich businessmen under monopoly capitalism, then political actors should also be viewed as up for sale under social democracy; if political actors are instead self-less saint like characters in social democracy, then they should be viewed that way under monopoly capitalism.  Behavioral symmetry doesn’t mean outcome similarity.  Outcomes are a function of differences in the institutional structures.

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The current financial fiasco is not a consequence of market instability, but because of the inability of government to engage in “apt intervention” due to knowledge and incentive issues, and that in reality it is nowhere as dangerous as in the hands of politicians who presume they have that knowledge to effectively tackle the problem that they in fact do not. Since they don’t have the knowledge required but must act as if they do, they will instead respond to political incentives of the election cycle and their ideological whim.  When you breakdown the “institutional structures” of an economy to engage in “apt intervention” when you cannot “aptly” accomplish what you plan to do, then don’t be surprised when things go crazy.

This isn’t libertarian, this is economics. 

The crisis was certainly caused in part by Wall Street-driven regulatory capture. The not-really-ideological point I seem to have a hard time getting across is that the root cause of an instance of capture is the set of prior institutional incentives that made capture possible and even likely. Our current period of newfound clarity about the need for reform does not put us in a position to finally and fundamentally fix the system. It just puts us in a different position — a position in which the incentives of the regulators have undergone a sudden and dramatic shock. Those with the power to influence the reform of regulation will now influence it in a different way — one that is not inconsistent with the regulators’ changed sense of mission. The chance that the outcome of this the process will be optimal approaches zero. And the chance that it sets in place a new set of unstable incentives that will take a decade or two to unwind approaches certainty. When the new regulatory settlement unravels, we’ll hear precisely the same things: that we didn’t have the right regulations in place because some opportunistic interests captured some part of the regulatory process. But if we know that’s going to happen in advance, shouldn’t we accept the limits on the possibility of effective long-term regulation and look for feasible alternatives to such thoroughly politicized financial markets?

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