Regulating Wall Street

by publius

I won't pretend to claim expertise in the debate about whether the feds should regulate bankers' compensation.  But the devil, it seems, is in the details.  I could easily imagine rules that are excessive intrusions -- but I could just as easily imagine acceptable ones too.

Regardless, though, the underlying theory of imposing new rules makes perfect sense.

Markets don't handle externalities all that well.  For instance, factories that spit out mercury into lakes don't bear those costs in a truly "free" market -- we the drinking public do.  Regulations and dread tort law are the ways to force factories to internalize those costs. Without regulations, it would be completely rational for factories to dump mercury if it makes production more efficient.

That's essentially how Wall Street compensation structures should be thought of -- as pollutants spilling out, poisoning the general public.  The incentives for short-term gains with no regard for the long term hurt a lot of people.  And so it's completely justifiable to push those costs back on Wall Street.

No one's really even considering limiting compensation amounts.  (And frankly, I think that concentrations of wealth aren't much better than mercury in the water).  The proposals, as I understand them, are about channeling incentives in a more constructive direction. 

The ultimate rules may go too far, but this basic idea is a sound one.

Comments

[chmood]

I think it would be worthwhile if executive compensation could be keyed to some common-sense multiple of bottom-end wages, or reflect the company's *actual health (not stock price)).

I likewise think it would have a benefit if execs were not permitted to run corporations as if they owned the corporations: they have a responsibility to the company as a whole, as well as to the shareholders. A corporate executive is not a potentate, or caliph, or prince - they must be as responsible, as accountable, as any other employee.

[wades]

What chmood said. The straightforward way to do it would be to pick some round number (six million dollars would sound about right to me) and tax every dollar beyond that at 99%. My understanding is that this is basically what the tax code was like during WWII and the Eisenhower administration.

[John Thullen]

"Without regulations, it would be completely rational for factories to dump mercury if it makes production more efficient."

There's not much that can't be justified in the "rational" world, is there?

How about vigilante action against the murderous rationalists who spew the rational mercury, and all of the other crap the ratioalists pull in our "civilization", like taking people's healthcare away.

So we need to remake the world in an irrational manner to disallow a bunch of murderous rationalists from having their rational way?

When they were little, did their rational mothers tell them, "Go ahead and dump poison into the water, Bobby, but do it at night, when the irrational actors can't see you. Respond to incentives and disincentives as you rummage like a beast through the world. Get away with as much rationality as you can."

Rational Dad will chime in: "Let the boy along, Marge! If he wants to poison the neighbors, he'll do it, without the constant nagging. It'll come naturally."

Maybe the rational mothers should have been identified long ago and rationally sterilized.

[John Thullen]

So being rational is like what George Carlin used to find funny about the term "legally drunk."

The cops said the guy was "legally drunk".

Well, if it's legal, what's the problem?!

[chmood]

who knew rationalism could be so irrational?

[Shinobi]

I was just reading about a proposal to increase taxes on speculative trades while decreasing taxes on long term investment. It seems that this would likely have the net effect of changing the makeup of stakeholders in an organization, and thereby changing the incentives on which it is run. Perhaps some compensation caps are called for? But I think encouraging long term investment and discouraging speculation is more important that keeping banks from paying out big to good managers.

[Anna Blume]

John Thullen:

I think it's useful to distinguish between personal rationality and corporate rationality. Nature defines the laws that determine human survival; man defines those laws for corporations. The failure to make that distinction, as some free-market types do, leads to much confusion and lost opportunities in creating a sustainable business environment that is more generally beneficial to human development.

[Anna Blume]

Shinobi:

I was just reading about a proposal to increase taxes on speculative trades while decreasing taxes on long term investment. It seems that this would likely have the net effect of changing the makeup of stakeholders in an organization, and thereby changing the incentives on which it is run.

Every time I mention this, it gets roundly ignored. I heartily endorse this concept and hope others here will join in to discuss it. It's the best solution I've seen to shift our economic emphasis from the short- to the long-term.

[John Miller]

Back in the day, meaning the fifties and sixties, investment was almost always considered as something long term. Since I never had any money to actually, you know, put into something, I am not sure exactly when the change came into being, but my guess is sometimes during the 80's.

A lot of deregulation stems from that period, as does the decline of the middle class. Might have something to do with that great American hero, RR, being President, but I wouldn't want to disllusion any Republicans who still idolize him.

[John Thullen]

Computer technology and the deregulation of brokerage commissions made short-term investing, umm, more rational.

Then you have derivatives, which make the frequent trading of large blocks of stock, uh, rational and necessary.

It's like the deregulation of air travel -- you sit there with your knees jammed against the seat in front of you, which is in full recline position, and nibble on the little bag of kibble they toss at you and think to yourself, so this is what rationality looks like.

Bring me three six dollar drinks so I can regain irrationality.

There's a case to be made that all of this activity makes the market more liquid.

But I've arrived at the opinion (I used to day-trade back in the 1980s, for my own account) that all of this short-term stuff is little more than financial masturbation.

It's seems like fun when your doing it, but nothing comes of it, so to speak, except temporary satiation.

No babies get born.

On the other hand, again so to speak, you have the case for long-term investing, in which a stock is held forever with paper profits and paying a dividend, Washington Mutual, for example, and you wake up one morning and wonder where all of the liquidity went, because when everyone masturbates at once, it turns out there is zero liquidity at any price.

So, you buy mutual funds, thereby hiring someone to do the you-know-what for you.

Never mind.

[Anna Blume]

"Never mind."

Did the six dollar drinks just kick in?

[Hartmut]

The airplane rationality (and rationalization) hasn't yet reached the final stage. A European airline is seriously thinking about introducing standing places (cushioned boards with seat belts and collar) because that allows more passengers per square meter than seats ever could. I hope that goes the way of the proposed toilet fees (1 pound per piss).

[John Thullen]

I don't see why airlines can't offer rooftop perches for their passengers, like a third world commuter bus, where you hold on for dear life with one arm, clutching a chicken in the other.

Cheaper, more rational.

And to go with the bathroom fee, you could have other choices, too. You would pay a modest fee, slightly lower (adjusted minute by minute like airline fares depending on the frequency of urination), to be catherized and bagged, thus avoiding the long lines with squirming, cross-legged passengers.

Plus the airlines, being rational actors, would have a reason to juke up bathroom usage and fees by offering ..... free beer.

How about volunteer pilots ... from among the flight's passengers?

Those union contracts steam me.

The other month I was standing in my socks, beltless, being interrogated by a security guy, (he was wearing gloves) because my little bottle of shampoo and my little bottle of conditioner had fallen out of the plastic baggie in my suitcase.

He held up the shampoo in one hand and asked "What's this?" screwing up his mouth like the church lady. I said "Shampoo."

He held up the conditioner in the other hand, thinking he'd caught me out, and asked me "And this?" I paused, calculating the risk of going all Glenn Beckish on him by saying, "That, my good sir, is a thermonuclear device I picked up the last time I was in Tehran," but irrationality got the best of me and I admitted the conditioner was .. conditioner.

But it occurred to me that it would have been funny, while I standing there in my socks under security's oblivious Barney Fife gaze, if Osama Bin Laden, all seven feet of him dressed in brilliant white with his extra-tall traveling turban, had passed right behind me leading four donkeys and two llamas (braying loudly) loaded with surface to air missles and proceeded down the concourse and onto the plane.

[John Thullen]

You could pay a surcharge for being "catherterized".

[Slartibartfast]

"missiles"

/petpeeve

[John Thullen]

The Larry Kudlowian school of "the stock market is the arbiter all things human -- when it goes up, life is sweet) ought to take a look at the Zimbabwean market chart supplied via link over at the Cunning Realist.

Zimbabwe must be a paradise of unfettered finance capitalism and liberty.

It's Galt Gulch. Let the emigration begin.