Populist Retribution and International Competition in Financial Services Regulation

• Publication year: 2022

43 Creighton L. Rev. 335. POPULIST RETRIBUTION AND INTERNATIONAL COMPETITION IN FINANCIAL SERVICES REGULATION

POPULIST RETRIBUTION AND INTERNATIONAL COMPETITION IN FINANCIAL SERVICES REGULATION

A.C. PRITCHARD(fn*)

The pattern of regulatory reform in financial services regulation follows a predictable pattern in democratic states.(fn1) A hyperactive market generates a bubble, the bubble deflates, and much financial pain ensues for those individuals who bought at the top of the market. The financial mess brings the scrutiny of politicians, who vow "Never again!" A political battle ensues, with representatives of the financial services industry fighting a rearguard action to preserve its prerogatives amidst cries for the bankers' scalps. Regulations, carefully crafted to win the last war, are promulgated. Memories fade of the foolish enthusiasm that fed the last bubble. Slowly, greed once again comes to displace fear as the primary motivating influence in the marketplace. And as night follows day, another market run-up occurs, leading to a correction, and another round of calls for retribution against the greedy moneychangers who brought on the crisis.

This is a familiar story, not worth belaboring yet again, despite the opportunity afforded by the financial crisis ensuing from the collapse of the market for subprime mortgages. We had our latest bubble, followed by the market deflation, and the politicians are now responding to the calls for vengeance, and perhaps, reform. Instead of focusing narrowly on the latest iteration of this recurring pattern, in this Article I want to compare the political response to this iteration of financial meltdown with last century's response to the stock market crash of October 1929 and the ensuing Great Depression. Comparing the two era's responses affords an opportunity to explore the influence, if any, that international competition in financial services regulation might have on the political thirst for retribution. International competition in financial services was not much of a factor in the 1930s when Franklin Delano Roosevelt pursued his New Deal agenda; American capital markets were relatively independent of financial markets in the rest of the world. Today, however, international competition has the potential to substantially constrain the regulatory decisions that Barack Obama's administration is currently contemplating.

The question: Does international competition limit the quest for political retribution? One hypothesis: competition among jurisdictions to attract financial services providers might limit the understandable urge to make the bankers pay for causing the financial crisis. Politicians may trip over each other as they rush to punish the money changers who caused the crisis, but do they want to kill the goose that lays the golden eggs? Exacting a pound of flesh may suit short-term political imperatives, but the financial services industry is an important source of tax revenues, and more importantly, campaign contributions for politicians. Sending the industry offshore would cut into a critical revenue source. And there is no shortage of jurisdictions what would welcome the money changers with open arms.

The alternative hypothesis, however, is that the populist anger -particularly when it is fueled by severe economic disruption in the real economy and high unemployment - simply dominates in the political economy of modern democracies. In that scenario, the short term benefits that accrue to political actors from appealing to popular anger over the financial crisis outweigh any potential long term benefits that those actors might reap from protecting the financial sector. Which force - competition or populism - is likely to prevail in the current fight to reform financial regulation? To give away the ending, my money is on populism, not competition. But there are limits to populism's force.

I. CHASING OUT THE MONEY CHANGERS: THEN AND NOW

There are many parallels between the financial crisis that the world faced in the 1930s and the one that we face today. The proximate cause of the Great Depression appeared to be the stock market collapse of 1929; today it is the collapse of the subprime market and the demise (or near demise) of a number of financial institutions that were too heavily exposed to that sector. The political response to these financial collapses was predictable. Roosevelt was elected with enormous popular support and a mandate to bring reform to a dysfunctional financial system that had brought the nation's real economy to its knees; Barack Obama was elected with a similar mandate. Roosevelt and Obama share liberal Democrat ideology, both are suspicious of unfettered free markets. Perhaps most importantly, Obama, like Roosevelt before him, enjoys the political advantage of strong Democratic majorities in both houses of Congress. On its face, this electoral dominance suggests that the political wheel is well greased for success in enacting reform.

A. THEN: ROOSEVELT

Taming Wall Street was a key theme of Roosevelt's 1932 campaign. Roosevelt's central message was that capitalism failed because of the excesses of the capitalists. Roosevelt was quite comfortable casting the debate over reform as an "us versus them" question.(fn2)Roosevelt's detractors saw his agenda as thinly veiled class warfare. Roosevelt, however, did not flinch from the confrontation. He put the question in explicitly moral, and indeed vaguely religious terms, in his first inaugural address:

Practices of the unscrupulous money changers stand indicted in the court of public opinion, rejected by the hearts and minds of men.

* * *

Stripped of the lure of profit by which to induce our people to follow their false leadership, they have resorted to exhortations, pleading tearfully for restored conditions. They know only the rules of a generation of self-seekers. They have no vision, and when there is no vision the people perish.

The money changers have fled their high seats in the temple of our civilization. We may now restore that temple to the ancient truths.(fn3)

In the popular mind, the bankers were responsible for the financial crisis. Roosevelt seized on that perception. Roosevelt showed an astute political sense by tapping into an incident in the life of Jesus that would have been quite familiar to the overwhelming majority of his constituents.(fn4) Nonetheless, there is certain audacity to his rhetoric; it requires more than a little self-confidence to portray one's role as a politician as akin to that of Jesus.

Three-quarters of a century later, Barack Obama recalled Roosevelt's messianic invocation in his own call for financial reform. Here is Obama preaching to the money changers:

Unfortunately, there are some in the financial industry who are misreading this moment. Instead of learning the lessons of Lehman and the crisis from which we are still recovering, they are choosing to ignore them. They do so not just at their own peril, but at our nation's. So I want everybody here to hear my words: We will not go back to the days of reckless behavior and unchecked excess that was at the heart of this crisis, where too many were motivated only by the appetite for quick kills and bloated bonuses. Those on Wall Street cannot resume taking risks without regard for consequences, and expect that next time, American taxpayers will be there to break their fall.(fn5)

"[H]ear [Obama's] words," and stirring words they are, full of moralism condemning "the appetite for quick kills and bloated bonuses." The greed of the money-changers would not be allowed to imperil the nation again.(fn6) Once again, "Never again!"

Roosevelt and Obama share an unfettered optimism in the ability of government to tame the forces of capitalism. In accepting the Democratic Party's nomination for President, Roosevelt promised wholesale reform of the securities and banking industries. After his inauguration, Roosevelt wasted no time in delivering on that promise. During his first term, Roosevelt pushed through Congress four pieces of legislation, dramatically re-engineering the financial services sector:

* The Securities Act of 1933(fn7) ("Securities Act") brought the federal government into the regulation of the public offering of securities, curbing the investment bankers' prior domination of that process. The law required corporate issuers to make full disclosure when selling securities. The goal was to curb the speculative excesses of the 1920s.

* The Glass-Steagall Act of 1933(fn8) ("Glass-Steagall"), which legally separated the businesses of commercial and investment banking. The law was intended to discourage deposit institutions from encouraging speculation in the stock market.

* The Securities Exchange Act of 1934(fn9) ("Exchange Act') targeted the New York Stock Exchange, regulating trading practices and requiring disclosure of operations and results by companies listing on exchanges. The Exchange Act also created the Securities and Exchange Commission ("SEC") to administer the securities laws.

* The Public Utility Holding Company Act of 1935(fn10)("PUHCA"), which targeted the holding companies that owned most of the public utilities in the United States at the time. Easily the most contentious of the securities laws pushed by Roosevelt, PUHCA went well beyond disclosure that characterized the two earlier securities statutes and permitted the

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