Regulation Versus Intelligent Intervention

President Obama has announced that further regulation of the financial sector is necessary to prevent another collapse of the system. In new legislation, the government would, for the first time, regulate derivatives.

Derivatives are a financial contract that ties its value to some other financial event, instruments or conditions. Such financial tools were central, in some aspects, to the failure of the bank system under the pressure of faulty subprime mortgage lending practices.

In that case, the banks’ liabilities derived their value from these subprime mortgages. When the mortgages lost their value, the liabilities likewise lost theirs. As banks increasingly lent mortgages to individuals who could not afford them, financial instruments that were linked to the housing industry began to fall. Since these derivatives were tied to the banks, the banks quickly failed.

Many argue that overregulation was the cause of the banks to fail, not a lack of it. In another blog, I argued that because the government offered to bailout banks if lent mortgages went under, it created a precedent of faulty business practices that ultimately kicked the taxpayer in the butt.

However, this argument hinges the definition of “government regulation”. I would amend my statements from before and say that this was not a form of government regulation, but a form of government intervention that ultimately failed.

Therefore, can it be said that government regulation is always the enemy? No. I would argue that if the government had regulated derivatives, and stopped intervening in the wrong ways, the financial industry might be stronger for it. The government surely has a role in the economy, but the trick is to find the red line between safe intervention and all out regulation.

Without having seen the bill, however, it has yet to be seen what President Obama means by “regulation of derivatives”. It is worth pointing out that the government will not be able to monitor every market instrument and see every financial meltdown coming, but it might be worth trying to regulate blatantly bad business practices. On the other hand, government intervention also perpetuated the banks’ faulty business practice.

Bottom line is that we need smarter regulation, not necessarily more of it.

Chris Buchheit

Chris Buchheit

Chris Buchheit was born under the hot Floridian sun during some year in the 1980s. There he studied school matters until moving to North Carolina in 1999. Possibly due to the fact that his mom had enough of him being inside all the time, he quickly got involved in community affairs via the Boy Scouts of America, where he learned the values of citizenship, morality, duty to God and country, and that the biggest kids get to boss around the smaller ones. Chris attained the rank of Eagle Scout in 2004, and still values the rank as one of his proudest achievements. Beginning in 2006, Chris began attending the University of North Carolina at Chapel Hill, where he quickly learned the value of basketball and poplar trees. Since attending UNC, Chris has been double majoring in Asian Studies, with a concentration in Chinese, and Political Science. When he isn’t slaving over his honors thesis, looking up a bunch of Chinese Characters, volunteering, or mindlessly browsing the same websites over and over, Chris enjoys writing short stories and novels. Much to his roommates’ annoyance, he also spends his free time learning to play the guitar. Above all else, though, Chris values God, his family, and his friends. For the future, Chris plans to apply to Georgetown to further his studies in Political Science, hopefully with a concentration on China. Pending acceptance into Georgetown, Chris would like to study while gaining professional experience in a government job in Washington DC.
Chris Buchheit

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