The New Book on Regulation I Just Decided to Write: Blame it on Monaco

Our youngest son works for a state educational facility for the blind. He generally works as an aide helping to teach life skills to kids who are both blind and deaf. It isn't like Helen Keller. It is rare for such children to be able to read braille. The children often act out physically in ways that endanger them, their classmates, and the aides. The pay is poor. June's brother worked as a VA psychologists with those scarred emotionally by the trauma of their service. If there is a God I trust she will recognize similar caring souls.

Our daughter-in-law is a newly minted lawyer who worked as a prosecutor. Like me (but more directly because she was actually prosecuting the cases), she worked, as Geiger would phrase it, to remove the liberty of people. Some people who commit serious crimes should suffer a loss of liberty and they should certainly be kept from committing those crimes repeatedly.

So, from Geiger's perspective my family and I represent the "bureaucratic" minions of "big brother" coming to deprive the rich and powerful of their natural right to commit crimes with impunity. I confess that I do not feel even slightly guilty about the service my family and I have provided to the United States of America. I will also tell you that I have never heard any of the family members I have described, including the Bronze Star recipient, ever make the slightest boast about that service or make the most minimal claim to heroism. I don't know if they represented "the greatest generation" in U.S. history but they represented the greatest generation I had the great fortune to know and love.

I also make no claim that our family is anything other than a typical American family. I tell our story because it is so common and normal. I realize that other families suffered vastly greater losses to loved ones due to their service. We have been lucky so far. None of the family members I mentioned were killed or seriously wounded in their service.

I also confess that I am tired to the bone of hearing Ronald Reagan's thoroughly dishonest "joke" that the scariest words in the English language are "I'm from the government, and I'm here to help you." Every day firefighters go into burning and smoke-filled houses to rescue strangers, police officers respond to calls for help that may turn into murderous assaults on them, social security workers efficiently walk you through what you need to get care for your mother with advanced Alzheimer's, teachers strive to help your kids learn, and financial regulators (if they do not have anti-regulators as leaders) try to protect all of us from massive frauds. The real joke is the phrase "I'm from Goldman Sachs, and I'm here to make you rich."

Everyone I mentioned in my family has also worked in the private sector. We like honest business people. We want them to be free of a Gresham's dynamic that can cause them to fail and the immoral to gain a competitive advantage. It is not acceptable that the people most likely to denounce the fictional assault on elite frauds as akin to "big brothers" feel free to denounce government workers for the "sin" of upholding the rule of law against elite frauds.

The Paradox of Desirable Reforms Freighted with Disastrous Ideological Baggage

The dominant financial anti-regulatory paradigm has become that set by George Kaufman, a fierce foe of effective financial regulation and regulators. Kaufman is most known for his proposal to mandate that financial regulators take "prompt corrective action" (PCA) against a bank as its reported capital falls. PCA is a desirable concept that I have long supported, but it comes with implicit anti-regulatory dogma that has encouraged the anti-regulatory policies that made banking so criminogenic and cause our recurrent, intensifying financial crises. PCA also has an Achilles' "heel" -- accounting control fraud -- the very problem that it's ideological baggage helps to create. It is the rare economist who can surmount the field's primitive tribal taboo against taking "fraud" seriously. My rule of thumb is that if they do not discuss Akerlof and Romer's 1993 article on "looting" in the main text, ignore entirely the criminology literature, and fail to interview Ed Gray, Jim Cirona (recently deceased), Mike Patriarca, Chris Seefer, or me about fraud and regulation then the researchers are not making a serious, professional effort to understand what causes banking regulation to succeed or fail.

I show in subsequent articles in this series that PCA's ideological freight also breeds deadly complacency. The various Shadows' blind faith in their PCA plans caused them to claim that PCA had made expensive banking failures a thing of the past. When the largest banks instead suffer unprecedented, catastrophic losses due to epidemics of accounting control fraud their CEOs led, the theoclassical economists go into denial and suggest tweaks in PCA that ignore the gaping hole in their policy nostrums through which the fraud epidemics that produce our recurrent, intensifying financial crises surge.

Anat Admati and Martin Hellwig have proposed a plan in their book (The Bankers' New Clothes: What's Wrong With Banking and What to Do About It) that is similar to Kaufman's plan. They would greatly increase bank capital requirements in order to encourage the bank and its regulators to promptly correct any defects before the bank deteriorates to the point that it would require public funds to resolve its problems. The Brown-Vitter (BV) bill purports to be based on their proposals and Admati and Hellwig support it. BV actively makes bank examiners more vulnerable to attack, particularly by large, fraudulent banks. It too breeds complacency and carries ideological freight that would make banking even more criminogenic. It has the same Achilles' heel as PCA to the epidemics of accounting control fraud that its anti-regulatory policies would encourage and the same unwillingness to take fraud seriously even after it blew up the global economy.

• Should bank capital requirements be greatly increased? "Yes," not "yes, but"."
• Are the conventional finance arguments against increasing bank capital bogus? "Yes," not "yes, but"."

Indeed, I will argue in a future article that Admati and Hellwig greatly understate the case for increased capital requirements because they base their argument primarily on the Modigliani-Miller Theorem, when their analysis demonstrates that it is false. Very highly leveraged banks pose severe negative externalities.

The problem is the criminogenic anti-regulatory freight that comes with BV. Some of it is express, but much of it is unacknowledged because it is implicit. None of the freight is logically necessary or even desirable to the sound bases for calling for greatly increased bank capital requirements, but Admati and Hellwig have neither shed nor debunked the ideological freight that has so badly derailed PCA's excellent core ideas -- raise bank capital requirements dramatically and place failing banks in receivership earlier. I remain hopeful; however, that if we have an opportunity to discuss the policy issues we will be able to reach agreement. Defeatism is not in my nature. Their central insight is sound. The ideological freight is not simply unnecessary to that insight but hostile to it. As I explained last year, Brown-Vitter piles even more dangerous dogmas on top of this destructive ideological freight.

Brown and Vitter have never contacted me in response to my article pointing out the problems with their bill. I do not believe that they have amended the bill to the address the problems.