Archives: 04/2012

Do We Need a FDA for Financial Journalists?

The normally insightful Gretchen Morgenson ran a column Saturday that I at first suspected must have been intended for April Fools’ Day.  She discusses a paper by University of Chicago professors Eric Posner and E. Glen Weyl that suggests we create an agency like the Food and Drug Administration for financial products.

I haven’t yet read the paper, but given some of the remarks, I am not sure its worth the effort.   For instance, Weyl states, ”[w]e tried an experiment with a very radical form of deregulation that has very little basis in sound economic science.”  In what universe does one live in to believe our financial system had a “very radical form of deregulation”.  Our financial markets are, and have been for a long time, massively regulated.  That’s the problem.  The moral hazard and perverse incentives created by our existing system of financial regulation should be clear to anyone with a basic understanding of “sound economic science”.

Take the example of credit default swaps (CDS). The good professors posit “[i]magining a credit default swap being brought before a financial protection agency,” Mr. Posner and Mr. Weyl wrote: “We would expect the F.P.A. to treat it skeptically.” Really?  CDS were brought before the NY Fed, who signed off on them as a great way for banks to manage their risk (and hence reduce their capital).

We had a massive financial crisis because households, banks, bureaucrats and politicians rationally responded to the perverse incentives they faced.  What’s crazy about defaulting on a mortgage when you’ve put nothing down and there’s no recourse.  (Let’s not forget it was some politician that decided that recourse was a bad thing).  If you want a better system, fix the incentives.  Thinking that the same failed regulators who missed, and contributed to, the last crisis are going to fix the next one strikes me as naive, as well as having “very little basis in sound economic science”.

Administrative Agencies Are Not a Power Unto Themselves

Cato legal associate Trevor Burrus co-authored this blogpost.

Administrative agencies are accorded huge deference — too much deference — by the courts. Acting as police, prosecutor, judge, jury, and executioner, agencies increasingly act as a law unto themselves and do a majority of the federal government’s work.

Through this arrangement, Congress is put in a win-win situation: the government can delegate decision-making to agencies and avoid political accountability. Because of these concerns, it is vitally important that courts’ deference to agencies not go too far.

In Christopher v. SmithKline Beecham Corp., two former pharmaceutical sales representatives sued to recover overtime pay. The Fair Labor Standards Act, however, exempts “outside salesmen” from overtime requirements and for over 70 years a Department of Labor rule has broadly defined “outside salesman” to include those who perform any part of the work required to sell goods. Pharmaceutical companies, as well as many other businesses, have long organized their business practices around this rule.

When former pharmaceutical employees brought a similar suit in the Second Circuit, the Secretary of Labor filed an amicus brief explaining that the rule would be thereafter changed not to exclude pharmaceutical employees. The Second Circuit deferred to this ad hoc rule change and held for the plaintiffs.

In Christopher, however, the Ninth Circuit refused to defer to the Labor Department’s attempt to change a long-standing rule. Cato thus joined the Washington Legal Foundation and the Allied Educational Foundation on an amicus brief to advise the Court that the Ninth Circuit was, believe it or not, correct. As the Ninth Circuit said, an “about-face regulation, expressed only in ad hoc amicus filings” does not deserve even the broad deference already accorded to agencies. Moreover, we stress that, if such deference were allowed, it would encourage agencies to avoid the regular rulemaking procedures that allow affected parties to give “notice and comment” on the proposed changes.

Administrative agencies should not be allowed any more leeway to increase their often unreviewable power.