Does government regulation work?

              DOES GOVERNMENT REGULATION WORK?
by ERIC L. STATTIN, National Service Director for Savings and Loan, Los Angeles
Regulation of business by government is not new. The
Emperor Hammurabi established a central government in
Babylon around 2000 BC and promulgated a code of over
300 laws. Some dealt with business activity and seemed to
be aimed at assuring integrity in business dealings.
Some 15 centuries later, Aristotle wrote the following:
"He who purposes duly to manage any branch of economy
should be well acquainted with the locality in which he
undertakes to labor and should be naturally clever, and by
choice industrious and just; for if any one of these qualities
be wanting, he will make many mistakes in the business
which he intends to take in hand."
Aristotle was talking about management of business, not
its regulation by government. Today, however, much busi­ness
decision-making and policy-setting are preempted by
specific government regulation or by a regulatory agency.
Are the qualities Aristotle required in a business manager
present in today's regulatory bureaucracy?
One way or another, most of American business is
regulated by federal, state, and local government. Some
industries are more closely regulated than others: the
railroads, truckers, and public utilities, for example. They
have territories, rates, quality of service, and even
accounting systems prescribed for them. Financial insti­tutions
are also closely regulated by federal and state
authorities, and it is the effectiveness of that regulation
which is to be questioned here. Does government
regulation of financial institutions work?
There is plenty of evidence that government regulation
of financial institutions does not work. There is even more
public opinion to that effect. A skeptic might even suggest
that in those circumstances where regulation does seem to
work, other factors are really responsible.
The present regulatory system was shaped by conditions
which were generally negative and which the public and
the institutions themselves wanted to avoid repeating. Of
all the calamities, the Great Depression was probably the
most profound.
Notwithstanding this negative genesis, most regulators of
financial institutions see their role as one of making positive
contributions to our society and our economy. Naturally,
there are obvious conflicting interests. Businessmen,
homeowners, and trustees of deposit insurance funds
would measure success differently. How regulators deal
with these interests is one way of gauging their success.
The Regulatory Tightrope
The Home Owners Loan Act of 1933 and the National
Housing Act of 1934 were drawn to provide emergency
relief to homeowners then suffering from the Depression
and to encourage future thrift and home ownership. The
federal savings and loan system, Federal Home Loan Bank
System, and Federal Savings and Loan Insurance Corpora­tion
(FSLIC) were created to help meet these objectives.
Federal insurance of bank deposits came into being also.
Perhaps the greatest conflict among regulators of
financial institutions is that which exists between the
providers of capital and the users of capital. Other conflicts
exist within the classes of capital providers and within the
classes of capital users. Lately there have also arisen con­flicts
between regulatory agencies. For example, the SEC
and federal bank regulators disagree over how full " f u l l"
disclosure should be for publicly owned banks. The SEC
wants bank stockholders to be fully informed, while bank
regulators are fearful that bad news might cause the
depositors to lose confidence and bolt.
How do the regulators deal with conflicts and decide
which policy will best serve the "public interest"? The
savings and loan industry represents a simple example of
providers (mainly individual savers) who had put up $286
billion at year end 1975. How does the Federal Home Loan
Bank Board balance thrift, economical home ownership,
and the interests of the FSLIC?
A federally chartered savings and loan organization is
required to make most of its home loans to people of
modest means. Regulations also prescribe the maximum
loan to value ratios and require that most loans be made on
properties within a prescribed distance of their off ice. Such
limitations are intended to reduce the investment risk, and
thus protect the savers' interests and the FSLIC.
But what happens when people of less than modest
means expect or are perceived by politicians as deserving to
become homeowners? Many of these families cannot come
up with a 20 percent down payment on even a $30,000
home. When that home inflates in value 10 percent or more
annually, the prospective homeowner is further behind.
The government's response has been to subsidize both
the risk and the direct cost of housing. The problem is that a
few of these arrangements are in the form of hidden
subsidies that offer a potential for regulatory abuse. For
example, the FHLBB is under no legal or self-imposed
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