Business, Finance & Economics

Branding American regulation


Barack Obama is back from his first overseas trip as president, including his first summit as leader of the West and his first visit to Iraq as commander-in-chief. He won plaudits for his negotiating skills at the G20 summit in London and for his speech in Turkey defending the American way of life.

What won less attention, but might be equally important, was how the American way of regulating the financial world prevailed at the G20 talks.

Though press reports suggested that world leaders were on board with clamping down on hedge funds, tax havens, and credit-rating agencies, a global financial regulator will not be created any time soon.

The reason: There are vastly different philosophies on both sides of the Atlantic on the role of government regulation. It’s the difference between preventing cancer and treating cancer. Europeans are inclined to use regulation to prevent crises whereas Americans are inclined to use it to treat crises.

Germany and France went into the summit demanding a global regulatory system that could reach across borders. They came away, instead, with an approach where regulatory goals and objectives could be pursued by nations on their own with involvement of international bodies keeping track of their progress.

"At the end of the day, their red-line demands were reduced to regulating hedge funds and addressing tax havens,” said John Kirton, director of the G20 Research Group at the University of Toronto Munk Centre for International Studies, suggesting most countries view a global regulator as a loss of sovereignty.

Since the U.S. was more interested in getting other countries to join the stimulus bandwagon than in creating a global regulator, the outcome was more in line with how regulation works on this side of the Atlantic.

The predisposition of federal regulators in Washington usually is to react to the problems at hand. Often, especially in banking, there are multiple regulators to consider. Regulators also are subject to political pressure, funding constraints, intense lobbying from Wall Street, and, often, Republican resistance to new regulation.

Consider that while the G20 was trying to hammer out a sweeping regulatory response to the world financial crisis, a single move in the U.S. by the organization that sets accounting standards for banks caused a rally of financial stocks on Wall Street. It allowed banks to have more flexibility in how they value toxic assets and report losses — thus boosting their balance sheets.

This exemplifies how U.S. regulators tend to be reactive to lobbying and the situation at hand. A disaster in this country, whether it be tainted food, unsafe automobiles, or protecting workers, usually results in new rules that come at a measured pace, if at all, depending on the political party in power.

Europeans take a different approach, preferring preventative regulation. They would rather kill all the cows than have one with mad cow disease, while the U.S. would test for the disease and leave the healthy ones standing. The U.S., in other words, views regulation as a wager, not a sure bet that it will solve the problem at hand.

In fact, in many cases, business groups in the United States fear new regulation will tilt the competitive playing field and create unintended economic consequences — hardly the kind of attitude that would lend itself to global regulatory resolve.

It’s understandable that a super-global regulator is an anathema in America, especially in the financial world where many federal agencies are power centers of their own.

Looking over banks and Wall Street are the Treasury Department, the Office of Thrift Supervision, the Federal Deposit Insurance Corporation, the Federal Reserve, the Securities and Exchange Commission and the Commodity Futures Trading Commission. And those are just the primary federal players.

Simon Johnson, former chief economist at the IMF and now a professor at the MIT’s Sloan School of Management in Boston, said the U.S. system of regulation is fraught with fragmentation. The state and federal regulators overseeing banks and insurance companies are not likely to want to cede territory to a bigger overseer.

“We don’t even have a national regulator, let alone a super regulator,” said Johnson, adding that the push for a global regulator at the summit “was a way to cover up the national regulators who have failed” both in America and Europe.

The Bush administration showed it wanted to move quickly, and alone, when it came to pulling the plug on a huge financial institution like Lehman Brothers. Checking in with a worldwide regulator wasn’t in the cards.

Simon said that summit participants dropped the ball when they did not insist on a warning system for any future big bank failures and decide “who is charge” when it does happen, whether it’s in Mumbai or London. The Financial Stability Board, which is supposed to coordinate world regulators, was charged with working on such a system.

This is likely one area where an ounce of global regulatory prevention might not be such a bad thing, especially if it saves the global economy from another one going down without a game plan.

More Dispatches on the G20 and President's Obama's overseas tour:

The maestro returns

Was it a success?

How to get paid like an American


For more on the global economic crisis:Click here for the full report

(Editor's note: this story was changed to correct the original definition of the BRICs)