By Peter Mannino

Unfortunately, regulatory policy is not something that most people would describe as an interesting subject, and consequently it does not often get discussed. However, in light of the fact that deregulation was a central culprit of the financial collapse, regulatory policy has suddenly become a hot topic.

No one doubts the need for more regulation, but there seems to be two schools of thought as to how much regulation we need. The first school only wants moderate regulation of the financial system, while the second school wants to, in the words of Paul Krugman, “make banking boring.”

The first school of thought argues that the deregulatory zeal that has existed since the Reagan Revolution has produced many tangible benefits. They claim that less regulation has created more efficient capital markets which have produced faster growth-economist Gary Becker points out that world GDP has increased 154 percent since 1980. They fear that too much regulation could reverse the progress we have made in recent decades.

The second school of thought believes that less regulation led to more risk taking, and as a result, more financial instability. This school believes that financial innovations, which many have hailed as tools for more broadly distributing risk, have actually only hidden risk, and need to be strongly regulated. Economist Willem Buiter writes of regulation, “It may even kill off certain innovations that would have been socially useful. So be it. The dangers of unbridled financial innovation are too manifest.”

Of course, everyone would prefer the “perfect” amount of regulation, but unfortunately no one can really know what the “perfect” amount is. The consequences of regulating too lightly are well, we are currently experiencing them, while the consequences of regulating too much are that we get the same financial system we had prior to 1980.

So, how did the financial system serve us prior to 1980? Well, the numbers from the Department of Commerce show that for the 28 year period from 1952 to 1980 real GDP grew 159 percent. Over the 28 year period from 1980 to 2008 real GDP grew 125 percent. Of course there are many differences between then and now, but a rough calculation seems to suggest that a deregulated financial system does not produce better results.

Also, one of the results of financial deregulation has been that the financial sector has grown to enormous proportions- financial sector profits accounted for about one third of all corporate profits by the middle of the decade. The growth of the financial sector meant that financial firms could offer extremely high compensation to attract the top talent from the best universities. With so much talent going to the financial industry, there were less highly skilled workers going to other parts of the economy. So I ask you, Would you prefer that our nation’s top talent work to createcomplicated financial instruments or would you prefer that they work toward inventing the next generation of iPod? Personally, I would prefer the iPod.

With stronger regulations, financial firms would not be able to take as much risk or expand to the size they are today. Without such expansion, they would not be able to offer such exorbitant compensation and perhaps less of our top graduates will flock to Wall Street and more will head to Silicon Valley.

With the potential costs of an under-regulated financial system being higher than the benefits, it would be better to err on the side of more regulation. The regulatory outline that Sec. Geithner laid out in March seems to be a step in the right direction; it proposed new regulation for complex derivatives, and more oversight of hedge funds. There are still many questions that Sec. Geithner has to answer such as, which regulatory body gets which power, how much authority will these regulators have, and of course the perennial question of how do you get regulators to actually regulate during the boom times?

There will certainly be immense political pressure coming from our financial system to regulate lightly, but we have to hope the administration will not back down. Let us hope that President Obama has the will to set the foundation for a new generation of financial stability, and economic prosperity.

Peter Mannino is a sophomore political science student. You may e-mail him at [email protected].