Regulation – U.S. vs. E.U.

In the comments section of the blog, Nate, asked an excellent question that I wanted to address:

“You say the European economy is going to see a nastier recession than the US and come out of it slower. This is due to, among other things, increased red tape and regulation of business. How does that reconcile with your desire for increased regulation here in the states?”

I am sorry if my various postings on regulation have confused. What is at issue here is the quality and types of regulation, and less specifically the amount of regulation. In the U.S. the bottom line is that we have had too little regulation. Specifically many very large markets whose transactions amount to trillions of dollars have no oversight whatsoever. These markets’ lack of transparency has led to poor regulatory oversight. Additionally, our regulatory structure has been exploited by better motivated and better funded market participants to the detriment of regulators. Ultimately, this helped lead to massive economic fracturing and decline for all of us, including those who previously exploited the lax regulatory structures. Because I have enumerated at length the changes that need to be made, I will not repeat them here.

However, in the U.S. what we do not have is crippling, economically stifling regulation that does exist in Europe. What the EU has lacked for almost 30 years is economic growth that can keep up with the other major economies of the world. Economic growth there has been about half of what it is in the U.S. Yet, the population of the EU is about the same as in the U.S. and they are equally well educated. The problem with having economic growth that is half of what the U.S. economic growth is boils down to the fact that the EU cannot grow its way out of recessions the way the U.S. can. So to what can we attribute the slow economic growth of the EU? There are many sources, but chief among them is the stifling nature of regulation. In the U.S. you and I can form a corporation in one day. In most countries in Europe it can take months (and over a year in some parts) to receive a corporate charter. Because of the hassle of going through this approval process, entrepreneurs who have an idea just don’t bother to go through with all of the hassle. This seemingly minor thing is actually a major thing.

Nate’s question illustrates for me also in what ways I was unclear about the EU’s regulatory problems. It’s not just that they have too much regulation at the micro-level of the economy, it’s that they have no regulation at the cross-border level. There is no single monetary policy authority who has the power in the EU to dictate economic policy – such as cutting interest rates. The other governmental policy lever that can be pulled anywhere else in the world is legislative and executive action on the economy; so called, “fiscal” policy. Yet again there is no overarching economic authority that can coordinate economic policy in the EU. Imagine if in the U.S. there were no national economic policy maker. Then Ohio would be in the position of lobbying Texas to do something about its foreclosure rates in order to help it? It would pit state vs. state and imagine all of the red tape. In other words, the lack of an overarching economic authority in the EU leads in its own paradoxical way to more red tape in the form of cross-border competition for cooperation. This is another potential disaster for the EU and will most likely lead to a slow recovery.

Nate, you also asked if this leads to a fundamental question as to whether or not people are evil and need regulation. First, we would need to know what your definition of evil is in order to have a meaningful discussion about that. Second, I think I know what you mean and my answer is “no” I don’t think fundamentally people are evil. What I do think though is that people do need boundaries, from children to meddling parents, in order to know what is permissible. If there are lax boundaries it can lead to a pushing out of the boundaries – this can result in economic growth as “new” economic ideas are permitted to be created. However, it can also lead to all sorts of behaviors that are self-serving and economically destructive. It is a fine line to walk, both in amount of regulation and in type. The analogy that works best for me is rules for football. Too many rules and too many rules of a particular type and there is no scoring. Too few rules and too few of a particular type and you have a melee that results in players being crippled and even killed. When the name of the game is competition then regulation needs to be present in an artful way lest mayhem ensues. This is because by its nature competition is about success at the cost of something or someone else. Does this make sense?

Great question Nate, keep ’em coming.

Jason