John Kay - Better a distant judge than a pliant regulator

Better a distant judge than a pliant regulator

There is a loss of intimacy in knowledge and understanding, and a reduction in subtlety and flexibility of approach that comes from insistence on judicable principles and rigid rules. But the prevalence of regulatory capture is such that it is often a price well worth paying.

In 1887, Congress passed an act to regulate the US railroad industry. The legislation originated in the demands of farmers and merchants for protection against the “robber barons”.

Despite this background, railroad interests supported the bill. Charles Adams, president of the Union Pacific Railroad, explained his reasoning to a sympathetic congressman, John D. Long. “What is desired,” he wrote, “is something having a good sound, but quite harmless, which will impress the popular mind with the idea that a great deal is being done, when, in reality, very little is intended to be done.”

On the whole, he got what he wanted. The Interstate Commerce Commission established by the act was chaired by a lawyer with experience of the railroad industry – acquired, naturally, by acting on behalf of his railroad clients. When, a decade later, the Supreme Court ruled that a rate-fixing agreement between railroads was illegal, the ICC was crestfallen: surely, the commission said, it should not be unlawful to confer, to achieve what the law enjoins – the setting of just and reasonable rates. Soon after, Congress approved legislation making it a criminal offence to offer rebates on tariffs the ICC had approved, and the commission thereafter operated as the manager of a railroad cartel.

Regulatory capture is the process by which the regulators of an industry come to view it through the eyes of its principal actors, and to equate the public interest with the financial stability of these actors. Sometimes such capture is overtly corrupt, as when regulators are in the past or present pay of the corporations they oversee. The largest contributors to congressional campaign funding are heavily regulated industries such as financial services, pharmaceuticals and energy.

Corruption can be more subtle. A politician who looks to a life after politics knows that big companies can offer lucrative consultancies and directorships, but representing the public interest does not. Everyone who works in a regulatory agency knows that if they are well regarded in the industry, they are eligible for jobs in the private sector that are often more rewarding than employment in a public agency.

But the most common form of capture is honest and may be characterised as intellectual capture. Every regulatory agency is dependent for information on the businesses it regulates. Many of the people who run regulated companies are agreeable, committed individuals who are properly affronted by any suggestion that their activities do not serve the public good. Few members of the public, by contrast, ever make contact with a regulatory agency; almost always, they are less well informed than the professionals who deal with regulatory issues. It requires a considerable effort of imagination to visualise that any industry might be organised very differently from the way that industry is organised now. So even the regulator with the best intentions comes to see issues in much the same way as the corporate officers he deals with every day. You require both an abrasive personality and considerable intellectual curiosity to do the job in any other way. And these are not the qualities often sought, or found, in regulators.

Judges are surrounded by pompous ritual and dress in gowns and wigs, plaintiffs and defendants are not allowed to take them to lunch, and judicial proceedings enforce the law rather than promote economic efficiency. The purpose is to maintain distance between the arbiter and those he must arbitrate between, and to secure a clash of conflicting views.

A price must be paid for this judicial detachment. There is a loss of intimacy in knowledge and understanding, and a reduction in subtlety and flexibility of approach that comes from insistence on judicable principles and rigid rules. But the prevalence of regulatory capture is such that it is often a price well worth paying. Charles Adams was prescient in his quick understanding of this issue.

 

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