John Kay on regulatory capture

There is an article by John Kay in the current online issue of Prospect Magazine which is particularly worth reading about Regulatory Capture, which you can read by following the link immediately below:

Capturing the regulators - Prospect Magazine

Regulatory capture describes the problem that a body set up to regulate an industry or activity can very easily come to identify with and effectively be controlled by the very interests it is meant to regulate. It has been a very real problem in every advanced economy including Britain.

John Kay's article describes some of the reasons this happens and gives examples from around the world of instances where it has occurred, and also a few examples of when it has been successfully reversed. 

He starts with similar cases in Germany and the USA where regulators launched prosecutions in respect of allegations against companies which were eventually proved to be acting fraudulently, not against the corrupt companies, but against the journalists and analysts who were publishing accurate criticisms of them. The US Supreme Court has been very controversial of late but in this instance were the good guys who quashed a grossly unjust conviction: as Kay writes,

“The case went all the way to the Supreme Court before America’s most senior judges reached the obvious conclusion that the public interest in the exposure of fraud outweighs the public interest in maintaining an orderly market in a fraudulent company’s shares.”

This is an issue which ought to be of concern to both those on the political right and left, as Kay explains in one of many excellent passages in the essay, as he describes how and why a cross-party coalition came together to reverse the capture of the Civil Aeronautics Board (CAB) by airline companies:

“The left correctly believed that the agency was under the control of business interests. The right correctly judged that free markets would serve airline customers better than the sclerotic status quo. In 1977, Alfred E Kahn, a Cornell professor who had literally written the book on regulatory capture in the airline industry, was appointed head of the CAB with the objective of winding it up. By 1985, the agency was finally abolished."”

Kay's article doesn't suggest a "magic bullet" to deal with the problem, rather it calls for vigilance and realism. He writes

“There is a need for greater humility about what regulation can achieve. To respond to every regulatory failure by introducing more and more complex rules is a process doomed to fail, and it has failed. The result is a regulation industry in which regulators and compliance staff engage in ever-more abstruse dialogue with each other and have a shared interest in increasing the scope of their jurisdiction. Within such a structure, capture is inevitable. And executives outside the charmed, but junior, circle of professional regulators regard regulation only as something to be got around. As Winston Churchill observed: 'If you make 10,000 regulations you destroy all respect for the law.'”

I recommend the article as well worth a read.