No Free Lunch: Economics for a Fallen World: Third Edition, Revised

Chapter Fourteen: Decision-making in Democracy: Public Choice 342 will respond to unfavorable financial market regulation (Dodd-Frank )? Perhaps it should—after all, sometimes regulators want to treat milk products as if they were toxic oil spills. And while Smokestack Industries will have a strong incentive to lobby Congress on behalf of its specific interest, the broader public has little incentive to even be aware of what the regulation is. So the regulator will not necessarily want to be too aggressive with the industry—even if his name is “Do-Right.” The other extreme also happens: regulators get too cozy with the industry they regulate (try a web search for “regulators too cozy” for some complaints). Regulators may want to cooperate with an industry for a whole host of reasons: they may want a job in the future in that industry, they may believe a cooperative attitude works best, or they simply may not have the technical knowledge of any malfeasance that the industry is up to. But in the end, the regulator is often “captured” by the very industry he is supposed to regulate. Regulatory capture leads to the regulator serving the industry’s concerns rather than the general public. We should not be too surprised when two recent fiascos (2008 financial crisis and deepwater oil spill) are alleged to have failed regulation at the core. Some might note that regulatory capture by industry is not always the result; that is certainly true. A broader look would find competing interests to capture the regulator. For example, industry typically has been unsuccessful at “capturing” the Environmental Protection Agency (EPA). President Obama vowed to bankrupt coal-powered electricity generation via regulation; in response, candidate Trump was strongly supported by the coal industry in his 2016 election. Environmental groups have used their influence with the EPA to push regulations they desire, such as the denial of the Keystone Pipeline before the 2012 election. No matter which decision is reached, will it represent the public interest or simply the stronger of two competing interest groups? As this discussion suggests, regulatory capture doesn’t necessarily have to be limited to capture by the regulated industry, nor does regulatory capture only lead to outcomes departing from the public interest if industry does the capturing. Even if regulators could avoid capture by any interest group, they still face a huge obstacle in knowing what exactly the best social regulation is. When you have no objective measure of what the true social cost or benefit is, how do you regulate to achieve an optimal amount? The obvious answer is, you can’t; so you will tend to balance the competing interests. And as we discussed earlier, the competing interests may have differing incentives to let you know what their cost/benefit structure is. The “knowledge” problem for the regulator is compounded by special interest politics. Does this mean that regulation can’t be effective? Once again, no. It simply identifies problems that make a detailed institutional arrangement comparison necessary. Business often surprisingly seeks regulation to try and limit competition. So the purposes of regulation may not really be for the public interest anyway. One cannot assume government regulation will improve on private regulation. Regulatory capture: This occurs when regulators support the needs of the industry they regulate rather than the needs of the general public.