The Need for Economic Analysis in Financial Regulation


By Hester Peirce

The Chamber of Commerce released a new report on Tuesday on the importance of cost-benefit analysis in financial regulation.  It makes the point that such analysis is essential in the context of the massive Dodd-Frank rulemaking effort:

Cost-benefit analysis provides a regulatory template designed to ensure that, despite the accelerated pace, regulators will not cut corners but will engage in more rational decision-making, will produce better regulations, and will promote good governance.

I made a similar point in a recent paper about the federal financial regulators’ failure to use economic analysis.  Economic analysis is not, I explained, a burden, but an important tool for regulators to think about and convey to the president, Congress, and the public the problems regulators are trying to solve, the alternative solutions they are considering, the costs that society will bear under each alternative, and the benefits society can expect to enjoy as a result of regulatory actions.

Professors Paul Rose and Christopher Walker argue convincingly in the Chamber report that there is not a good alternative for using cost-benefit analysis in rulemaking.  The “efficiency, rigor, and transparency afforded by cost-benefit analysis” is preferable to “an alternative regulatory model in which financial regulators promulgate rules without regard to their economic effects.”

Their conclusion that economic analysis can and should be done by financial regulators received support at Tuesday’s Senate Banking Committee nominations hearing.  First, in her prepared testimony, Mary Jo White, the President’s nominee to be chairman of the Securities and Exchange Commission, pledged to “ensure that the SEC performs robust analysis in connection with its rules.”  She explained that:

the SEC should seek to assess, from the outset, the economic impacts of its contemplated rulemaking. Such transparent and robust analysis, including consideration of the costs and benefits, will help ensure that effective and optimal solutions are achieved without unnecessary burdens or competitive harm.

Also at Tuesday’s hearing, Senator Warren opined that, while it is difficult to assess costs related to enforcement, “it’s fairly easy to measure the costs of implementing a regulation.”  Ms. Warren’s statement is an important rejoinder to the oft-repeated criticism that regulatory impact analysis is particularly difficult to conduct for financial regulations.
Once financial regulators embrace the usefulness of economic analysis as a regulatory tool, they will be able to use it to think through problems, develop workable solutions, and explain those solutions to others.


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