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November 22, 2004

Regulation 'In Terrorem'

Eliot Spitzer, in his drive to become Governor of New York, has turned into a one-man regulatory dynamo. As Henry Manne puts it in a WSJ op-ed today (Regulation 'In Terrorem'),


In an era of general acceptance of deregulation and privatization, Mr. Spitzer has introduced the world to yet a new form of regulation, the use of the criminal law as an in terrorem weapon to force acceptance of industry-wide regulations. These rules are not vetted through normal authoritative channels, are not reviewable by any administrative process, and are not subject to even the minimal due-process requirements our courts require for normal administrative rule making. The whole process bears no resemblance to a rule of law; it is a reign of force. And to make matters worse, the regulatory remedies are usually vastly more costly to the public than the alleged evils.
...
Since Mr. Spitzer wins his cases in the media, where business is now all but defenseless, the best hope is for the American business community to develop its own public voice. The free-market scholarship needed for this purpose is available, though it is rarely availed of in these fights. Too often the corporate defenders conclude, out of ignorance to be sure, that the opposition really has the better case.

Spitzer's actions both mimic and take advantage of the kind of judicial legislation we've gotten used to over the last few decades. Its obvious personal political agenda makes it only slightly more odious. Spitzer may see himself as a latter-day Brandeis, but he's clearly capable of much more damage than Brandeis ever did.

Manne directly takes on Spitzer's takedown of Marsh & McLennan, which has not only cost thousands of people their jobs, but also probably helped make the insurance industry less efficient and competitive, raising your insurance rates, not lowering them:


But what if Mr. Spitzer is wrong, and what if none of the practices complained of was either unethical or anticompetitive? After all, Mr. Spitzer's case against certain practices in the mutual-fund industry relied heavily on one academic study claiming $5 billion a year losses to the investing public. The author of that study now admits that the figure -- in any event based on some very dubious suppositions -- should have been $2 billion rather than $5 billion. It is probably much less than that.
...
Let us suppose, for example, that Marsh & McLennan, in order to gain various efficiencies of integration, bought out numerous insurance companies and operated them as divisions of one company. We would call the resulting firm a multi-divisional, vertically integrated company, a perfectly legal way of doing business. There could then be no antitrust concerns about internal decisions to allocate business to one division or another or about allocating costs and revenues internally as they saw fit.

Now suppose that these same economies of integration could be obtained more cheaply by contract, or even by customary norms, rather than through expensive acquisitions and the administration of a larger organization. Certainly there could be no greater economic harm in the latter scenario than in the former. Yet the latter, which is the more likely explanation of what occurred in the insurance industry, is susceptible to easy misunderstanding. What in one case would be seen as internal cost and price management now looks like illegal bid rigging. Of course, it could be, but we cannot assume that from the facts we know. (emphasis added)

I would point out that Manne has, over the years, been a leading voice in opposition to insider trading laws on the basis that they decrease market efficiency while creating a set of vague and arbitrary trading rules. Whether or not this gives him Hillary Clinton's ear is another matter.

Still, Manne is right when he claims that the academic research is there to oppose Spitzer. But it's going to be a question of political will. The main opposition would have to come from someone like Governor Pataki, but he's shown no interest in spending his own political capital to preserve the country's economic capital. (Republicans should remember that in 2008.)

Since the major papers and networks are unlikely to take on their crusader-hero in a critical manner, this might be a place for blogs to try to influence the debate.

Posted by joshuasharf at November 22, 2004 01:54 PM | TrackBack
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