From: julianlzb87@gmail.com   
      
   The two main harms of government regulation, to be balanced against any   
   benefits, are cost and delay. But there is another harm, rarer but   
   lethal when it happens. Sometimes regulation perversely increases risk   
   by lulling the regulated business or people into a false sense of safety.   
      
   I had this thought last weekend as I watched a football match on   
   television. My beloved Newcastle United beat Aston Villa in the FA Cup   
   fourth round, but the match made headlines because of five bafflingly   
   bad decisions taken by the referee and his linesmen: failing to award   
   two clear penalties, failing to give a red card for a dangerous tackle   
   and failing to spot two offsides that led to goals.   
      
   Four of the five decisions went against my team but that is not my   
   point. Because it was the FA Cup, there was no Video Assistant Referee   
   (VAR) to check and overrule the ref. Whereas some say this proved the   
   need for VAR, Alan Shearer made a more perceptive comment: ‘If you ever   
   needed any evidence of the damage VAR has done to the referees, I think   
   today is a great example of that. These guys I think look petrified to   
   make a decision today because they didn’t have a comfort blanket. For   
   me, they’re actually getting worse.’ In other words, the introduction of   
   new technology to help referees has made them less good at their job.   
      
   The same thing happened in the run-up to the financial crisis. There was   
   plenty of regulation of banks, indeed the volume and detail of   
   regulation increased significantly before the crash. The Financial   
   Services Authority (FSA) crawled all over banks, demanding to see how   
   they handled various risks. The widespread notion that deregulation   
   caused the crash is nonsense. It was the under–regulated hedge funds   
   that came through the crisis in best shape precisely because they had no   
   comfort blanket.   
      
   As the 15 authors of one 2009 study, led by Philip Booth of the   
   Institute of Economic Affairs, concluded: ‘Though [we find] that   
   statutory regulation failed, and that market participants took more   
   risks than they should have done, it appears that statutory regulation   
   made matters worse rather than better.’ This is partly because   
   regulators were obsessed with one kind of risk and neglected another.   
   Credit risk (whether borrowers could pay back money they had borrowed)   
   was the constant concern of the regulator. Liquidity risk (whether   
   lenders might stop supplying funds) was often barely mentioned. Yet it   
   was mainly liquidity drying up that brought down the mortgage banks and   
   many other institutions.   
      
   Credit risk in Britain turned out to be roughly as the banks had   
   calculated; liquidity risk turned out to be much higher. Why had the   
   boards of banks not taken more notice of the risks they were running on   
   the borrowing side? Because the regulator inadvertently reassured them   
   by neglecting the topic. Said the bulls to the bears on the boards: ‘The   
   FSA’s not worried, so why are you?’   
      
   Moreover, as John Kay and Mervyn King pointed out in their book Radical   
   Uncertainty, the regulated banks had got into the habit of putting a   
   number on every risk, to indicate probability multiplied by impact. They   
   did this to satisfy the regulator. In effect, this turned regulation   
   into a box-ticking operation. But some risks were unquantifiable, so   
   putting numbers on them misled the risk committees of these banks and   
   the regulators too. ‘The biggest mistake governments made was to pretend   
   they knew more than they did,’ said Kay and King.   
      
   In America, regulators made a worse and rather less subtle mistake in   
   the early 2000s. The American government decided that sub-prime lending   
   should be encouraged in order to help more poor people and minorities to   
   get mortgages. They did this mainly by ordering two huge,   
   government-backed entities, Fannie Mae and Freddie Mac, to drive up the   
   proportion of sub-prime mortgages.   
      
   With a government guarantee behind their borrowing, the two went out and   
   bought portfolios of mortgages off lenders, who happily responded by   
   abandoning almost all restraint on sub-prime lending. Why do we care   
   whether this chap can repay his loan, they asked themselves, if others   
   are going to take the loan off our books? Why do we care, said Fannie   
   and Freddie, if the taxpayer is guaranteeing us? By 2008, when the music   
   stopped, Freddie and Fannie held more than $2 trillion of such loans   
   with high default rates and high loan-to-value ratios. They had spent   
   $175 million lobbying to defend their government guarantee.   
      
   The late John Adams of University College London wrote a book about a   
   general human tendency for ‘risk compensation’: if you make our lives   
   safer, we will take more risks. People wearing seat belts drive faster,   
   other things being equal, than those not wearing them. American states   
   that brought in laws mandating the use of motorcycle helmets saw   
   relatively more motorcycle accidents than those that did not. A spot   
   where a rural road crossed a railway in Canada, with no gates or warning   
   lights, was rendered ‘safer’ by cutting down trees so cars could see if   
   trains were coming – the result was an accident for the first time,   
   because cars slowed down less.   
      
   Conversely, Sweden’s ‘Hogertrafikomlaggningen’ in 1967 – when,   
   overnight, drivers switched to driving on the right – caused a temporary   
   reduction in accidents, as drivers compensated for the expected   
   increased risk by driving more carefully.   
      
   Of course, this argument shouldn’t be taken too far. Regulation does   
   help reduce risk: speed limits, drink-driving laws, bans on texting   
   while driving all help. Yet if you try to explain to a regulatory body   
   that badly designed regulations might sometimes make things less safe,   
   they just don’t get it. For regulators, human beings are automatons that   
   obey or disobey rules, not thinking creatures that respond in subtler   
   ways to incentives. Give referees the comfort of knowing a video replay   
   will confirm or overrule their decisions and you don’t make their   
   decisions better, you make them worse.   
      
      
   Matt Ridley   
      
   --- SoupGate-Win32 v1.05   
    * Origin: you cannot sedate... all the things you hate (1:229/2)