Are financial regulators universal regulators? Let’s hope not

Calls to use financial regulation as a tool of universal regulation are increasing. On issues ranging from the environment to labor relations, regulatory bodies traditionally tasked with managing financial transactions and institutions now seek other social goals. For example, Sarah Bloom Raskin – recently nominated as the Federal Reserve’s vice chair for banking supervision – calls on financial regulators to take an expansive view of their power to address climate risk. Supporters of a new U.S. Securities and Exchange Commission (SEC) reporting requirement justify it partly as a way to help unions and make more companies comply with expected new environmental disclosures. 

While these issues are no doubt important, and may justify regulation of some form, they are well outside the scope of the financial regulatory system. The trend poses a real threat to the economy and to the regulators themselves. Proponents of using financial regulations as universal regulation should be careful what they wish for, because they just might get it.

For activists, the appeal is obvious. Access to financial markets – be they banks, payments services or capital markets – is essential for industries and individuals. This logic undergirded the controversial but aptly named “Operation Chokepoint,” in which FDIC officials used bank regulation, most notably the concept of “reputation risk,” to pressure banks to cut off financial services to lawful payday lenders because the FDIC officials had a moral aversion to them. 

While the Federal Deposit Insurance Corporation (FDIC) subsequently admitted that some of its employees’ actions were “inconsistent” with its policies and disclaimed the use of “[r]egulatory threats, undue pressure, coercion, and intimidation designed to restrict access to financial services for lawful businesses,” there was no change in law to prevent similar future incidents.

It’s true that financial regulators often have broad, perhaps even excessive, mandates from Congress — but not as broad as some regulators believe. As my colleague Andrew Vollmer explains about the SEC, seemingly broad statutory language is often narrower than it might appear. And as seen in the recent Occupational Safety and Health Administration (OSHA) vaccine case, courts have pushed back against administrative overreach when an agency’s aim is far outside its usual purview, or when a policy would grant the agency much more authority than Congress seems to have intended.

Even if using financial regulation as a tool of universal regulation is permitted under the authority granted by Congress, there is still the prudential question of whether such use is wise. There are several reasons why the answer is no.

The first and most obvious problem is one of expertise and resources. These agencies were designed to be technocratic, with deep expertise in a limited set of important and complex topics. The tools, powers and procedures they use were developed to address a certain set of problems. In a world of limited resources, more responsibilities mean spreading personnel more thinly. It almost guarantees that an agency’s ambitious new goal, its core mission or both will suffer.

The second problem is one of perception. As University of Alabama Professor Julie Hill eloquently explains in the context of banking, the financial system relies on the reputation of financial regulators as honest brokers set on protecting core features like safety, soundness and truthful disclosures. The less regulators are seen as independent and dispassionate, and the more they are seen as politicized or willing to exploit their power, the less trust and respect people will have for them — and by extension for the markets they regulate.

This is dangerous for the economy as a whole. It’s also dangerous for our system of government to have administrative agencies, rather than our elected representatives in Congress, setting policies to address important social problems.

Finally, there is the risk that using financial regulators as universal regulators fully catches on. The current proponents earnestly believe that some issues are so important and consequential that using all tools available, no matter what they were intended for, is justified. No doubt, those who believe that abortion results in the murder of hundreds of thousands per year, or that American companies placating China constitute a national security threat, or in any number of other policy positions, feel the same way. Should we allow the SEC, the Federal Reserve and other institutions to become full-on social battlegrounds? If the genie isn’t going to be put back in the bottle, it will be hard for people not to make wishes.

Allowing this level of politicization to spread into financial regulation would harm the economy and the country. Hopefully the financial regulatory apparatus will avoid this pitfall, but that will require both wisdom and humility on the part of the regulators.

Brian Knight is the director of innovation and governance and a senior research fellow at the Mercatus Center at George Mason University.