The regulator US financial markets need

WASHINGTON, DC  —  When Gary Gensler became chair of the US Securities and Exchange Commission in April 2021, he started to tighten regulation on some parts of the financial sector. Eighteen months later, the industry’s pushback is becoming intense.

The Wall Street Journal editorial page calls Gensler’s approach “fast and furious”, claiming that writing too many rules is undermining investor protection. Leading industry representatives argue that the comment period on proposed rules is too short. And The Economist has implicitly accused him of hubris, snarkily asking, “Can Gary Gensler Solve Every Problem in American Finance?”

None of this criticism makes any sense, because it ignores how little was achieved by Gensler’s predecessors. The rules governing securities markets in the United States have been allowed to slip over the past dozen years, enabling some dangerous practices to take root. Gensler and his colleagues are indeed working fast and furiously, but primarily to help markets from becoming massively unfair.

According to The Economist, Gensler’s team has proposed more rules in his first 18 months than did his three predecessors, Jay Clayton, Michael Piwowar, and Mary Jo White. By itself this is an entirely meaningless statistic. The real question is: what is the problem to be solved, and is the SEC doing its job?

The 2008 global financial crisis exposed some major weaknesses in US financial markets. The Dodd-Frank financial reforms of 2010 were designed to fix some of the problems, but, under White, the SEC implemented them at a glacial pace. Under Clayton and Piwowar, regulation influenced by the SEC became more permissive, sliding back towards the “anything goes” days of the early 2000s, which contributed to the madness of the 2007-08 boom-bust cycle.

Gensler’s principles are clear and fairly consistent. As even The Economist concedes, ever since Gensler was chair of the Commodity Futures Trading Commission (CFTC) in 2009-14, he has stood for a level playing field on which financial-industry insiders are required to treat customers fairly.

Looking back over Gensler’s long career, as a political adviser and at the US Treasury, he has been consistently skeptical of opaque practices or efforts to dodge disclosing material information. The first part of Gensler’s career was at Goldman Sachs, so he brings an ex-insider’s experience to all these issues. (Gensler and I were colleagues at MIT for several years and, more briefly, during the transition to President Joe Biden’s administration, but I have not been involved in any of his work at the SEC).

Who exactly would be opposed to rules that attempt to bring more transparency to markets, special-purpose acquisition companies, or cryptocurrencies? Who does not like measures that require customers to be treated fairly by broker-dealers or exchanges? And who would not want to know how publicly traded firms’ activities affect the climate?

It has been an article of faith for many, and a marketing strategy among promoters of cryptocurrencies, that financial markets can exist without effective regulation. They cannot, for at least three reasons.

For starters, finance is complex, and it is easy for customers to be confused or misled about what they are being offered. What happened earlier this year with the Terra-Luna “algorithmic stablecoin” is a perfect example. The scheme made no sense, but thousands of people were sucked in, and ended up losing billions of dollars.

Second, great fortunes can be made quickly in financial markets, and this encourages people to think they could be next in line to hit it big. Greed can make us all gullible. Again, Terra-Luna is an extreme but hardly unique example. (Cryptocurrency operations are not currently under SEC jurisdiction, but Gensler would like to change that.)

Third, very smart people run big financial firms. Many of them have enormous resources, are backed by the best possible lawyers, and prefer that the playing field remains tilted in their favor. For some of these people, the current preferred strategy is to stall for as long as possible, hoping for a shift in the political winds.

The industry wants long comment periods (90-120 days) on proposed rule changes, although most SEC proposals provide 45 days for comments and some allow 60, compared to the 30 days that Congress generally requires. With or without longer comment periods, there will no doubt be many lawsuits challenging SEC rules on myriad grounds.

Based on Gensler’s track record at the CFTC, it seems likely that the SEC will win most of those cases, and markets will become fairer. He will not solve every problem in American finance or society, but stronger and more effective regulation that keeps up with financial innovation is essential for effective investor protection. The SEC has become far more credible with him at the helm.

Simon Johnson, a former chief economist at the International Monetary Fund, is a professor at MIT’s Sloan School of Management and a co-chair of the COVID-19 Policy Alliance. Copyright: Project Syndicate, 2022. www.project-syndicate.org