Why regulators should go to work on Wall Street
From K Street to Wall Street, it’s the career move everyone loves to hate but makes anyway: the revolving door.
Consider Sheila Bair, former head of the Federal Deposit Insurance Corporation. Before she accepted a position as a director of the Spanish bank Banco Santander earlier this year, she had been a vocal critic.
In her 2012 book “Bull by the Horns: Fighting to Save Main Street from Wall Street and Wall Street from Itself,” she had this to say about the phenomenon so common in finance that the New York Times’ Dealbook blog has an entire section called “Revolving Door”:
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“I would like to see financial regulation be viewed as a lifelong career choice — similar to the Foreign Service — rather than a revolving door to a better-paying job in the private sector. There should be a lifetime ban on regulators working for financial institutions they have regulated.”
Bair captured the conventional fear: that the revolving door encourages laxity among regulators who later reap big bucks at the institutions they were charged with regulating. Why offend potential employers?
There’s an attitude among the media and policymakers, especially in the wake of the recent financial crisis, says the University of Chicago’s Amit Seru, “that all regulation would work great if we could somehow fix the revolving door.”
But in a recent paper from the National Bureau of Economic Research, Seru and his co-authors David Lucca of the New York Fed and Francesco Trebbi of the University of British Columbia, beg to differ; they aren’t convinced the revolving door is, in itself, to blame for ineffective regulation.
The bigger problem is that the regulatory sector has a retention challenge, especially when it comes to holding on to top talent, their research finds. The highest educated regulators have the shortest regulatory tenures, and the average regulatory stint has shrunk over the last 25 years.
Eliminating the revolving door seems like an easy fix to trap that top talent in their regulatory gigs. But that logic, the authors argue, ignores the revolving door’s benefits — like “its potential to enhance the ability of regulatory agencies to hire better quality workers.”
Analyzing the career paths of more than 35,000 former and current regulators from the Fed banks, the FDIC, the Office of the Comptroller and Currency, the Office of Thrift Supervision and state banking regulators, the authors wanted to investigate the incidence and the drivers of the revolving door. Why did workers rotate from one side to the other, and when?
What Seru found most surprising about the results of their study is that the rotation between regulatory agencies and banks — like movement in any other industry — is a reflection of the business cycle and supply and demand for jobs.
When the economy is booming, regulators head to Wall Street. When times are bad, bankers flow back to the government because there is more demand for regulators, and presumably also because banking jobs are eliminated, or they just become less lucrative.
If regulators were soft on banks to improve their own chances of getting hired in the private sector (what the authors call the “quid pro quo” view of the revolving door), Seru and his co-authors would have expected to see lower gross outflows from regulatory agencies to the banks during periods of high enforcement activity. Would-be bankers wouldn’t want to get into the private sector just when the public sector was about to crack down, right?
Not necessarily. Seru and his colleagues found that gross inflows into regulation and gross outflows from regulation were both higher during periods of intense regulatory enforcement.
So why would workers want to move into banking during periods of higher enforcement? The quid pro quo interpretation doesn’t explain that pattern, the authors conclude.
Instead, they introduce an alternative theory to explain the trends in their dataset: the “regulatory schooling” view. Workers flow into regulatory agencies during periods of regulatory activity so they can learn the rules. When those rules are being enforced, they flow into banking, where their regulatory knowledge becomes more valuable. During periods of higher enforcement, a bank wants employees who know the ins and outs of those complex regulations, and naturally, who better than former regulators?
And so, far from compromising their independence, the prospect of a future banking job may actually incentivize regulators to develop more complex rules because their knowledge of them will make them more attractive hires in the private sector. Should they rotate into a bank, they can, as the authors put it, “earn their return from regulatory schooling.”
So yes, the phenomenon of regulatory inefficiency exists, say the authors. But it is due to the complexity of new rules, not the laxity associated with quid pro quo and the revolving door.
The fact that the authors thank their editor for suggesting a name for this alternative “regulatory schooling” view underscores that this idea hasn’t been talked about all that much, and it’s certainly not part of the conventional wisdom about the revolving door.
That’s a problem, as far as Seru is concerned, because the quid pro quo interpretation of the revolving door paints it in such a negative light that it encourages locking it shut, which, given regulatory agencies’ retention challenges, Seru says, would be devastating for a sector that depends on a pipeline of talent.
After punching their final government time cards, regulators would swivel into banking, leaving the rules without any skilled enforcers, Seru says. “You can make as many rules as you want, but you need to skill people in implementing them.”
The new study is not intended to be the final word on the revolving door, and it’s not to say that quid pro quo isn’t happening anywhere, Seru cautions. The dataset he and his co-authors constructed, for example, consists of CVs in the database of a “leading social network site for professionals” (he can’t disclose which one, Seru says, if he wants to continue his research). Specifically, it’s a study of anyone who worked at a bank regulating institution starting in the 1980s. But how much of the top talent in either the public or private sector really uses professional job sites to land their next corner office? When last checked, Sheila Bair’s LinkedIn profile, for example, hadn’t even been updated with her new role, nor did it include much of a CV.
But while Bair (who’s not identified in this paper) took heat for returning to the private sector after speaking out against the revolving door, this new research suggests that her ability to do so may not be a bad thing. More significantly, curtailing that movement might put our nation’s regulatory system in worse shape than it is.