Abstract
This final chapter combines the regulatory building blocks reviewed in the preceding chapter according to a principle of compartmentation of the financial system. The author maintains that compartmentation plays a crucial role in all living and artificial systems liable to episodes of instability and crisis, as is confirmed by a series of examples drawn from different fields. The new regulatory design should guarantee not only the stability of the financial system but also its respect of the principles of substantive democracy. The author argues that the policies pursued by regulators in recent decades had a crucial impact on the evolution of the financial system, and that—in the absence of an explicit and specific mandate of the legislature—this influence cannot be convincingly reconciled with the principles of democracy. The author advocates the establishment of a new guardian institution that represents the interests of all citizens and assures the compliance of the financial sector with the principles of democracy.
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Notes
- 1.
- 2.
I have already mentioned in many occasions the Glass-Steagall Act approved in 1933 by the US Congress. Many other countries soon imitated its approach that was broadly agreed and advocated in the Peace Conference of Bretton Woods (1944). This vision of financial regulation and supervision ruled in most countries until the late 1970s.
- 3.
This is true also of the measures implemented in the UK under the tag of ring fencing. It is early to judge the results of this approach but it is difficult to believe that in periods of serious financial distress this sort of weak compartmentation may be sufficient to avoid conflicts of interest and contagion.
- 4.
Membranes that provide physical barriers to biomolecules maintain their optimal concentration for each specific regulation process.
- 5.
China introduced the technique of watertight bulkhead compartmentation in vessels building during the Han dynasty (206 BC to 220 AD). Silk-way merchants spread this technique in Europe during the Middle Ages. The most famous of them was the Venetian merchant and chronicler Marco Polo who mentioned this technique in his famous book (2005 [1350]).
- 6.
See Vercelli (2014) for a discussion of the analogies between financial instability and the structural instability of nuclear power plants (see note 8).
- 7.
This truth has been often recognised also by mainstream researchers such as, for example, Gorton (2010).
- 8.
Redundancy in nuclear plants avoided many disasters. However, it is difficult to establish in general which is the optimal degree of redundancy because redundant safety mechanism may be disrupted by the same severe shock that triggers a persistent and cumulative deviation from equilibrium, as in the case of the Fukushima1 plant in 2011, or by a cascade of unexpected events triggered by an initial mistake, as in the case of the Chernobyl Plant in 1976. On the analogies between nuclear chain reaction and financial contagion see Vercelli (2014).
- 9.
In the US for instance, during the free banking era, some local banks assumed functions that are typical of a central bank. For example, the Suffolk Bank of Boston acted as a private bank note clearinghouse, while the New York Safety Fund provided deposit insurance for member banks.
- 10.
The People’s Bank of China plays the role of central bank of the People’s Republic of China. It is a Department of the State Council, namely the government of the Republic, but has a high degree of operational independence.
- 11.
This is the definition of political cycle provided by the ECB itself: “If governments had direct control over central banks, politicians could be tempted to change interest rates in their favour to create short-term economic booms or use central bank money to finance popular policy measures. This would seriously harm the economy in the long term.” (ECB 2017)
- 12.
See Wilmarth (2009) for a more detailed account of this very instructive story.
- 13.
As is well known, the Maastricht Treaty established the ECB that officially came into force on November 1, 1993.
- 14.
“By having the monetary policy of the ECB focus on this objective, the Treaty incorporates modern economic thinking on the role, scope and limits of monetary policy” (ibidem).
- 15.
“This is the best contribution monetary policy can make to economic growth and job creation.” (ibidem) “Without prejudice to the objective of price stability”, the Eurosystem shall also “support the general economic policies in the Union with a view to contributing to the achievement of the objectives of the Union”. These include inter alia “full employment” and “balanced economic growth”. In other words, the Treaty establishes a clear hierarchy of objectives for the ECB assigning overriding importance to price stability.
- 16.
See, for example, Bovens (2005, 31) and literature there cited. As Bovens maintains, “In Europe, there has long been a concern that the trend toward European policymaking is not being matched by an equally forceful creation of appropriate accountability regimes … Accountability deficits are said to exist and even grow, compromising the legitimacy of the European polity” (Bovens 2005, 31).
- 17.
The only significant exception mentioned by the ECB is that members of the European Parliament can address written questions.
- 18.
By “democratic independence” I mean a rigorous independence from all partial interests coupled with strategic dependence on general interests as expressed by representative democracy.
- 19.
According to Omarova, the PIC has to keep a strict independence from both bankers and bureaucrats: “the presence of an effective third-party ‘guardian’ at the decision-making table potentially creates a built-in source of countervailing perspective on substantive policy issues and imposes structural checks on regulatory capture” (Omarova 2012, 642).
- 20.
Notwithstanding the systematic reference to tripartism, the institutional design suggested by Omarova for the US is broadly consistent with the democratic foundations of the Council here advocated. In her opinion, “the Council’s main functions would be to impose structural checks on regulatory capture and to diffuse the industry’s power to control the regulatory agenda by putting both financial regulators and financial institutions under constant and intense public scrutiny” (Omarova 2012, 624). This and other similar passages make evident the link between the views of Omarova and the democratic doctrine of checks and balances rightly recalled by Levine (2009, 2011), and strongly supported in this book.
- 21.
As is well known, this expression has been uttered by Hamlet (Shakespeare’s Hamlet, Act 1, Scene 5) to praise the effectiveness of the father’s ghost seeking vengeance. Hegel and Marx, among others, have borrowed this expression in different contexts. Hegel refers to the transformation of poetry into pure spirit that occurs suddenly as in a volcanic eruption. Marx, who learned philosophy by studying Hegel and English by studying Shakespeare, referred to the ghost of communism and the revolutionary eruption that it would have eventually determined. Today the ghost of financial technocracy undermines the fragile building of democracy without which the development of our societies would rapidly become irremediably unsustainable.
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Vercelli, A. (2019). Towards a Sustainable Financial System. In: Finance and Democracy. Palgrave Macmillan, Cham. https://doi.org/10.1007/978-3-030-27912-7_8
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