Iain Murray

Post image for Bureaucrats Line Up to Regulate Bitcoin

The regulators are tasting blood around bitcoin, and like sharks they are positioning for the kill. The blood that they taste was not actually shed by bitcoin itself but by a bitcoin exchange, Mt.Gox, which filed for bankruptcy in a U.S. court on March 10. The troubles faced by the exchange have led to calls by legislators like Senator Joe Manchin (D.-WV) for regulators to act. It is a rare regulator that does not seek to expand his powers, so they are lining up for a piece of the regulatory action.

First up was FINRA, the Financial Industry Regulatory Authority, which issued a warning to investors about possible fraud in “bitcoin-related companies” on March 11. This warning is a bit of a stretch for FINRA, whose job is “efficient regulation of the securities industry.” Bitcoin is not in any way a security, it being primarily an electronic payment system, and so FINRA’s reach would seem to be limited.

Next up was the CFTC, the Commodities Futures Trading Commission, which announced it was looking internally at whether it could regulate bitcoin as a commodity or otherwise under its powers to regulate derivatives. Once again, this is a stretch. Bitcoin, as noted is a network for payments, which seems far away from the traditional definition of commodity – a basic good that can be exchanged for other goods. It is illuminating that some within the agency appear to be arguing that this definition extends to bitcoin.

It is not just Federal regulators, however. A Texas Securities Commissioner, also on March 11, directed an energy company to stop selling securities using bitcoin. The rationale was “investor protection,” but the Commissioner failed to realize that the energy company was the one bearing the risk of using bitcoin, not the investor. Again, bitcoin is primarily a payment system.

Thankfully, one regulator has decided to adopt much more of a wait-and-see approach. Ben Lawsky, New York’s superintendent of financial services, while asserting a right to regulate bitcoin services, has also decided to take a hands-off attitude for now:

The first challenge is to really understand what you’re regulating. I think we spent a lot of time and we, for regulators, have a pretty good handle on what we’re regulating. I’m well aware we don’t understand it like a computer scientist will understand it. That just makes us more careful because we want to always be aware of what we don’t know. We get that.

The bitcoin we know today is certainly not the end of the line for virtual currencies. It’s very much still in the early phase and it’s going to be developed more and there are going to be platforms built on platforms. The product or products or market we end up dealing with someday may be substantially different or improved. We don’t want to put regulations in place that will straightjacket the adaptation one would want to see.

We will see if Lawsky’s actions match his rhetoric, but it is clear that other regulators are not being so cautious. As Lawsky implies, regulators have the power to constrain or destroy promising innovations. For the moment, the fact that so many regulators are circling round bitcoin suggests that at least one of them might take the opportunity to do just that.

In a comment on my American Spectator article on the deleterious effects of debit card interchange fees on American households, Sara Durr, Spokesperson for the Merchants Payments Coalition, says

Mr. Murphy [sic] completely distorts the truth about debit swipe fee reform in the U.S. According to a new comprehensive report by noted economist Robert J. Shapiro, reducing the swipe fees for merchants actually put $5.8 billion back into the hands of consumers through lower prices, which led to sufficient increased spending to support 37,501 new jobs in 2012. Savings and job gains would have been substantially larger—to the tune of an additional $2.79 billion in consumer savings and 17,824 jobs—if the fees had been cut to 12 cents as originally recommended by the Federal Reserve Board

As this finding was completely at odds with the study I had cited in my article, I looked for it and found it here. Interestingly, it is entitled “The Costs and Benefits of Half a Loaf,” which is precisely what it studies. Unless I have missed something, it estimates only the putative savings to consumers at the point of sale. In so doing, it ignores the other half of the equation – the increased costs to bank card users from banks needing to make up a sudden shortfall in revenue as a result of this regulation. That’s exactly what the Evans et al. study I cited in my article does include. That study does indeed find that some savings to merchants — although not all — were passed on to the consumer, but those savings were more than wiped out by the increased banking fees, never mind such intangibles as the loss of reward programs. The full loaf is smaller now than it was before the “consumer-oriented” regulation went into effect.

That also doesn’t take into account other unquantifiable costs. I have been told (and I will post again when I have some linkable evidence to substantiate this) that the regulations have increased banking costs so much that over a million former bank customers are now “unbanked” — i.e., they closed their accounts rather than pay the fees. If true, that makes them less able to participate in a host of transactions that require a bank account. That total welfare cost could be substantial.

In other words, you can’t just look at half a loaf.

Post image for The Administration’s Regulatory Uncertainty

Groups like the Center for American Progress are claiming that the possibility of another row over the budget and debt ceiling are creating “uncertainty” in the economy. One might ask why it is that the Senate has not taken up a budget passed by the House for almost five years, but the fact is that the Obama administration itself is guilty of causing uncertainty among businesses. Here are five ways in which the administration is causing regulatory uncertainty:

  1. The administration refuses to finalize rules mandated by the 2010 Dodd-Frank Act, 3 years after it passed. According to the Davis-Polk law firm, “As of December 2, 2013, a total of 280 Dodd-Frank rulemaking requirement deadlines have passed. Of these 280 passed deadlines, 168 (60%) have been missed and 112 (40%) have been met with finalized rules. In addition, 165 (41.5%) of the 398 total required rulemakings have been finalized, while 111 (27.9%) rulemaking requirements have not yet been proposed.” The administration’s dilatoriness on Dodd-Frank is probably the biggest single creator of financial uncertainty and contributes to the inability of Americans to get access to capital, thereby stopping capital formation and the creation of new jobs. That’s not to say these rules will be a good thing when promulgated – they almost certainly will restrict financial innovation further – but there’s considerable uncertainty right now as to how they will do that. Banks can’t plan for the future, which means they don’t lend to people.
  2. The excessive powers of the Consumer Financial Protection Board and Financial Stability Oversight Council instituted under Dodd-Frank create uncertainty as to where or why they will act next. The designation of major insurance firms like Met Life as Systemically Important Financial Institutions (“SIFIs”) when they present no systemic risk creates significant uncertainty in the insurance industry and other nonbank financial institutions.
  3. For the first time since 2009 a new bank opened recently. This is unlikely to happen again soon. The regulatory hoops investors and entrepreneurs must jump through to charter a new bank are almost insurmountable, while many small banks cannot take them any more and are merging. This is causing uncertainty in the small banking sector and again restricting access to capital when it is most needed.
  4. The SEC is creating uncertainty in its rules for two aspects of the JOBS Act that were meant to free up financial innovation and allow more small firms access to capital. Regulation D reforms will require pointless form-filling that will scare off many small firms or open them up to unnecessary regulatory errors caused by their lack of experience in compliance. The crowdfunding rules appear to have been designed to restrict portal development to broker/dealers, when the intent of JOBS Act was clearly to open up potential among technological innovators. Once again, these rules create uncertainty that restricts capital formation.
  5. The National Labor Relations Board is causing significant uncertainty with its proposed rules on Persuaders and Ambush Elections, meaning that firms are contemplating the threat of forced unionization and do not know how they will be allowed to counter that threat. Once again, this uncertainty is diverting resources away from innovation and job creation.

Or, as Pejman Youfeszadeh puts it, “Yes Virginia, regulatory uncertainty is very real.”

Post image for We Didn’t Regulate Credit Cards, We Regulated People

That was the upshot of a panel I spoke at yesterday in New York at the Atlas Liberty Forum. It looked at the impact of regulation in general and in particular at the effects of credit card interchange fees.

It might seem counter-intuitive at first, but merchants who accept credit cards have always paid the credit card companies for their use, rather than vice-versa. If you want a good explanation of this, you should watch the classic Alec Guiness movie The Card, about a rakish young entrepreneur who invents an early version of a credit card, the Universal Thrift Club. In short, the merchants get more customers because of the availability of credit and the convenience of using a card, so they should pay the people who provide that boost to their custom.

But retailers, like the ones depicted in The Card, have always balked at that notion. Small merchants in particular can often feel hard done-by, seeing a proportion of their profit margin going to the credit card company on a swiped transaction, which they would have kept if it was cash (often forgetting that without accepting cards they might well not have made the sale at all). So they became the poster child for a campaign largely financed by large retailers to get government to limit the amount that can be charged as an interchange fees. They were aided in this campaign by groups that dislike the very idea of credit cards and banks at all.

One of the first countries to impose credit card interchange fees was Australia, as Ron Manners described on the panel. In 2003 the Federal Reserve Bank of Australia reduced interchange fees from 0.95 percent per transaction to 0.5 percent. Regulation after regulation — “all this nonsense” as Ron put it in his characteristically Australian way — has been heaped on top of this, with absurd results such as now being charged one fee for each leg of an airline flight even if the entire flight was booked at the same time and the end of credit card reward programs. Echoing the title of one of his books, Ron called it an Heroic Misadventure.

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It’s a case of “When Regulations Collide.” As we’ve seen in the energy field, contradictory regulations cost jobs as employers struggle to comply with legal requirements that tell them to do one thing on the one hand and the opposite on the other. Now we’re seeing another example in the field of financial regulation, as regulators face a dilemma between state rules and supranational rules known as Basel III.

The issue in question relates to regulations over a bank’s Liquidity Capital Ratio (LQR). At one point ratios such as this were helpful tools for investors to judge the health of a company. These days, they are the subject of regulations. The LQR will be a requirement for a certain amount of liquid capital to be held by a bank to back its liabilities. Of course, the definition of “liquid capital” can be hazy, so Basel III involves several complex ways of assessing the liquidity of capital. Some mortgage-backed securities will meet this standard.

Unfortunately for U.S. regulators, the Basel rules require that mortgages that qualify as a High Quality Liquid Asset have “full recourse,” which means that the bank will be able to pursue the borrower for the full value of the loan should they go into default. A problem thereby arises because there are 11 states, including California, where borrowers are protected by no or limited recourse. Therefore any banks that have substantial mortgage investments in these states will not be able to count these securities against their capital ratios, even if the securities are extremely high quality AAA-rated.

Federal regulators may fudge the issue, or they might simply exclude the value of mortgages in these states from the capital requirements. If that is the case, it is likely that banks will be less interested going forward in issuing mortgages in these states. This will mean that the less well-off, the people whom the “no recourse” laws or regulations were designed to protect, will be even less able to secure loans to buy a home.

The free market solution to this problem is, rather than heaping complex regulations on top of each other that either contradict themselves or institute perverse incentives, to allow banks to compete for custom on the basis of different contractual arrangements and to judge for themselves the amount of capital they need to back up the risk of their investments. There is historical evidence that, before the advent of complex regulations, large US banks held much higher levels of capital than they do now.

Tea Party conservatives were beside themselves when they discovered that a Yale political scientist named Daniel Kahan had seemingly admitted that Tea Party members were more scientifically literate than the general population. Kahan went on to say:

I’ve got to confess, though, I found this result surprising. As I pushed the button to run the analysis on my computer, I fully expected I’d be shown a modest negative correlation between identifying with the Tea Party and science comprehension.

But then again, I don’t know a single person who identifies with the Tea Party. All my impressions come from watching cable tv — & I don’t watch Fox News very often — and reading the “paper” (New York Times daily, plus a variety of politics-focused internet sites like Huffington Post & Politico).

I’m a little embarrassed, but mainly I’m just glad that I no longer hold this particular mistaken view.

Of course, I still subscribe to my various political and moral assessments–all very negative– of what I understand the “Tea Party movement” to stand for. I just no longer assume that the people who happen to hold those values are less likely than people who share my political outlooks to have acquired the sorts of knowledge and dispositions that a decent science comprehension scale measures.

Tea Party favorites like Glenn Beck were ecstatic:

Glenn Beck and his radio co-hosts Pat Gray and Stu Burguiere discussed the poll on Thursday…

All three agreed that it was a “positive” development to find someone “honest enough to go through and run the data.”

“I hope you have tenure, Dan, because Yale’s not going to keep you around, dude,” Beck said.

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The federal government cajoled JP Morgan into acquiring Bear Stearns. Now they are punishing JP Morgan for crimes allegedly committed by Bear Stearns prior to the acquisition. Maurice Greenberg, chairman and CEO of C.V. Starr & Co, writes in The Wall Street Journal:

History seems to be repeating itself with the case of J.P. Morgan. The global bank is now under siege by federal and state regulators. The most ironic claim against J.P. Morgan is an allegation from current New York Attorney General Eric Schneiderman of mortgage fraud at Bear Stearns that allegedly took place prior to J.P. Morgan’s acquisition of that firm. J.P. Morgan acquired Bear Stearns at the urging of federal officials who feared that fallout from Bear’s collapse would damage the entire economy.

Like AIG, J.P. Morgan plays a central role in both the U.S. and world economies. There are no more than a handful of executives with the requisite experience, talent and intelligence to lead that bank. Its chief executive, James Dimon, is one of those rare individuals. By diverting his attention from his responsibilities, government officials are hurting shareholders, pension funds, countless employees, the City of New York, and the national and global economy—not to mention undermining confidence in our banking system.

Those regulators have pushed their dubious claims to the point of requiring the bank to pay over $11 billion in fines. I hope the board of directors at J.P. Morgan will have the wisdom and courage to support their CEO and not cave to demands from regulators that can only harm the company and its stakeholders. That would send a strong message to the nation’s business community and allow J.P. Morgan to continue to benefit from Mr. Dimon’s leadership.

Whatever you think about “banksters,” this appears to be a breach of natural justice.

That this should arise in the case of regulation is unsurprising. Most regulation is not about justice. Its legal framework is one of strict liability—simply committing the act proves the crime. This is distinct from the traditionally accepted view of justice wherein one must have a “guilty mind” (a mens rea) to commit a crime (actus reus)*. The intention of strict liability is simple: to create an atmosphere in which acts that legislators believe can be harmful but are not immoral are discouraged. Yet this has led to a phenomenon overcriminalization—where innocent acts are not just crimes but ones which carry severe penalties. I know of no better guide to the law in this area for the layman than that at lawcomic.net.

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Post image for Environmental Regulations Threaten Refining Sector Jobs

I had the privilege of meeting with Charlie Drevna, President of American Fuel and Petrochemical Manufacturers this week. He had some extremely interesting things to say about the way mounting environmental regulations are threatening jobs in the refining sector that he represents.

A particularly compelling insight he provided was that many of the Obama administration’s environmental regulations actually contradict each other. For instance, CAFE regulations require higher fuel efficiency from automobiles. Yet the Renewable Fuel Standard, which mandates the use of less efficient ethanol, reduces fuel efficiency. Meanwhile, the Tier III rules from EPA contradict the rulemaking on greenhouse gas emissions: refineries need to do more processing to reduce sulfur in gasoline, which increases emissions at a refinery by up to 2.3 percent, while at the same time they are required to reduce greenhouse gas emissions.

Two more examples: to reduce ozone in the atmosphere under the National Ambient Air Quality Standards (NAAQS) requires more energy. More energy requires more greenhouse gas emissions, so there is another clear contradiction. Finally, state sulfur regulations contradict federal greenhouse gas regulations — if you use energy to reduce the sulfur in heating oil, you will increase your greenhouse gas emissions.

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Post image for Historians Should Learn the Economic Way of Thinking

Simon Schama is one of the world’s great historians. Indeed, I am currently having my children watch his magisterial “History of Britain,” and they are enthralled by it. In this brief contribution to Britain’s Prospect magazine he says some very important and insightful things, but one thing stood out for me:

I would make it completely illegal for flight attendants to presume to tell people how to fasten a seatbelt. Is there anybody in the entire world who doesn’t know how to fasten a seatbelt? It’s so insulting.

This is where the economic way of thinking is as useful as a knowledge of history. The economic way of thinking tells you that incentives matter and that therefore when something seems odd, you should look at where the incentives lie. Often the incentives for stupid and wasteful behavior are outdated government regulations that no one can be bothered to change. So it is with the seat belt demonstration, at least under American law (other jurisdictions undoubtedly have similar regulations). Behold the Code of Federal Regulations § 121.571, “Briefing passengers before takeoff”:

(a) Each certificate holder operating a passenger-carrying airplane shall insure that all passengers are orally briefed by the appropriate crewmember as follows: …

(iii) The use of safety belts, including instructions on how to fasten and unfasten the safety belts. Each passenger shall be briefed on when, where, and under what conditions the safety belt must be fastened about that passenger. This briefing shall include a statement that the Federal Aviation Regulations require passenger compliance with lighted passenger information signs and crewmember instructions concerning the use of safety belts.

So it is not that the redundant demonstration should be illegal, but that it is in fact legally required.

To return to Schama’s insights, he is right when he says that history “should never be self-congratulation; it should keep people awake at night.” In a way, so should economics.

While Thailand may have banned Bitcoin, the electronic currency — although some are not so sure — the economic powerhouse of Germany has just made it legal tender:

Virtual currency bitcoin has been recognized by the German Finance Ministry as a “unit of account”, meaning it is can be used for tax and trading purposes in the country.

Bitcoin is not classified as e-money or a foreign currency, the Finance Ministry said in a statement, but is rather a financial instrument under German banking rules. It is more akin to “private money” that can be used in “multilateral clearing circles”, the Ministry said.

Moreover, one Parliamentary official, a member of the classical liberal Free Democrat party that is currently part of the coalition government, gave a truly liberal backing for the decision:

“We should have competition in the production of money. I have long been a proponent of Friedrich August von Hayek scheme to denationalize money. Bitcoins are a first step in this direction,” said Frank Schaeffler, a member of the German parliament’s Finance Committee, who has pushed for legal classification of bitcoins.

CEI contributor Sascha Tamm advocated competing currencies as the solution to the problems facing the Euro currency in a CEI Web Memo last year:

Chancellor Merkel and many other European leaders want to defend the euro at any price, calling the single currency the foundation for the rise of a “United Europe.” The opposite is true. The euro is, in fact, one of the major causes of the problems besetting Europe today. And things could still get worse. Maintaining the currency union in its present form may cause the breakdown of Europe’s single market over the long run.

Is there a solution? Yes. The basic principles of the common market could save the European Union, if they were applied to monetary policy. Europe’s currency future lies in competition.

We are glad that Germany has decided to follow the advice of Hayek and Tamm. Given that so many Germans were reluctant to give up the Deutschmark in favor of the Euro, it will be interesting to see how many individuals and businesses start using it as their “unit of account.”