Turning the Page on the Global Financial Crisis

Abstract

In 2007, the two of us looked back on the Sarbanes-Oxley Act and recent developments in corporate governance. We argued at the time that more proactive engagement between government and the private sector could foster self-regulation and voluntary compliance, creating a new corporate culture.

We were wrong.

The global financial crisis has exposed the deep fissures in our capitalist system. The two of us firmly believe that capitalism is the best mechanism for generating wealth and -- in a broad sense -- making people better off. But the last few years have demonstrated why preservation of markets can never be an end in itself. We must seriously rethink the relationship between markets and government.

The framework we propose is simple, but (in our humble opinions) its simplicity belies its important implications in the “markets vs. government” debate. A regulator asks: Will the situation, if left unregulated, pose a threat to the social, political, and/or economic system (defined as civil society generally)? If yes, the action should be regulated. If no, the market should be permitted to work on its own. Note what this does: First, it creates an important role for markets to function. Second, it recognizes that free markets are too costly for society if the very existence of markets threatens civil society or if individuals and firms are incapable of participating in that system.

Applying this framework, we develop various policy prescriptions, which we describe in the balance of the paper.

Keywords: capitalism, financial crisis, regulation, markets, government

JEL Classification: A00, A10, E00, H10, H11, P00, P16