Reforming U.S. Financial Markets
Summary
This volume pairs lectures by Randall Kroszner and Robert Shiller, delivered as the Alvin Hansen Symposium at Harvard, with commentary from other economists including Benjamin Friedman and George Kaufman. Both principal authors address what should be done about American financial regulation after the 2008 crisis, and they disagree.
Kroszner, a former Federal Reserve governor and Chicago economist, examines the regulatory failures in terms of incentives and information. He is concerned with how supervision should work, with the treatment of systemically important institutions, with the moral hazard created by rescue expectations, and with the practical constraints regulators face. His approach is institutional and cautious about the capacity of regulation to anticipate problems.
Shiller argues from his standard position that financial innovation should be expanded rather than restricted, and that the correct response to the crisis is to build the institutions that would let households manage the risks they actually face: better mortgage contracts with automatic workout provisions, continuous workout mortgages, home equity insurance, and instruments to hedge house price and income risk. He treats the crisis as evidence of missing markets rather than of excessive innovation. The commentaries examine both positions. The volume is short, accessible, and useful mainly for seeing two credible positions on financial regulation stated against each other rather than in isolation.
Key takeaways 7
- Kroszner argues that regulatory failure before 2008 reflected supervisory incentives and information limits rather than the absence of authority.
- Shiller argues that the crisis revealed missing markets for household risk rather than excessive financial innovation.
- Mortgage contracts with automatic adjustment provisions would prevent the mass renegotiation problem that foreclosure creates.
- Expectations of rescue for large institutions change their funding costs and therefore their risk-taking before any crisis occurs.
- Household exposure to house price and income risk is unhedgeable, and Shiller treats building those markets as the appropriate reform.
- Regulation designed after a crisis addresses the previous mechanism rather than the next one, which limits what any reform can achieve.
- The two authors agree that the pre-crisis regulatory structure was fragmented across agencies in ways that left gaps nobody covered.
Who should read it
Readers who want two credible and opposed positions on post-crisis financial regulation stated compactly against each other.
About Robert J. Shiller
Sterling Professor of Economics Emeritus, Yale University; co-creator of the Case-Shiller home price indices; Nobel laureate in economics 2013
Excess-volatility work and Irrational Exuberance are the primary sources for the empirical case that asset prices move far more than fundamentals justify.
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