Question

Complexity may be at issue. In order to be an effective regulator of the financial markets, one must have an extensive knowledge of the complex instruments that are traded in today's markets. Just about the only place to gain that knowledge is within the financial industry itself. As a result, there is a revolving door between the regulatory agencies and the financial industry. Most of the regulators will one day return to the financial industry in a lucrative position.

Do you think this contributes to the lax enforcement?

Answer 1

Yes, I do think that this contributes to lax enforcement in a way. At the end of the day the goal of effective regulation is to ensure that the functioning of the financial markets is proper. Fairness of the financial markets and the firms that engage in financial activity is one of the key pillars of effective enforcement. Thus the goal of good and effective enforcement is to keep the financial markets efficient as well as transparent, both at the same time. Another goal is fair and honest treatment of customers and clients that are active in the market.

Now regulators access the financial industry themselves to gain knowledge of new financial products that are being introduced. For instance in the 2000s many new financially engineered products based on the concepts of derivatives, asset backed securities etc. were introduced. These financially engineered products were highly complex in nature and hence beyond the comprehension of regulators. As such many regulators accessed the financial markets to seek knowledge and gain and develop a better understanding of these complex financial products. With time they saw that the financial markets offered a highly lucrative career proposition and as it has been said rightly in the question that one day they end up joining the financial industry. What this does is that it dilutes the effectiveness of regulators in the long run.