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Quantitative analysis of regulatory capture

January 17, 2012

I wrote earlier about how the movie “Inside Job” brought to light the issue of conflict of interest for business school professors, and I discussed Columbia and Harvard Business Schools. As some people pointed out, I forgot to mention economists.

Luckily the editors at Bloomberg took up that cause for me. Yesterday they published an opinion piece saying that disclosure won’t even be sufficient (but that it is absolutely necessary). From the article:

Disclosure, though, won’t eliminate the actual conflicts. Even the best-intentioned economists — and particularly those in the area of finance — face a litany of influences pushing them toward a rosier view of the industries they study. In a yet-to-be-published paper, Luigi Zingales, a finance professor at the University of Chicago’s Booth School of Business, likens the pressure to regulatory capture. A pro-business attitude, he notes, can increase an economist’s chances of landing lucrative consulting, expert-witness and research contracts, and can facilitate publication in academic journals whose editors are themselves captured. (Zingales is a contributor to Bloomberg View’s Business Class blog and has accepted money for speeches to Dimensional Fund Advisors, a hedge fund, and Banca Intermobiliare, an Italian private bank, among others.)

As a small test, Zingales looked at the 150 most-downloaded papers that had been done on executive pay — a subject he reasoned could legitimately be argued either way. He found that papers supporting high pay for top executives were 55 percent more likely to be published in prestigious economic journals, suggesting that the editors, also academic economists, have a bias.

I think this is an important study, and I look forward to reading it. Beyond the question of economists and disclosure, it points to a new subfield of quantitative analysis: the quantitative analysis of regulatory capture. I hope it is being done well: in other words, it could be true that high pay for top executives is really a better idea, and that’s why those studies are being published in prestigious economic journals. There has to be some way to separate the techniques from the politics of the results. It’s certainly an interesting question.

If we quants do this right, and especially if we make our models open source, then we potentially have the ability to measure the extent to which, when politicians and judges and the public get “expert” opinions, the information they receive is coming directly from the financial lobbyists (or other kinds of lobbyists) who are paid to think a certain way. It’s a possible first step towards removing some of the influence of money from decisions such as how much regulation or capital requirements we should impose on banks, for example.

Categories: finance
  1. vbounded
    January 17, 2012 at 8:45 am

    Behavioral economics studies show that, when people disclose a conflict of interest, their work is slanted even FURTHER in the direction of their personal interest.

    Transactional taxes are a bad idea because they increase volatility and double or triple ivnestment expenses for index fund investors and the big boys find ways around them, so they don’t pay them. Most of the time the tobin / transactional taxes have exceptions bought and paid for by the big boys for the big boys when doing “customer” trades or hedging, and of course, they find ways to argue that most everything they do fits into the exceptions.

    The easy way to shut down front-running of the little guys and their mutual funds by high frequency traders is to have stock and bond close all trades at discrete intervals, like every 1 minute, or 5 minutes, or whatever.

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  2. Anonymous
    January 17, 2012 at 9:23 am

    “As a small test, Zingales looked at the 150 most-downloaded papers that had been done on executive pay — a subject he reasoned could legitimately be argued either way. He found that papers supporting high pay for top executives were 55 percent more likely to be published in prestigious economic journals, suggesting that the editors, also academic economists, have a bias.”

    Just because an issue can be argued either way doesn’t mean that the when examined by experts the verdicts will come out 50-50. Moreover, this study was restricted to the 150 most download. Perhaps, download rates are correlated with corporate lawyers and all of their underlying reading papers that support their cases. Moreover, let’s say that 10% (or 15) of these papers were in top journals. Now that works out to be 9 pro-`letting CEOs loot the company coffers’ and 6 anti-`letting CEOs loot the company coffers’ papers. Is that really an acceptable sample size to reach a meaningful conclusion?

    I agree conflicts of interest in economic work is a serious issue. But the shitty standards of rigor, of which the above is an example, throughout the field of economics is a much more serious issue. Ultimately, it is these shitty standards that permit economists to publish studies supporting whoever is paying them the most amount of money.

    These studies are tantamount to a physicist claiming to have predicted tonight’s powerball numbers based on the temperature, barometric pressure and the physics of ping-pong balls.

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    • January 17, 2012 at 9:25 am

      Yes, I agree that it’s not enough to say an issue can be argued either way. But it does point to the idea of doing this (probably on a larger scale) to see if we can quantify this effect.

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  3. vbounded
    January 17, 2012 at 2:41 pm

    Cathy if you want information regarding the quantification of bias due to receipt of benefits, just look at the studies how doctors prescriptions of drug is biased by receipt of pens and other nominal trinkets. Economists aren’t any more moral or ethical than doctors.

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  4. Annie
    January 17, 2012 at 7:45 pm

    I’m a little confused. How are the models not already open source?

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