New Approaches to Financial Regulation

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Held at Keck Center of the National Academies of Sciences, Engineering, and Medicine, in Washington, D.C.

Organized by Bill Miller, LMM LLC and SFI Trustee Chair Emeritus, Simon Levin, Princeton University and SFI, and Andrew Lo, MIT.

February 11 and 12, 2016

--- New Approaches to Financial Regulation

It has been five years since the US Congress enacted the landmark Dodd–Frank Wall Street Reform and Consumer Protection Act; and despite the fact that about 20% of the Act has yet to be implemented, several legislative initiatives are now attempting to soften or roll back key provisions. This pattern of regulatory action and reaction is not new. The financial excesses of one period often lead to asset bubbles that burst, ushering in a new period of much greater regulation that, in turn, is systematically weakened over time as markets recover and we forget the reasons why we imposed such stringent regulations in the first place.

The financial system has crossed a threshold of complexity where the system is evolving faster than regulators and regulations can keep pace. For example, the system is now truly globally connected, but coordination across sovereign jurisdictions is difficult to achieve. This new situation calls for a new perspective, one based on a different paradigm than the ones on which financial regulation is currently based.

The challenge of complexity is not unique to finance, but applies as well to other human endeavors, e.g., climate change, international relations, and terrorism. In some cases, this challenge has been met successfully by implementing perspectives and methods from evolutionary biology, game theory, and complex systems theory, in partnership with domain experts in each field of application. We propose to convene experts in various disciplines and professions to develop broader perspectives on financial regulation and to facilitate collaboration. In particular, biological systems have faced a range of challenges throughout evolutionary history, and this has led to solutions that are adaptive, hierarchical, modular, and with sufficient redundancy to minimize the chances of collapse. We can learn a great deal from biological systems in designing new regulatory frameworks for financial systems, which face similar challenges.

The ultimate objective of this conference is to motivate financial regulators, economists, ecologists, evolutionary biologists, and complex systems theorists to collaborate on developing a new paradigm for regulating the financial system. Where there has been success in other systems, it has come from the active engagement and interaction of multiple stakeholders, each contributing unique expertise to develop a more complete and integrated approach to systems management. Historically, regulators have not been engaged in such research, but the experience of 2008 has made clear just how crucial and beneficial this new approach could be.