Regulatory Arbitrage

  • 2022 - LR - Regulatory Competition in the US Life Insurance Industry, by Johnny Tang, Harvard - 88p
    • Competition between jurisdictions is a central feature of many public policy
    • I examine the consequences of such competition in the US life insurance industry, where states vie to attract insurers by setting lower capital requirements, but the costs of such actions are borne by consumers in other states.
  • During the years leading up to the crisis, there was a substantial amount of regulatory arbitrage between bank holding companies and nonbank institutions (investment banks, GSEs, AIG), as well as between large and small banking institutions, with complex, mega institutions being able to operate with thinner capital cushions than the average community bank. (p6)

2014 0310 - Letter - Sheila C. Bair to Sherrod Brown

  • b. Is regulatory arbitrage a problem? What is your understanding oj the scope oj the problem and what causes it? How should regulatory arbitrage be addressed?
  • Regulatory arbitrage can be a serious problem in several dimensions.
    • First, regulatory arbitrage is a problem when different providers of the same or essentially the same financial product are able to operate under significantly different rules, particularly when coupled with significantly different levels of supervisory oversight of compliance with those rules.
    • A prime example of this type of arbitrage, and its disastrous consequences, is the mortgage crisis, where a "shadow banking system" of nonbank lenders operated under an often weak or non-existent patchwork of state lending standards and were not subject to oversight comparable to the supervision of federally-regulated banks.
    • As a result, at the heart of the mortgage crisis was lax underwriting, predominantly by these nonbank mortgage originators, resulting in too many loans that consumers simply could not pay back. This sort of arbitrage between firms subject to different standards and different levels of supervision can also occur within a bank holding company itself.  
    • As a policy matter, the Federal Reserve in the past has chosen not to subject such nonbank subsidiaries to bank-like examination and prudential supervision on the theory that such activities would inappropriately extend "the safety net" of federal protections from banks to nonbanks.1
      • 1 See, e.g., remarks by Federal Reserve Chairman Greenspan before the Annual Meeting of the American Council of Life Insurance, Washington, D.C. (Nov. 15, 1999).

2009 0811 - PWG Working Group on Supervision - FCIC - Questionnaire, OCC22-00362000 - 56p