Fed Governor Barr Warns: Deregulation Leads to Underestimating Risk

Federal Reserve Governor Michael S. Barr argued that financial crises in US history have often followed periods of regulatory weakening. 

In a speech at the Brookings Institution, Mr. Barr reviewed three major crises, the Great Depression, the Savings and Loan crisis and the Global Financial Crisis, to demonstrate how relaxed oversight during economic booms often set the stage for economic busts. He asserted that during the 1920s, banks expanded into new activities like real estate and securities without updated capital requirements. He described how, in the 1980s, Congress and regulators loosened rules on savings and loan institutions in hopes of helping them grow out of trouble. He concluded that "this failed to resolve the underlying stress and instead further fueled the buildup in risk-taking." He argued that the result was a collapse that cost taxpayers an estimated $160 billion. Mr. Barr also argued that the repeal of Glass-Steagall and the deregulation of derivatives markets were "missteps." 

Mr. Barr offered three lessons for policymakers. He urged regulators to adopt a "through-the-cycle perspective" and reject the belief that "this time is different." Overconfidence in market discipline, he warned, often leads to underestimating risks. He warned policymakers "resist the pressure to loosen regulations or to refrain from imposing regulation on new activities during the boom times," when regulations are often seen as obstacles to growth. He emphasized that "regulation cannot be static. If regulation fails to keep up with evolution of the financial sector, it can create new risks or hinder growth."