Why Are There Regulations?

So that everybody is following the same rules.  Without the rules, people who cut corners would have a short term advantage over people who do things right, making it necessary for the people doing things right to go out of business or do things the wrong way.  A race to the bottom ensues.  Here, Krugman explains the reason for bank regulations:

Just to be clear, businessmen are human — although the lords of finance have a tendency to forget that — and they make money-losing mistakes all the time. That in itself is no reason for the government to get involved. But banks are special, because the risks they take are borne, in large part, by taxpayers and the economy as a whole. And what JPMorgan has just demonstrated is that even supposedly smart bankers must be sharply limited in the kinds of risk they’re allowed to take on.

Why, exactly, are banks special? Because history tells us that banking is and always has been subject to occasional destructive “panics,” which can wreak havoc with the economy as a whole. Current right-wing mythology has it that bad banking is always the result of government intervention, whether from the Federal Reserve or meddling liberals in Congress. In fact, however, Gilded Age America — a land with minimal government and no Fed — was subject to panics roughly once every six years. And some of these panics inflicted major economic losses.

So what can be done? In the 1930s, after the mother of all banking panics, we arrived at a workable solution, involving both guarantees and oversight. On one side, the scope for panic was limited via government-backed deposit insurance; on the other, banks were subject to regulations intended to keep them from abusing the privileged status they derived from deposit insurance, which is in effect a government guarantee of their debts. Most notably, banks with government-guaranteed deposits weren’t allowed to engage in the often risky speculation characteristic of investment banks like Lehman Brothers.

As for the environment or worker safety, without the regulations, there would be no real lever to get businesses to do what is right and necessary.  The reason the regulations are so detailed and cumbersome is because every detail must be spelled out or some shady businessman will try to get around the intent of the rule.  This is why some regulators feel they need to enforce the absolute letter of the law.  Unfortunately, some of the smartest minds in the country have been hired in the finance industry to find new ways to siphon money from productive activity.  These people also can find the ways around very detailed regulations.