A post by Kim Schoenholtz
Lawyers are accustomed to distinguishing entities by their legal form — this is a bank, that’s an insurer, over there is an investment fund. Economists are used to distinguishing by function: these are all financial intermediaries. If we have to regulate economic activity, it pays to regulate by function, rather than form. Otherwise, entities simply change their form and avoid the regulation.
In practice, lawyers usually write and enforce regulation, not economists. The Dodd-Frank reform act is no exception. Its aims are lofty. Limit systemic risk. End too big to fail. Prevent financial crises. Protect taxpayers. Where Dodd-Frank falls short of these lofty goals, often it’s due to the form vs. function problem. As a result, some intermediaries can still shop for their preferred regulator and bypass Dodd-Frank rules limiting systemic risk. For more on this, see my Bloomberg op-ed with Tom Cooley.