Regulation Kills the NYSE, More to Follow

The Wall Street Journal reported that the 200 year old New York Stock Exchange is to be purchased by a 12-year-old start-up from Atlanta, Georgia.  Atlanta isn't thought of as a financial power house, but it appears that the world's financial center of gravity is shifting in that direction.

It's hard to understand how a start-up could grow so fast that it's worth enough money to acquire the stock exchange which was founded in 1792, but the history is well worth a look.

The Old Order Passeth

This transaction is an example of what Schuempeter calls the "creative destruction" cycle of capitalism.  As old businesses become less efficient, they lose market share and market value.  When market value drops far enough, an inefficient business can be bought by another business which can run it more efficiently.  This is entirely normal, but it's a good idea to learn whatever lessons we can from such events.

Part of the reason for the sale is that the NYSE has been losing market share for many years.  This year, it handled just 20% of the volume in all the stocks it lists, which is down from 40% in 2007.  Investors who could deal on the NYSE are finding other, better places to buy and sell the same stocks.

This is partly due to the fact that the Exchange was slow to abandon floor trading where traders shout prices, and instead embrace more efficient computerized trading.  Technological change produces winners and losers so it's no surprise that the Exchange would lose market share when it was late in making the shift.  To the sorrow of the New York City income tax authorities, 1,200 Wall Street jobs have been lost since the beginning of 2012 and more cuts are coming.  The loss of these high-paying jobs is so extensive that some formerly wealthy stock traders are reduced to driving cabs.

Delayed modernization notwithstanding, a major part of the Exchange's decline isn't its fault, it's the fault of the American regulatory system.  The Exchange is subject to American securities law, whereas the Atlanta firm trades on overseas exchanges which are less aggressively regulated.  This increases the NYSE's costs and limits the sorts of trades they can make.

The New York exchange needs a constant supply of new stock issues to trade to make up for businesses which shrink or go under and leave the exchange.  Since the passage of new regulations in 2001, American IPOs have become a seriously endangered species:

Prior to 2001, the number of IPOs in the United States ranged from 250 to 350 per quarter but after the passage of the Sarbanes-Oxley Act that number declined, ultimately reaching zero in 2008. [emphasis added]

Start-ups now prefer to go public on foreign exchanges because it's so much cheaper or sell themselves to big companies instead of going public.  As the Economist put it:

In 2010 five large companies gobbled up 134 start-ups—more than the entire crop of American IPOs that year.  Two of the most talked-about start-ups of recent years—Skype and Zappos—chose to sell themselves to giant firms (Microsoft and Amazon respectively).  This may not be good for the start-ups.  Imagine if Microsoft or Apple had sold themselves to IBM in the 1980s and you get a sense of the problem.

Not having enough new shares to sell took revenue away from the NYSE.  Loss of market reduced its value enough that a far younger, less regulated exchange was able to buy it.

It was pointed out long ago that the power to tax is the power to destroy.  We're seeing that regulatory excess is just as destructive.

Regulation as Weapon

To be fair, it's hard to get the regulatory balance right.  We were glad when the 1933 Glass-Steagall act which kept banks from both taking deposits and trading financial instruments was repealed.  We were wrong about that; it turns out that it's not a good idea for banks whose deposits are backed by the government to be permitted to gamble with their own money or with customers' money.

On the other hand, we're seeing the Obama administration use regulation as a weapon against the American economy.  Despite paying lip service to wanting "good-paying" manufacturing jobs, the Obama EPA has done its best to shut down roughly one-third of our electric generation capacity.  This is in keeping with Mr. Obama's stated desire to chop American energy consumption to Third World norms:

Under my plan of a cap and trade system, electricity rates would necessarily skyrocket.

Because I’m capping greenhouse gases, coal power plants, you know, natural gas, you name it — whatever the plants were, whatever the industry was, uh, they would have to retrofit their operations.  That will cost money.  They will pass that money on to consumers.  [emphasis added]

Mr. Obama said that the extra costs of his regulations will be passed on to customers; he knows that his regulatory thrusts increase the cost of everything we buy.  Energy is a major cost in any factory; boosting electricity cost is a good way to drive any remaining American manufacturing jobs overseas.

Regulation as Blackmail

On a related matter, the New York Times reports that banks are being urged to pay $10 billion in files for having overcharged home buyers for mortgages.  The government and various anti-bank agitators claim that banks misrepresented terms, charged buyers too much, and packaged mortgages into faulty securities.

There's just one problem - the charges are false:

In recent weeks within the upper echelons of the comptroller’s office, pressure was mounting to negotiate a banner settlement with the banks, according to people with knowledge of the matter. The reason was that some within the agency had started to realize that a mandatory review of millions of bank loans was not yielding meaningful examples of the banks’ wrongfully evicting homeowners who were current on their payments or making partial payments, according to the people.

The government required that banks hire high-priced consultants to review millions of mortgage documents for misbehavior.  The reviews were supposed to take about 8 hours @ $250/hr per mortgage, the cost to be added to what customers pay banks for loans.  The reviews are taking 20 hours instead, and banks have spent about $1.5 billion having mortgages reviewed.  The problem for the feds is that the reviews are "not yielding meaningful examples of the banks’ wrongfully evicting homeowners."

You'd think the feds would back off after having found nothing wrong in spite of spending $1.5 billion, but you'd be wrong.

Instead [of backing off], officials from the comptroller’s office, these people said, have used the loan reviews as a negotiating tool, telling banks that they can either sign on to a large settlement or be forced to pay billions over several more years until the consultants finish the reviews.

The feds go after the banks and require them to spend $1.5 billion reviewing millions of loans.  The "independent consultants" selected by the feds can't find "meaningful examples" in spite of spending nearly three times the estimated review time on each mortgage.  Instead of stopping, however, the feds are going to force the banks either to pay $10 billion in protection money or finish the reviews.  That's blackmail, pure and simple.

Our federal regulatory system has gone off the rails.  The more we learn about what the Obama administration is actually doing, the more we believe that the Obama administration hates the fact that America is wealthier than other nations.  They're using every regulatory tool in the book to chop our economy down to size.

President Reagan once said that government isn't the solution, it's the problem.  The Obama administration has taken Chicago-style government far beyond that.  The Obama government isn't just our problem, he's turned government into our enemy.