Last week, I assessed Andrew Haldane’s “The Dog and the Frisbee” speech from the Frisbee’s perspective, looking at the paper’s recommendations from an organization-theory perspective. Today, I’ll take the dog’s side to challenge the Haldane, et. al. call for one simple capital rule backed by lots of supervisory judgment. A dog catching a Frisbee is indeed the simple feat of natural grace that flummoxes computer models, as this paper states. But, if the dog has to do anything harder than catch a simple Frisbee – guide a blind person, for example – success relies on a lot more than a biscuit in the back pocket. Guiding complex banks to sound practice requires the same formula that works for skilled guide dogs: a set of rules that takes different eventualities into account backed not only by judgment, but also by strong incentives that align the dog and the blind person in a joint, joyous endeavor.
In the organization-theory assessment of the Haldane paper, I argued that dogs don’t always catch the Frisbee on the first try and, even when they do, they may be missing the bigger treat behind the bush. A simple solution is risky even for community banks because it’s overly “synoptic” – that is, a big bet on one cure (capital in this case). If the cure is incomplete or misses the cause altogether, then it can be worse than the disease. From this, I argued that, important as capital is, a single standard applied to all banks in all countries in all cases is not only practically impossible – see the ongoing chaos in Basel for proof – but theoretically ill-advised.
Thus, we conclude that a Frisbee isn’t a good analogy to the goal of bank regulation.
So, on to the dog that can do more than catch a Frisbee. Guide-dog work is a team exercise in which the dog and handler think as much alike as they can to communicate goals, obstacles and strategies – banks and supervisors, anyone? Guide-dog work is also based on lots of rules – not one single, easy edict – because dogs and handlers encounter lots of circumstances — many of them, like volatile financial markets, impossible to forecast from one’s first step on seemingly-familiar sidewalks. And, to make the team work together and conquer every day’s set of new challenges, the dog responds to incentives – mostly positive reinforcements – to make it want what the blind person wants as naturally and eagerly as it can.
Can all dogs be guides? No, just as all financial institutions can’t be banks. Some tasks – police-dog work, for example – is highly skilled, but not suitable for dogs comfortable in harness. Firms that can’t work well under bank supervision shouldn’t be throttled, but they also shouldn’t be banks. Like guide-dog trainers, supervisors need to know which firms should be banks and take ready, disciplinary action when they’ve got the wrong dog out for a walk.
When they’ve got a good dog, though, amazing obstacles can be overcome – challenging though that seems to someone who’s never trained or handled a guide dog. Thus it is with bank supervision, it isn’t easy and it requires more than one rule. But, done right, you can have sound banks that make economies hum.