Intrinsic Imbalance: The Impact of Income Disparity on Financial Regulation

When I was young I thought that money was the most important thing in life; now that I am old I know that it is. Oscar Wilde From an administrative law standpoint, what, if anything, distinguishes financial regulation from other forms of regulation? In part, the answer is complexity; financial products and markets are already highly complex and becoming increasingly more so. (1) But this is only a partial answer because other regulatory spheres, such as environmental and nuclear regulation, can be at least as complex as financial regulation. This article argues that what further, and more tellingly, distinguishes financial regulation from other forms of regulation is the extraordinary income disparity between regulators and industry employees. (2) This income disparity-- coupled with the complexity of financial products and markets--creates an "information asymmetry" (3) between regulators and industry that can lead to regulatory failure: the inability of regulators to fully understand, and thus to effectively monitor and regulate, financial innovations that might create systemic externalities. Part I of this article demonstrates that there is at least a two-to-one income disparity between financial industry employees and their regulatory counterparts. Part II of the article argues that this income disparity makes it difficult for financial regulatory agencies to hire competitively, thereby creating an information asymmetry between regulators and industry. Part III examines the adverse consequences of that information asymmetry to administrative-agency rulemaking, monitoring, and enforcement. Finally, part IV of the article discusses potential responses to the income disparity (and resulting information asymmetry). This article focuses on financial regulation by administrative agencies. Legislative bodies typically delegate power to administrative agencies to implement statutory law through agency rulemaking, monitoring, and enforcement of compliance. The income disparity discussed in this article is a disparity between the incomes of administrative agency financial regulators and the incomes of employees in the financial industry being regulated. To some extent, the income disparity is driven by administrative-agency budgets. Were a budget its only limit, an agency might have the flexibility to choose between hiring a smaller number of higher-income employees or a larger number of lower-income employees. In practice, however, this flexibility is somewhat limited. Some administrative-agency incomes are subject to per- person maximum compensation caps. (4) Moreover, an agency's need for some minimum number of employees ultimately limits its ability to hire a smaller number of higher-income employees. (5) I THE INCOME DISPARITY It is generally recognized that there is an income disparity between government regulators and private-sector employees in regulated industries. U.S. Bureau of Labor Statistics surveys indicate, for example, that federal government pay is around twenty-five percent lower than private-sector pay for similar jobs. (6) This is mainly because federal government workers are typically paid in accordance with the general schedule or the executive schedule as overseen by the U.S. Office of Personnel Management. (7) For each pay grade, there is a maximum compensation cap. (8) Thus, the "public sector is not usually able to compete with the salaries offered by private employers, especially those of highly educated personnel and managers." (9) A much larger income disparity exists, however, between financial regulators and private-sector employees of the financial industry. This disparity can be demonstrated by comparing the incomes of representative financial industry workers and government regulators. The U.S. Bureau of Labor Statistics reports, for example, that entry-level investment bankers, who are categorized as financial analysts, had a median annual salary of $90,560 in 2012 and a mean annual salary of $111,650. …