Two Cheers for Placebo-Regulation

by Andreas Hoffmann and Sebastian Müller

The financial crisis of 2007 eroded the public confidence in financial markets. Many people have come to believe that only the government can guarantee the stability of financial markets. Responding to increased public demand, politicians from across the political spectrum support additional “macroprudential regulation”. However, little is known about the consequences of the newly proposed regulatory efforts. When politicians fear unforeseen consequences of regulation, they might turn to Placebo-regulation, which is some regulation that merely provides a warm glow for the general public. Given the widespread belief in the need for government regulation, we suggest that such Placebo-regulation may be a good option. Market distortions are avoided. But confidence in financial markets might be restored.

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