History’s two most influential advocates for economic liberty, Adam Smith and Milton Friedman, nevertheless turned away from “free banking” to support some financial regulation and legislative reform in the wake of financial crises. Yet their proposed reforms would have limited government discretionary power and systemic micromanagement. What would they have concluded from the recent crisis and the policy responses embodied in the Dodd-Frank Act, which expands these powers without addressing the policy failures that largely produced the crisis?
Supporters of the Dodd-Frank Wall Street Reform and Consumer Protection Act obviously believe expanded regulatory powers offer the best solution to reform, but they should consider that almost all previous major banking legislation has helped to create conditions that inevitably lead to the next banking crisis. A more market-based solution would be to simply regulate higher mandated equity standards in the range of 15 to 30 percent of total assets. In the tradition of Smith and Friedman, this approach would be a much more effective regulatory approach to curbing risk-taking, reducing systemic risk, and preventing a future banking crisis than 2,000 pages of Dodd-Frank.