Wednesday, April 9, 2008

New Classification of "Financial Services"

The term "financial services" refers to an assortment of institutions that provide the means for people to save for the future, hedge against risks, acquire capital for consumption and organize capital for investment. Actors who undertake this intermediation function facilitate social gains from trade.

The The Department of the Treasury Blueprint of A Modernized Financial Regulatory Structure (March 2008) makes a provocative observation about the "financial services" sector and the term itself. Our current regulatory structure organizes financial services institutions into legally distinct categories, (e.g., commercial banks, other insured depository institutions, insurers, companies engaged in securities and futures transactions, finance companies, and specialized governmental companies such as Freddie Mac and Fannie Mae). These categories in part reflect distinctions in the way these actors function as capital intermediaries. In ways we hardly notice, however, the legal categories both reflect and entrench distinctions that regulation, not function, makes important.

For example, we perceive a legal difference between a commercial bank and an "other depositary institution" because the law that regulates commercial banks is different than that which regulates other depositary institutions. To accommodate the regulatory difference, we invent and deploy different words to describe the differently regulated actors. The most famous example of this may be the "non-bank bank" a term coined in the 1980's for a financial institution that did not meet the regulatory definition of a "commercial bank" and thus avoided the prohibition against interstate banking for commercial banks. The words we use to describe and importantly to think about "financial services" institutions make non-functional distinctions important.

The Blueprint proposes a new regulatory regime for intermediaries in which non-functional regulatory distinctions give way to functional ones. It opens a discussion on the possibility and realization of optimal regulation free of the restraint the current regulatory classification system imposes.

The proposal is both thrilling and terrifying. Mastery of the elaborate financial services classification system, like its biological counterpart, is not cheaply acquired or easily relinquished. For those players who have invested in manipulating the present regime to their advantage, the prospect of change threatens their return. The Blueprint invites financial services lawyers (and others who might be) to abandon the old vocabulary and embrace and create a new legal field that as yet has no name.

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