The Gold Standard | Innovation, RIP

What is common between the Reserve Bank of India, the Dodd-Frank Bill and the Pharmacists and Lawyers’ Professional Trade Bodies in Germany?

Let us consult ‘The Economist’:

One local bank boss says the RBI “runs a repressed financial system which is intolerant towards innovation. If the US was at 90 out of 100 in terms of complexity and sophistication, we are at 10…I sometimes get the impression it [the RBI] is resting on its laurels, not realising that more financial innovation could help India’s development.” [Full article here]

This article is actually generous in its praise of the Reserve Bank of India and its stewardship of India’s monetary policy, overall.

But the really big issue that Dodd-Frank raises isn’t about the institutions it creates, how they operate, how much they cost or how they are funded. It is the risk that they and other parts of the Dodd-Frank apparatus will smother financial institutions in so much red tape that innovation is stifled and America’s economy suffers. [Full article on the Dodd-Frank bill here]

This is another well written article on the complexities that Dodd-Frank would create; how compliance under the Act would be very difficult; how banks might get caught up in complying with the letter of the law and not manage risks properly, etc. But, the comment on innovation got stuck in my throat.

It is a different story that ‘The Economist’ wrote this article a week later.

But it would have a big payoff. Livelier services might encourage the sort of game-changing innovation that is more common in America than in Germany. [the full article on the uncompetitive German Services sectors is here]

We need to have a full and more honest debate on the role of so-called innovations in Services more generally and in Finance, in particular:

What is their track-record in improving economic welfare (growth or redistribution or poverty reduction or productivity)

What is their contribution to systemic stability or instability?

Do innovations in Services merely lead to transfer of the surplus from providers to users without adding anything to the broader economy? For example, what exactly is the outcome for the German economy if there is competition for German lawyers from foreign law firms or if more pharmacies are allowed to be opened?

What has innovation in American legal industry engendered by competition achieved, for example, that is denied to Germany?

Are there empirical precedents and can they be relied up on to provide reasonable and unbiased guidance?

Are credit cards truly innovative or did they also encourage frivolous consumption having pandered to the human instinct for instant gratification? What are the net benefits to the society and the economy, if any?

What is the innovation that is needed in the finance sector in a developing economy like India? It should be focused on how to achieve more financial inclusion? How does one open up access to banking for more people for savings, credit and disbursements/transfers?

Is that where RBI comes in the way? If so, how? What more can it do in that area?

At least after the global financial crisis, one should stop taking an uncritical line on innovation and stop parroting, unthinkingly, the line that regulation stifles innovation and that, therefore, regulation is bad.

Perhaps, that is what is intended for the regulation to achieve and that is what is needed.

AT the very least, the burden of proof should be on the so-called ‘innovators’ and not ‘regulators’ to show that innovation in specific Services is a net positive good.

DISCLAIMER: This is an archived post from the Indian National Interest blogroll. Views expressed are those of the blogger's and do not represent The Takshashila Institution’s view.