The Emerging Post-Crisis Financial Architecture: The Path-Dependency of Ideational Adverse Selection

Abstract

This article

• Contributes to the debate on policy change and economic ideas after the crisis, finding ideas and material interests to be closely aligned and introducing the notion of ‘ideational adverse selection’.
• Establishes that pre-crisis financial governance failed to provide financial stability yet provided benefits to precisely those whose advocacy underpinned its emergence.
• Argues that despite the adoption of a ‘macroprudential approach’, the post-crisis reform of financial governance promulgated by the Basel Commitee and IOSCO does not (yet) admit of a ‘paradigm shift’.
• Concludes that if ideational change and a shift in policy approach is to take place, the nature of the policy community as ‘input’ must also change.

This article focuses on two cases of transnational financial governance that confirm that ideas and material interests are closely aligned in the construction of regulatory institutions at the international level: the Basel-II/III international capital adequacy standards and the IOSCO-based regulatory processes that underpin cross-border securities markets. The article first establishes that the pre-crisis system of financial regulation and supervision left public authorities dependent on private sector expertise and information provision such that policy idea-sets became increasingly aligned with private sector preferences. Secondly, this market-based system of financial governance provided benefits to precisely those whose advocacy underpinned its emergence while facilitating neither financial stability nor resolving the weaknesses of national-level governance in a context of cross-border integration. Lastly, it remains unclear if either pre-crisis alternatives or the lessons of the crisis itself have been applied properly to the reforms. The reform debate continues to pursue an essentially market-based approach to the problem of financial governance at the national, regional and global levels. Policy failure endogenous to a pre-crisis regulatory coalition has so far failed to disturb the tenacity of material interests and inertia of institutional path dependency.