While it is reasonable to subject a reform agenda to the 2008 test, this should be at most a side issue. After all, it is virtually certain that our next crisis will not look our last crisis. Financial reform first and foremost is not about preventing the last crisis, but rather about designing a financial system that more effectively serves the rest of the economy.
Finance is an intermediate good like trucking. It does not directly provide value like food or health care, the value in the financial sector depends exclusively on its ability to make the rest of the economy function better. This means effectively getting money to businesses and households who need to borrow. And it means providing safe investment vehicles for people to save for retirement or other purposes.
An efficient financial sector provides these services using as few resources as possible. With that in mind, it is hard to make the case that our financial system is efficient. It has exploded in size relative to the rest of the economy over the last four decades, with the narrow commodities and securities trading sector increasing fourfold.
If we were spending four times as much on trucking as a share of GDP in 2016 as we did in 1976, people would be looking for an explanation. If we could show that goods were getting around the country much quicker and we had many fewer problems with spoiled food or damaged merchandise, then perhaps the additional cost of the industry would make sense. But it is difficult to make this sort of case with finance.
Can anyone say with a straight face that we think more capital is being allocated today than it was four decades ago? If so, this better allocation is not showing up in productivity growth. Since 2005 productivity growth has averaged just 1.1 percent annually. By contrast it averaged almost 3 percent annually from 1947 to 1973. Clearly many factors explain this slowdown, and perhaps productivity growth would have slowed even more without the expansion of the financial sector, but that seems a hard case to make.
Financial Reform: It’s About Improving the Financial System, Not 2008