Putting the Horse Before the Cart
Fitting the right solution to the problem at hand
Suppose you work at a regulatory agency. Your task, at least in this thought experiment, is to create a new regulation. The subject of the regulation doesn’t matter – you may assume it to be related to environmental protection, workplace safety, financial protection or whatever you tend to think about when you encounter the word “regulations.” (Incidentally, if your inclination is to assume that most regulations are about environmental protection, you should read this op-ed or this working paper that it was based on. But finish this thought experiment before you click away…)
So you’ve got a job to do—make a new regulation—and let’s assume that you want to do it well. After all, you believe in your (insert topic you chose above) agency’s mission and the main way that you can help achieve that mission is to regulate. After all, regulators regulate.
How would you go about ensuring that your new regulation actually works towards the agency’s ostensible goal? The first thing I would do, and probably most people going through this thought experiment would do, is identify a real problem that a regulation could fix. You don’t want to make regulations just for the sake of making regulations. You want to make regulations that solve real world problems. Ideally, you find empirical evidence to substantiate that the issue is widespread enough to justify a generally applicable regulation, and not just an anecdotal issue.
The second step is to design a regulation that directly targets the principal cause of the problem identified in step one. This requires considering multiple ways of solving the problem, which is sometimes called an “alternatives analysis.” The most important result of an alternatives analysis is a better understanding of which regulatory approaches are more likely to achieve their objectives, and which are not.
This seems pretty obvious to me, but over in the real world, it is not necessarily the first step taken by regulators. In fact, it’s sometimes not a step taken at all. I addressed a few examples in a paper with my former colleagues, Jerry Ellig and Michael Wilt, back in 2016 (without footnotes):
In 2011, for example, the Securities and Exchange Commission (SEC) adopted a regulation that excludes the value of an investor’s primary residence when determining whether the individual meets the $1 million net worth requirement to be considered an “accredited investor” who can purchase securities that are not registered with the SEC. The change was required by the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (Dodd-Frank), but the law also allowed the SEC to adjust the definition of “accredited investor” as it “may deem appropriate for the protection of investors, in the public interest, and in light of the economy.”
The SEC could have examined whether individuals whose home values had recently put them above the $1 million threshold actually invested in unregistered securities and suffered any harm from doing so. It also could have considered whether a net worth test is sufficient to protect investors from making bad investment decisions, or whether a financial sophistication test could achieve that objective more effectively.7 The SEC conducted no such analyses, so it is not clear whether the regulation solves an actual problem or does so in the most effective way.
And another example, from the same paper (again, without footnotes):
There are also regulations that fail to target the principal cause of the problem. In 2015, the FDA finalized a regulation requiring firms that produce, process, pack, or handle animal food to have processes and procedures in place to ensure that animal food is as safe as human food. The FDA’s final regulatory impact analysis (RIA) estimated the regulation would generate $10.1 million to $138.8 million in benefits annually by protecting humans and pets from contaminated food. The FDA presented no empirical evidence of benefits for livestock, relying instead on a survey of experts who offered their opinions on how effective the rule would be in preventing contamination of livestock feed.
To solve the problem that was actually documented by empirical evidence, the FDA could have applied the regulation only to pet food, rather than all animal feed—a change that would have substantially reduced costs because it would have covered a much smaller number of firms and facilities. Or the FDA could have considered alternatives, such as improving consumer education to encourage people to wash their hands after handling animals and their food. The agency missed these alternatives because of incomplete analysis. The preliminary RIA, conducted while the FDA was developing the regulation, did not even attempt to estimate the benefits or identify their sources.
Formally identifying the problem that the regulation is intended to address and determining whether regulation is the appropriate solution goes a long way towards creating successful regulatory outcomes. This step involves exploring different alternatives, including but not limited to regulations, that might reduce or eliminate the problem and thinking about their potential costs and benefits, as well as the likelihood of successful implementation.