Fighting the Last War

I was at an interesting discussion with an ideologically diverse group of people last night of the future of financial regulations. One thing that there was broad agreement on that hadn’t really snapped into focus for me previously is the idea that doing rigorously precise forensic work on how to understand “what went wrong” and then design the rule that would have prevented this is neither necessary nor sufficient to improving things going further.

The basic reason is that we can be pretty sure that no matter what we do, we don’t need to worry about this exact thing happening all over again. Investors will be extremely reluctant to get involved in the exact kinds of products that recently crashed, everyone will worry that the first sign of housing price increases is a bubble, and regulators will be keenly aware of everyone’s pet theory of what went wrong. But the crux of the matter is that though the phenomenon of financial crises repeat over time, but no individual crisis repeats itself. The trick, if you can pull it off, isn’t to prevent a repeat of the current crisis, but to prevent (or mitigate) the next crisis which is something else entirely.