Who would you rather have limiting the behavior of your banks? Someone like Paul Krugman whose propensity for distorting his views to score infantile political points has become legendary, or someone like me whose only agenda is to punish the banks for financial reasons?
Actually, my only real motive is to benefit myself and my investors, but if the banks do something stupid and I exploit that stupidity for gain, I have absolutely no qualms about seeing them suffer for it. The money I manage may be quite small relative to the big banks. But take my behavior, and the behavior of my equally well informed peers in aggregate, and we become a terrifying wolf pack for the banks to cope with. Avoiding our snapping jaws becomes a top priority for them. Remember, JPMorgan lost 2 Billion, but they lost it to hedge funds. Do you imagine JPMorgan will be making that mistake again - whatever the regulations say?
This is the theory behind deregulation of the banks. The principle is that I and the people like me, who are in the markets for a living and have proven by virtue of our consistent profits that we know what we’re doing, will be better at limiting bank behavior than some random bureaucrat looking only at theories, who has no skin in the game. He's only interested in bossing people around. I'm interested in feeding my family.
If you have wolves surrounding you in every direction, you tend to be very careful when you go outside. This is by far the best way to limit bank behavior. Banking is already the most regulated industry in America and those regulations haven't seemed to prevent much of anything. In fact, the only thing you really need to write regulations against is collusion. Getting all the bank heads together to do a single thing (like TARP for instance) represents a hazard to the people.
Beyond that, the only thing you need to keep the financial markets working well is access to information. Reveal the pertinent information in aggregate so that no individual actor is put at risk unfairly, and short sellers will prevent every bubble we will ever see – forever. It’s a self correcting system that will always take all new information into account.
That’s the real strength of ‘free’ markets. They learn WAY faster than some bureaucrat. They are nature’s way of bringing a kind of preventive medicine into civil society. Instead of waiting for the blowup and reacting to it afterward like a policeman does, it gets ahead of the issue and prevents it like an armed guard does.
Make the information public to the wolves, and the wolves will keep your sheep (and your sheepdogs) in line. When all the sheep run a single direction (like during a market bubble) the wolves will pick off the first few, and drive the rest back. And when the sell off comes they’ll be buying in the falling market to take profits on their positions, and will keep the run from turning into a catastrophe.
All we really need to do is get disinterested "know it alls" like Obama, Congress, and Paul Krugman out of the loop.