Bryan Caplan  

A Fool and His Money

Government-funded Health Care... Fundraising vs. Selling...

Arnold comes down on the side of paternalistic regulations on investment:

To me, an entrepreneur who looks for investors is like somebody who can't swim who finds himself in the middle of a lake. It's dangerous to go near the drowning man unless you know what you are doing. If you are not a trained lifeguard, chances are he will drown you as well as himself.

So as much as I'd like to abolish regulations, just about the last one that I'd abolish would be the one keeping low-net-worth individuals away from start-ups. I think we need fewer fund-raising start-ups and more start-ups where the entrepreneur figures out something to sell that will bring money into the company early on.

But even if you buy the claim that it's foolish for low-net-worth individuals to make these investments (plausible), and want to protect them from themselves (morally questionable), there's still the big problem that there are a million different ways for fools to squander their money. The regulations Arnold favors only protect a very strange kind of fool - one who acts prudently once you take away one foolish option.

In reality, I doubt these regulations have any net benefit even from a paternalistic standpoint, because people will just invest in some other get-rich-quick scheme - whether it be llamas, real estate, foreign exchange, or whatever the next cheesy infomercial suggests. There's no way around it: Whatever the law says, a fool and his money are soon parted.

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COMMENTS (4 to date)
Barbar writes:

Hmm, this seems like a bit of an overstatement, no? You can't dismiss paternalism by essentially saying "parenting has no effect on children -- fools are fools and smart people are smart, and that's the way it is." In the real world, some restrictions on investment are bound to actually have the effect of protecting investors in the aggregate.

Of course you can generally object to paternalism on freedom grounds, and in particular cases of paternalism you can argue about unintended consequences and cost-benefit analyses. But if you actually accept the paternalistic standpoint, it's a little fishy to say that there's nothing you can do to prevent fools from losing their money; sounds like a libertarian have-your-cake-and-eat-it-too argument. (Kind of reminds me of how tax cuts will both reduce the size of government and increase government revenues, so no matter where you stand on the political spectrum you should support them.)

rajeev writes:

By a similar, though not identical logic, its no use curing cancer, because those who are so cured will eventually die of other causes.. You sound a little like those people who say that "progress" is impossible because people seem to be as unhappy today as they were some years back, only they are unhappy about different things.

Kent G. Budge writes:

One reason we approve of paternalism towards children is because we expect them to become smarter in time. The phrase "future choice" comes to mind.

The capacity of persons over 30 or so to become significantly smarter is much more limited. We expect a three-year-old to be an idiot, and protect him from himself accordingly. If he's still an idiot when he's 35, the temptation to let him cut his own throat can be powerful. I believe there's an instinctive desire to let the gene pool cleanse itself.

Having said that, I'm not sure all paternalism is misplaced. Perhaps it's a semantics question. Do we prosecute bunco artists? Of course, even though they're merely taking advantage of the stupidity of adults, who often should know better. Do we ban smoking in restaurants? I think not, given that the danger to smokers is so well-known, and that nonsmokers (presently a majority) will provide adequate market pressure for restaurants to ban smoking on their own.

Problem is, I don't see a bright line between the two situations.

Why bother with securities laws...?

If an entreprenuer commits fraud, an investor has recourse. Recovery may be impossible, but, that of course is the risk inherent in any investment -- even one that's not fraudulent.

Securities laws, like so many other regulations that go beyond the basics of common law, were designed not to protect consumers, but to protect financial providers from competition.

Who was the first SEC commisioner...? The most celebrated inside trader of the era, Joe Kennedy. Who better to watch the hens than the fox?

In the U.S., investors assume that because a security is traded on a listed exchange, it's safe. Likewise, individual investors shouldn't assume that because their financial institution has a long history and a big building in mid-town Manhattan that its interests are aligned with his own. They're not. How do you think they afford that big building...and all of those smart young men...?

Regulators have created a false (and impossible) sense of safety, which makes the universe of investors far bigger than the universe of QUALIFIED investors. Nine of ten people who own securities in the U.S. can't tell you all the names of the stocks they own...much less give you an intelligent rationale for their investments.

That's the most profitable reason (ie, the real reason) the regulations and the regulators exist: the rules draw more flies.

What better business exists in the world than selling a piece of paper for far more than it's worth...?

- Porter

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