By Michael Casey A DOW JONES NEWSWIRES COLUMN NEW YORK (Dow Jones)--There's an unnerving familiarity to the U.S. government's handling of the Gulf oil spill, with its ad hoc demands on BP PLC's (BP) cash flow and its chaotic and poorly planned cleanup effort. We went through a similar after-the-fact process in the aftermath of the 2008 financial meltdown. As they are doing with BP now, authorities tried then to get Wall Street banks to repay society for the suffering caused by their flawed risk management practices. They shaved a few grand off some compensation packages--a meager price against the profits generated by zero interest rates--but the crisis costs were still almost entirely borne by Joe Public. As nine million job losers and millions more foreclosed homeowners can attest, those costs went far beyond the taxpayer bill for un-repaid bank bailouts. Both cases speak to an urgent need to rethink how we price risks to the public interest posed by certain business activities--whether it's the risk of systemic financial collapse or of ecological disaster. As with financial regulation, there's sadly little that greater discipline on the oil industry can do right now to recover the monumental losses caused by the oil spewing out of the Deepwater Horizon well. Yet neither this fact nor any lobbyist-driven argument about the economic dangers of hitting an industry when it is down should delay moves toward fundamental reform. The first step needed in both industries is an attempt to put a price on what economists call "externalities"--those mostly unmeasurable social and environmental costs of economic activity excluded from the basic costs associated with a firm's inputs and outputs. Put succinctly in the heading on a recent posting at the Oil Drum blog--accompanied by one of those now all-too-common pictures of an oil-drenched bird--the question can be rephrased as "What Price Pelican?" There is no easily definable price, and that's the dilemma. But we know society pays a price; the suffering felt from a lost job or home is real. Importantly, these costs arise most strongly in industries whose output society values greatly: energy and credit. The next step is to take action. In the oil industry, that means creating a comprehensive, industry-funded insurance plan to cover environmental damage, with each firm's contributions increasing proportionally with the level of environmental risk each runs--as determined by the extent and type of drilling. This would be complemented by a bold new system of regulations, one with strict new rules, close monitoring and rigorous enforcement. For banks, we essentially need the same thing. Governments should embrace the controversial financial transactions tax to create a pool of funds to protect against systemic breakdown and discourage excessive risk-taking, all the while tightening the regulatory framework. For years, the insure-and-regulate model worked well for the U.S. banking industry. Before the 1999 repeal of the Glass-Steagall Act allowed risk-hungry uninsured investment banks into the slow but safe world of commercial banking, banks were closely monitored and regulated. Meanwhile, the primary risk they posed to the general public--that of a system-wide run on deposits--was prepared for via their contributions to deposit insurance. As both BP and Lehman Brothers now know, the cost of being at the center of an unforeseen social crisis outweighs whatever costs an individual firm pays for tighter regulation or higher insurance contributions. Rather than receiving unpredictable, ad hoc penalties in the fallout from the next disaster, investors in both industries should welcome the predictable set of rules that such changes would bring. Regulatory reform, in other words, is not only good for business, it's good for markets. (Michael Casey, a special writer with Dow Jones Newswires, writes a regular column about currencies and fixed-income markets. Previously he was Newswires' Buenos Aires bureau chief and, before that, assistant managing editor for the U.S. economy, Treasurys and foreign-exchange group in New York. He can be reached at 212-416-2209 or michael.j.casey@dowjones.com.) (TALK BACK: We invite readers to send us comments on this or other financial news topics. Please email us at TalkbackAmericas@dowjones.com. Readers should include their full names, work or home addresses and telephone numbers for verification purposes. We reserve the right to edit and publish your comments along with your name; we reserve the right not to publish reader comments.) (END) Dow Jones Newswires June 15, 2010 16:16 ET (20:16 GMT)
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