| Summary: | This paper will consider how regulatory arbitrage contributed to the 2007-2009 financial crisis (the “financial crisis”). In particular, the paper will establish how the avoidance of regulatory capital requirements by large and complex financial institutions (“LC financial institutions”) severely worsened the financial crisis, necessitating a massive rent extraction from U.S. taxpayers. In doing to, the paper will examine the regulatory arbitrage perpetrated by American International Group and the subsequent U.S. taxpayer bailout of that firm.
Because of the enormous amount of sovereign credit that had to be substituted for private capital during the financial crisis the paper assumes that the net negative nature of regulatory avoidance by LC financial institutions is axiomatic. Therefore, the paper advances several possible reform measures that could eventually be implemented into a new legal framework to confront the problems that are posed by the avoidance of financial services regulations.
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