The wrongs of regulation
This week, I came across a superb video from the All-In Summit last week in LA.
It’s a talk by legendary investor Bill Gurley of Benchmark Capital on the subject of regulatory capture. For anyone in the worlds of finance, tech, or politics, it is a must watch.
Gurley makes the compelling argument that, generally, industries that are more regulated tend to have less competition. As a result, over time, they suffer from higher prices, create lower levels of innovation, and generate less prosperity for society.
Gurley is sounding the alarm as the focus of regulation is now turning to tech. And there’s much to learn from his view.
Lobbied to death
Gurley tells a story about an investment he made in the 1990s into a company aiming to provide street-wide WiFi to cities all across America, something mayors were super excited about. The initiative failed because big telecom networks (Comcast, Verizon etc.) lobbied the government hard, convincing it that telecom equipment needed regulation and that they were the only ones equipped to provide it safely. Their actions killed the industry – and the dream of free WiFi died with it.
Gurley presents a range of stories that portray how incumbents lobby for regulation to stifle innovation and competition, leaving them with the bulk of the benefits. He ends by saying:
“The reason Silicon Valley has been so successful is because it’s so f***ing far away from Washington DC.”
Brave, new world
The points that Gurley made are prescient today given how the relationship between regulation and tech has fundamentally changed in recent years. Until 2015, tech operated, largely, outside of regulation. However, of late, the Big Tech companies have actively taken to courting lawmakers in Washington DC, London and Brussels, following the same playbook created by other, more regulated industries, such as finance, healthcare and energy.
Take AI, where Big Tech has been actively lobbying for regulation of AI models, citing “safety” as a cause for concern. Gurley makes the point that, currently, the industry is in a magical state where models are open-sourced and the only barrier to entry is computing power (which continues to get cheaper due to Moore’s law) and available training data. Anyone with a laptop and an AWS account can create and start training an AI model using cloud-based servers.
Whilst OpenAI and others have powerful models available, this doesn’t prevent hobbyists from creating their own from open-source data. The problem comes if you chuck in a load of red tape and regulation. The barrier to entry suddenly grows, and OpenAI, Google, Microsoft etc., start to earn monopoly rents from being the only “approved” suppliers of AI.
The threat is real… and costly
Of course, technology right now is a hot, political topic, and there are areas where society rightfully needs regulation. However, the threat of regulatory capture is real in a variety of sectors and not just in technology.
Healthcare is another example. Gurley gives a very worrying example of COVID-19 lateral flow tests (LFTs), where 3 big US pharma companies managed to lobby to enforce a “quality control” on LFTs so that they were the only 3 providers able to sell the test in the US. The lack of competition means that tests cost $24 for two in the US today. In the UK, you can get 5 tests for £6.
Closer to home in financial services, it is now consensus that MIFID/MIFIR has arguably done nothing to improve the safety of financial markets, and the EU is now trying to roll back some of its key tenets. In many respects, all it has achieved is shut retail investors out of participating in a range of basic investments, (such as bonds). The returns from certain assets have been gated off, accessible now by only professionals and HNWs. This trend has been further exacerbated by capital flows from public to more opaque private markets and the rise of private market investment vehicles, such as private equity and venture capital.
Regulation has essentially been an anti-democratic force in financial markets. I remember when growing up in the late 90s (the beginning of online brokers), my dad opened a tiny trading account for me to understand how investing works. At the time, I was directly able to buy stocks and bonds of a variety of companies. Young people today are flocking to investment opportunities embedded within their digital banking apps, such as Monzo’s recent announcement that they are offering an “investments” feature, giving access to 3 Blackrock funds-of-funds. In the 1990s it was all about giving people more direct access to the markets…today, retail investors are “protected” by the fee-earning service providers of banking apps, asset managers, and all sorts of other financial sector incumbents.
The consequences of politics
In today’s world, geopolitical shifts add another motivator in favour of more regulation (think protectionism favouring national champions). “America First” may sound like a nice political slogan – but if you really think about its outcome, it’s clear to see the scope for higher prices, lower, less diverse competition and negative long term consequences for consumers.
Regulation obviously has its place, and is a necessary component of a well functioning market. But, regulatory capture, whereby private sector entities bend regulation to their interests in order to earn uneconomic rents, is terrible. “The road to hell is paved with good intentions” as they say.
For anyone in finance, tech, or politics, Gurley’s thoughts, and the learnings that come from it, should not be ignored.