Cooling An Indian Summer

The regulation of financial markets is a tough old game and in a way has many similarities with the story of Goldilocks and the Three Bears.

Overzealous regulators with a penchant for market intervention run the risk of creating uncertainty and dampening sentiment, leaving investor porridge cold, while a hands-off approach is more likely to overheat everyone’s favourite breakfast as questionable practices go unnoticed and investor greed makes them susceptible.

The difference between financial markets and the story of fussy eating Goldilocks, however, is the wide acceptance that regulators, and central banks for that matter, are rarely able to introduce measures and policies that allow markets to operate at a level that is ‘just right’.

An example of this happened last week in the rapidly emerging market of India.

The Securities and Exchange Board of India sought to bring clarity to the market after an earlier move to curb the nature of foreign investment in the hope of taking the steam out of the market caused a 9 per cent fall in the Bombay Stock Exchange in one day.

It was hoped the clarification would calm investors and reduce market volatility after the initial intervention served only to create more confusion and volatility.

The event reinforced the notion that markets like to be left well alone by governments and regulators.

China is another recent example, whereby a minor intervention aimed at reducing apparent wanton speculation by some retail investors earlier this year was met with a mixture of derision and out right panic, leading to market gyrations in Shanghai’s Lujiazui Finance and Trade Zone that were reverberated around the globe.

At the other extreme, regulators and governments are often blamed after the event – often in cases where investors have lost money or markets have tumbled. The recent so-called ‘credit crisis’ is a case in point.

Also, the former head of the US Federal Reserve, Alan Greenspan, has his fair share of critics for not having acted sooner in a way that would have perhaps prevented the tech bubble and crash at the beginning of the millennium.

At the end of the day regulators, central banks and governments can do little if a market decides to take leave of its senses and get ahead of itself.

With this in mind should the converse also apply?

Can regulators, central banks and governments take the credit for economies that are operating in the ‘sweet spot’ or is it merely a case of all stars being aligned and the right place at the right time?