The Downside to Deregulation

The deregulation initiated by Thatcher and Reagan in the 1980s was a corrective, inspired by economic theory, for the U.S. and U.K. governments that had gone too far in their zeal to protect consumers. A new book argues that now the corrective has gone too far.

Market distortions

In 1971 I had just finished graduate school in pure mathematics and was trying to decide what to do next. A friend in the math department told me that a company called A. G. Becker was, “doing interesting things with mathematics.” I went for an interview, they offered me a job, and without thinking about it much, I took it.

In graduate school I had a stipend of $250 a month and supplemented it with earnings from computer programming at $3.50 an hour. Because of those side jobs, I was richer than most other graduate students. I bought an old car every year or two for about $25. I had few money worries. When Becker offered me $15,000 a year, I thought it was a princely sum. It was so excessive that later, friends of mine found uncashed paychecks in the glove compartment of my car.

Pure math teaches you little about the real world. When I joined A. G. Becker I didn’t know what stocks and bonds were. I may have thought they were different names for the same things. But I learned.

The cash cow of the division I was in, the funds evaluation division, was a study of the rates of return on investment on corporate pension funds. The study was presented to clients quarterly in a loose-leaf book filled with perhaps 100 graphs and tables, all displaying the same set of statistics in different configurations and different ways.

When I first heard how much Becker charged for this book, called the corporate funds evaluation service (CFES), I assumed I heard wrong: $20,000. It must have been $20, I thought. But then Becker started another service for institutional money managers, the ones who managed the corporate pension funds, called the institutional funds evaluation service (IFES) and sold it for $30,000. At this point I decided the numbers must be right but there was something about it that I wasn’t understanding. They couldn’t have been real numbers.

Indeed, they weren’t. Or rather, they were real to Becker – Becker received $20,000 or $30,000 a year depending on the service – but they weren’t exactly real for the client.

The $20,000 was in “directed brokerage,” also called soft dollars. Because the rates charged by brokers for transacting in a stock were fixed by the government – and were high – brokers couldn’t compete with each other by lowering their fees. So they competed by offering supplementary “free” services in exchange for a client’s promise to direct a certain amount of brokerage business to the broker. The client had to direct that brokerage somewhere, anyway1, so they might as well trade with the one that offered them the best “freebies.”

When I was at Becker, there was talk about the “big bang” that would come on May 1, 1975, in which broker fees would be deregulated, so the soft dollar model wouldn’t work anymore. I left the firm around that time so I don’t know what they did after that.