Regulatory Agencies

Regulatory agencies are governmental commissions that devise and enforce standards in the market economy. The self-reinforcing relationship between corporate reputation and regulatory agencies is an essential element of the success of each. Most economists and politicians agree that competition in the marketplace, governed by corporate reputation, is the most efficient regulator of economic activity, and so regulation serves simultaneously as an enhancement and as a surrogate for corporate reputation. As Supreme Court justice Stephen Breyer has argued, regulation either serves to correct a market distortion that the industry itself can’t resolve or meets a social goal that the industry doesn’t value. Thus, regulatory agencies have always been, from their initial creation, a consequence of market failure in situations where monopoly power, economic externalities, or inequitable labor markets predominate. But strong regulation, driven by powerful regulatory agencies, also serves to bolster economic activity and to attract capital to nascent markets that, in turn, often create more opportunities for business competition and market equity.

When they are operating at their best, regulatory agencies correct market failures and economic inequity, but when they lose their reputation and professional competence, agency regulation reduces economic efficiency and distorts markets. Whether in correcting market failure or in their effective oversight of industries, reputation is a crucial element in the creation, support, and impact of regulatory agencies because a government agency’s effectiveness is predicated on the professional knowledge of the regulators and the consistency of the agency itself. This entry explores the historical development of regulatory agencies, the rise of deregulation, and the need for regulatory agencies to balance innovation with regulation.

The Development of Regulatory Agencies

In the United States, historians often begin their analysis of regulatory agencies with the Interstate Commerce Commission (ICC), created by President Grover Cleveland in 1887. President Cleveland created the ICC to regulate the railroads because of widespread public antipathy toward the economic power of the railroads in the United States in the 19th century. The railroads not only facilitated the second industrial revolution but also gave rise to the regulatory state.

From the 1870s onward, state regulators such as Charles Francis Adams at the Massachusetts Railroad Commission used corporate disclosure and public shaming to regulate the American railways, but by the late 19th century, Americans increasingly turned to federal regulation and their consequent regulatory agencies to correct market deficiencies. In 1905, for instance, the Mann-Elkins Act extended the jurisdiction of the ICC to the emerging cable, telegraph, and telephone industries that, like the railroads before them, spanned American state boundaries. Thus, public distrust of the power of American corporations, through their use of monopoly power and subsequent public scandals, naturally led to the creation of the first regulatory agencies.

The earliest regulatory agencies, from the U.S. Department of Agriculture (created in 1862) through the Federal Reserve (founded in 1913) and the Federal Trade Commission (founded in 1914), were spurred by attempts to bolster the American economy and to prevent large corporate combinations from overwhelming rural and small business interests. Given the smaller scale of the American federal government prior to the 1930s, most regulatory agencies lacked direct oversight, instead relying on a combination of legal challenges and associational compacts to enforce their nascent oversight of industries. The limits of early regulatory oversight can be seen most famously in the Wall Street Panic of 1907, when J. P. Morgan personally served as the behind-the-scenes central banker for the United States, and in the 1920s, when then secretary of commerce Herbert Hoover promoted his associational agenda to rationalize American industrial standards. Yet economic scandals, often accompanied by legislative hearings, such as New York State’s investigation of the life insurance industry in 1905 and the infamous Nye Committee hearings into the “merchants of death” in the 1930s, put enormous pressure on the corporate reputation of entire industries, which, in turn, inevitably led to the founding of more regulatory agencies with direct oversight of American industry.

By the 1930s, with the American economy in sustained depression and the laissez-faire policies of the 1920s in retreat, the modern regulatory state emerged with the establishment of the Food and Drug Administration (FDA) in 1931 and the Securities and Exchange Commission (SEC) in 1933. When President Franklin D. Roosevelt created a host of “alphabet agencies” in the 1930s, the American New Deal served both to institutionalize the direct power of regulatory agencies and to underscore their ability to establish economic policy. Yet, as many historians have argued, the apparent radicalism of the New Deal ironically produced a conservative outcome as the bureaucrats in the FDA reassured Americans that their medications were safe, thus promoting the growth of the large pharmaceutical companies, while the lawyers in the SEC soothed nervous investors and thus rejuvenated Wall Street’s finance industry.

According to political scientist Daniel Carpenter, the ultimate power of regulatory agencies such as the FDA was not simply their oversight of industrial policy but also their influence in creating trustworthy products at a global level and, equally important, in the promotion of the professional reputation of the bureaucrats within the agencies themselves. The technocrats who managed the SEC and FDA worked to rebuild the corporate reputation of American (and foreign) companies, which had been damaged in the aftermath of the market crash of 1929 and the corporate scandals of the 1930s. In an era when discrimination prevented many from entering corporations, the federal government increasingly became a haven for talented women, Jews, and African Americans to practice their chosen professions. Regulators harnessed the power of corporate and professional reputations to drive their supervisory agenda and, in doing so, created a powerful system of regulatory agencies.

In the 1950s, following World War II, the American model of regulatory oversight was carried, via the Marshall Plan, into the international program of postwar assistance. In the European Union, for instance, transnational regulatory agencies would establish standards for agriculture, telecommunications, and banks, often specifying that those products that met American standards, for example, new pharmaceuticals or financial investments, were automatically acceptable in other regulatory regimes. Thus, many regulatory agencies, often the largest American ones, became de facto international agencies, regulating transnational standards for corporate reputation. To this day, for instance, the FDA serves as the unofficial regulator for the Indian pharmaceutical industry, specializing in generic drugs. Thus, the reputation of the leading regulatory agencies for thoroughness of their investigations and the technical capacity of their staff has ultimately led to the outsourcing of regulatory oversight to the most advanced regulatory agencies.

A third wave of regulatory agencies emerged in the 1970s following rising concern about environmental degradation (Rachel Carson’s book Silent Spring was particularly influential), worker safety, and nuclear power. Under Republican president Richard Nixon, the Occupational Safety and Health Administration and the Environmental Protection Agency were both established in 1970. And, following concerns about the safety of commercial nuclear reactors, the Nuclear Regulatory Commission was created in 1974. As the creation of all three of these regulatory agencies suggests, by the 1970s, concerns about corporate reputation increasingly led to the creation of regulatory agencies, even under apparently conservative administrations. Despite the Watergate scandal, Nixon’s regulatory initiatives for workers, the environment, and energy would survive into the 21st century.

The Rise of Deregulation

Yet, as historian Thomas McCraw has described, the early 1970s were ultimately the high-water mark for the influence of American regulatory agencies. By the mid-1970s, both conservative and liberal American politicians were increasingly worried that government technocrats had overstepped their ability to regulate the domestic economy and that the impact of ever-rising regulation was stifling corporate innovation. As a result, legislative calls for deregulation under Democratic president Jimmy Carter, promoted by Democratic senator Ted Kennedy, resulted in the dismantling of the successor agencies to the ICC. The American Congress soon passed a series of laws deregulating the transportation system, including the Railroad Revitalization and Regulatory Reform Act of 1976, the Airline Deregulation Act of 1978, and the Motor Carrier Act of 1980, which deregulated trucking. In 1995, Congress abolished the ICC, little more than a century after it had first established the most famous regulatory agency. Although financial regulation would rise again following corporate scandals such as Enron and WorldCom in the early 21st century, American politicians routinely pledge to reduce regulation and to cut the size of regulatory agencies when running for political office.

It is apparent from long experience that regulatory agencies serve to guide economic markets and to counterbalance the apparent scope of corporate control. In this regard, the rise of the American regulatory state has both undermined the control of business interests and bolstered their corporate reputation by establishing consistent standards and regulating economic externalities, such as environmental or labor safety, that might not otherwise factor into administrative decisions. In instances when corporate scandals often led to the establishment of regulatory agencies, regulators’ standards ultimately rejuvenated corporate reputations in sullied markets such as industrial chemicals, transportation, or financial services.

Innovation, Reputation, and Regulatory Agencies

As new technologies have created nascent markets in the third industrial revolution, regulators have struggled to balance innovative processes and products with their existing regulatory oversight. In recent years, for example, the Internet has created the possibility of crowdfunding new products from start-up companies by raising money through numerous small donations. As a result, entrepreneurs have asked regulators to set aside existing financial regulation, devised in the 1930s to protect unsophisticated investors, arguing that reputational capital will provide the deterrent to investor fraud. Similarly, as small radio-controlled aircraft have proliferated, the Federal Aviation Administration has struggled to find the right balance between safety concerns for passenger aircraft and the new commercial possibilities for package delivery. And as cryptocurrencies such as Bitcoin have expanded, they have run afoul of regulators’ attempts to disrupt the finances of terrorist networks. As these various examples suggest, even when new corporate reputations are being built in nascent markets, existing regulatory agencies are constantly working to balance the demands of corporate innovation against the need to maintain public standards in existing industries’ structures.

Globalization and the rise of international markets have challenged the traditional system of national regulatory agencies. Yet even as entrepreneurs question the old system, politicians promise to reduce red tape, and new market arrangements, such as Uber and Airbnb, challenge existing industry regulations, financial, worker, and health scandals have given rise to further calls to regulate the economy. The scope of regulatory action, like the breadth of corporate reputation, continues to increase in the widening global economy. Whatever form regulatory agencies will take over the next 100 years, they will continue to hold considerable power over the reputation and efficacy of the global economy.