What Is Deregulation?

The term deregulation refers to the reduction or elimination of government power in a particular industry. Deregulation is usually enacted by government bodies to create more competition within an industry. The struggle between proponents of regulation and those of government nonintervention has shifted market conditions. Some of the industries that have been deregulated in the United States include trucking, railroad, airline, and finance.

Understanding Deregulation

Deregulation involves removing regulations and restrictions within an industry. It reduces a lot of the bureaucracy involved, which makes it cumbersome and overbearing for companies to do business. This is normally done at the executive level, which means legislation must be passed and signed into law by a country's leader.

Proponents of deregulation say it:

• Reduces burdensome red tape
• Creates a competitive edge
• Opens up opportunities for entry for new players
• Helps stimulate the economy
• Allows companies to free up capital to use to run their businesses

But there is plenty of criticism. Those against deregulation say it may help create monopolies and lead to a lack of transparency on how businesses operate. Eliminating regulations can also have detrimental impacts on consumers. Without any regulatory framework in place, companies are free to exploit consumers' interests. For instance, the deregulation of the financial sector gave financial institutions the power to decide how they would use their capital and how they would charge consumers fees.

The History of Deregulation in the Financial Industry

The Early Days

The financial sector in the U.S. wasn’t heavily regulated until the stock market crash of 1929 and the Great Depression that resulted. Franklin D. Roosevelt’s administration responded to the financial crisis by enacting financial regulation. This includes the Securities Exchange Acts of 1933 and 1934 and the U.S. Banking Act of 1933, otherwise known as the Glass-Steagall Act.

The Securities Exchange Acts required all public companies to disclose relevant financial information and established the Securities and Exchange Commission (SEC) to oversee securities markets.

The Glass-Steagall Act prohibited a financial institution from engaging in both commercial and investment banking. This reform legislation was based on the belief that the pursuit of profit by large, national banks must have spikes in place to avoid reckless and manipulative behavior that would lead financial markets in unfavorable directions.

1980s to 1990s

In 1986, the Federal Reserve reinterpreted the Glass-Steagall Act and decided that 5% of a commercial bank’s revenue could be from investment banking activity. In 1996, that level was pushed up to 25%. The following year, the Fed ruled that commercial banks could engage in underwriting. In 1994, the Riegle-Neal Interstate Banking and Branching Efficiency Act was passed, amending the Bank Holding Company Act of 1956 and the Federal Deposit Insurance Act, to allow interstate banking and branching.

In 1999, the Financial Services Modernization Act, or Gramm-Leach-Bliley Act, was passed under the watch of the Clinton administration and overturned the Glass-Steagall Act completely. In 2000, the Commodity Futures Modernization Act prohibited the Commodity Futures Trading Commission from regulating credit default swaps and other over-the-counter (OTC) derivative contracts. In 2004, the SEC made changes that reduced the proportion of capital that investment banks have to hold in reserves.

The Great Recession and Beyond

This spree of deregulation came to a grinding halt following the subprime mortgage crisis of 2007 and the financial crash of 2007–2008, most notably with the passage of the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, which restricted subprime mortgage lending and derivatives trading.

However, with the 2016 U.S. election bringing both a Republican president and Congress to power, then-President Donald Trump and his party set their sights on undoing Dodd-Frank. In May 2018, Trump signed a bill that exempted small and regional banks from Dodd-Frank’s most stringent regulations and loosened rules put in place to prevent the sudden collapse of big banks. It passed both houses of Congress with bipartisan support after successful negotiations with Democrats.

Trump said that he wanted to “do a big number” on Dodd-Frank, possibly even repealing it completely. However, the bill's co-sponsor and former Rep. Barney Frank (D-Mass.) said of the new legislation, “This is not a ‘big number’ on the bill. It’s a small number.” The legislation left major pieces of Dodd-Frank’s rules in place and failed to make any changes to the Consumer Financial Protection Bureau (CFPB), which was created by Dodd-Frank to police its rules.

Effects of Deregulation

The hoped-for effects of deregulation are to increase investment opportunities by eliminating restrictions for new businesses to enter markets and increase competition. Increasing competition encourages innovation, and as companies enter markets and compete with each other, consumers can enjoy lower prices.

Lessening the need to use resources and capital to comply with regulations allows corporations to invest in research and development (R&D). Without needing to comply with mandated restrictions, businesses will develop new products, set competitive prices, employ more labor, enter foreign countries, buy new assets, and interact with consumers without the need to obey regulations.

Example of Deregulation

We highlighted some of the key measures taken to deregulate the financial industry above. Other industries experienced the removal of regulations.

In 1978, Congress passed the Airline Deregulation Act, which gave more control to airline companies and changed the landscape of the industry. By removing certain restrictions, the law allowed new airlines to enter the market, including smaller ones. It also allowed airlines more freedom to fly to new locations, increase the number of planes in the air, and boost the number of passengers per flight.

The Bottom Line

Deregulation lowers costs of operations, allows more businesses to enter a market, and lowers prices for consumers. These factors can help stimulate efficiency and lead to increased economic growth.