The Trojan Horse of cost benefit analysis

January 3, 2012

By John Kemp
The writer is a Reuters market analyst. The views expressed are his own.

LONDON – Should federal government agencies have to prove the benefits of new regulations outweigh the costs before introducing them?

It sounds like a simple question with an obvious answer. But the role of cost-benefit analysis in writing federal regulations (and even laws) is shaping up to be one of the biggest battles between the Obama administration and business groups in 2012.

On one side are business groups such as the U.S. Chamber of Commerce and the International Swaps and Derivatives Association (ISDA), backed by conservative lawyers such as Eugene Scalia (son of Supreme Court Justice Antonin Scalia) and a group of judges on the U.S. Court of Appeals for the District of Columbia Circuit who oversee most federal rule-writing.

On the other is the White House, the Treasury and a host of agencies stretching from the Securities and Exchange Commission (SEC) to the Commodity Futures Trading Commission (CFTC).


What was once an esoteric legal dispute is turning fiercely political.

In September, Senator Richard Shelby, the senior Republican on the Banking Committee and a key ally of Wall Street, introduced the Financial Regulatory Responsibility Act (S 1615).

If approved, the bill would prevent federal agencies from introducing any rule until they have completed a “quantitative and qualitative assessment of all anticipated direct and indirect costs and benefits” (Section 3(a)(4)).

Crucially, “an agency may not publish a notice of final rulemaking if the agency .. determines that the quantified costs are greater than the quantified benefits” (Section 3(b)(4)(A)).

Last week, the Wall Street Journal weighed in with an editorial blasting the Obama administration for the poor quality of its regulatory rulemaking.

In language that mirrors the Shelby bill almost exactly, revealing the coordinated lobbying effort, the Journal wrote: “Quality refers to a deliberative process: defining the problem; measuring the costs, benefits and risks; weighing alternatives, making trade-offs, avoiding duplication; and giving the public opportunity to comment” (“Badly Written Bad Rules,” Dec 28).

Describing the rulemaking process to implement the Dodd-Frank Act, the Journal observes “Of the 10 rules that were discretionary, the agencies assessed costs and benefits in seven, which might be good enough for government work except that in only two of those cases did the regulators monetize anything.”

Shelby’s cost-benefit bill has obviously been drafted with input from K-Street lobbyists and conservative lawyers.

It will not progress in the present Congress, where it will be blocked by Senate Democrats and the White House. But the bill reveals much about the approach to regulation ascendant in conservative circles. And the ideas could come much closer to becoming law if the Republican Party makes gains in the 2012 elections.

The conservative and pro-business push back on federal regulations is starting to draw a response. Last month, Treasury Secretary Timothy Geithner hit out at what he called “a determined effort to slow and weaken reforms that are critical to our ability to protect Americans from another crisis.”

“The forces working against reform are trying a range of different strategies, including … efforts to use cost-benefit analysis as roadblocks to reform,” Geithner said (“The Macroprudential Toolkit: Measurement and Analysis,” Dec 1).


Efforts to require formal quantitative cost-benefit analysis have already made headway in the U.S. courts, especially in the District of Columbia Circuit Court of Appeals, which is dominated by appointees of the Reagan and Bush administrations, and has been at the heart of the conservative legal revolution.

In July, the court blocked a proposed new SEC regulation on proxy access because the Commission failed to meet its statutory obligations to determine the economic effects of the new rule.

Writing for the court, Judge Douglas Ginsburg noted testily “the Commission acted arbitrarily and capriciously for having failed once again … adequately to assess the economic effects of a new rule” (Business Roundtable versus SEC, 10-1305, 2011).

“The Commission inconsistently and opportunistically framed the costs and benefits of the rule; failed adequately to quantify the certain costs or to explain why those costs could not be quantified; neglected to support its predictive judgments; contradicted itself; and failed to respond to substantial problems raised by commentors,” Ginsburg scalded.

The three-judge panel which ruled against the SEC included Ginsburg and Chief Judge David Sentelle. Lead counsel challenging the rule on cost-benefit grounds was Eugene Scalia.

The arguments and actors were familiar. Two years earlier, Scalia prevailed in a similar case before Sentelle and Ginsburg blocking an SEC rule regulating fixed index annuities under the Securities Act (“American Equity Investment Life Insurance Co versus SEC, 09-1056, 2009).

The court also struck down that rule for violating the Administrative Procedure Act (APA), which requires the courts to set aside any agency action, findings and conclusions found to be “arbitrary, capricious, an abuse of discretion, or otherwise not in accordance with law” (5 USC 706(2)(A)).


Now Miguel Estrada, Scalia and other business lawyers are going for a triple by launching an unprecedented challenge to the CFTC’s new rulemaking on position limits, in a case filed before the district court and the court of appeals for the District of Columbia.

The complaint cites five separate errors by the CFTC in its rulemaking. Much of the public comment has focused on whether the Dodd-Frank Act requires the CFTC to impose limits, or only do so if it finds them necessary (Count 1).

But four other objections center on violations of Section 706 of the APA (Counts 2-5) specifically whether the CFTC failed to collect sufficient data to quantify the costs and benefits of position limits.

Having never sued anyone previously, ISDA takes aim at the decision-making process: “There really was no cost-benefit analysis. We’ve seen this before and it is very unsettling, especially when this is also required by law,” ISDA complained on its blog (“Why ISDA has resorted to the courts”, Dec 6).

“We felt the final rule was not only negative in and of itself; it also made a terrible model for position limits for other products and for developing other rules. We would very much like to see a good faith cost-benefit analysis of other rules as they are finalized. We point to our paper on electronic execution as the type of analysis that should be done”.

The complaint against the CFTC is not just about position limits but about the whole way the federal government writes regulations.


The CFTC denies its largely qualitative approach is flawed. It claims to have quantified costs and benefits were feasible, and relied on qualitative assessments where it is not. The CFTC also observed (correctly) the industry’s own comments on the rulemaking provided little quantitative data on costs and benefits, perhaps because there is none.

The study ISDA cites with approval, which was about electronic execution, quantified the costs of the rule under consideration quite precisely. But it failed to measure its benefits, dismissing them as “very modest relative to the added costs of execution,” which is precisely the objection of selective and imprecise measurement ISDA is making against the CFTC.

In principle, subjecting regulations to cost benefit analysis is an excellent idea. In practice, quantifying costs and benefits objectively is notoriously difficult. The result tends to depend on who is doing the measuring.

But the string of court challenges, and Shelby’s bill, are not really about cost benefit analysis at all in the narrow sense. The standard they seek to enforce would be impossible to meet. As Geithner observed, the unstated aim is to beat back federal regulation.

Whether quantitative cost benefit calculations are required by the law is unclear. The Administrative Procedure Act does not explicitly require them, but conservative jurists on the DC Circuit and lawyers like Scalia have stretched the requirements through case law, and may use the CFTC case to try to push them further.

Ultimately, it will fall to the Supreme Court to decide how far Section 706 requires a quantified calculation before new rules are introduced. Even if a Supreme Court showdown is avoided in this case, cost-benefit is scything a path through federal regulations, making a final confrontation inevitable some time soon.

PHOTO: A woman and her children look out from inside the wooden replica of the Trojan Horse in Troy, in Dardanelles, July 11, 2007. REUTERS/Umit Bektas


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From the beginning of the alphabet-soup agencies created under the administration(s) of FDR it should have been apparent that giving unelected and unaccountable bureaucrats essentially unrestrained powers of rule and regulation was a bad idea.

Now that government must understand that no longer is it “business as usual” and that “if they spend it, taxpayers will cover the tab” it will be necessary for there to be reason and even priorities behind what government does. What a novel concept…accountable government. Such thinking might even someday lead to competent government, even if that means replacing all players on all teams.

Posted by OneOfTheSheep | Report as abusive

This has got to be one of the “Holy Grails” of writing laws in this country. Nobody has ever really had to justify costs for anything because money has been like water, readily available but gone before you know it. Folks, this is just common sense stuff that is absolutely critical to the country’s health as well as the lawmaker’s reputation of getting things right! and not just his or her reputation, but every other lawmakers credibility that voted for it. These are issues that real people have to face every working day, and if we get it wrong, chances are pretty good we’ll be fired from our job. We incentivise the wrong things in this country, and it’s really just another example of how lobbyists and power players hi-jack everyone’s rights and everyone’s money for their personal gain. You’ll see alot less laws passed if benchmarks are established, but it’s an idea who’s time is waaaaay past due. Only good things can come from this.

Posted by schmetterling | Report as abusive

Regulations serve a higher moral purpose toward public good than to appease the few self-serving via cost-benefit measures. The article goes to show how deep the self-seving has entrenched into this.

We’ve seen the results of unregulated free-trade and the likes that have depleted the competitiveness of this nation over the past decade and has polarized this nation toward bleak future of the next generation.

I hope some measures get established based on fairness to the public at large, enhancing competitiveness of the next generation, and accounting for the actions of the few self-centered.

Posted by Mott | Report as abusive


You MUST be a bureaucrat. No one else could, with a serious face, suggest that “Regulations serve a higher moral purpose toward public good than to appease the few self-serving via cost-benefit measures.” Those “few self-serving” happen to be “we, the people”!

Already Americans lose factories, work and jobs because of poorly though out and excessively expensive regulations. The ones governing lead paint in houses built before 1980 have caused insured remodelers to just skip that work and leave it to homeowners or gypsy (out of their out-of-state truck) contractors to do (with greater danger of exposure).

Homes in many rural areas can no longer install septic systems. The systems now “acceptable” are more expensive and require frequent and expensive professional service. But that’s not considered in how the “cost of living” if figured. Of course our government lives in an alternate reality, so it’s no wonder they are out of touch with the people they govern.

The CAA/FAA and it’s unduly and largely incompetent heavy hands have all but killed private aviation. There has not been a power plant or refinery built recently anywhere in these United States. We can’t even get safe storage approved for our nuclear waste after building the facility.

I could go on and on all night, but you get my point.

Posted by OneOfTheSheep | Report as abusive

The difficulty, as the article explains, is that some things are difficult to objectively quantify and others (such as personal integrity in the context of a specific type of trading activity that the SEC is attempting to regulate) are almost impossible to objectively quantify.

Really, instead of the word “QUANTIFY” we should be using the word “PREDICT” – because you cannot quantify the effects of something that hasn’t happened yet. In these terms, it should be obvious why John Kemp explains:
“The result tends to depend on who is doing the measuring.”

The government shouldn’t have a “get out of jail free” card, and neither should Wall Street have one through the subversive application of cleverly worded laws that have been sneaked into the system through the back door.

There is a minor mistake in the article:
“It claims to have quantified costs and benefits were feasible, and relied on qualitative assessments where it is not”
I think this means:
“It claims to have quantified costs and benefits _wHere_ feasible, and relied on qualitative assessments where it is not”

Posted by matthewslyman | Report as abusive

@OneOfTheSheep: Job losses were not the result of expensive regulations – they were the result of deregulations toward (facilitating unregulated) free trade via lobby-instrument by the top few corporations to seekout cheap-labor elsewhere with less environemntal and public concerns and bring the goods back in duty-free to empty local wallets over time to the point of current job losses.

I think the real issue (and hence the enemy) here may be the regulations working in the interest of large corporations (as they were much the result of their lobby efforts over the years) and keeping out the smaller or new entrants from startup and or keeping them away from posing any threat of competition.

Posted by Mott | Report as abusive


The opening of America’s “private pond” of consumers to the world and the relocation of much of American manufacturing “offshore” where regulatory burdens, materials and labor cost less are the two sides of the same door – Globalization.

It is certification or licensing requirements, whether for contractors, nurses and assistants, teachers, etc. that artificially and undesirably discourage the number of people that would otherwise enter these fields thus increasing “supply” and lowering the cost of same in the marketplace.

Neither of these “issues” has the slightest connection to the stranglehold unelected and unaccountable government bureaucrats presently have on Americans, American productivity and their “cost of living”.

No purpose is served by merely confusing issues.

Posted by OneOfTheSheep | Report as abusive


Correction: Third paragraph should have read “Only to such extent as unelected and unaccountable government bureaucrats unreasonably and without appropriate justification impose artificial and unnecessary “qualifications” on the accomplishment of projects or employment of people is there any connection between the adverse effect of ill-considered and arbitrary bureaucratic actions and inactions and the reciprocal and adverse effect on American’s “cost of living”.

Posted by OneOfTheSheep | Report as abusive

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