Is Regulatory Reform Next?

President Bush’s $674 billion tax plan is driving the domestic policy agenda in Washington. Cutting marginal tax rates, eliminating the double taxation of dividends, and removing some of the more punitive elements of the tax code are all important steps toward a stronger economy. Fundamentally, the proposal offers better incentives for economic growth; workers, investors, and entrepreneurs will all see greater gains for their efforts. However, tax reform is only half the story. If the president wants to boost economic growth, the administration needs to look beyond tax policy and include sensible regulatory reforms that eliminate unnecessary burdens that stifle economic activity.

Regulatory reform is just as important as tax reform for strengthening the economy. In fact, many call regulation a hidden tax, something that increases costs and reduces economic opportunities. A study by Professors Mark Crain (George Mason University) and Thomas Hopkins (Rochester Institute of Technology) for the Small Business Administration found that in the year 2000, Americans spent $843 billion complying with federal regulations. That same year, the federal government collected $1.14 trillion from individual income tax filers. Although the cost of regulation was 74 percent of what people pay in income taxes, the regulatory burden received scant attention relative to the income tax.

Eliminating excessive regulations and unnecessary compliance costs cannot be overlooked when addressing the issue of economic growth. To the extent that tax reform can provide greater incentives to work, save, and invest, regulatory reform is imperative to ensure that businesses have the flexibility to absorb the new economic capacity. Tax reform that offers better incentives for economic growth will yield little if investment and employment opportunities are strangled by red tape and regulation. In this sense, regulatory reform serves to amplify tax reform by creating a marketplace more conducive to economic growth.

Unfortunately, the regulatory burden has yet to be addressed in Washington. Vital sectors of the economy remain mired in paperwork and regulations, and under the guise of homeland security, an expansive new regulatory agenda is emerging. Technologies that promise significant benefits to consumers and the economy in general have yet to be deployed due to regulatory barriers and uncertainties. For example, the FCC’s recent decision on phone competition all but ensures the issue will be tied in courtrooms and the bureaucracy for years to come. Elsewhere, policymakers in Congress are discussing restrictions on carbon dioxide emissions that could cost consumers billions of dollars with little to show in terms of benefits. And federal agencies continue to churn out regulations of all kinds; in fact, during the 2002 fiscal year, Washington issued more than 4,000 regulations.

If the fundamental role of regulations is to improve social welfare, then regulatory policy must be guided by practices that ensure the benefits of regulation are greater than the costs they impose. Economists rely on cost-benefit analysis for such comparisons, and federal agencies are supposed to incorporate this analysis into the regulatory process. However, with poor data and variables that may be difficult to quantify, regulatory analysis may be left wanting.

Despite the current regulatory burden and its potential to hamper economic activity, proponents of regulation are working aggressively to thwart plans to streamline the regulatory burden. Regulatory reform is equated to “regulatory rollback” and any reform is viewed as a threat to health or safety. However, such claims begin with the assumption that the existing regulatory regime is efficient and cannot be improved, a position that is difficult to justify with regulatory analysis. Many of the most onerous regulations were developed under the old “command and control” view of regulation, where federal agencies developed detailed regulations that have proved to be costly and not necessarily the most efficient way to meet regulatory objectives.

Much like tax reform, more modern thinking on regulation utilizes incentives to achieve regulatory goals more efficiently than older command-and-control regulations. Performance-based standards are viewed as more efficient than the old design standards. Rather than establish the specific methods that must be used, regulators identify the goals that must be met, leaving those in the private sector to find the most efficient way to meet these standards. This flexibility allows firms to identify new, low-cost ways to comply. Along with other new approaches, such as emissions trading, this new approach seeks to provide market-based standards that provide incentives to comply at the lowest cost. And with sound science as the basis for setting the standards, this approach to regulation does not mean individuals face any greater threat to health or safety.

President Bush’s Clear Skies initiative is an attempt to meet pollution standards with market-based regulations.

Regulatory reform is a critical component for strengthening the economy. Like tax reform, it can strengthen incentives to invest and work, providing an outlet for capital and new opportunities for employment. Also like tax reform, regulatory reform is often difficult due to vested interests in the status quo. Under the clamor for protecting the public, the true stalwarts for regulation often turn out to be special interests—industries or manufacturers that benefit from a regulatory system that reduces competition and restricts entry into the marketplace. Or, there may be interest groups acting to protect a political claim to the current regulatory regime. In either case, consumers bear the burden of regulation. Tax reform is now in Congress; as the debate moves forward, it is important to remember that regulatory reform is just as vital to a sound economy.