I Just Cannot Get You Out of My Head: Regulatory Capture of Financial Sector Supervisors

Abstract

Regulatory capture is generally considered to be a principal cause for shortcomings in financial sector regulation and supervision. Little is known, however, about the mechanisms driving public officials' capture by the financial industry. We argue that social identification with the financial sector is an important psychological mechanism driving regulatory capture of financial sector supervisors and that this is likely to reduce supervisory effectiveness. Using survey data gathered from supervisors working at two Dutch financial supervisory institutions, our results demonstrate that, first, supervisors with previous tenure in the financial sector are more likely to socially identify with the financial sector, second, that social identification with the financial sector negatively affects supervisors' task performance, and, third, that the negative effect from socially identifying with the financial sector can be curbed by a supervisor's professional identity. These results shed light on the, to date, unaddressed psychological mechanisms driving regulatory capture. *Views expressed are those of the authors and do not necessarily reflect official positions of De Nederlandsche Bank.