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An FDA for Financial Innovation: Applying the Insurable Interest Doctrine to 21st Century Financial Markets

An FDA for Financial Innovation: Applying the Insurable Interest Doctrine to 21st Century Financial Markets


Eric A. Posner

University of Chicago – Law School

E. Glen Weyl

University of Chicago; University of Toulouse 1 – Toulouse School of Economics

February 23, 2012

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University of Chicago Institute for Law & Economics Olin Research Paper No. 589


Abstract:     
The financial crisis of 2008 was caused in part by speculative investment in complex derivatives. In enacting the Dodd-Frank Act, Congress sought to address the problem of speculative investment, but merely transferred that authority to various agencies, which have not yet found a solution. We propose that when firms invent new financial products, they be forbidden to sell them until they receive approval from a government agency designed along the lines of the FDA, which screens pharmaceutical innovations. The agency would approve financial products if they satisfy a test for social utility that focuses on whether the product will likely be used more often for hedging than for speculation. Other factors may be addressed if the answer is ambiguous. This approach would revive and make quantitatively precise the common-law insurable interest doctrine, which helped control financial speculation before deregulation in the 1990s.

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