Is real financial regulation possible?

This is a popular subject.  Today alone there are four commentators on the subject: James Kwak, Felix Salmon, James Surowiecki and John Kay.  All seem to endorse Kay's definition of the basic purpose of a financial system: "to enable savers to have confidence in borrowers whom they do not know: confidence that they will earn the returns they expect and be able to realise their investment when they need funds."  It is hard to generate that confidence in an environment of hyperactive trading by people who have no real relationship to other traders beyond the attempt to make money.

Kay believes that the regulators look at the world through the eyes of the traders rather than the investors whom the traders are supposed to serve.

Another problem arises by the fact that things change.  As Kay writes, "A large part of the problem is the way in which financial tools which had a utilitarian purpose when initially designed have become primarily vehicles for financial speculation. Libor, for instance, was a way for banks to peg loan rates to their own funding costs, and thereby minimize their own risks while at the same time minimizing the amount that borrowers had to pay. Today, banks don’t fund on the interbank market any more, and Libor has become something else entirely: a number to be speculated on in the derivatives market, and, in times of crisis, an indication of how creditworthy banks are perceived to be."

Kay believes we should simplify the rules and the financial industry.  Use broad fiduciary standards as the policing vehicle.  Break up the behemoths.