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Regulatory gamesmanship typically relies on a planning technique known as regulatory arbitrage, which occurs when parties take advantage of a gap between the economics of a deal and its regulatory treatment, restructuring the deal to reduce or avoid regulatory costs without unduly altering the underlying economics of the deal. This Article provides the first comprehensive theory of regulatory arbitrage, identifying the conditions under which arbitrage takes place and the various legal, business, professional, ethical, and political constraints on arbitrage. This theoretical framework reveals how regulatory arbitrage distorts regulatory competition, shifts the incidence of regulatory costs, and fosters a lack of transparency and accountability that undermines the rule of law.
"These new regulations will fundamentally change the way we get around them."
-New Yorker Cartoon, March 9, 2009
I. Introduction
In a speech announcing a new tax on banks aimed at recovering taxpayer money for the bailout, President Obama cajoled the banks to simply pay the tax rather than try to avoid it. "Instead of sending a phalanx of lobbyists to fight this proposal or employing an army of lawyers and accountants to help evade the fee," the President urged bank executives, "I suggest you might want to consider simply meeting your responsibilities."1 Not likely.2 Obama is not the first President to resort to moral suasion to address regulatory gamesmanship. Theodore Roosevelt did so in a speech at Harvard University in 1905. The speech is best remembered for Roosevelt's plea for fair play in college football, where brutality and unsportsmanlike conduct had led to dozens of deaths on the field.3 But Roosevelt also had a few words about sportsmanship for the Harvard men heading off to law school. "[M]any of the most influential and most highly remunerated members of the bar," he explained, "make it their special task to work out bold and ingenious schemes by which their very wealthy clients, individuals or corporate, can evade the laws which are made to regulate in the interest of the public the use of great wealth."4 Harvard graduates should do better, he implored. "Surely Harvard has the right to expect from her sons a high standard of applied morality . . . ."5
This sort of regulatory gamesmanship typically relies on regulatory arbitrage, a perfectly legal planning...