Chartered Financial Analyst (CFA) Practice Exam Level 2

What does Regulatory Capture Theory suggest about regulatory agencies?

1. They primarily benefit public interest

2. They can be influenced by the industries they regulate

3. They always operate independently

4. They are subject to market forces

The correct answer is: They can be influenced by the industries they regulate

Regulatory Capture Theory posits that regulatory agencies, which are established to act in the public interest and regulate specific industries, can become influenced or "captured" by the very industries they are meant to oversee. This influence can manifest through various means, such as lobbying, relationships formed between industry representatives and regulators, or the pursuit of personal interests by individuals within the regulatory bodies who may favor the businesses they regulate over the public's interest. The idea is that, rather than solely serving the public good, these agencies may adopt policies that benefit the industry itself, leading to outcomes that may not align with the broader societal goals they were originally mandated to achieve. This can result in a lack of stringent enforcement of regulations or policies that are more favorable to the industry than to public welfare. In contrast, options suggesting that regulatory agencies always benefit public interest or operate independently overlook the complexities of the relationship between regulators and the industries they oversee. The notion that they are subject to market forces doesn't capture the unique dynamics of regulatory environments where influence and power imbalances can lead to capture, rather than a straightforward application of market principles.