Regulators face the same disruption challenge as incumbents — but their failures affect markets and publics, not just their own competitive position.
The Regulatory Disruption Challenge
Regulators are consistently behind disruptive innovation. The regulatory framework governing any industry reflects the technology, business models, and failure modes of the period in which the framework was created. When disruptive innovation changes the technology and business models operating in the industry, the regulatory framework may no longer accurately characterise the activities it governs, may no longer address the failure modes that matter, and may create competitive asymmetries between regulated incumbents and unregulated or differently-regulated new entrants that produce outcomes contrary to the regulation's intent.
The regulatory lag is structural — it reflects the process by which regulatory frameworks are created. Regulatory rulemaking is deliberately slow, requiring consultation, evidence gathering, legal analysis, and political accommodation that cannot be accelerated to match the pace of technological change without sacrificing the procedural safeguards that give regulation its legitimacy and durability. This structural lag means that disruption will always precede regulatory adaptation, and the question is how large the lag will be and what harms will occur in the interval.
The Two Regulatory Failure Modes
Regulatory response to disruption fails in two opposite directions. The first failure mode is regulatory overreach: the application of the prior regulatory framework to new activities in ways that prevent the new activities from providing their potential benefits while not actually addressing the failure modes the regulation was designed to prevent. The ride-sharing regulation that requires taxis' specific commercial vehicle requirements to be applied to private vehicles that occasionally transport passengers for payment prevents the sharing economy model from functioning without providing meaningful consumer protection that the prior regulation provided.
The second failure mode is regulatory abdication: the failure to extend appropriate oversight to genuinely harmful new activities because they do not fit the categories the existing regulatory framework addresses. The social media platform that performs the functions of a publisher without being subject to publisher liability, the algorithmic lender that makes credit decisions without being subject to the non-discrimination requirements that govern traditional lenders, the cryptocurrency exchange that performs banking functions without being subject to banking oversight — each represents a regulatory gap that allows genuine harms to accumulate while the regulatory framework catches up.
Regulatory response to disruption is always late and always imperfect. The question is whether the lag is short enough and the response is accurate enough to prevent the harms that unregulated disruption produces while preserving the benefits that overly-constrained disruption would foreclose.
Discussion