Today the Securities and Exchange Commission stands at a crossroads. The decisions it makes, and the decisions that are made for it by Congress, will determine whether the agency can reemerge as a credible investor watchdog or whether it will be permanently relegated to industry lap dog status. Decisions that will determine its fate involve the innocuous sounding issue of regulatory cost-benefit analysis.
Fans of cost-benefit analysis argue that it is simply a common sense tool designed to ensure that the benefits of any regulation exceed its costs and that regulators adopt the least burdensome approach to achieve the desired regulatory outcome. But advocates of Wall Street reform suspect that the goal is more nefarious and that the effect would be far more harmful, tilting the regulatory process even further in favor of industry groups that already dominate that process by virtue of their greater resources and close ties to regulatory officials.
After all, concern about cost was a key factor in decisions not to adopt tougher regulations of subprime mortgage lending, credit rating agencies, asset-backed securities, and over-the-counter derivatives markets. Those decisions not to regulate were root causes of an economic crisis that has cost millions of Americans their homes, cost millions more their jobs and left the United States, and much of the world, in an economic slump from which we have yet to recover. No regulatory cost-benefit analysis will ever fully factor in those multi-trillion-dollar costs. As a result, a regulatory system driven by cost-benefit requirements will inevitably be skewed against the public interest and against effective regulation.
The problem is particularly pressing for the SEC. For, while it is not subject to a requirement to conduct a formal cost-benefit analysis to justify its rules, it is required to assess their likely impact on efficiency, competition and capital formation. With its harshly worded decision a year ago overturning the SEC's proxy access rule, the U.S. Court of Appeals for the District of Columbia Circuit effectively transformed that economic analysis requirement into a new mandate to conduct a formal cost-benefit review and to do so on the most business-friendly terms.
While it did not create the problem, the SEC has compounded the problem. Respected legal scholars have argued persuasively that the court exceeded its regulatory review authority, but the SEC chose not to challenge the court's decision. Instead, in March it issued a new set of guidelines for conducting economic analysis, guidelines that fully embrace the business-friendly approach urged in the court decision. In a comprehensive review of the issue earlier this year, Better Markets concluded that, if the SEC follows this misguided approach to economic analysis, it will effectively kill financial reform.
Last month the agency took a bad situation and made it much, much worse. On a 4-1 vote, with only Commissioner Luis Aguilar dissenting, the Commission issued its first rule proposal under the anti-investor JOBS Act. That legislation, which rolls back hard-won investor protections in the name of job creation, includes a requirement that the SEC lift the ban on general solicitation and advertising in private offerings. While the Commission is given no discretion over whether to lift the ban, it remains responsible for ensuring that investors are adequately protected when it does so. The Commission chose to ignore that responsibility, issuing a rule proposal that doesn't include any enhanced investor protections to offset the increased risks.
Leaving aside for the moment the many deficiencies of the proposed rule, my focus here is on the travesty that passes for economic analysis in support of this rulemaking. In rushing through this rule to weaken investor protections, the Commission has ignored all the inconvenient requirements for economic analysis it so carefully laid out in its recently issued guidelines. In particular, while the guidelines highlight the importance of "identifying and evaluating reasonable alternatives to the proposed regulatory approach," the rule proposal ignores the many concrete suggestions that have been put forward to improve investor protections as the ban on general solicitation is lifted. The Commission offers no justification for this decision beyond a vague promise by SEC Chairman Mary Schapiro to address that broader set of concerns at some unnamed point in the future. The Commission also ignores its own highly relevant experience from when it briefly lifted the advertising ban in the 1990s only to reinstate it after experiencing an up-surge in fraud. That's an experience that ought to inform its approach to rulemaking now, but it is not even mentioned, let alone analyzed, in the rule's economic analysis.
Regardless of what you think about the SEC's proposed approach to cost-benefit analysis (and count us among the skeptics), the very least we ought to be able to expect from the agency is that whatever standards it adopts will be applied even-handedly. To retain even a shred of credibility, the agency must be at least as rigorous is assessing the potential harm to investors, and alternatives for minimizing that harm, as it is in assessing costs to industry, and alternatives to minimize those costs.
Instead, the agency has established a double standard under which rules to enhance investor protections and market stability face onerous cost-benefit requirements, while rules to roll back investor safeguards can be rushed through without even the pretense of analyzing the consequences. If Chairman Schapiro endorses that double standard -- if she allows the Commission to move forward on the general solicitation rulemaking based on this sham of an economic analysis -- then she may as well just close the agency's doors. Its ability to function as an investor advocate and a market regulator will be destroyed.
Ultimately, Congress may take that decision out of Chairman Schapiro's hands. In this case, the threat comes from a bipartisan bill that would subject all independent agencies, including the SEC, to new, even more onerous cost-benefit requirements and allow for a heightened degree of political interference in the rulemaking process. In a stinging critique, Better Markets has labeled the bill "one of the worst ideas from Congress in decades," and public interest advocates across a variety of issue areas have spoken out in opposition.
Ignoring those concerns, and with no apparent sense of irony, the Senate Homeland Security and Governmental Affairs Committee had reportedly been preparing to vote on the bill later this month, without the benefit of even a single legislative hearing to explore its potential consequences. Now word is that any committee vote is likely to be delayed until after the election. In the meantime, perhaps the committee could undertake an analysis of the bill's costs and benefits, an analysis that, if carefully conducted, ought to kill the legislation for good.
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