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Accountants Make Miserable Policemen: Rethinking the Federal Securities Laws

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Accountants Make Miserable Policemen: Rethinking the Federal Securities Laws NORTH CAROLINA JOURNAL OF INTERNATIONAL LAW Volume 28 Number 4 Article 1 2003 Accountants Make Miserable Policemen: Rethinking the Federal Securities Laws Jerry W. Markham Follow this and additional works at: https://scholarship.law.unc.edu/ncilj Recommended Citation Jerry W. Markham, Accountants Make Miserable Policemen: Rethinking the Federal Securities Laws, 28 N.C. J. INT'L L. 725 (2002). Available at: https://scholarship.law.unc.edu/ncilj/vol28/iss4/1 This Article is brought to you for free and open access by Carolina Law Scholarship Repository. It has been accepted for inclusion in North Carolina Journal of International Law by an authorized editor of Carolina Law Scholarship Repository. For more information, please contact [email protected]. Accountants Make Miserable Policemen: Rethinking the Federal Securities Laws Cover Page Footnote International Law; Commercial Law; Law This article is available in North Carolina Journal of International Law: https://scholarship.law.unc.edu/ncilj/vol28/ iss4/1 Accountants Make Miserable Policemen: Rethinking the Federal Securities Laws Jerry W. Markham* Introdu ction ..................................................................................................... 72 5 The Federal Securities Laws ............................................................................ 729 B efore the SE C ............................................................................................ 729 Federal Regulatory Efforts .......................................................................... 733 The Stock Market Crash and the New Deal ................................................. 736 Applying Federal Regulation ....................................................................... 740 The Market Bubble .......................................................................................... 754 T he Run U p .................................................................................................754 S can d als .......................................................................................................7 5 7 Accountants as Policeman ........................................................................... 765 Auditor Independence .................................................................................. 768 The Full Disclosure System is Flawed ............................................................ 773 Enron and Other Accounting Failures ......................................................... 773 Accounting Implosions ................................................................................ 777 T he A fterm ath ................................................................................................. 786 Politics Intervene ......................................................................................... 786 PCAOB and FASB Too ............................................................................... 790 The Accountant as Policeman Revisited ......................................................... 794 The Role of the Accountant ......................................................................... 794 Adopting a New Model ................................................................................... 800 Information as a Commodity ....................................................................... 800 C onclu sion ....................................................................................................... 8 11 Introduction The New Deal legislation that was enacted during the Great Depression imposed a pervasive regulatory structure over the securities industry,' as well as defining the role of banks in the Professor of Law, Florida International University at Miami. I The securities industry was subject to intense regulation during the Great Depression through a series of six statutes: the Securities Act of 1933, 15 U.S.C. § 77a et seq. (2000) (requiring public offerings of securities to be accompanied by a prospectus and to be registered with the Securities and Exchange Commission (SEC)); the Securities Exchange Act of 1934, 15 U.S.C. § 78a et seq. (2000) (imposing regulation over broker- dealers and trading markets and establishing voting and periodic reporting requirements N.C. J. INT'L L. & COM. REG. [Vol. 28 economy, 2 and increasing the regulation of derivatives trading.3 At the end of the twentieth century, however, Congress began to dismantle significant pieces of this dated regulatory structure. Most prominently, the Gramm-Leach-Bliley Act of 1999 (GLBA)4 repealed the provisions of the Glass-Steagall Act5 that had separated investment banking from commercial banking. GLBA now allows commercial banks, through "financial holding companies," to engage in merchant banking6 and to participate in the insurance business.7 Restrictions on interstate banking and branching had been repealed even earlier.8 on publicly held companies); the Public Utility Holding Company Act of 1935, 15 U.S.C. § 79a et seq. (simplifying the holding company structures for public utility companies); the Trust Indenture Act of 1939, 15 U.S.C. § 77aaa et seq. (2000) (imposing requirements on trustees of public bond sales sold under indenture agreements); the Investment Advisers Act of 1940, 15 U.S.C. § 80b-1 et seq. (2000) (requiring registration of investment advisors and imposing record keeping and other requirements); and the Investment Company Act of 1940 , 15 U.S.C. § 80a-1 et seq. (2000) (regulating closed and open end investment companies). See THOMAS L. HAZEN, TREATISE ON THE LAW OF SECURITIES REGULATION (4th ed. 2001) (providing a general description of the federal securities laws). 2 See the Banking Act of 1933, Pub. L. No. 73-66, 48 Stat. 162 (codified as amended in scattered sections of 12 U.S.C.). 3 See the Commodity Exchange Act of 1936, 15 U.S.C. § I et seq. (2000) (regulating futures trading); JERRY W. MARKHAM, THE HISTORY OF COMMODITY FUTURES TRADING AND ITS REGULATION (1987) (describing the history of the Commodity Exchange Act). 4 Pub. L. No. 106-102 (codified as amended at 12 U.S.C. §§ 1811-1832). 5 The Glass-Steagall Act was a part of the Banking Act of 1933, Pub. L. No. 73- 66, 48 Stat. 162 (codified as amended in scattered sections of 12 U.S.C.). See generally Board of Governors of the Federal Reserve System, 839 F.2d 47 (2d Cir.), cert. denied, 486 U.S. 1059 (1988) (describing Glass-Steagall provisions). 6 12 U.S.C. § 1843(k)(4)(H) (2000). Merchant banking is simply a reference to instances where banks take equity investments in non-public companies. Prior to GLBA, banks could make only limited investments in commercial firms. That restriction was loosened by GLBA, but bank regulators still limit the amount and duration of merchant banking investments in order to prevent the creation of industrial banks. 12 C.F.R. § pt. 225. See generally LISSA L. BROOME & JERRY W. MARKHAM, REGULATION OF BANK FINANCIAL SERVICE ACTIVITIES, CASES AND MATERIALS 758-59 (2001) (description of GLBA merchant banking provisions). 7 12 U.S.C. § 1843(k)(4)(B) (2000). 8 The McFadden Act of 1927 and the Banking Act of 1933 had subjected national banks to the branching restrictions of the individual states. 12 U.S.C. § 36(c) (2000). The Douglas amendment to the Bank Holding Company Act also precluded interstate banking by national banks. 12 U.S.C. § 1842(d) (2000). The Riegle-Neal Interstate 2003] RETHINKING FEDERAL SECURITIES LAWS In another financial sector, the Commodity Exchange Act of 1936, which had confined futures trading to regulated "contract markets," was revamped with the adoption of the Commodity Futures Modernization Act of 2000 (CFMA).9 That legislation authorized the creation of virtually unregulated off-exchange markets for institutions in derivative instruments, leaving only a regulated structure over retail markets where small customers participate."° A much larger sector of finance-insurance- remains unregulated by the federal government. 1 In contrast to these events, with the exception of strengthening amendments passed in the aftermath of various scandals,12 the federal securities laws remain pretty much in the form arrived at in the 1930s. This seems strange in light of the dynamic changes in the securities industry in the latter half of the last century. The creation of the Internet, the integration of derivatives, the development of electronic trading systems, and the growth of global markets transformed the securities markets, leaving only a few vestiges of the industry that existed when the federal securities laws were enacted. Of equal note is the fact that full disclosure under the federal securities laws does not seem to be accomplishing its goals. That concept hinges on the accuracy and integrity of accounting statements. There is much evidence that those statements are Banking and Branching Efficiency Act of 1994, Pub. L. No. 103-328, 108 Stat. 2338, struck those restrictions on branching and interstate banking. States were allowed to opt in or out of these provisions. Most states decided to allow interstate branching and banking. For a description of interstate and branching restrictions and their removal, see Hayley M. Brady & Mark V. Purpra, Note, The Riegle-Neal Amendments Act of 1997: The Impact of Interstate Branching on the Dual Banking System, 2 N.C. BANKING INST. 230 (1998). 9 Pub. L. No. 106-554, 114 Stat. 2763 (codified as amended in scattered sections of 7 U.S.C.). 10 CFMA (Title III, § 303) subjected swap transactions involving securities to the anti-fraud provisions
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