Regulation? Directors Want More Rules
From the January 21, 2007 Sunday Times (London)
January 22, 2007
by Irwin Stelzer
"Democrats can get things through the Congress, but we have to get the president to sign them. It seems to be in our mutual interest to start working together. "No, this Democrat was not referring to the president's plan for a troop "surge" in Iraq. This was Barney Frank talking - the very liberal (in the American sense) Massachusetts Democrat who chairs the House Financial Services Committee. Frank says he is ready to deal. He will give those Republicans who want an immigration reform bill what they want, if they will make it easier for new immigrants to join trade unions. He is willing to support new trade-opening measures, but they must contain provisions that protect "working-class people".
He wants Medicare for everyone, and is willing to go along with increasing co-payments by patients according to income. He would like to regulate pension-fund investment in hedge funds, but has no desire to prevent individuals from investing in such funds.
In an interview with Business Week, from which the above combination of reporting and inference is derived, Frank gave a ringing statement of his libertarian philosophy, "If you've got $10m and want to invest in a hedge fund, smoke three packs of cigarettes a day, and ride your motorcycle without a helmet, good luck to you. All my energy goes to protect people from other people. I have zero energy left to protect people from themselves.
"Which leaves open the question of just where he stands on the important questions of corporate governance that are due to roil the usually calm annual meetings of many companies. Frank is for corporate democracy, but with a twist: he wants to enact legislation that will empower "fairly responsible people with a lot at stake". This includes those who manage mutual funds (unit trusts), equity-fund managers and others with the ability and clout to make certain that corporate managers operate in the interests of their shareholders.
This would substitute more government regulation with corporate democracy, consistent with the movement afoot in America to relax the regulatory regime that many believe is driving business from American exchanges to London. There might not be a panic on Wall Street in the sense of plummeting share prices, but there is a panic about the role of New York City as a player in world financial markets.
So Treasury secretary Henry Paulson is planning to convene a conference on capital markets, and New York's leading Democratic politicians, Senators Chuck Schumer and Hillary Rodham Clinton, are joining with Republican mayor Michael Bloomberg to lobby for relaxing regulation.
To add to the impetus for a review of the rules on executive behaviour, we have congressman Paul Kanjorski, the new chairman of the House subcommittee on capital markets, insurance and government-sponsored entities. Kanjorski wants to give all shareholders greater power, but has not yet figured out how to do that. Which he may never do, if American Enterprise Institute scholar Michael Novak is right.
Novak argues that the government model of democracy, with its checks and balances designed to limit executive power, cannot work in the private sector, where chief executives need some unchecked power to react quickly to events and take risks when opportunities present themselves.
Kanjorski also wants to increase shareholder rights because "if we had better shareholder rights we wouldn't have as much litigation". He is planning a tour because "Europe has shown that they have a greater investor-rights concept and it's working fairly well ... We're really going to have to look at ...the UK and Europe." My guess is that he will be impressed by the talk in London of principles-based regulation, as opposed to the rules-based regulation that is causing such headaches for companies listed on American exchanges.
But talk to any director, and you find that their enthusiasm for broad principles as opposed to specific rules is more limited than their public comments suggest.
Directors read reports of extradition and jail sentences, and quake. Frank Bowman III, a former federal prosecutor who is now a law professor at the University of Missouri, writes in the recent issue of The American Lawyer: "The rules governing high-end federal white-collar sentences are now completely untethered from both criminal law theory and simple common sense ... Federal law now classifies an officer of a publicly traded corporation who accedes to a fraudulent accounting fiddle as worse than a murderer ... (Convicted chief executives) will serve the functional equivalent of life sentences" since parole was abolished in these cases in 1987.
So as they head for the boardrooms, these corporate chieftains are feeling very uncomfortable with only a generalised set of principles to guide them. They will ask their solicitors for rules that will provide a safe harbour from the stormy seas of shareholder suits and fraud prosecutions. They will rail against too many rules, but in the end they will not feel comfortable without them.
So look for American legislators and regulators to come to Britain in the hope of discovering why London is beating New York, and to leave believing all the talk about principle-based regulation - while Britain's directors privately demand the reassuring certainty of rules.
They will miss the most important point, that in the end there is no substitute for regulators such as the Financial Services Authority's Callum McCarthy, a man who knows how to balance the need for intervention against Ronald Reagan's warning: "Don't just do something, stand there".
Irwin Stelzer is a Senior Fellow and Director of Economic Policy Studies for the Hudson Institute. He is also the U.S. economist and political columnist for The Sunday Times (London) and The Courier Mail (Australia), a columnist for The New York Post, and an honorary fellow of the Centre for Socio-Legal Studies for Wolfson College at Oxford University. He is the founder and former president of National Economic Research Associates and a consultant to several U.S. and United Kingdom industries on a variety of commercial and policy issues. He has a doctorate in economics from Cornell University and has taught at institutions such as Cornell, the University of Connecticut, New York University, and Nuffield College, Oxford.