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This chapter first explains how federal government bailouts during the subprime crisis increased the risk for more severe financial crises in the future. The government sent businesses the wrong message that they can pursue senseless strategies in search of higher yields because Uncle Sam will absorb any losses if firms are too big to fail. In other words, the result of the bailouts was moral hazard. The chapter then discusses three ways to rein in too-big-to-fail firms and evaluates the capacity of the Dodd-Frank Act to perform these tasks. First, the law should require federal regulators to put failing financial giants into receivership before stabilizing them with federal aid. Second, the nation needs a systemic risk regulator to track and address looming systemic risks. Finally, swaps need to be moved onto exchanges as much as possible, while swaps that bet on the performance of assets owned by others should be banned.

This introductory chapter begins with a brief review of the events that precipitated the passage of the Public Company Accounting Reform and Investor Protection Act of 2002 (Sarbanes–Oxley) and the Wall Street Reform and Consumer Protection Act of 2010 (Dodd–Frank). It then discusses the meaning of corporate governance. It considers the economic crises that rocked the opening decade of the twenty-first century and corresponding federal responses. An overview of the subsequent chapters is also presented.

This chapter explains how legislative changes to, and the broader commentary on, US derivatives regulation illustrate the value of parsing the overlap/distinct and centralization/decentralization dimensions in assessing the tradeoffs of regulatory allocations. The Securities and Exchange Commission and the Commodity Futures Trading Commission have been tasked with decentralized authority over securities and futures, respectively. Over time, their jurisdictions have increasingly overlapped as the futures and securities markets converged. Reorganization proposals and legislation to correct perceived problems with the overlapping, decentralized regulatory regime (such as Title VII of the Dodd-Frank Act) have usually failed to parse the various tradeoffs between overlap and distinct or between centralized and decentralized authority. By limiting their analysis, policymakers and observers of derivatives regulation may have misdiagnosed problems with the existing allocation or missed potential opportunities to craft different regulatory configurations that might have better accommodated policy tradeoffs or been more politically viable.

In response to several corporate scandals, the Sarbanes-Oxley Act of 2002 (SOX) implemented substantive corporate governance mandates that were adopted as federal law. It focused on restoring financial disclosure transparency and revitalizing investor confidence in the financial markets’ integrity. A few years thereafter, the 2008 financial crisis precipitated the enactment of the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (Dodd-Frank Act). This Act aimed at forestalling another financial crisis through enhanced corporate governance regulation and placing meaningful restraints on undue risk-taking conduct. The chapter focuses on several key provisions of the SOX and the Dodd-Frank Acts, as well as SEC rules and regulations promulgated thereunder. Among these provisions as covered in this chapter are: CEO and CFO certifications, audit committees, executive clawback provisions, director independence, nominating and corporate governance committees, codes of ethics, corporate governance disclosures, say-on-pay and golden parachute provisions, loans to insiders, and equitable relief.

When buying stocks, bonds, mutual funds, and other securities, individuals seeking advice typically turn to broker-dealers or investment advisers before they invest. In many cases, brokers and advisers perform similar functions but they are regulated differently under laws enacted during the Great Depression. Regulators are considering ways to harmonize the regulation of these professionals, but harmonization is fraught with difficulties. This chapter discusses the debate over harmonization and explains how the U.S. Securities and Exchange Commission, the courts, and Congress have responded. The chapter concludes with insights into considerations that will likely determine how the harmonization debate will be resolved.

The 2008 near collapse of financial markets has been attributed to derivatives, particularly over-the-counter derivatives. The Wall Street Reform and Consumer Protection Act, also known as the Dodd-Frank Act, was a response to the financial crisis and represented a profound shift in the regulation of financial institutions and markets in an obvious attempt to address regulatory shortcomings in derivatives markets. Dodd-Frank is intended to enhance regulatory oversight of derivatives and derivatives users and reduce counterparty risk and systemic risk. It establishes jurisdiction over derivatives that were previously unregulated. This chapter provides an overview of Dodd- Frank and its provisions concerning derivatives trading, jurisdiction and registration of swaps, clearing requirements, exchange requirements, and the end-user exemption. It also discusses capital and margin requirements, reporting requirements, and regulation of Futures Commission Merchants. Finally, it explains the rationale behind the exemptions and exclusions and looks at the criticisms of Dodd-Frank’s derivatives trading provisions.

The subprime crisis showed that federal banking regulators cannot be relied on to put consumer safety over the interests of regulated banks. This chapter evaluates whether the Dodd-Frank Act achieves the goals that are critical to consumer protection. The Dodd-Frank Act transfers most of the responsibility for consumer financial protection from federal banking regulators to a new, dedicated agency called the Consumer Financial Protection Bureau (CFPB). The Act empowers the CFPB to establish rules for many aspects of mortgage lending. It also allows the states to protect consumers over and above the standards set by federal law. The chapter argues that although the Dodd-Frank takes bold steps toward protecting consumers, with the ultimate effect of reducing the threat of systemic risk, the consumer protection reforms do not eliminate that threat altogether.

The Dodd–Frank Act placed important restrictions on the Fed's power as lender of last resort (LLR) to nonbanks under §13(3) as part of the post-crisis reaction that its lending constituted an undesirable bailout of “Wall Street.” This chapter details these restrictions, which have substantially curtailed the Fed's ability to be an effective LLR in a future crisis, and have made the financial system much less stable. The following restrictions were placed on the Fed: (1) no loans can be made to single institutions—they must be part of a broad program approved by the Secretary of the Treasury; (2) all nonbank loans must be approved by the Secretary of the Treasury; (3) loans can only be made to solvent institutions; (4) discount window loans to banks cannot be used to fund their nonbank affiliates, like broker-dealers–instead loans to those affiliates must be authorized under §13(3); (5) new collateral requirements are imposed; and (6) all loans must be publicly disclosed within one year, and disclosed to congressional leaders in seven days.

This chapter explores the adverse consequences of conflating the overlap/distinct and coordination/independence dimensions of regulatory authority by focusing on Congress's restructuring of federal banking regulation after the crash of 2008 in the Dodd-Frank Act in 2010. Legislators and financial experts concluded that excessive overlap before 2010 in prudential regulatory authority created three problems: (1) wasteful duplication of effort, (2) inconsistent and conflicting regulatory treatment of financial institutions, and (3) regulatory arbitrage that prompted a race to the bottom among prudential regulators, which increased the risk of systemic failures. Congress addressed the first two problems by requiring greater regulatory coordination, but the chapter contends that the creation of more distinct authority, either substantively or functionally, may have been preferable in light of the weak form of coordination mandated by Dodd-Frank. Dodd-Frank's response to the third problem was misguided for a different reason. Banking regulation experts and policymakers attributed arbitrage to excessive overlap, when in fact it arises from distinct authority among banking regulators. As a result, Congress failed to consider an option that might have been superior to enhanced but non-hierarchical coordination-the creation of more overlap to prevent financial institutions from choosing exclusive regulation by the weakest prudential regulator.

Both Sarbanes–Oxley and Dodd–Frank included new executive compensation regulations. A key question is whether these provisions addressed actual corporate governance failures or were simply a sop to populist outrage. In either case, one must also ask whether the new restrictions are likely to be effective. It is argued that the one-size-fits-all approach mandated by the Sarbanes–Oxley Act and the new self-regulatory organization listing standards is seriously flawed.

In 2009, the U.S. and other G20 nations agreed on reforms designed to improve the regulation of systemically important financial institutions and markets. However, those reforms did not change the fundamental structure of the financial system, which continues to be dominated by universal banks and large shadow banks. Those giant institutions are too big, too complex, and too opaque to be effectively managed by their executives or adequately disciplined by market participants and regulators. In addition, government officials have failed to hold top executives accountable for widespread misconduct at financial giants during and after the financial crisis. The extensive networks linking capital markets, universal banks, and shadow banks create a strong probability that serious problems arising in one financial sector will spill over into other sectors and trigger a systemic crisis. Consequently, governments face enormous pressures to rescue universal banks and large shadow banks whenever a financial disruption occurs. There are serious doubts whether many governments and central banks will possess the necessary resources in the future to provide comprehensive bailouts similar to those arranged during the last crisis. Accordingly, the next systemic financial crisis might not be contained and could potentially lead to a second Great Depression.

The Dodd–Frank Act was the principal response of the United States to the 2008 financial crisis. Despite the fact that the crisis actually had little to do with asset connectedness, many of the most important provisions of the Act are addressed to this form of systemic risk. This is not to say these policies are bad and may not address potential problems in the future, but contagion was the major problem in the crisis, and Dodd–Frank made this problem worse, not better. This chapter discusses some key provisions of Dodd–Frank that address connectedness: (1) the requirement for central clearing of over-the-counter derivatives; (2) the imposition of counterparty exposure limits; and (3) the designation of systemically important nonbank financial institutions.

The Fed's three major peers are the Bank of England (BOE), the European Central Bank, and the Bank of Japan (BOJ). This chapter begins with a description of the powers of the three peer central banks. It then compares their powers with those of the Fed. It argues that institutionally the United States grants by far the weakest lender-of-last-resort (LLR) powers to its central bank, particularly with respect to nonbanks: (1) its independence is more fragile; (2) it is the only country with special limitations on lending to nonbanks as compared with banks; (3) it is the only country, outside the Eurozone, that makes no provision for loans to institutions the central bank does not judge as solvent; (4) while the BOE and BOJ require Treasury approval or direction for emergency lending, such requirements are likely to be much less politicized than the US Treasury approval of loans to nonbanks; (5) it is the only country that places restrictions on banks using discount window loans to support affiliates; (6) it is the only country requiring that there be a broad program for borrowing by nonbanks; and (7) it is the most aggressive country in requiring disclosure, thereby possibly inhibiting borrowers from borrowing due to the associated stigma. All but the first point results from changes by Dodd–Frank. This US weakness is not likely to be rectified in the near future given the politics surrounding bailouts.

This chapter examines the origins of the financial crisis and its impact on the regulatory environment. It explains how failures in individual markets and institutions rapidly devolved into global financial recession, how financial markets and regulators responded to the crisis, and the effects of the crisis on financial institutions and financial instruments. It discusses the role of U.S. real estate markets in precipitating the crisis, the effects of mortgage lending on the broader capital markets and U.S. economy, the use of government-sponsored entities to refinance mortgages, and the initial reaction of the Federal Reserve to the liquidity crisis. It looks at the passage of several legislative acts to address the financial crisis, including the Emergency Economic Stabilization Act, American Recovery and Reinvestment Act, and Dodd-Frank Act. Finally, the chapter provides an overview of the European debt crisis and political conflicts that have accompanied efforts to address the U.S. public debt.

Prior to the financial crisis, financial regulation was compartmentalized along lines of segmented financial instruments, but the crisis led to the revision of an outdated regulatory structure in particular as it relates to systemic risk. This chapter examines securities regulation in the United States. It looks at the coordination between the Securities and Exchange Commission (SEC) and the Commodity Futures Trading Commission (CFTC) in regulating certain derivatives under the Dodd-Frank Act in particular as they relate to swaps. It also discusses the regulation of stocks, notes, investment contracts, and hedge funds. Finally, the chapter considers the consequences of securities violations.

Agencies domiciled in non-EU countries do not need to be registered in order to issue ratings on EU issuers or on securities offered in the EU. However, these ratings may not be used for regulatory purposes by European financial institutions if they do not follow one of the two procedures set out in the Regulation: endorsement or certification based on equivalence (depending on the systemic importance of the foreign rating agency). This chapter explains the procedures and the requirements that non-EU agencies have to fulfil. In addition, it describes ESMA’s methodology to assess equivalence and its work in this area and on the signing of cooperation arrangements with non-EU authorities. Finally, a more detailed discussion on the US framework, including the SEC’s rules and the new provisions introduced by the Dodd–Frank Act, and an overview of the Japanese legislation on rating agencies are provided in the appendices.

Chapter 6 examines the long-term effects of international soft law on policy in the United States since 2008. The extent and type of post-crisis US cooperation with foreign jurisdictions have varied considerably with far-reaching ramifications for international financial markets. Focusing on the international interaction of reforms in banking and derivatives, the chapter uses the book’s approach to understand US regulation in the wake of the Great Recession. The authors attribute seemingly random variation in the US relationship to foreign regulation and markets to differences in pre-crisis international soft law. Here, the existence (or absence) of robust soft law and standard-creating institutions determines the resources available to policy entrepreneurs as well as their orientation and attitudes toward international cooperation. Soft law plays a central role in the evolution of US regulatory reform and its interface with the rest of the world.

The seventh and concluding chapter of The Public Company Transformed extrapolates from trends the previous chapters have identified to speculate on the future trajectory of the public company. Salient developments from the 2010s are taken into account, with particular emphasis being placed on those implying a path different from what would be anticipated given events occurring from the mid-twentieth century through to the opening decade of the twenty-first century. This chapter argues radical departures from present day arrangements are unlikely any time soon. For instance, recent predictions of the imminent demise of the public company appear to be wide of the mark. That means the transformation of the public company the book has described should end up being part of a larger story yet to be written rather than being a public company epitaph.

Prior to the recent financial crisis, the U.S. monetary system was characterized by the absence of legal restrictions on the issuance of private money (cash equivalents), coupled with an implicit commitment by the state to honor these instruments. This dubious structure remains basically unchanged. Rather than addressing the deep structural defects in the existing monetary framework, we have opted (through the Dodd-Frank Act and other reforms) for a staggeringly complex and hypertechnical regulatory overlay. This chapter provides an overview of the key components of these reforms, with a particular focus on so-called “macroprudential” or “systemic risk” regulation and on the development of special “resolution” tools for complex financial institutions. The chapter argues that these reforms’ prospects for success are doubtful: the system that has emerged is unworkable. The chapter suggests that a thoughtful revamp of the monetary framework could largely obviate the need for other forms of financial stability regulation. It concludes with some final thoughts on the legal engineering of monetary institutions.