Is the enjoyment of an after-dinner coffee worth being kept awake at night and being tired the next day? When we answer that kind of question and many others like it, we evaluate the pros and cons of our choices. In effect, we do a cost-benefit analysis. Although “cost-benefit analysis” may sound like a complex concept, it is actually a practice we engage in daily.
For much the same reasons that we use cost-benefit analysis, government officials conduct cost-benefit analyses when making regulatory decisions. In fact, all three branches of government, other federal agencies, private organizations, and individuals have increasingly encouraged financial regulators to implement cost-benefit analysis in their rulemaking procedures. In response, both the U.S. Securities and Exchange Commission (SEC) and the Financial Industry Regulatory Authority (FINRA) have addressed incorporating cost-benefit analysis in their rulemaking processes, and other financial regulators are following their lead.
The Administrative Conference of the United States (ACUS), a federal agency that works to improve the rulemaking process by performing research and issuing recommendations to other federal agencies, defines cost-benefit analysis in the regulatory sphere as any government agency’s efforts “to estimate the overall benefits that a proposed or final rule would create, as well as the aggregate costs that it would impose on society.” When using cost-benefit analysis, the regulatory agency then assesses whether the benefits of a new regulation warrant the costs.
Executive orders signed by different presidents require Cabinet departments and particular executive agencies to use cost-benefit analysis as part of certain rulemakings. However, independent regulatory agencies, such as financial regulators like the SEC, and self-regulatory organizations, like FINRA, are not subject to requirements outlined in executive orders. In addition, the SEC is not required to use cost-benefit analysis at all.
As described by ACUS, independent regulatory agencies are federal agencies whose leaders cannot be fired by the president without cause. Further, such agencies are “created by an act of Congress” and have some autonomy from the executive branch.
Self-regulatory organizations are not government agencies, but still have the ability to develop and monitor compliance with industry rules. FINRA describes itself as “an independent, not-for-profit organization authorized by Congress to protect America’s investors by making sure the securities industry operates fairly and honestly” by creating regulations and ensuring compliance with these regulations, among other things.
All branches of the government seem to support the use of cost-benefit analysis in rulemaking by financial regulators. For example, although his executive order does not obligate independent agencies to use cost-benefit analysis, President Barack Obama included language in his 2011 order on regulatory review that encourages independent agencies to “take into account benefits and costs, both quantitative and qualitative.”
In addition, in 2011, a federal appeals court struck down an SEC regulation that would have given shareholders more input regarding the members of boards, finding the SEC had conducted deficient cost-benefit analysis of the new rule.
Last year, the SEC responded to calls for cost-benefit analysis by issuing an internal set of standards to guide its rulewriting staff in conducting cost-benefit analyses of new rules. In these internal standards, the SEC acknowledged that conducting good economic analysis is “essential” when the agency develops regulations, and it outlined how its staff should describe and quantify the costs and benefits of proposed rules, handle any uncertainty in the quantification process, and deal with costs and benefits that cannot be quantified. The SEC also suggested involving economists in its Division of Economic and Risk Analysis (DERA) (formerly the Division of Risk, Strategy, and Financial Innovation) as early in the development of new rules as possible because “[c]lose collaboration with [DERA] will help to integrate economic analysis as key policy choices are made.”
Perhaps partially due to trickle-down pressure from the SEC, FINRA also recently adopted a framework for economic impact analysis. According to the framework, FINRA says it will hold discussions with those most impacted by a new or revised rule, among others, throughout the rulemaking process. This is because investors often know how they will best benefit from a rule, while those regulated can best attest to its costs. In addition, FINRA states that it aims to achieve transparency in its notices for rulemaking and rule filings by explaining why FINRA is seeking to adopt or amend a rule and by describing FINRA’s economic analysis and the information underlying it, including any concerns that could impact its cost-benefit analysis. Finally, FINRA says that it will seek “reliable evidence” for its economic impact assessment. In instances where it is not possible to obtain evidence for a cost or benefit, FINRA says it will fully explain any conjectures made in its assessment and the limits of its data. FINRA further explains that both quantitative and qualitative data will be utilized in rulemaking.
Perhaps to ensure application of cost-benefit analysis, several bills have been introduced in Congress in the past year that would require financial regulators to incorporate cost-benefit analysis into their rulemaking procedures. For example, the SEC Regulatory Accountability Act, which passed in the House of Representatives, aims to “improve the consideration by the [SEC] of the costs and benefits of its regulations and orders.” Among other things, the Act would require that the SEC adopt a regulation only if the SEC has determined, in conjunction with the Chief Economist, that the benefits of the regulation merit the costs. The SEC would also be required to apply cost-benefit analysis to any rules “adopted” by the Municipal Securities Rulemaking Board (MSRB) or FINRA before such rules could be implemented.
The Regulatory Accountability Act of 2013, which was introduced in the House, would require (among many reforms) that independent regulatory agencies, like the SEC, conduct cost-benefit analysis for rules and guidance that have a substantial impact on the economy. Dissenters, however, note that executive orders have exempted independent regulatory agencies from cost-benefit analysis. They argue that the Act “would require [independent regulatory agencies] to comply with mandatory guidelines issued by [the Office of Management and Budget] and [the Office of Information and Regulatory Affairs], thereby bringing them under the President’s control. Such a move would contravene Congress’s intent in making them ‘independent’ in the first place.”
Finally, the Independent Agency Regulatory Analysis Act of 2013, introduced in the Senate, would authorize the president to issue executive orders that would compel independent regulatory agencies to conduct and document in-depth cost-benefit analysis for rules that have a significant impact on the economy.
There is considerable debate about the use of cost-benefit analysis by financial regulators. On the one hand, organizations representing the financial industry have continually advocated for agencies like the SEC and FINRA to use cost-benefit analysis. These organizations emphasize that cost-benefit analysis makes rulemaking more transparent and helps achieve the dual goal of protecting investors and ensuring the best use of a financial firm’s resources.
On the other hand, critics fear that emphasis on cost-benefit analysis will inhibit financial regulation. For example, Lynn Turner, a former accountant for the SEC, has reportedly stated that cost-benefit analysis will “put the regulators in a straitjacket in a manner that is almost certain to ensure that we have a repeat of the financial crisis and further destruction of American wealth.”
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Elizabeth Warren is the senior United States Senator from Massachusetts. Senator Warren has served in the Senate since 2012, and she is the ranking member on the Economic Policy Subcommittee of the Committee on Banking, Housing, and Urban Affairs. She was the driving force behind the Consumer Financial Protection Bureau, and in 2008, she headed the Congressional Oversight Panel for the Troubled Asset Relief Program.
Jason Furman is the 28th Chairman of the Council of Economic Advisers, a role in which he serves as President Obama’s Chief Economist and as a Member of the President’s Cabinet. A member of President Obama’s Administration since the start of his presidency, Chairman Furman previously served as Principal Deputy Director of the National Economic Council and as Assistant to the President.
Jed S. Rakoff
Jed S. Rakoff is a United States District Court Judge for the Southern District of New York. He ascended to the bench in 1996 after being nominated by President Bill Clinton, and he assumed senior status on December 31, 2010. He is a leading authority in securities law and white-collar crime as well as a prolific writer, having authored four books, 100 published articles, over 220 speeches, and over 425 judicial opinions.
Susan Dudley is the Director of the GW Regulatory Studies Center and distinguished professor of practice at GW’s Trachtenberg School of Public Policy and Public Administration. She serves as president of the Society for Benefit-Cost Analysis, and as a senior fellow of the Administrative Conference of the United States. She served from 2007 to 2009 as the Administrator of the Office of Information and Regulatory Affairs within the Office of Management and Budget.
Richard L. Hasen
Richard L. Hasen is the Chancellor’s Professor of Law and Political Science at the University of California, Irvine. A leading expert in campaign finance regulation and election law, he is the author of the book, Plutocrats United: Campaign Money, the Supreme Court, and the Distortion of American Elections, as well as the writer of the widely regarded Election Law Blog.
Wendell Pritchett is the Presidential Professor of Law and Education at the University of Pennsylvania Law School, and he is a recognized leader in the field of higher education. He was Deputy Chief of Staff and Director of Policy under Philadelphia Mayor Michael Nutter, who later appointed him to the School Reform Commission, where he served from 2011 to 2014. He also served as Chancellor of Rutgers-Camden from 2009 to 2014.
Mike Lee is the junior United States Senator from Utah. He is the Chairman of the Senate Steering Committee; the Judiciary Subcommittee on Antitrust, Competition Policy and Consumer Rights; and the Water and Power Subcommittee of the Energy and Natural Resources Committee. He was previously General Counsel to Utah Governor Jon Hunstman, and law clerk to Supreme Court Justice Samuel Alito.
Patricia L. Bellia
Patricia L. Bellia is Notre Dame Law School’s William J. and Dorothy K. O’Neill Professor of Law. A teacher and researcher in multiple areas including constitutional law, administrative law, and cyberlaw, Professor Bellia is co-author of a leading cyberlaw casebook and has published articles on internet law and separation of powers. She previously served as an attorney-adviser in the Justice Department’s Office of Legal Counsel.
Donald C. Langevoort
Donald C. Langevoort is the Thomas Aquinas Professor of Law at Georgetown University. He was previously Vanderbilt University School of Law’s Lee S. and Charles A. Speir Professor, and the U.S. Securities & Exchange Commission’s Special Counsel in the Office of the General Counsel. An authority in the area of securities regulation, he is the co-author of a securities regulation casebook and author of a treatise on insider trading.
Rena Steinzor is a professor at the University of Maryland Carey Law School. She is a founder, former president, and member scholar of the Center for Progressive Reform. She teaches and has authored and co-authored books on administrative law, consumer safety, public health, and environmental law. She has testified before Congress multiple times, addressing such issues as the impact of health, safety, and environmental regulations on the economy.
Richard L. Revesz
Richard L. Revesz is New York University School of Law’s Director of the Institute for Policy Integrity and the Lawrence King Professor of Law. From 2002 to 2013, Professor Revesz was the Dean of NYU School of Law. He is a nationally recognized expert in the fields of environmental and regulatory law and policy, with a focus on issues including the use of cost-benefit analysis in administrative regulation.
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