Thank you, Mr. Ericson, for that kind introduction. It is a great pleasure to be in Stockholm for the first time. And I understand that this is typical September Stockholm weather. Before I start, I want to thank Sweden and the Swedish people for their strong support during the terrible time immediately after our nation was attacked by terrorists almost precisely a year ago.

Also, let me thank the Confederation of Swedish Enterprise for giving me the opportunity to discuss this very important subject. I would also like to associate myself with the frank and perceptive remarks of Mr. Tunhammar. "Crime is not mitigated," he said, "by more regulation." That is true. And it is also true, as he said that "transparency is not increased by more paper." I know that as someone who writes a weekly financial column and must dig through all that paper. I only wish executives of business organizations in the United States were as forthright and courageous as Mr. Tunhammar.

Ronald Reagan, the former American president, was a forthright man as well--a man who would, in the U.S. vernacular, "cut to the chase," or get straight to the heart of the matter in a few words. Years ago, he defined economists this way. "Economists," he said, "are people who see something work in practice and wonder if it would work in theory."

In practice, the U.S. economy during the 1980s and 1990s enjoyed the best 20 years in its history, but many economists were puzzled over the theory--over how it happened. Over time, the reasons are becoming clear. The U.S., and to a lesser extent the rest of the world, went through a "supply boom" during this period that allowed the country to increase economic growth with very little inflation. The boom was caused by a number of factors:

• Freer trade, not just in goods but in capital, as well as in people (and I know that immigration is an important issue in your upcoming election; let me tell you the U.S. never would have enjoyed high growth and low inflation without an influx of people, from highly skilled to little-skilled, from abroad).
• Lower taxes, which cut the cost of capital and encouraged more investment.
• The boom in technology which, as Alan Greenspan, the chairman of the Federal Reserve Board, notes, reduced uncertainty and thus redundancy and costs. So businesses boosted productivity.
• Reduced regulation, which allowed innovation and risk-taking to flourish.

In the 1990s, the U.S. raced ahead of Europe in per-capita income and wealth. While structural unemployment in the U.S. fell sharply (even during last year's recession, it was less than 6 percent), it rose to unconscionable heights in Europe--averaging 9 percent to 10 percent even during periods of decent economic growth.

In fact, the Swedish Institute of Trade recently found that median household income in the late 1990s in Sweden was just $26,800, compared with $39,400 in the U.S. If Sweden were one of the 50 American states, it would rank last. The average African American in the U.S. has a higher income than the average Swede.

But has something changed? In 2000, the U.S. suffered its first bear market in 10 years. The next year, it suffered its first recession in 10 years.

On Sept. 8, 2001, a major scandal surfaced involving Enron Corp., a company in the top 10 of American corporations in terms of revenues. Hard on the heels came other scandals, involving such companies as Xerox, Global Crossing, Adelphia. And then in June: WorldCom was accused of overstating profits by billions of dollars by capitalizing what were clearly operating expenses.

A crisis in American capitalism? That was certainly the way the story was portrayed. And there was apparent evidence from the stock market. The broad averages are down for the third straight year--something that hasn't happened since 1941. And a new survey, sponsored by the American Enterprise Institute, the think tank where I work, found that in July some 49 percent of respondents said they had very little confidence in big business--or none at all. That compares with just 30 percent in December 2000.

There is no doubt that Americans take the corporate scandals seriously. But is this a crisis--or, more accurately, a failure of the U.S. system of corporate governance? Absolutely not. On the contrary. The U.S. system is alive and well. The Enron scandal proves, not the system's weakness, but its robustness.

Still, after any breakdown of a public institution, politicians feel the urge to "fix" things so it doesn't happen again. Often, the cure is worse than the disease. That's the problem with what happened after Enron in the United States.

Why did Congress need to do anything in the first place? The Enron scandal was primarily a story of executives and auditors about the true state of a business. If it was "greed" that caused the deception, it was greed that uncovered it as well. James Chanos, a money manager who specializes in short-selling (speculating that a stock's price will fall), got wind of Enron's deceit and tipped off a reporter at Fortune magazine. Enron was forced to restate its earnings and acknowledge hidden debts.

Investors reacted with fury, dumping Enron stock. The company's value in the market declined from $30 billion to almost nothing. Before any indictment or government report, the market pronounced Enron guilty and imposed a sentence of capital punishment.

Then, longtime clients began punishing Arthur Andersen, Enron's auditor and one of the world's five largest accounting firms. Delta Airlines ended its 53-year relationship with Andersen, as did Merck and Freddie Mac. Andersen's fate was oblivion.

This is just what we want markets to do: Exact justice quickly and brutally. There are already plenty of laws against fraud to handle corporate executives who lie, and the Bush Administration has been appropriately serious about using them. The scenes of executives led off in handcuffs are powerful, and punishments meted out by both markets and legal authorities serve as a demonstration to other potential miscreants.

The reaction to Enron from many companies, including General Electric, has been to issue even more detailed annual reports, to increase their transparency to investors.

The market response, in short, was vigorous. The question is whether more is needed. I think not.

First, understand that academic studies have shown, time and again, that the U.S. has the most transparent market in the world--or, certainly, among the top three or four--with low levels of earnings manipulation and deception.

For example, a study by PriceWaterhouseCoopers of 35 countries last year ranked the US in the first tier--with Chile, Singapore and Britain--for low opacity. Opacity is defined as a lack of clear, accurate, formal and widely accepted practices, including legal protections, corporate reporting and low corruption. Sweden was not examined in this study, but Japan was judged twice as opaque as the U.S.

Another interesting study by Utpal Bhattacharya and colleagues found that the U.S. had the least earnings opacity of all 34 countries studied. Norway ranked second-best, Britain 11th and Sweden 14th.

The researchers also found that opacity fell worldwide during the 1990s and that use of IAS accounting standards, as opposed to GAAP, was not associated with higher opacity and that "an increase in earnings opacity is linked to a decrease in trading in the stock market of that country." Other studies, including one by Credit Lyonnais, hasve found that investors will pay up for transparency--that is, stocks in transparent markets command higher valuations.

Let me make two points of my own. The truth about accounting honesty and clarity is that, first, the U.S. has a lot of both and that, second, the market incentives to produce them are lined up in the right direction.

Now, to politics. . . .

To their credit, politicians moved slowly after the Enron scandal broke. Ten congressional committees held hearings, and, appropriately, the facts were laid in front of the public, but initial calls by Democrats to overhaul the U.S. pension system were wisely resisted.

Just as an aside: Over the past 20 years, Americans have been moving away from employer-paid defined-benefit plans, where retirees receive a stipend based on their length of service and top pay at a company. Instead, Americans have come to rely more on defined-contribution plans, which allow them to set aside, on a tax-deferred basis, part of their income, which is usually matched by their employers. As a result, today about 40 percent of U.S. workers now have 401(k) accounts, from which they cannot draw until just before they turn 60 but which they own themselves and can do with what they want. Of course, Americans also have Social Security, a government-paid annuity, but surveys show a majority wants reforms that will allow part of the taxes that go to Social Security to instead go to toward private accounts like 401(k) plans.

These defined-contribution plans have become a prime target of Democrats, who fear the bond between workers and Washington will be further loosened if private accounts spread.

At Enron, the 401(k) plan stipulated that individual workers could put up to 6 percent of their salary into any of 20 mutual funds. The company would then match half that contribution with Enron stock at the market price. For example, an employee making $50,000 a year might put $3,000 into a tax-deferred stock index fund and receive $1,500 in Enron stock. But over a three-year period, Enron shares quadrupled in value, and the average Enron employee owned a lopsided retirement account--40 percent mutual funds and 60 percent Enron stock. When the company disintegrated, the 401(k) plans suffered major losses.

President Bush spelled out a list of principles for post-Enron reform that focused on corporate executives taking personal responsibility for their firms' financial statements, with stiff prison sentences for lying. In August, about 1,000 CEOs had to file personal affidavits certifying their companies' numbers. In addition, Bush proposed rules to allow employers to shift their retirement money out of company stock after a short waiting period and to force executives who had profited from deception to disgorge their gains. All of these proposals were eminently sensible, and they were embodied in legislation sponsored by the Republican chairman of a key House committee, Rep. Michael Oxley. The Oxley bill passed the House by a three-to-one margin, with strong majorities in both parties.

Then, in June, the WorldCom scandal broke. WorldCom was a telecom company, formed through multiple mergers but dominated by the second-largest long distance firm, MCI, plus a provider of Internet connections. WorldCom, like other telecoms, had overinvested in infrastructure, anticipating far more demand than showed up. Its stock had been falling for two years and was trading at just $1.50 when revelations surfaced in late June that about $7 billion in operating expenses had been shifted, apparently improperly, into the category of capital investment, which, of course, is amortized over many years. As a result, profits in 2001, especially, were inflated.

The WorldCom scandal, coming eight months after Enron, shook politicians. President Bush went to Wall Street to give a stern speech, and on Capitol Hill powerful new criminal penalties of, in some cases, more than 20 years in prison were enacted for corporate executives committing fraud. Most important, a bill introduced by Democratic Sen. Paul Sarbanes, previously thought dead, zipped through by a 97-0 vote, creating an entirely new regulatory apparatus--despite worries that the Sarbanes law, like the Glass-Steagall banking act of the 1930s, might produce unintended consequences that would take decades to undo.

There are those who believe that worries over accounting scandals damaged the stock market. But the facts show otherwise. Between Nov. 8, 2001, the date that Enron told shareholders that its five previous years of financial statements "should not be relied upon," and June 25, the date the WorldCom deceptions became public, the Dow Jones Industrial Average dropped only 3 percent. WorldCom was the last scandal; there have been none since. Yet from June 25 to the end of July, the Dow dropped 12 percent.

Why?

The political stampede and the uncertainty it caused. Let me be clear. I am not so simplistic as to believe the political commotion and the rush to pass legislation were the only reasons for the decline of the market (clearly, worsening economic prospects played a part). But at the very least, it is dead wrong to say the scandals themselves pushed down the market. If the scandals were such a negative force, they would have dragged stocks down much further in the eight months after Enron.

I repeat: There have been no corporate scandals since June 25. In fact, I would argue that only two scandals of any importance have occurred over the past year: Enron and WorldCom. And only the Enron was truly significant. By the time, the WorldCom scandal broke, the telecom company's future was already well-known to be bleak. Anyone who followed its cash flow statements--usually seen by astute investors as more important than its reported earnings--knew that WorldCom was a sick company. That is similarly the case with Global Crossing, Adelphia and most of the others. Enron was different--and traumatic because it was so unusual. This was a widely admired company that had received annual awards for innovation and for treating its employees well. Its CEO, Ken Lay, an economist, was considered a corporate intellectual who had led a transformation of a old-fashioned energy company to a modern firm that relied on intelligence rather than hard assets and was widely praised by environmentalists for its policies.

Whether there was one scandal or a dozen, the numbers are still relatively small when one considers there are more than 7,000 companies listed on the three major U.S. exchanges.

Still, this is no excuse. No one can deny there was a failure here. As my colleague, Peter Wallison of the American Enterprise Institute has said: "The significance of Enron's collapse arises from the fact that it illustrates the simultaneous failure of all the usual safeguards that US investors can count on to protect their interests: corporate governance, accountants, the accounting system itself and securities analysts."

I would add the important safeguard of the personal integrity of managers.

What about government regulation? The U.S. securities regulation system, like the U.S. tax system, relies almost entirely on disclosure and on punishment for deceivers who are caught. When management, accountants, board members, analysts, and sophisticated institutional investors fail to do their job, there are, frankly, no safeguards at all.

But it would appear to be a rare occasion when deceivers are not caught. What happened in the Enron case? It was a scandal wrought, in great measure, by complacency--caused by an atmosphere in which stocks went straight up. Why worry, as long as Ken Lay is making us lots of money?

The truth is that there are massive incentives in place to promote good corporate behavior. Capital markets reward it--there would be a big problem if they did not; if, for example, Enron stock did not fall from $40 to zero on the revelations but instead rose to $50--and the law is tough on those who break it (if it was not before, it certainly is now; executives face, not just jail time in a country-club setting, but hard time with the worst criminals).

Yes, the truth about corporate scandals is that they were a cathartic event, marking the end of period of excess and relaxed vigilance. All companies in the United States understand that they must do better on corporate governance, and nearly all of them have taken voluntary steps to improve the structure of their boards and the transparency and detail of their reporting.

Finally, vigilance. . . .

A great shift occurred in the 1970s and 1980s in the United States and Britain, especially--and later in other developed countries. Sir Geoffrey Owen has said it is a shift from "managerial capitalism" to "investor capitalism."

Managements in the U.S. in the early 1980s, partly out of fear of corporate raiders taking them over (people like Mike Milken and Carl Icahn), realized they could no longer run their firms for their own benefit. In those times, managers took large salaries and bonuses, had retinues of assistants, corporate planes and company-paid homes. Meanwhile, their businesses' assets were not being deployed as profitably as they could be.

So, under pressure, these managers began to align their interests with those of shareholders. For one thing, executives and board members began owning stock--buying shares directly or through options awarded on performance.

This was good. But in the 1990s, perhaps because of their success, power in corporations began to shift back to managers, many of whom became big celebrities. Shareholders gave up power to them, and analysts and the press stopped viewing them critically. They could do no wrong.

This is a caricature, certainly, but for many companies, the picture is accurate. As a result of Enron, these managers are now on notice. So are the regulators. So is the press. So are investors. That is good. Eternal vigilance, if I may paraphrase, is the price, not just of freedom, but of capitalism--as it should be.

Finally, there are many things corporations can do to enhance confidence--making their boards more independent, inviting greater shareholder participation, keeping their auditors independent, expenses stock options and, in general, reporting more frequently and in more detail than the law requires, as firms like Coca-Cola and Walt Disney have done since Enron.

But these changes must be made by the corporations themselves, not by government fiat.

In fact, what we need , and what corporations are now beginning to provide, is competition to be the most transparent, to acquire a reputation for having the most integrity. A one-size-fits-all program of government regulation won't accomplish what reputational competition can accomplish.

The truth about the corporate scandals is that the U.S. system--resilient and self-correcting--worked.

But let's not forget the human element. President Bush put it very well in a speech on Wall Street on July 9:

"When abuses like this begin to surface in the corporate world, it is time to reaffirm the basic principles and rules that make capitalism work: truthful books and honest people, and well-enforced laws against fraud and corruption. All investment is an act of faith, and faith is earned by integrity. In the long run, there's no capitalism without conscience; there is no wealth without character.

"And so again today I'm calling for a new ethic of personal responsibility in the business community; an ethic that will increase investor confidence, will make employees proud of their companies, and again, regain the trust of the American people."

If this is a crisis, then it is one of personal conduct and morality, not a crisis of the system itself. In some ways, the free-market system itself is the great moral actor in this play, the avenging angel, insisting on integrity, and seeking retribution in its disappointment.

Thank you.

James K. Glassman is a resident fellow at AEI.