U.S. financial-market regulations have multiplied like rabbits in recent years. While companies have been moaning about the costs imposed by the Sarbanes-Oxley corporate-governance law and its brethren, academics have toiled away trying to identify whether the regulations are all that bad.

Resident Scholar Kevin A. Hassett

Last week, a report by a committee of academics and business executives drew on much of that research and made a convincing case: U.S. financial markets have become painfully overregulated.

The “Interim Report of the Committee on Capital Markets Regulation” was prepared by a panel of superstars. The group was headed by Harvard Law Professor Hal Scott and included Glenn Hubbard, dean of the Graduate School of Business at Columbia, John Thornton, chairman of the Brookings Institution, Robert Pozen, chairman of MFS Investment Management, and many others of comparable reputation.

The report concluded that the attractiveness of U.S. public financial markets has deteriorated at a shockingly rapid rate. In 2000, 50 percent of all worldwide initial public offerings were placed in U.S. markets, as measured by value. By 2005, that number had plunged to 5 percent.

At the same time, companies are abandoning the public markets at an astonishing rate. In 1995, only 2.2 percent of public takeovers involved taking a company private. By 2004, that number had soared to 26 percent.

If you observed such an exodus from a village, you would conclude that a plague must be loose in it. So what plagues U.S. public markets?

The Culprit

The report makes it clear that the 2002 Sarbanes-Oxley law is a big part of the story.

Of course, anyone can say that. The contribution of the report is that it explains the mechanism.

Sweeping and costly new regulations such as Sarbanes-Oxley need not be negatives. If the new regulations improve transparency, then they may provide benefits to investors that outweigh the costs.

This was certainly a reasonable presumption at the height of the hysteria over the fall of Enron Corp. and WorldCom Inc. If every publicly traded firm in the U.S. had books like those two, then the financial collapse would have been complete. But perhaps shareholders couldn't tell how bad things were. Perhaps Sarbanes- Oxley helped the good guys signal their intrinsic value.

Listing Premium

The only way to tell is to look at the behavior of financial markets before and after the legislation. The numbers are quite damning of the new regulations. One of the most compelling tidbits involves the U.S. listing premium.

The U.S. has historically been an extremely attractive public market. If you list here, then a very deep and liquid financial pool is at your fingertips. In addition, listing in the U.S. has signaled quality to investors, allowing you to sell your equity at a premium.

One way to measure that premium is to look at cross-listed companies. If one dollar worth of book assets sells for two dollars in the U.S. but only $1.50 in a foreign market, then the premium for listing in the U.S. would be 50 cents.

The report presents evidence that the listing premium dropped about 50 percent after Sarbanes-Oxley, suggesting that the costs of the law far outweigh the benefits.

The beauty of the report, however, is that it not only details our problems, but also presents well-thought-out solutions. While these are too complex to present in one column, the crucial recommendation from an economic point of view shouldn't be, but is, controversial.

Ulimatum for Cox?

The Securities and Exchange Commission has an enormously competent staff of professionals in its Office of Economic Analysis, and the committee recommended that the SEC rely more heavily on that staff than before. In particular, it recommends that systematic cost-benefit analysis be employed to evaluate new rules.

If this were in place, then the staff could keep an eye on old rules and initiate reforms when evidence accumulates, as it has, that their costs outweigh their benefits.

President George W. Bush has two years left in office and an unfriendly Congress. But many of the reforms suggested by the committee don't require legislation.

If I were Bush, I would tell SEC Chairman Christopher Cox that I expect him to implement as many of the reforms listed in the report as possible, and that a positive status report should be on my desk by March, or he can look for a new job.

Kevin A. Hassett is a resident scholar and director of economic policy studies at AEI.