Corporate excesses fuel regulation.

• Position: Federal Focus

For the past two decades, the prevailing presumption in Washington has largely been that the best thing national lawmakers can do for the financial markets is to get out of the way. And for a time, it did seem that unfettered capitalism was the cure for all that ailed America, and indeed the world. The United States' capitalist system helped win the Cold War by the beginning of the 1990s and pushed our economy past all of our industrialized competitors, many of whom were mired in mid-decade financial crises characterized by corporate cronyism. By 2000, the American economy's sustained health surprised even die-hard adherents of the so-called business cycle. After approximately eight years of growth, the longest uninterrupted period in our history, the U.S. economy showed few signs of weakening.

Not All That Glitters Is Gold

Much has changed in recent months. In the 1990s, an extraordinary run-up in the stock market increased the incentives for corporate executives to cheat and dulled investors' incentives to notice. The private sector watchdogs-accountants and analysts--discovered that it paid more to please corporate clients than to safeguard investors, while the public sector watchdogs, especially the Securities and Exchange Commission, found themselves systematically starved for resources.

It is an old Wall Street adage that when the tide goes out, you discover who is swimming naked. Since the onset of recession in 2001, it seems as though a veritable nudist camp has sprung up on Wall Street. Stock markets that once knew no ceiling now seem to know no floor. From mid-April to mid-July, the Dow Jones industrial average fell roughly 15 percent, while the already-humbled NASDAQ was off 22 percent.

Although the sudden collapse of Enron Corp. heralded a problem, it did not prompt a sustained reform movement. At the beginning of June 2002, legislation addressing corporate and accounting malfeasance seemed moribund. The House of Representatives had passed a proposal that many found insufficient to correct the problem, and Senate Banking, Housing, and Urban Affairs Committee Chairman Paul S. Sarbanes, D-Md., couldn't seem to muster sufficient votes in his own committee to pass a package of auditing reforms. Then, revelations of alleged accounting fraud, insider dealing, and other questionable conduct at venerable companies like WorldCom Inc., Xerox Corp., Adelphia Communications Corp., Tyco International Ltd., ImClone Systems Inc., Merck & Co., and Bristol Myers-Squibb Co. sparked a stampede among President Bush and members of Congress to enact tough corporate and accounting reforms.

President Bush signed into law on July 30 the most significant legislation affecting the accounting profession since 1933--the Sarbanes-Oxley Act of 2002 (P.L. 107-204). The new law, which cracks down on wrongdoing in corporate America, marks nothing less than a seminal shift in government regulation of publicly traded companies. In the face of volatile stock markets and rising voter concerns, Congress and the Bush administration moved firmly away from the laissez...