Stakeholder inclusion and shareholder protection: new governance and the changing landscape of American securities regulation.

• Author: Kingsbery, Paul Curran

Introduction I. Background on New Governance Theory and U.S. Securities Regulation A. Defining and Understanding New Governance B. Aspects of New Governance in Current U.S. Securities Regulation II. Avenues for Change A. Executive Compensation Regulation 1. Shareholder Voting Rights 2. Direct Federal Control under the "Reasonability" Test 3. New Governance and the Shift from State to Federal Regulation B. Financial Reporting Regulation 1. International Financial Reporting Standards 2. The SEC's XBRL Initiative III. Weighing the Costs and Benefits of New Governance Programs A. Applying a New Governance Framework B. External Costs/Costs to Legal Principles C. The Use of New Governance Strategies Is Crucial in the Financial Reporting Context Conclusion INTRODUCTION

According to regulation experts, the United States securities regulation system is due for a complete overhaul. (1) Although the regulatory scheme is not the sole source of recent economic turmoil, Americans watching their investments decline in value may blame those regulators who have assumed the mantle of investor protection. (2) The precise level of reform that is to come is still uncertain and sweeping new legislative programs could have unexpected consequences going forward. Simultaneous with calls for reform of the securities laws and regulations, there is growing attention among scholars of administrative law towards a school of thought called "New Governance." (3) This Note analyzes a few potential avenues for change in United States securities regulation in light of the descriptive and normative claims of New Governance theory. (4)

This Note analyzes the implications of New Governance theory as it relates to a group of proposals to reform U.S. securities regulation. New Governance does not have one definition, and alternate terms such as "reflexive law, soft law, collaborative governance, democratic experimentalism, responsive regulation, outsourcing regulation ... [and] metaregulation" (5) are used to describe similar phenomena. Unless specifically used in the context of Securities and Exchange Commission policy determinations, "securities regulation" in this Note is intended to indicate the aggregate of all legal protections of the interests of securities holders, under federal and state laws and regulations, as well as case law and emerging international norms. The only way to apply and evaluate New Governance theory is to contextualize the rules governing securities issuance and exchange in light of all stakeholders and policymakers.

Part I of this Note describes New Governance theory in both descriptive and normative terms and gives an account of how New Governance solutions are already integrated into the U.S. securities regulation regime. Part II of this Note describes reform proposals in two important securities regulation areas: executive compensation and financial reporting. Part III of this Note analyzes the extent to which the discussed reforms incorporate New Governance principles, weighs these reforms against traditional legal and policy values, and advocates, in particular, for expanded application of New Governance in the field of financial reporting.

1. BACKGROUND ON NEW GOVERNANCE THEORY AND U.S. SECURITIES REGULATION

   Part I of this Note explores the common core of a group of theories collectively referred to as New Governance. These theories are united in questioning "the false dilemma between centralized regulation and deregulatory devolution." (6) Part I.A proposes that these theories are best understood in the most general terms, applying to novel non- and quasi-governmental organizations, federal and state governments, and the stakeholders themselves. Part I.B argues that New Governance is best understood as a general theory of norm formation by giving examples of how the so-called command-and-control regulatory systems that comprise U.S. securities regulation already incorporate New Governance principles.

   1. Defining and Understanding New Governance

      As a still-nascent theory of administrative law, New Governance evades a single definition. Definitions of New Governance fit into two categories: some focus on differences between New Governance and traditional forms of government, while others focus on the increasing role that non- and pseudo-state actors play in policy formation. The "New Governance model" proposed by Orly Lobel is illustrative of the first category, as Lobel defines New Governance mainly by what it is not. For Lobel, New Governance "supports the replacement of the New Deal's hierarchy and control with a more participatory and collaborative model." (7) Robert Ahdieh takes the second approach. Rather than defining a theoretical movement in opposition to current administrative institutions, Ahdieh's treatment of New Governance begins with an examination of the problems stemming from "cross-jurisdictional interaction among regulatory entities," (8) and develops an explanation of how these interactions can "[offer] an effective mechanism for gradual, incremental shifts in law and norms, rather than catastrophic changes." (9) The distinction between the two strategies for defining New Governance is important because it has consequences for policy determinations ancillary to the implementation of a New Governance administrative scheme. The proper role of traditional sovereign states in a New Governance scheme depends on whether New Governance is a new process of norm formulation, or if it is merely a new strategy for the formulation and implementation of the policy objectives of the State.

      The distinction between the Lobel and Ahdieh definitions should not be overemphasized. Lobel recognizes that her "Renew Deal" vision is an amalgamation of "scholarly theories including ... reflexive law, soft law, collaborative governance, democratic experimentalism, responsive regulation, outsourcing regulation, ... [and] meta-regulation ...." (10) Although Lobel makes certain debatable claims about New Deal regulation, broadly characterizing it as command-and-control regulation, (11) Lobel recognizes that a "statutory mandate may be a first step in the constitution of a governance model." (12) Thus, even when New Governance is understood as a "third way between state-based, top-down regulation and a single-minded reliance on market-based norms," (13) rather than a "proceduralization" of existing, but opaque, influence on policy formation, there are no precise boundaries between the old and the new.

      The line of distinction between old and new governance--and thus an understanding of the essence of New Governance--is further complicated by scholarship recognizing the importance of traditional nation-states to the orderly formation and operation of the New Governance solutions. (14) The fact that old and new may coexist does not, however, imply that the new is subsumed within the old. (15) Even in recognition of the importance of their centralized organizations, New Governance institutions are distinct from their command-and-control counterparts. (16)

      The regulation of securities provides a unique opportunity for administrative law scholars to test the boundaries of new and old institutions for two reasons: first, securities regulation is aided by an abundance of market data that is constantly generated and scrutinized by market participants; and second, command-and-control was arguably never the dominant mode of norm generation in the field of securities regulation. (17) The history of securities trading gives ample examples, however, where more information did not yield better information, and consequently did not give rise to better regulatory policy. (18) Where such market failures occurred, the rules were not self-sustaining, and therefore required changes. New Governance regulation strategies grant market feedback about the success of a rule a visible place in discussions leading to policy formation.

      In "proceduralizing" the role of market feedback, New Governance can be seen as expanding the role of the government into the private sector. A critic may argue that New Governance is a mere cover for deregulatory policy cloaked in a false mantle of government, (19) but this criticism, aside from relying on empirical data about the intentions of New Governance proponents that are impossible to obtain, assumes that government involvement in problem-solving is an end in itself, rather than a means for the prevention of failure in private ordering. The most effective criticism of New Governance focuses on its efficacy. Regulation is necessary precisely because private ordering does have an impact on persons outside of individual transactions; a strong argument in favor of regulation is that the distinction between private and public ordering is artificial. (20) A corollary of the assertion that there is no purely private realm is that there is no purely public realm either. (21) Just as agency costs arise in the context of executive compensation, when policymakers make rules that benefit a narrow but influential area of society for personal gain, governments introduce agency costs on those whom they govern. Thus, although the term "market failure" generally applies in the context of private ordering, New Governance permits more transparent and open procedure to prevent misaligned incentives between the government and the governed. (22)

      This Note focuses on the implications of New Governance theory for a sampling of proposals for change in U.S. securities regulation, rather than a criticism of particular theories, and adopts the most inclusive definition that still maintains the requisite level of clarity. Such a definition of New Governance appears in Kenneth Abbott and Duncan Snidal's Strengthening International Regulation Through Transnational New Governance: Overcoming the Orchestration Deficit. The definition has four factors:

      1) decentralization of "actors and institutions, public and private, into the...