Making Financial Regulation Work: The Supreme Court's Role
This is part of a series on The Hearing called "Making Financial Regulation Work." This guest post was filed by University of Pennsylvania professor David Zaring.
While Congress and the administration consider various proposals for financial reform, it is worth considering what the third branch of government could contribute. Will the Supreme Court have anything to say about what a systemic risk regulator should look like?
I think it could. The reason is a case called Free Enterprise Fund v. PCAOB, which the court will decide next term. Free Enterprise Fund could determine just how “independent,” or free from presidential control, an independent financial regulator can be.
This matters because a systemic risk regulator could either be very much under the president’s control or be very independent, depending on how Congress writes the legislation.
The question presented by the Free Enterprise Fund case asks whether very independent agencies are inconsistent with the separation-of-powers principles of the Constitution. Those principles have been interpreted to protect the president’s authority to supervise the execution and implementation of laws passed by Congress.
When Congress passed Sarbanes-Oxley after the last financial crisis, it created the PCAOB to oversee accounting firms. The agency is run by a board appointed by the Securities and Exchange Commission and removable only for cause; the SEC itself is headed by members who also have job protections that make it difficult for the president to discipline them when they are appointed. Free Enterprise Fund will decide whether the PCAOB is, because of this structure, too isolated from presidential supervision to permit him to fulfill his constitutional obligation to ensure that the laws are faithfully executed.
If the President cannot appoint or remove the members of the systemic risk regulator, then Free Enterprise Fund will be a good benchmark to evaluate whether the regulator will pass constitutional muster.
The administration has suggested that the systemic-risk role go to the Federal Reserve, which is pretty free from presidential control itself, but not in a way that the courts have suggested is unconstitutional. So that seems likely to be okay, unless the Supreme Court gets very aggressive with the PCAOB case.
It has also suggested that a committee of the heads of the various financial agencies should be created to meet regularly to coordinate systemic risk response. House Republicans have just announced their own financial regulatory reform proposal, which would depend even more on this sort of regulation by committee.
The House proposal would cut the Fed out of the job of systemic risk regulation. Since many of the members of this committee would be directly responsive to the president, there shouldn’t be any problem with that, though the House has called this committee an "independent establishment in the Executive Branch," just to make things confusing. (Is it independent? Part of the executive? This is the sort of thing over which administrative lawyers obsess.)
Others have suggested creating an entirely new agency to be responsible solely for systemic risk – both Henry Paulson and Paul Volcker hinted that this might be the way to go. That sort of proposal has the most to fear from an adverse precedent in the Free Enterprise Fund case.
The Supreme Court usually stays out of economic regulation – it has done so since a disastrous set of interventions in the beginning of the Great Depression almost destroyed the court’s authority. But with Free Enterprise Fund, it could play a real role in shaping what the next round of financial regulatory reform looks like.
-- David Zaring is an assistant professor of legal studies at the Wharton School of Business. He also blogs at the Conglomerate.
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