When Congress established the Securities and Exchange Commission (SEC) in 1934, it sought to create an external body that could monitor and regulate the stock market and investment banking. Since the Great Depression, the finance sector as a whole has undergone drastic changes; millions of shares of stock can be traded in the snap of a finger, on a system that reaches from New York to Singapore. Banks have created derivatives of which even they don't know the risk, and complex algorithms have been implemented where common sense used to rule.
The SEC, however, has largely remained stuck in time. Based out of Washington, the agency has played a rather subdued role in the most recent credit crisis and has yet to uncover a major financial scandal before it occurs. It often makes news not with bold headlines or exposés, but with investigations into old-news banking scandals, often discovered not by the SEC but by news outlets and journalists.
Take, for instance, its recent inquiry into the rating agencies Standard & Poor's and Moody's. The investigation focuses on the role the companies played in the Credit Crisis of 2007. Anyone who has read up on the credit crisis (like me!) could tell you that the rating agencies played an instrumental role in the overvaluation of collateralized debt obligations (CDOs), essentially an insurance policy based on a group of home loans, in the midst of the crisis. Their models simply didn't reflect the risk; they would rate one group of CDOs one way and then bump up its rating if it was packaged with riskier CDOs. Perhaps most importantly, as Professor [of Economics George] Norman pointed out in a recent EC-5 lecture, the banks would simply take their business elsewhere if they didn't receive the rating they wanted.
Very long story short, the SEC is about four years late to the conversation. However, this can be considered a special case; almost no one knew what was going on until the market had already collapsed. So let's take a look at a situation that developed much (much) more rapidly: the "Flash Crash." If you don't know what the Flash Crash is, just know that a trader had fat fingers, hit the wrong button and sent the Dow down 1000 points in the span of a few minutes. Though the market self-corrected without too much long-term damage, the SEC had barely recognized the situation by the time it could act.
As the watchdog for the most volatile and powerful sector in the economy, the SEC has played a far more passive role than most would like to see. Its investigation into the downgrade of the U.S. debt came almost as a reactionary measure, not a precautionary one. Even when they succeed in identifying a wrong and complete a successful investigation (as in the recent Goldman Sachs case) they can do little more than inflict fines and penalties on those under investigation. The time has come for the SEC to move out of the Stone Age and embrace the instantaneousness of technology.
When salmonella is found on a bad batch of broccoli, the Food and Drug Administration (FDA) reacts immediately, freezing shipments, calling news outlets and alerting both consumer and producer. The SEC should work under the same principle. Clearly the circumstances are different, but the health of our economy should be almost as important as the health of our broccoli-eating citizens. In a world where Wall Street moves literally at the speed of light, the SEC continues to wait in line for soup on the sidewalk. Find out what's wrong; don't let it come to you. That's Entrepreneurial Leadership 101 right there.
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Walt Laws-MacDonald is a freshman who has not yet declared a major. He can be reached at Walt.Laws_MacDonald@tufts.edu.
