ProfessorBainbridge.com

Banning short selling in response to COVID-19 proved harmful rather than beneficial

Very interesting post at Oxford Business Law Blog:

France’s financial market regulator, the Autorité des Marchés Financiers (‘AMF’), banned short selling in 92 specified equities for a one-day period, beginning on March 16, 2020 and ending on March 17, 2020. So did the Commissione Nazionale per le Società e la Borsa (‘CONSOB’), the governmental authority of the Italian stock market, by introducing a temporary ban on taking or increasing net short positions in respect of 85 companies’ shares admitted for trading on the Mercato Telematico Azionario (‘MTA’), the Italian regulated stock market. Similar actions were taken by the relevant authorities in Spain, Belgium, Greece, and Austria. In these countries, short-selling bans have been viewed as a possible tool to curb the adverse consequences on stock market liquidity and investors’ confidence. However, although subject to a similar economic scenario, other European countries, such as Germany and the United Kingdom, did not ban short-selling. All bans expired or were lifted on May 18, 2020. The purpose of our study is to examine whether the temporary short-selling bans in the EU during the COVID-19 crisis have achieved the market supervisors’ goals and, more generally, if similar bans are effective and desirable. Our conclusion is that they have are not.

Go read the whole thing, but the bottom line is that countries that banned short selling didn't do their economies or their investors much good.

Using securities filings to assess the merits of Coronavirus bailouts and loans

Gallemore, John and Hollander, Stephan and Jacob, Martin, Who CARES? Evidence on the Corporate Tax Provisions of the Coronavirus Aid, Relief, and Economic Security Act from SEC Filings (June 19, 2020). University of Chicago, Becker Friedman Institute for Economics Working Paper No. 2020-81, Available at SSRN: https://ssrn.com/abstract=3631384 or http://dx.doi.org/10.2139/ssrn.3631384

Abstract. We use U.S. Securities and Exchange Commission (SEC) filings to provide initial large-sample evidence regarding utilization of corporate tax provisions by U.S. firms under the Coronavirus Aid, Relief, and Economic Security Act (CARES). These tax provisions were intended to provide firms immediate liquidity to prevent widespread bankruptcies and layoffs in response to the COVID-19 pandemic. However, critics have argued that the provisions were poorly targeted and amounted to “giveaways” for shareholders of large corporations. We find that 38 percent of firms discuss at least one of the CARES tax provisions in their SEC filings, a result primarily attributable to the net operating loss (NOL) carryback provision. Firms experiencing lower stock returns during the COVID-19 outbreak are more likely to discuss CARES tax provisions, but not firms in states or industry sectors exhibiting large increases in unemployment. Further, we find a higher likelihood of tax provision discussions for firms with pre-pandemic losses and higher financial leverage. Finally, we document some evidence that firms facing potential reputational or political costs from discussing these tax provisions may have avoided doing so. Our analyses suggest that tax provisions under CARES were not material for most publicly-traded U.S. firms, were not likelier to benefit firms in greater need of liquidity during the pandemic, and that some firms perceived that disclosing benefits would be costly. These findings are important for policymakers as they consider additional economic relief for U.S. corporations while the coronavirus pandemic lingers.

Refuting the #BailOutPeopleNotCorporations hashtag

From Twitter:

The trending hashtag #BailOutPeopleNotCorporations is founded on a basic error; namely, reification. While it may be necessary to reify the corporation for semantic convenience, it can mislead.

Conceptually, the corporation is not a thing, but rather simply a set of contracts between various persons pursuant to which services are provided and rights with respect to a set of assets are allocated.

When we "bail out" a corporation, what we're really doing is redirected wealth from taxpayers as a whole to the subset of individuals who collectively make up the corporation. We thus have to make a decision: In a period of economic triage, is this group of people worth saving? Are the jobs of these employees worth preserving. Are the savings of these shareholders worth preserving?

Concomitantly, we need to consider the problem of agency costs. Corporations are not democracies. They are run by managers and executives. Hence, once we decide that a particular group of people is worth saving (in an economic sense), we need to ensure that managers and directors cannot divert the "bail out" funds from the desired goals. This is a non-trivial design problem. The TARP bail out in the financial crisis was not well designed. We need to do better this time.

Ann Lipton on WeWork, securities regulation, and capital allocation

Recommended reading.

"Fed Economists Say Bitcoin Can't Compete in World of Trust"

This is sort of interesting:

Bitcoin and other cryptocurrencies solve the problem of making payments in an environment where trust is broken -- but it's unclear whether that's a dilemma that needs to be solved, Federal Reserve of New York economists wrote in a blog post.

Here's the post they referenced.

If we must replace LIBOR, what should the replacement look like?

Bloomberg reports that:

A Federal Reserve-sponsored group that has been working on an alternative is slated Aug. 1 to discuss the timing of the release of the measure. The new rate, which the New York Fed plans to begin publishing daily sometime in the first half of 2018 in cooperation with the Treasury Department's Office of Financial Research, eventually could be the benchmark for pricing some $350 trillion of U.S. derivatives, student loans, home mortgages and many other types of credit.

The meeting of the Alternative Reference Rates Committee follows comments recently by the U.K. Financial Conduct Authority that it intends to stop compelling banks to submit London interbank offered rates by the end of 2021, igniting concerns global regulators may have to speed up their implementation timelines for new alternative benchmarks. According to an interim report, ARRC said it considered and rejected plans that call for a “quicker and more disruptive transition” and recognized that its proposed recommendations “could take several years to accomplish.”

I discussed ideal characteristics of a benchmark in my article Reforming LIBOR: Wheatley versus the Alternatives (January 31, 2013), NYU Journal of Law & Business, Vol. 9, No. 2, 2013, available at SSRN: https://ssrn.com/abstract=2209970.

Some key points:

• It is speculated that, “in globally integrated capital markets,” it does not make “sense to have different benchmark borrowing rates for domestic U.S. and international dollar loans.”
• In an increasingly globalized market, control over such a systemically important benchmark by any single government likely would be a source of on-going tension and perhaps would trigger an arms race of sorts in which all of the major financial center nations seek to privilege their domestic benchmark.
• The US working group therefore should be coordinating with counterparts in other countries to develop a global benchmark.
• If a single global rate is desired, even though LIBOR is a U.S. dollar rate, it makes more sense to have the alternative continue to be produced by a London-based government agency or central bank. This is so because it is widely recognized that one of LIBOR’s major advantages was that the London time zone allowed it to straddle the Asian and U.S. markets.
• The benchmark should look to private sector lending, not government rates. The difference between interbank offering rates like LIBOR and potential government substitutes becomes particularly pronounced during periods of economic uncertainty or crisis. In such periods, there is a flight to quality by investors that drives down the rates on presumptively risk free investments like Treasury bills.Conversely, as was the case in the post-Lehman Brothers crisis, banks become less creditworthy and liquidity in the interbank lending market dries up. In such periods, accordingly, benchmarks based on government or central bank funding costs would be especially inappropriate alternatives to one based on interbank offering rates.
• The benchmark should be administered by a private sector body. The Wheatley Review, for example, expressed concern that “public ownership” would reduce the ability of LIBOR to adapt to changing needs of users.The profit motive gives a private actor an incentive to respond to changing conditions in the markets for its product. In contrast, government agencies and state-owned enterprises lack that incentive.

Replacing LIBOR

Bloomberg reports that:

Saron, Sonia, Tonar and Eonia. Behind the Tolkienesque names are the potential candidates to replace Libor, the global borrowing benchmark that underpins more than $350 trillion of financial products, which as of July 27 is being phased out by 2021.

Attaching a time frame to Libor's demise has shifted into sharp focus efforts by financial authorities from Japan to Switzerland to replace the London interbank offered rate. Aside from being mired in fixing scandals, the benchmark has proven increasingly obsolete because of the lack of data behind the daily morning calculation that has established the level set up by the British Bankers Association in 1986.

Count me as dubious.

In my article Reforming LIBOR: Wheatley versus the Alternatives (January 31, 2013), NYU Journal of Law & Business, Vol. 9, No. 2, 2013, available at SSRN: https://ssrn.com/abstract=2209970, I argued that:

Although some commentators proposed replacing LIBOR with a new benchmark, and some banks went so far as to test alternatives, that option never gained significant traction. Huge costs would have resulted from overturning long-settled reliance expectations in multiple markets, because numerous types of financial instruments and contracts with a total value in excess of $300 trillion referenced LIBOR. Accordingly, Wheatley opined, “that a transition to a new benchmark or benchmarks would pose an unacceptably high risk of significant financial instability, and risk large-scale litigation between parties holding contracts that reference LIBOR.” In addition, Wheatley concluded that there was “no immediately obvious alternative” to LIBOR. As a result, attention focused on developing what Wheatley called “a comprehensive and far-reaching program of reform” of the existing benchmark.

As far as I can tell, that analysis remains sound.

UCLA economists forecast an increase in growth thanks to Trumpnomics

From UCLA Anderson Forecast:

With $500 billion in tax cuts arriving in the third quarter of 2017, the forecast calls for GDP growth to accelerate from its recent 2 percent growth path to 3 percent for about four consecutive quarters and then slide back to 2 percent. Growth will be hampered by the difficulties of stimulating an economy operating at near full employment and the bite of higher interest rates. Employment will continue to grow on the order of 140,000 jobs per month in 2017 and 120,000 per month in 2018.

Of course it's couched in all sorts of anti-Trump caveats, but still.

Interestingly, as California evolves ever more into the Peoples Republic of California, we are likely to disproportionately benefit from Trump's defense and infrastructure spending plans:

“The increase in defense spending will be disproportionately directed to California, as sophisticated airplanes, weaponry, missiles and ships require the technology that is produced here,” he writes. “Moreover, there are few places to build the proposed 150 new warships, and San Diego is one of them. Regionally we expect a positive impact in the Bay Area and in coastal Southern California.” 

It's odd that GOP programs are going to reward and benefit the most looney left state in the country.

The errors of liberation theology

First Things has a succinct review of the basic errors of liberation theology.

More on the negative effect of shareholder activism on the economy

John Coffee reports that:

[A] recent study suggests that there may be real, but long-term, costs from hedge fund activism for the economy as a whole. These researchers took the stocks included in the Wall Street Journal’s and FactSet’s Activism Scorecard and trimmed this sample down to just those campaigns launched by activist hedge funds. Then, they followed those firms that successfully avoided a takeover. They found that these firms, even though they survived the activists’ engagement intact, were forced to curtail their investments in research and development by more than half over the next four years. Specifically, R&D expenses in this sample fell from 18% of sales to 8.12% of sales over that period.[16] Nor was this a general secular trend, because in a random sample of firms not engaged by activists, they found that research and development expenditures rose modestly as a percentage of sales over the same period.[17]

Although still a preliminary study, this finding should not surprise, because it confirms what activists say they are doing. Trian Fund made clear that it wanted to reduce DuPont’s expenditures on R&D. Similarly, when Pershing Square Capital and Valeant Pharmaceuticals made a bid for Allergan last year, Valeant announced that, if successful, it would cut R&D at the combined firm by 69%.[18] Although most pharmaceutical companies typically spend about 20% of their revenues on R&D, Valeant spent only 2.7% of its revenues on R&D.[19] Its business model was to milk acquired companies like cash cows for their cash flow.

This pattern of cutting R&D expenditures (even at companies like DuPont that have historically profited from R&D) may make sense for investors who will be long gone within a year or so.

[16] See Allaire and Dauphin, supra note 1, (finding an average decline in R&D expenditures as a percentage of sales from 17.34% in 2009 to 8.12% of sales in 2013). [Full cite: Yvon Allaire and Francois Dauphin, “Hedge Fund Activism: Preliminary Results and Some New Empirical Evidence” (Institute for governance of public and private corporations, April 1, 2015).]

[17] Id (finding a modest increase in R&D expenditures from 6.54% of sales in 2009 to 7.65% of sales in 2013).

[18] See Joseph Walker and Liz Hoffman, “Allergan’s Defense: Be Like Valeant,” The Wall Street Journal, July 22, 2014 at B-1.

[19] See Joseph Walker, “Botox Itself Aims Not to Age,” The Wall Street Journal, May 19, 2014 at B-1.

But it sucks for the rest of us.

I await a reply from the activists' academic apologists.

The JOBS Act apparently has not solved the problems with the American capital markets

In my essay Corporate Governance and U.S. Capital Market Competitiveness (October 22, 2010), available at SSRN: http://ssrn.com/abstract=1696303, I explained that:

During the first half of the last decade, evidence accumulated that the U.S. capital markets were becoming less competitive relative to their major competitors. The evidence reviewed herein confirms that it was not corporate governance as such that was the problem, but rather corporate governance regulation. In particular, attention focused on such issues as the massive growth in corporate and securities litigation risk and the increasing complexity and cost of the U.S. regulatory scheme.

Tentative efforts towards deregulation largely fell by the wayside in the wake of the financial crisis of 2007-2008. Instead, massive new regulations came into being, especially in the Dodd Frank Act. The competitive position of U.S. capital markets, however, continues to decline.

This essay argues that litigation and regulatory reform remain essential if U.S. capital markets are to retain their leadership position. Unfortunately, the article concludes that federal corporate governance regulation follows a ratchet effect, in which the regulatory scheme becomes more complex with each financial crisis. If so, significant reform may be difficult to achieve.

If you believed the Obama administration and the Democrats' hyoe, the JOBS Act was going to solve the problem. They were wrong, according to a new study by some economists (which I'm more inclined to accept that ones done by law professors masquerading as quants):

We examine the effects of Title I of the Jumpstart Our Business Startups Act (JOBS) for a sample of 213 EGC IPOs issued between April 5, 2012 and April 30, 2014. We show no reduction in the direct costs of issuance, accounting, legal, or underwriting fees, for EGC IPOs. Further, the indirect cost of issuance, underpricing, is significantly higher for EGCs than other IPOs. More importantly, greater underpricing is present only for larger firms that were not previously eligible for scaled disclosure under Regulation S-K. EGCs that are more definitive about their intentions to use the provisions of the Act have lower underpricing than those that are ambiguous. Finally, we find no increase in IPO volume after the Act. Overall, we find little evidence that the Act has initially been effective in achieving its main objectives and conclude that there are significant consequences to extending scaled disclosure to larger issuers.

Interestingly, one of the authors - Kathleen Weiss Hanley - was until very recently an economist at the SEC,

Attention SEC: "Whatever Happened to Promoting Small Business Capital Formation?"

SEC Commissioner Daniel Gallagher has given an excellent speech on the titular question. The whole thing is a must read, but this passage jumps out at me:

... sadly, we at the SEC are not doing nearly enough to ensure that small businesses have the access to capital that they need to grow. We layer on rule after rule until it becomes prohibitively expensive to access the public capital markets. Only rarely do we remove any of our rules, even after they have long since ceased to serve their purpose or have become obsolete or worse. And although we have made significant progress in expanding our economic analysis of new rules and rule amendments, we almost never consider how heavily the weight of the entire corpus of rules bears down on registrants.

Today's tweet

@securitiesattny says "in past 5 yrs only 10% of venture backed companies exited w/ IPO" Here's why:ssrn.com/abstract=16963…

— Stephen Bainbridge (@ProfBainbridge) May 1, 2013

LIBOR case tossed (mostly)

Kevin LaCroix reports that:

On March 29, 2013, in a ruling that she acknowledged some might find to be “unexpected” in light of the substantial regulatory fines and penalties that some of the defendants have paid, Southern District of New York [Judge] Naomi Reice Buchwald granted the defendants’ motions to dismiss the antitrust and RICO claims in the consolidated Libor-based antitrust litigation. Judge Buchwald also dismissed the plaintiffs’ state law claims and some of the plaintiffs’ commodities manipulation claims. However, she denied the defendants’ motions to dismiss at least a portion of the plaintiffs’ commodities manipulation claims. A copy of Judge Buchwald’s massive 161-page opinion can be found here.

As detailed here, the consolidated litigation arises out of allegations that the banks involved with setting the Libor benchmark interest rate conspired to manipulate the benchmark. The plaintiffs – several municipalities, commodities traders and investors, bondholders and the Schwab financial firm, among many others – variously allege that suppression of the Libor benchmark reduced the amount of interest income they earned on various financial instruments. The various cases were consolidated before Judge Buchwald. The defendants moved to dismiss.

In her March 29 Opinion, Judge Buchwald granted the defendants’ motions to dismiss as to all of plaintiffs’ claims, except for a portion of the plaintiffs’ commodities manipulations claims. All of the dismissals were with prejudice, except for her dismissal of plaintiffs’ state law claims, over which she declined to exercise supplemental jurisdiction and therefore she dismissed the state law claims without prejudice.

As LaCroix explains, this probably will not end the litigation over the LIBOR scandal. Going forward, however, the more important question is whether the reforms that are being undertaken will give us confidence in LIBOR in the future. On that issue, see my article Reforming LIBOR: Wheatley versus the Alternatives (January 31, 2013). NYU Journal of Law & Business, Vol. 9, No. 2, 2013. Available at SSRN: http://ssrn.com/abstract=2209970

 

 

Pope Francis and the Economy

As a Catholic professor of corporate law, I have a deep and abiding interest in what Catholic Social Thought has to say about the economy and economic regulation. I know almost nothing about the new Pope's views on these issues, so I was interested to see this report:

According to National Catholic Reporter’s John Allen, the new pope steered clear of liberation theology — a branch of Catholic social thought which emphasizes the importance of reforming capitalist structures that disadvantage the poor — even as many of his peers in Latin America were embracing it. 

Thank God. There are few sources of more muddled thinking about the economy than liberation theology. (See Michael Novak's takedown of the nonsense).

Back to the report:

Francis also seems to be an opponent of austerity, most notably during his time as spiritual leader of Argentina when the country defaulted on its debt in 2002.

A paper by Thomas Trebat, “Argentina, the Church, and Debt,” details the church’s role in the crisis’s resolution. Argentine bishops, including Francis, had long criticized the laissez-faire policies of Carlos Menem, who was president from 1989 to 1999. “The bishops were critical of the economic model as a generator of poverty and unemployment, notwithstanding the stability it had brought to the country,” Trebat wrote.

Oh dear. Sounds like he might be one of those third way folks. The problem, of course, is that there is no third way.

And when the debt crisis hit in 2002, the church called in strong terms for a debt restructuring to take place which privileged social programs above debt repayment. They argued that the true problems in the Argentinian economy were, in their words, “social exclusion, a growing gap between rich and poor, insecurity, corruption, social and family violence, serious deficiencies in the educational system and in public health, the negative consequences of globalization and the tyranny of the markets.”

Trebat thinks this influenced the eventual outcome of the crisis, wherein the country’s creditors accepted a less devastating austerity package than many expected. “Civil society, of which the Church is a part, has a clear role to play in demanding that debt service not take precedence over human development once reasonable efforts have been expended to pay the debt,” he concludes.

Interesting. Sounds like his views here are in line with those who argue for repudiation and/or reformation of odious debt and probably also those who call for a sovereign debt jubilee. Of course, these folks rarely ponder the question of why creditors who were forced to write off sovereign debts would put good money after bad by extending new loans to debtor nations.

Trebat studied the whole church’s response, rather than just Francis’s, but comments by the new pope suggest he held similar views. Allen quotes a later speech in which then-Cardinal Bergoglio declared, “We live, apparently, in the most unequal part of the world, which has grown the most yet reduced misery the least. The unjust distribution of goods persists, creating a situation of social sin that cries out to Heaven and limits the possibilities of a fuller life for so many of our brothers.”

Wealth inequality is a major social ill. The trouble is that Catholic social thought on how to deal with it often aligns itself with left-liberal, statist redistribution policies that destroy wealth without fixing the structural problems that create inequalities.

In any event, the Church's sex and financial scandals ought to keep Francis sufficiently busy that he can leave the economy to the laity.