52 The New York ReviewThe Rich Get Richer
Jed S. RakoffRethinking Securities Law
by Marc I. Steinberg.
Oxford University Press, 339 pp., $85.00Historically the regulation of compa-
nies in the United States has been a
matter of state law. Corporations were
primarily regulated by the state in
which they were incorporated, which
prior to the Civil War was usually the
state where they did most of their busi-
ness. But with the rise of large national
corporations in the late nineteenth cen-
tury, states began competing as sites of
incorporation, offering financial ad-
vantages such as generous tax breaks
in return for increased incorporation
fees and other benefits. In what quickly
became a race to the bottom, New Jer-
sey and Delaware were the two chief
competitors. But the Delaware General
Corporation Law, enacted in 1899, re-
duced corporate taxes and shareholder
“interference” with management to
an extent that not even New Jersey
could match. As a result, Delaware be-
came the primary site of incorporation
of most large US (and a great many
foreign- owned) corporations, includ-
ing more than two thirds of all Fortune
500 companies.
Despite occasional competition from
Nevada and other states, Delaware’s
dominance as the preferred state of
incorporation, and its corresponding
primacy in the development of corpo-
rate law, has been further solidified
by its constant attention to the needs
and desires of corporate management.
Delaware law offers corporations, for
example, freedom from liability for
managerial actions taken in the exer-
cise of “business judgment,” protection
from unwanted takeovers, anonymity
of ownership (especially for “offshore”
companies), and, overall, very light reg-
ulation. Perhaps most important from
a legal liability standpoint, Delaware
funnels most corporate disputes into
the state’s Court of Chancery, where,
though the judges are very able, no jury
trials are allowed.
The laws governing the affairs of
large corporations have thus primarily
become the laws of Delaware. During
the Great Depression, however, the
federal government—attributing much
of the economic collapse to corpo-
rate dishonesty—decided to partially
intervene with the Securities Act of
1933 and the Securities Exchange Act
of 1934 (“securities” being a legalistic
term encompassing, inter alia, cor-
porate stocks and bonds). Both these
acts were administered by a newly
created federal agency, the Securities
and Exchange Commission (SEC),
which quickly developed a reputation
for being less lenient toward corporate
management than Delaware or most
other states.
Essentially the federal securities laws
sought to require public companies to
disclose the true state of their finances.
A failure to disclose, or a disclosure
that was dishonest, could result in civil
penalties, injunctive relief, and some-
times, if the mistakes could be shown
to be intentional, criminal prosecution.
But while these laws went some way
toward creating a more honest market-
place in corporate securities, they were
largely limited to mandating disclosureof information. Substantive regulation
of how a company is structured and
managed remains mostly a matter of
state law.In the years immediately following
World War II, this division of regu-
lation seemed to work well enough.
While most Americans, still harbor-
ing memories of the Great Depression,
continued to be leery about investing in
corporate stocks and bonds, an increas-
ing number began to do so, reassured
that what companies were reporting
about their profitability and net worth
was accurate. By 1950, over 90 per-
cent of the shares of publicly traded
US companies were owned directly by
individual investors. As a result, many
Americans had a stake in US business
and a reason for wanting it to be well
managed. At the same time, as a con-
sequence of progressive income tax
policies and increased unionization,
the percentage of US net wealth held
by the richest one tenth of one percent
of Americans had by 1950 declined to
less than 10 percent, and it declined
even further to around 7 percent by
1980.
In recent years, however, all this has
changed dramatically. Most corporate
securities are now held by institutional
investors such as asset- management
funds, pension funds, mutual funds, and
hedge funds, which own, for example,
more than 80 percent of the stock of S&P
500 companies. The three biggest asset-
management funds—Vanguard, Black-Rock, and State Street—hold almost
a quarter of the equity in the nation’s
largest corporations.
Many individual Americans are in-
vested in these funds, but that does
not provide them with any control
over, or even much knowledge of, the
companies in which the funds invest.
That might not be so bad if the funds
themselves cared about how these com-
panies conduct their business over the
long term. But with a few rare excep-
tions (such as BlackRock’s emphasis
on investing in environmentally sensi-
tive companies), such funds have little
or no interest in corporate governance
or behavior, because they are only in-
vesting for short- term profits and will
rapidly change their investments from
one company to another as financial
trends dictate.
For example, in the 1970s, when most
New York Stock Exchange (NYSE) se-
curities were still owned directly by
individual shareholders, the average
length of time a share of an NYSE com-
pany was held by an average investor
was about seven years. The average
now, in this era of institutional inves-
tors, is a mere seven months. Indeed,
according to some estimates, about 70
percent of all US securities trading is
done by “hyper- speed” traders, who
may own a share for just a few seconds.
Much of this trading is accomplished
by use of mathematical algorithms that
are focused on short- term profitabil-
ity. And even those funds that have a
longer- term investment strategy com-
monly outsource their shareholdervoting rights to separate services, so lit-
tle do they care about exercising their
power over management as long as the
company returns high profits.
An equally important change has
been the shift from public to private
financial markets, which are often free
of most of the disclosure requirements
of federal law. SEC commissioner Alli-
son Herren Lee said in a recent speech:Perhaps the single most significant
development in securities markets
in the new millennium has been
the explosive growth of private
markets.... More capital has been
raised in these markets than in
public markets each year for over
a decade.... The increasing in-
flows into these markets have also
significantly increased the overall
portion of our equities markets
and our economy that is non-
transparent to investors, markets,
policymakers, and the public.^1Finally, the percentage of US net
wealth held by the richest one tenth
of one percent of Americans—mostly
corporate executives, money managers,
and their families—had by 2020 more
than doubled from its postwar figure to
about 20 percent, and the percentage
held by the top one percent had, as of
the end of 2021, increased to an aston-
ishing 32.3 percent of US net wealth,
much of it tied up in securities. While
this may be chiefly due to reduced tax
rates (for both wealthy individuals and
corporations), the ability of lightly
regulated companies to enhance their
executives’ wealth through devices
such as adjustable stock options clearly
contributes to the skew. And judging
from the apparent failure of the cur-
rent administration to enact more pro-
gressive tax laws, this obscene division
of wealth between the rich and the rest
of us seems likely to become even more
pronounced in the future.Given these developments, it may
well be time to reevaluate the balance
between state and federal regulation of
big business. In Rethinking Securities
Law, Marc I. Steinberg of the Dedman
School of Law at Southern Methodist
University suggests that the federal
government should become more in-
volved, not only by broadening its dis-
closure requirements to meet the needs
of these changed circumstances, but
also by determining what conduct by a
corporation is “fair” and “equitable,”
matters mostly still reserved for the
very limited oversight of state law.
Steinberg’s approach is notably dif-
ferent from the so- called ESG move-
ment currently popular with many
reformists. ESG proponents seek
through private action to encourage
investors to compel companies to meet
a set of progressive environmental, so-
cial, and governance (ESG) standards.
Whatever the merits of this approach,Photograph by Jason Fulford(^1) Allison Herren Lee, “Going Dark:
The Growth of Private Markets and
the Impact on Investors and the Econ-
omy,” a speech at SEC Speaks, October
12, 2001.
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