SEC Commissioner Piwowar Speaks on Cost-Benefit Analysis and Flash Boys

SEC Commissioner Michael Piwowar spoke at the First Annual Conference on the Regulation of Financial Markets regarding the important role that economic analysis and academic research plays in securities regulation.

Commissioner Piwowar stated that, during his tenure at the SEC, he has seen economists become more involved with respect to rulemakings, enforcement and inspections of regulated entities. He explained that the SEC Division of Economic and Risk Analysis (“DERA”) provides the foundation of economic analysis, at the front end of tackling regulatory problems, that serves as an essential component to the SEC’s market knowledge. He noted that DERA was “instrumental” in creating Staff Guidance on Economic Analysis in SEC Rulemakings, which stated that high-quality economic analysis “serves as an essential part of SEC rulemaking” and helps to inform the SEC of the likely economic consequences of regulation.

Furthermore, Commissioner Piwowar stated, he “sees the need for the SEC to conduct a multi-year comprehensive review of equity market structure” to allow the SEC and its staff to understand and explore how the equity market structure has evolved. Specifically, Commissioner Piwowar identified some “threshold questions” that should guide the rulemaking process. The questions involve exploring what drives the supposed “need for speed,” and why traders are directing flow to so-called “dark pools” rather than “lit” markets.  A comprehensive review, Commissioner Piwowar explained, will allow us to “put everything on the table for discussion and approach the review with a completely open mind.”

Lofchie Comment: One of the oddities of the bifurcation of swaps rulemaking is that the SEC and the CFTC have pursued opposing processes for adopting rules. The CFTC rushed to adopt many rules as quickly as possible, often in piecemeal fashion, while the SEC moved more deliberately, adopting all of its swap rules as a unified set. Likewise, the two Commissions have taken opposite views as to their obligations to conduct cost-benefit analyses. The SEC seems to take cost-benefit analysis very seriously to the extent that it has imposed robust requirements on itself. By contrast, the CFTC has not acted as though it is particularly constrained by the requirement of a cost-benefit analysis, either because its statute is differently worded or because of philosophical differences. Generally, the CFTC seems to have started with the conclusion that the financial crisis would have been averted if the swap rules had been in place and, thus, the swap rules (or the position limits rules, for example) provide a great benefit and are worth the cost. 

Leaving aside the question of which Commission is “right” in its approach, the fact that the two Commissions are taking such different approaches will almost certainly result in the SEC’s producing a body of swaps regulation that is quite different from the body of regulation produced by the CFTC. To take one example: even if the SEC attempts to adopt a set of cross-border rules that mirrors the cross-border guidance produced by the CFTC, the SEC will likely find it impossible to produce a cost-benefit analysis that justifies these rules (the CFTC avoided this difficulty by not performing the analysis). As different approaches lead to different results, so the different processes of the SEC and the CFTC will give us different rules governing cross-border swaps.

See: Commissioner Piwowar’s Remarks.