CFTC Commissioner Bowen Recommends Ways to Improve Corporate Governance
Commentary by Bob Zwirb and Steven Lofchie
CFTC Commissioner Sharon Y. Bowen presented an approach to improving the governance of CFTC-regulated entities. She criticized firms for concentrating on short-term gains at the expense of long-term profitability, and proposed a number of measures to address this "misaligned focus."
Commissioner Bowen urged financial regulators to improve corporate governance requirements in the following ways:
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craft qualitative and quantitative standards for directors, including certain fitness and level-of-independence standards;
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require boards to consider issues of culture in their mandatory annual self-review, particularly when reviewing any ongoing enforcement, criminal action or market manipulation settlements, or court judgments involving the entity;
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limit the tenure of independent members of audit and compensation committees – while permitting board members who exceed said limit to remain on committees as long as they are not considered to be independent – in order to "marry the need for independence and fresh and diverse thinking with the need for experience and institutional knowledge";
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require all registrant boards (as the boards of designated contract markets are required) to disclose the percentage of their directors and senior management that have diverse experience and backgrounds;
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require Swap Execution Facilities ("SEFs") to fall under the governance of a single Self-Regulatory Organization ("SRO") by either (i) turning over SEF surveillance and enforcement functions to the NFA or another SRO or, alternatively, (ii) requiring SEFs to become NFA members; and
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require all swap intermediaries to be registered with, and tested robustly by, the CFTC, the NFA or another SRO.
Commissioner Bowen also spoke about implementing a CFTC "fiduciary standard":
At the very least, given that the SEC and DOL are in the process of implementing fiduciary duties for entities they regulate, the CFTC should take stock of their rules and see if [it] can't replicate those rules in the derivatives space. This would have the benefit of increasing standardization across the financial industry, thereby reducing compliance costs.
Commissioner Bowen delivered her remarks before the Managed Funds Association Forum 2016.
Commentary
Commissioner Bowen's call to "shift" directors and officers' "focus away from quarterly capitalism" by implementing an array of regulatory measures echoes a long-held criticism of corporate governance. Back in the 1980s, corporate raiders and the market for corporate control – a/k/a, "hostile takeovers" – were accused of forcing corporate managers to concentrate on short-term results to the detriment of results in long term. Today, Commissioner Bowen blames the lack of diversity and "holistic independence" of corporate board members for the alleged failure of such board members to take a long-term perspective. However, the academic literature provides little empirical support for this view. For example, Yale Law professor Jonathan Macey has written that it is "illogical" to conclude that market forces cause managers and board members to focus on short-term share price performance rather than long-term projects:
Share prices reflect the present value of future returns to shareholders and are, therefore, a measure of the long run. Successful corporate strategies, even those that are not expected to produce positive returns for years, will generate immediate increases in share prices. There is little doubt that if a major pharmaceutical company cut its research and development (R&D) budget to zero, its earnings would rise but its share price would fall. Economists have tested this theory empirically by looking at what happens to corporate expenditures on R&D after takeovers occur. If the short-run story applies, one would expect R&D to fall after a takeover. In fact, the opposite is true. Those who take over companies are usually in it for the long haul.
Jonathan R. Macey, "Market for Corporate Control," The Concise Encyclopedia of Economics.
There might be reasonable concerns about the independence or outlook of some corporate management, but it is questionable whether the government, especially the CFTC, can or should prescribe what one writer has called "the right mix of long-term investment and decent near-term results." Besides which, the prescribed solutions to such perceived imbalances often prevent corporate managers from receiving market signals, which impedes both short- and long-term performance. See Robert C. Pozen, "The Misdirected War on Corporate Short-Termism," Brookings Policy Brief, Brookings Institution (May 19, 2014), and Mark J. Roe, "The Imaginary Problem of Corporate Short-Termism," Wall St. J. (Aug. 17, 2015).
Commentary
CFTC-regulated firms are not making short-term profits. Numerous futures commission merchants ("FCMs") have shut their doors already, which means their numbers have decreased significantly. The situation conjures John Maynard Keynes' famous quote: "In the long run, we are all dead" (or in the case of FCMs, shuttered).
Additionally, Commissioner Bowen's notion that the DOL's fiduciary standards are a model for the "standardization" of rules across regulatory agencies is arguable. One of the major criticisms of the DOL's rules is that they are not harmonized with those of the SEC, which results in major difficulties for firms that must comply with new sets of DOL rules that don't fit easily with rules that exist already.
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The American Council of Life Insurers, et.al., filed a complaint against the Department of Labor seeking declaratory and injunctive relief to prevent the implementation of the fiduciary rule.
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CFTC Commissioner Bowen reviewed regulations and rules that were put in place after the 2008 crisis and questioned whether they helped to create a safer derivatives market.
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CFTC Commissioner Sharon Y. Bowen spoke at the Managed Funds Association's 2015 Compliance Conference. She focused her remarks on governance.