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The Death of a Regulator : Strict Supervision, Bank Lending and Business Activity

An important question in banking is how strict supervision affects bank lending and in turn local business activity. Forcing banks to recognize losses could choke off lending and amplify local economic woes. But stricter supervision could also change how banks assess and manage loans. Estimating such effects is challenging. We exploit the extinction of the thrift regulator (OTS) – a large change in prudential supervision – to analyze economic links between strict supervision, bank lending and business activity. We first show that the OTS replacement indeed resulted in stricter supervision of former OTS banks. Next, we analyze the ensuing lending effects. We show that former OTS banks increase small business lending by roughly 10 percent. This increase is not entirely accounted by a reallocation of mortgage lending and stems primarily from well-capitalized banks and those more affected by the new regime. These findings suggest that stricter supervision operates not only through capital but can also overcome frictions in bank management, leading to more lending and a reallocation of loans.

Consistent with the latter, we find increases in business entry and exit in counties with greater expose to OTS banks.

Is There a Relationship Between Shareholder Protection and Stock Market Development ?

The paper uses recently created datasets measuring legal change over time in a sample of 28 developed and emerging economies to test whether the strengthening of share-holder rights in the course of the mid-1990s and 2000s promoted stock market devel-opment in those countries. It finds only weak and equivocal evidence of a positive effect of shareholder protection on market capitalisation, the value of stock trading, and the turnover ratio, and a negative impact on the number of listed companies. There is stronger evidence of reverse causality, in the sense of stock market development at country level generating changes in shareholder protection law. We conclude, firstly, that legal reforms were at least in part an endogenous response to stock market devel-opment and not simply a reaction to the generation of global standards; but, secondly, that the laws passed in response to the demand for shareholder empowerment did not consistently have the expected impact on financial markets, and may have had some negative and perverse results.

Market soundings : the interaction between securities regulation and company law in the United Kingdom and Italy

Before deciding on operations involving share issuance or sale, companies or shareholders may seek to disclose information to selected investors, in order to gauge their opinion on the envisaged market operation. Such ‘market soundings’ risk violating the prohibition of insider trading and yet such selective disclosures have been partially accepted in several European jurisdictions. Market soundings have been recently regulated in the Market Abuse Regulation, which clarifies under which circumstances they are allowed and the position of the involved parties. This Article analyses the rules on market soundings in the Market Abuse Regulation with regard to initial public offers of securities, issuance in the secondary market and accelerated bookbuildings. Additionally, it will be stressed that market soundings might also violate national company law rules and principles, mostly those related to directors’ duties and liabilities. This Article addresses how Italian and English company law regimes react towards selective disclosures. It will be shown that a tension may still exist between national company law rules and uniform rules on the prohibition of market abuses.

New Special Study of the Securities Markets : Institutional Intermediaries

This essay, written for the Conference on the New Special Study of Securities Markets at Columbia Law School, identifies the key regulatory challenges posed by institutional intermediaries in America’s capital markets. We survey existing legal and economic research and suggest new areas for regulatory reform and scholarly inquiry. We cover registered investment companies (such as mutual funds), private investment funds (such as hedge funds and private equity funds), credit-rating agencies, and broker-dealers.

The Law and Economics of Shadow Banking

This essay discusses the economic case for regulating shadow banking. Focusing on systemic risk, shadow banking is defined as leveraging on collateral to support liquidity promises. Regulating shadow banking is efficient because of the negative externality stemming from systemic risk. However, because uncertainty undermines the precise measurement of systemic risk, quantity regulation is preferable to a Pigovian tax to cope with this externality. This paper argues that regulation should limit the leverage of shadow banking mainly by imposing a minimum haircut regulation on the assets being used as collateral for funding.

A common safe asset for the Euro area – The legal perspective

The euro area consists of 19 European states that share a single currency but lack a common fiscal policy. The European sovereign debt crisis of 2011-2012 revealed the fragility of this set-up, when distress in certain national debt markets hampered the transmission and the singleness of monetary policy, pushing the currency union to the brink of a break-up. Another related complication that came to the fore during the crisis was the interdependence between sovereigns and their banks. In the euro area, banks are heavily exposed to sovereigns, which means that shocks in the banking sector propagate to the sovereign and vice versa. This mechanism has been referred to as “doom loop”, “feedback loop”, or “sovereign-bank nexus”. Notwithstanding major efforts to revamp the supervisory and regulatory architecture, the doom loop is seemingly be alive and kicking.

A Legal Perspective on Technology and the Capital Markets: Social Media, Short Activism and the Algorithmic Revolution

In this essay, I examine the technological revolution in the capital markets through the normative lenses of law, policy and regulation. Do new media platforms necessarily enhance market efficiency? Or do they facilitate fraud and manipulation of stock prices? I focus on the rise of short activism on Twitter, Seeking Alpha and similar forms of social media: much like a stock promoter induces others to buy so he or she can sell at a profit, so a short activist might dupe others into selling so he or she can lock in profits before the stock rises again. Second, I examine the ways in which the rise of algorithmic trading shapes the emergence of accurate prices in the capital markets, from cybersecurity risk to limit order cancellations. There is growing evidence that prosecutors are taking technologically induced price distortions quite seriously. Finally, I consider emerging frontiers of technological innovation in the capital markets. The jury is still out on whether the benefits of digital ledger technology exceed the costs of the rampant investor deception which has led to a steady stream of crypto prosecutions and enforcement actions.

Understanding Enron : it’s about the Gatekeepers, Stupid

Debacles of historic dimensions tend to produce an excess of explanations. So has it been with Enron, as virtually every commentator has a different diagnosis and a different prescription. Yet, in most respects, Enron is a maddeningly idiosyncratic example of pathological corporate governance, which by itself cannot provide evidence of systematic governance failure. Properly understood, however, the Enron debacle furnishes a paradigm of « gatekeeper failure » – that is, of why and when reliance may not be justified on « reputational intermediaries, » such as auditors, securities analysts, attorneys, and other professionals who pledge their reputational capital to vouch for information that investors cannot easily verify. This comment shows that, during the 1990’s, the expected liability costs associated with gatekeeper acquiescence in managerial misbehavior went down, while the expected benefits went up – with the unsurprising result that earnings restatements and earnings management increased. Diagnosing the circumstances under which « gatekeeper failure » is likely leads in turn to prescriptions focused on re-aligning the incentives of gatekeepers with those of investors.

Behavioral Finance : Investors, Corporations, and Markets

Behavioral finance is a relatively new but quickly expanding field that seeks to provide explanations for people’s economic decisions by combining behavioral and cognitive psychological theory with conventional economics and finance. Fueling the growth of behavioral finance research has been the inability of the traditional expected utility maximization of rational investors within the efficient markets framework to explain many empirical patterns. Behavioral finance attempts to resolve these inconsistencies through explanations based on human behavior, both individually and in groups. For example, behavioral finance helps explain why and how markets might be inefficient. After initial resistance from traditionalists, behavioral finance is increasingly becoming part of mainstream finance.

Corporate Disruption: The Law and Design of Organizations in the 21st Century

This paper explores the issue of “re-making” corporate law through the prism of the United Nations’ recent efforts at reducing legal obstacles experienced by micro, small and medium-sized enterprises in starting and scaling a business. In order to be successful, we recommend that the UN should go back to business fundamentals and should attempt to build from the ground up based on the real world needs of entrepreneurs, rather than work off already existing corporate legal systems. In this way, it is possible to engage in a more imaginative form of regulatory design in which a clear, open and preferential legal framework for stimulating innovation and business creation can be developed.

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