In Praise of SOX

One of the reasons that the current  Financial Implosion was not bigger and more horrific than it could have been, can be credited to the much maligned SOX. No, not the Baseball’s Red Sox or White Sox but rather the Sarbanes Oxley law. This fairly simple legislation cuts off plausible deniability and other financial accounting shenanigans from business executives. The legislation forces top executives, like candidates in political campaign ads, to say they understand and take full responsibility for the company’s quarterly and other financial reports – and even more importantly are actively working to improve those reports and control. Yes, that is a legal liability kind of responsibility . So if an executive or his underlings wants to engage in financial deception, he is both criminally and civilly responsible – neither are attractive prospects.

 

SOX did not stop the financial crisis because bankers and financiers were aided by lax regulations by the SEC and other financial controllers plus very rosy and compliant ratings from private agencies like Moody’s and Standard+Poors.

 

 


Net result ? After a spate of Enrons and Worldcoms – there have been no major accounting violations in the US since SOX came into effect with the notable exception of financiers Madoff and Stanford and their Ponzi schemes. But in both of those cases the SEC which should regulate these matters missed clear warning signals – and in the case of Madoff, the accounting contrivances was by one party. But most important, no major bank or insurance company tried to pull an accounting fast-one in the current debacle.  Again, an exception has to be noted: in the current 1s Quarter 2009 reports by banks there is general acknowledgement by financial analysts that the books were cooked legally , but nonethless “made more profitable and therefore palatable”. So the banks of their own accord  made incredibly stupid risk-return bets which were aided and abetted by false confidence in hideously complex risk analytics, extremely lax regulations by the SEC and other financial controllers plus very rosy and compliant ratings from agencies like Moodys and Standard+Poors. But the banks  financial numbers were largely not cooked or falsified. In short SOX worked to prevent accounting fraud that could have disguised and then enabled  a wholescale financial collapse.
 

 


So why this elaborate praise of SOX – what does it have to say about the current financial debacle? SOX is important because it worked as much as it could. SOX did not stop the financial crisis because  bankers and financiers were aided by lax regulations by the SEC and other financial controllers plus very rosy and compliant ratings from private agencies like Moody’s and Standard+Poors.  But SOX did help  prevent financial accounting fraud by banks that could have made the current crisis a wholescale financial collapse. So not accounting but the financial regulators, both the industry’s own plus goverment agencies proved woefully inept in doing their basic duties – it is eerily like the pre-9/11 myopia of President Bush and his key advisors to the al Qaeda threat. So this is why SOX is important because it supports the argument that simple regulations often work better, particularly when they have an underlying rational. Everybody in the large financial institutions clearly understood that falsifying financial accounting just would not wash and would have tough retribution (just ask a few Enron, Worldcom, Adelphia and other top executives).But it also underlines the fact that no regulations will work if the watch dogs and agencies responsible have been compromised.<hr> But the Financial community has and continues to argue against SOX.  Deregulation has worked well for them, if not their clients. But the SOX continues to garner praise for effectiveness from diverse quarters including Alan Greenspan, IT Security experts, and foreign companies. There is a growing recognition that the internal controls that the law requires also helps companies streamline their operations and makes them more responsive to changing conditions ion their markets. There is a growing consulting industry working to make Sarbanes Oxley more productive in a broad set of contexts yet delivering lower costs for the efforts. So if you hear beech beech beeching about SOX either be suspicious of the complainer or take it with a grain of salts. SOX is doing very well, thank you – like President Bush it can claim no major attack on the US and its accounting system in the last 7 years since it was enacted by George W.

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