Litigiousness and Gatekeeper Scholarship

Law and scholarship on capital market gatekeepers rely mainly on liability threats to promote gatekeeper effectiveness.  The literature struggles with individual versus enterprise liability, strict or negligence-based, compensatory versus deterrence, joint versus several, fines versus jail terms and so on.  Come Fall, the Supreme Court, in Stoneridge Investment v. Scientific-Atlanta, will reexamine aiding and abetting liability for secondary actors under its Central Bank decision. 

The preoccupation with sticks for gatekeepers could reflect US litigiousness or an occupational hazard of legal scholars.  Whatever the reason, a new approach emerging in the literature looks to carrots instead.  Examples are Tamar Frankel’s recent Business Lawyer piece, David McGowan’s California piece and my own forthcoming Minnesota piece.

The intuition behind rewarding gatekeepers using carrots rather than merely threatening with sticks follows the intuition behind incentive compensation used in other contexts.  Examples are stocks options for executives and contingent fees for bankers in takeovers.  Both can actually create perverse incentives, with managers using aggressive accounting and bankers blessing deals not in the client’s best interest. 

To correct for such perversions, as Warren Buffett quipped, “If I’m going to pay $5 million to somebody if they give me the advice and the deal goes through, then I think I probably ought to pay $5 million to somebody else whose advice I listen to who gets paid the $5 million only if the deal doesn’t go through.”  Similarly, if shareholders pay executives incentive compensation to achieve performance measures, they should be willing to pay gatekeepers incentive compensation to assure that such performance goals are achieved using fair reporting. 

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