The Wall Street Journal. Classroom Edition Debating Current Issues: Regulating Financial Markets

In the early 2000s, investor confidence in the stock market was shaken by a series of scandals. To restore the faith of investors, Congress passed legislation to regulate corporate accounting.

In this debate from The Wall Street Journal Classroom Edition, Randall Dodd, director of the Financial Policy Forum, and U.S. Congressman Jeff Flake, an Arizona Republican, argue whether the market would function better with more regulation—or less.

YES Should the government increase its regulation of financial markets?

BY RANDALL DODD

Financial markets work best when investors are fully informed and the markets are free of fraud and manipulation.

In an unregulated market, investors will not have enough information to guide their investments, which should not be based on rumor. Companies have incentives not to share information, such as bad news about themselves or information about others that is not commonly known. That's why regulators require companies to fully disclose information. That way, the entire market is better informed. This results in a greater willingness of firms or individuals to invest.

U.S. financial markets did not become world-class until after regulations made them honest and more stable. Today they are suffering from a lack of trust.

Fraud and the manipulation of market prices rob investors of a fair return on their money and this discourages investment and harms the entire economy. But possible gains from cheating apparently have become more of an incentive to many than the loss of a good reputation, so the destructive activities continue.

Another reason regulations are important is because risks taken by one financial firm can harm not only that firm but other companies as well. When a business fails it harms not only its employees, clients, vendors, and creditors but also the firms that lend money to the creditors, clients, and vendors. Yet this potential loss to others does not restrain firms from taking greater risks.

In order to limit harm to others, better regulations are needed. We need new investment rules for the managers of pension funds and insurance companies. The government must regulate financial markets to protect investors, corporations, and the financial system as a whole.

Corporate accounting scandals rattled American financial markets in the early 2000s. Would new regulations prevent future scandals?

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