Sarbanes-Oxley Is Business Disaster; Passage of the Sarbanes-Oxley Corporate Reform Act was supposed to stop corporate abuses, but instead it has strangled small business and slowed job growth

Insight on the News, Feb 2, 2004

Byline: John Berlau, INSIGHT

In the first weeks of 2004, just when nearly all figures indicated the economy finally was moving full-speed ahead, the government released a job-growth report that many took as disappointing. Just 1,000 new jobs had been netted in the month of December, according to the Department of Labor's survey of nonfarm payrolls.

The news wasn't all bad. The mass layoffs had all but stopped, and employment appeared to have stabilized, with the unemployment rate at 5.7 percent being the lowest level in 14 months. In a recovery, employment is considered by most economists to be a "lagging indicator," and new-jobs figures are expected to go up only after employers make investment plans because of other positive economic news. Also, as Insight has pointed out, many economists say the payroll, or "establishment" survey, understates the number of jobs by missing new businesses and the self-employed [see "The Stealth Bush Boom," Nov. 11-24, 2003].

Even so, given the other economic news, some forecasters had predicted net jobs in December would increase by as much as 150,000. "Job figures surprise analysts, investors," read the headline on Yahoo! News introducing the Associated Press story on the figures.

The job numbers did not come as that much of a surprise to many who follow small business, specifically small entrepreneurial public companies. These observers said legislation promoted to stop corporate abuses at companies such as Enron and Worldcom has burdened business generally, and new entrants particularly, with mounds of costly and complicated red tape.

"In Congress' passion to do something about Enron-like situations, once again small businesses got financially hammered," says Jack Wynn, president of the National Small Public Company Leadership Council. Citing the Small Business Administration, Wynn tells Insight that small businesses create 73 percent of new jobs. "You're not going to have job growth without small businesses," he says. "If small businesses are overburdened by regulation, it's no surprise they're not creating jobs."

The particular regulation Wynn is talking about comes from the Sarbanes-Oxley Corporate Reform Act, which defenders claim is at least partly responsible for the recent stock-market boom because it restored investor confidence. The law, referred to as Sarbanes-Oxley, passed overwhelmingly in the summer of 2002 in the weeks after the $104 billion bankruptcy of Worldcom followed by six months the $63 billion bankruptcy of Enron. Accounting shenanigans that misled and disguised the companies' debts prompted President George W. Bush and Rep. Michael J. Oxley (R-Ohio), chairman of the House Financial Services Committee, to adopt with very minor adjustments the sweeping proposals of Sen. Paul Sarbanes (D-Md.), then chairman of the Banking, Housing and Urban Affairs Committee in a Democrat-controlled Senate.

Today, Oxley and his staff still stand by the law, even though an AMR Research survey found that compliance costs will be $5.5 billion this year. "I would never argue that Sarbanes-Oxley is without cost, but you've got to understand there was $7 trillion in market capitalization that was lost," Peggy Peterson, director of communications and deputy staff director for Oxley's committee, tells Insight. "Mike Oxley has said often in speeches that he thinks and hopes Sarbanes-Oxley was helpful in restoring confidence in the market, and that it was a contributing factor to the economic recovery we've seen to date. I don't think you can specifically attribute those gains to Sarbanes-Oxley, but I think if the market were falling immediately after [passage of] Sarbanes-Oxley, people would sure be blaming it."

When Bush signed the bill at a Rose Garden ceremony in 2002, he gave it an odd form of praise for a conservative, saying it contained "the most far-reaching reforms of American business practices since the New Deal." Indeed it is far reaching, and it is costing businesses billions of dollars with very little benefit to shareholders, a growing number of critics say. Agreeing with Wynn on the impact to small business and the economy in general, Brian Wesbury, chief economist of the Chicago brokerage firm Griffin, Kubik, Stephens & Thompson, tells Insight, "It is a drag on the economy, and therefore over time we will not create as many jobs as we would otherwise."

Sarbanes-Oxley goes where the federal government has never gone before in securities regulation, not just prohibiting conduct but prescriptively mandating the duties of certain employees and board members, designing the structure of boards of directors, and dictating one-size-fits-all processes for testing internal controls for nearly all public companies. It also is displacing the traditional role of states in regulating corporate governance and may signal what University of California-Los Angeles law professor Stephen Bainbridge has called in Regulation magazine, "The creeping federalization of corporate law."