The foregoing disadvantages notwithstanding, private enforcement of public securities law and regulations can provide a number of benefits, and in many cases can be productive rather than counter-productive for at least three reasons. First, private enforcement facilitates a more efficient allocation of resources by providing resources additional to those of the regulatory enforcement framework. Second, private enforcement can provide a check on public agencies preventing them from shirking their responsibilities. Third, private enforcement can facilitate a reduction in the ambiguity associated with the writing of financial contracts, and hence reduce costs. Whereas these advantages do not necessarily refute or negate the benefits associated with public enforcement discussed above, they suggest that there is a case for private enforcement having a role in supporting a regulatory regime which public enforcement cannot fulfil.
a. Providing additional resources for enforcement
Public agencies have limited budgetary discretion and must work within limited resources to enforce the law adequately. Enforcement by private parties would increase the resources available to law enforcement and hence reinforce government enforcement efforts.247 Limiting the role of private enforcement or relying on public enforcement alone would place more pressure on regulators to be ‘the sole guardians of statutes’.248
The resource constraint on public agencies make them unable to bring every case which is considered important, and many factors need to be considered in deciding whether or not to bring an action such as the extent of the harm, the deterrent
247 Barry Boyer and Errol Meidinger, ‘Privatizing Regulatory Enforcement: A Preliminary Assessment of Citizen Suits Under Federal Environmental Laws’ (1985) 34 Buff. L. Rev. 838
248 Elisse Walter (n 225)
impact of the case on future conduct across the market. If private enforcement is not available, legally unacceptable behaviour may go uncorrected and may fail both to deter wrongdoing and improve standards of quality and safety within securities markets. Consequently, fewer agents within the economy would be willing to engage with securities markets due to lack of trust in the behaviour of service providers or issuers.249
In short, it could be argued that there are cases which, even though public agencies consider them socially and economically worth enforcing, due to resource constraints they are unable to pursue. Private enforcement, therefore, could arguably provide the needed resources in these areas.
b. Private Enforcement as a Check on Lax Enforcement
Another potential benefit of private enforcement is that it can correct any laxity in enforcement by the public enforcement agencies. Lax enforcement refers to the tendency of government regulators to underenforce a statute or statutory requirements as a result of political pressure, lobbying by regulated entities, or the self-interest of the regulators themselves.250
Research on the subject of private enforcement of public laws points out that private actions can address lax enforcement by public agencies in two ways. Firstly, private lawsuits can be a substitute for the enforcement actions of the agency.251 Secondly, and indirectly, a private lawsuit ‘can prod an agency into action, either by
249 Iain Ramsay, Rationales for Intervention in the Consumer Market Place, (Office of Fair Trading 1984) 15
250 Stewart and Sunstein (n 243) 1294
251 Matthew Zinn, ‘Policing Environmental Regulatory Enforcement: Cooperation, Capture, and Citizen Suits’ (2002) 21 Stan. Envtl. L.J. 133, 134
shaming it or by forcing it to intervene to take over the management of those private suits where the government cares about the outcome.’252
Moreover, though this justification for private enforcement is most often associated with legislative distrust of the executive branch, it is likely that in some cases, due to lack of resources, the agency is unaware of non-compliance or statutory breach by regulatees. The ability to detect violation is necessary for effective enforcement, and private parties are more likely to be better positioned than public agencies to detect violation or non-compliance since they are directly affected by a defendant’s conduct or misconduct.253 For these reasons, it is argued that the policing of statutory violations provided by private parties is more likely to be of benefit since the latter are well-informed and have sufficient incentives to bring suits.254 By permitting private enforcement, an incentive for victims is created to ‘detect, report and assist in the apprehension and prosecution of violators’.255
Moreover, lax enforcement can seriously undermine the price functioning of securities markets. It was noted previously in Part I that one function of securities markets in a market-oriented economy is price discovery for credit, liquidity, events, risks and management. Hayek points out that the most important role of prices is based on necessity; freely formed and freely adjusting market prices contain information about the plans and intentions of millions of market participants that is impossible to represent by any other means.256 Changes in prices reflect changing relative scarcities of input factors, goods, and services, and they thereby enable market agents to plan and to bring their subjectively formed perceptions and
252 Stephenson (n 107) 110
253 Ibid, 109
254 Ibid, and see also Frankel. ‘‘Implied Rights of Action’ (n 245) 580
255 William Friedman, ‘One Country, Two Systems: The Inherent Conflict between China's Communist Politics and Capitalist Securities Markets’ (2002) 27 Brook. J. Int'l L. 477, 512
256 F.A. Hayek, ‘Economics and Knowledge’ (1937) 4 Economica 33, 49
expectations of the market conditions into line with reality. The impact of mis-pricing on the relations of quality in markets can cause serious economic problems. Initially, it scarcely helps that individuals incapable of differentiating between relative qualities would rely on price as a quality indicator. Providers in these cases tend to compete on prices as there is no other available indicator of the true quality of their products or services. In such circumstances, it is highly likely that this may lead to a general depression of quality within a market and eventually the existence of the so-called
‘market for lemons’.257
Therefore, given that some investors in securities markets are not always capable of feeding back their subjective preferences and wants to the markets,258 and in cases where lax enforcement exist, it would be reasonable to expect that mis-pricing in securities markets is highly likely.
c. Private enforcement and clarification of the law
There is also an advantage of private enforcement in clarifying the law. The logic of this argument is that private enforcement may decrease the costs of writing and enforcing contracts which are negotiated privately, which will subsequently increase the efficiency of securities markets by minimising both legal risk and cost of transacting.
As far as legal risk in financial markets is concerned, the premise is that financial markets cannot generally be expected to deliver outcomes in the most efficient manner if the costs and risks associated with contracting are relatively high
257 George Akerlof, ‘The Market for "Lemons": Quality Uncertainty and the Market Mechanism’
(1970) 84 Quart. J. Econ. 488
258 Neil Vidmar, ‘Seeking Justice: An Empirical Map of Consumer Problems and Consumer Responses in Canada’ (1988) 26 Osgoode Hall L.J. 757. For more illustration: Donald Mathieson and Garry Schinasi, International Capital Markets: Developments, Prospects, and Key Policy Issues, (International Monetary Fund 1999) 101
for both businesses and investors. A means to decrease costs is to increase the certainty of legal rules, which is based on the assumption that legal risks increase with the increase in uncertainty of legal rules.259 Thus, low levels of litigation may also cause a reduction in the level of legal certainty needed in relation to securities markets.
In practice, it is evident that financial markets are able to develop more rapidly than regulatory regimes or regulatory agencies. As to the general law, courts are reactive and not proactive to developments in financial markets in general, and therefore there may be cases of specific practices where there is no regulatory guidance as to a matter of dispute.260 Hence, exactly what the legal position is in relation to a new product, service or practice would remain a matter of legal speculation until this is tested before a court when a dispute arises relating to such products or services.
Thus, it could be argued that there will be a need for contracting parties to go the courts and the process will increase the clarity as to the law at this subject not only for future contracting parties, but also for the regulators.