A Transaction Cost Assessment of SEC Regulation Best Interest

Thursday, February 21st, 2019 at 10:57 pm by D. Bruce Johnsen

The U.S. Securities and Exchange Commission (“SEC”) is required to provide an economic analysis of proposed regulations and to show they plausibly meet a cost-benefit test. It recently proposed Regulation Best Interest (RBI) to replace the longstanding suitability rule for securities brokers when providing their retail clients with incidental investment advice. Despite a dearth of empirical support, the proposing release concludes that a best interest standard would better mitigate the conflicts of interest brokers face between providing their clients with impartial advice and inflating their own compensation. The empirical vacuum is a result of the SEC’s failure to ask the right economic questions, which Nobel laureate Ronald Coase raised over half a century ago: why does the rule of liability matter? What transaction costs prevent parties–who in this setting negotiate face-to-face–from correcting any market failure through private ordering? This essay provides a transaction cost assessment of RBI and concludes that a far more thorough economic analysis is necessary to justify imposing a best interest standard on retail brokers.

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Author Information

D. Bruce Johnsen is a Professor of Law, Antonin Scalia Law School, George Mason University. B.A., M.A, and Ph.D. (Economics), University of Washington; J.D., Emory University School of Law.