BECOMING A FIFTH BRANCH

Observers of our federal republic have long acknowledged that a fourth branch of government comprising administrative agencies has arisen to join the original three set forth in the Constitution. In this Article, we focus our attention on the emergence of yet another branch comprising financial self-regulatory organizations (SROs). In the late eighteenth century, long before the establishment of state and federal securities authorities, the financial industry created its own SROs. These private institutions then coexisted with the public authorities for much of the past century in a complementary array of informal and formal policing mechanisms. That equilibrium, however, appears to be growing increasingly imbalanced as financial SROs such as FINRA transform from "self-regulatory" into "quasi-governmental" organizations. We describe this change by examining how SROs have been losing their independence, growing distant from their industry members, and accruing rulemaking, enforcement, and adjudicative powers that more closely resemble governmental agencies such as the Securities and Exchange Commission and the Commodity Futures Trading Commission. We then consider the confluence of forces that might be driving this shift towards governmentalization, including, among others, demographic changes in the style and size of retail investments in the securities markets, the one-way ratchet effect of high-publicity failures and scandals, and the public choice incentives of regulators and the compliance industry. This process by which these self-regulatory organizations shed their independence for an increasingly governmental role is highly undesirable from an array of normative viewpoints. For those who are skeptical of governmental regulation, deputizing private bodies to increase governmental involvement is clearly problematic. And for those who believe recent financial problems warrant greater oversight, the elimination of an entire species of regulation impoverishes our regulatory spectrum. We therefore offer proposals for how to forestall this process.