"Arbitrary and Capricious"

The past year hasn’t been kind to financial market regulators – several high-profile court decisions have set them back on their heels:

• In June, a U.S. appeals court in New Orleans threw out a Securities and Exchange Commission rule intended to give investors more transparency into private funds. The rule would have required fund managers to issue quarterly performance and fee reports and perform annual audits.
• A July ruling by two Federal district courts in Texas stayed the effective date of the Department of Labor’s most recent attempt to impose a new fiduciary standard on financial advisors. The courts noted that the DOL exceeded its regulatory power in way that was “arbitrary, capricious, and irreconcilable” with existing law.
• A Missouri federal court knocked down an attempt to require financial professionals who incorporate “a social objective or other nonfinancial objective” into their investment advice to disclose this to their customers and obtain the customers’ written consent. The court determined the rules to be unconstitutional under the First and Fourteenth Amendments.
• Most recent is a ruling by a federal judge in Texas overturning a Federal Trade Commission ban on non-compete agreements, describing the ban as “arbitrary and capricious because it is unreasonably broad without a reasonable explanation.”

All of these cases follow on the heels of the U.S. Supreme Court’s landmark ruling earlier this year in the so-called “Chevron deference” case, which knocked down a long-standing precedent that gave regulatory agencies wide discretion in how they implemented laws passed by Congress.

And regulations continue to come under fire from numerous lawsuits. For example:

• Citadel Securities and the American Securities Association are suing Wall Street's top regulator over new rules on the funding of a comprehensive market data surveillance system known as the consolidated audit trail (something Steve Booth and I discussed at the SIFMA 2023 Annual Meeting).
• A host of litigants are challenging the SEC’s proposed climate disclosure rules, including the U.S. Chamber of Commerce, a coalition of 10 states, and oilfield services companies Liberty Energy Inc. and Nomad Proppant Services.

What’s especially interesting is that this regulatory excess hasn’t gone unnoticed by the Supreme Court. In his new book Over Ruled: The Human Toll of Too Much Law, Justice Neil Gorsuch explores the default propensity to overregulate, particularly in the financial sector of the economy. He puts an interesting spin on the issue, pointing out that regulations aimed at protecting “ordinary Americans” ironically create opportunities for gaming the system. “The money and connected can find their way through a maze of litigation and a maze of regulation,” he recently told New York Times columnist David Brooks. Noting “the federal government adds 60,000 to 70,000 pages to the Federal Register every year,” Gorsuch asks the key question: “Who’s most able to … operate in a world where edicts change every week, where the law changes every week, quickly, all the time?”