Well, well, the auditors totally blew it again. Despite plenty of red flags, blue-chip auditing firm PriceWaterhouseCooper whiffed big time on the Satyam fraud. Of course, the SEC is hardly any better, having missed the Madoff fraud, despite warning after warning after warning.
So let’s fix both the auditor problem and the useless SEC in one fell swoop.
First, we nuke the SEC. This isn’t really that radical. There’s precious little evidence that it does what it purports to — namely, protect investors. If anything, it protects investment managers and others from investors, who might suspect they’re getting ripped off. Sure, it can catch the occasional insider trading case, but they’re usually pretty obvious when you see a massive trade right before big news comes out.
Second, we stop letting companies hire their own auditors. Companies have little incentive to hire aggressive auditors. An auditor won’t get business by being a pain in the arse to the company it’s auditing. The game is to do the bare minimum that makes everyone happy. That state of affairs works fine in the boom times, but when the recession comes, the whole charade is exposed for what it is.
Finally, we make each listed company pay a fee to an independent auditing organisation. Rather than hire the auditors directly, companies will pay some portion of their revenue to an independent industry body (like the SIPC or somesuch) that then hires auditors for its member companies. The auditor would work for this group, and it’s ability to get business year-on-year would be tied to its performance. Whiff too often? You’re done. No more work for you.
Of course, this assumes that corruption and conflict of interest is the key problem. We think it is, though it doesn’t account for sheer incompetence. And yes, there would also be some corruption in a system like this — that’s inevitable.
But it would also be a more equitable way of protecting investors. Right now, everyone pays taxes to the SEC, whether you’re an investor or not. If the hedge fund industry comes under the purview of the SEC, then it gets even more inequitable, since you have everyday investors paying for the protection of the rich. A system like this means that investors in companies are paying for their own protection, which is as it should be.
If you want, you could even make the system opt-in, and companies would have to explain why they’re paying their own auditor directly, rather than go through the neutral agency. Investors could take that into account when examining companies.
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