Rule Dynamics Competing Pressures in Norm Formation: Effectiveness Erosion of Control Systems in the Securities Industry Ignacio J. Martínez-Moyano and David P. McCaffrey, Ph.D. 8 th MIT-UAlbany System Dynamics PhD Research Colloquium Sloan School of Management, MIT April 30th, 2004 Cambridge, MA
Ignacio J. Martínez-Moyano and David P. McCaffrey, Ph.D.
Feb 01, 2016
Rule Dynamics Competing Pressures in Norm Formation: Effectiveness Erosion of Control Systems in the Securities Industry. Ignacio J. Martínez-Moyano and David P. McCaffrey, Ph.D. 8 th MIT-UAlbany System Dynamics PhD Research Colloquium Sloan School of Management, MIT April 30th, 2004 - PowerPoint PPT Presentation
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Rule DynamicsCompeting Pressures in Norm
Formation:Effectiveness Erosion of Control
Systems in the Securities Industry
Ignacio J. Martínez-Moyano and David P. McCaffrey, Ph.D.
8th MIT-UAlbany System Dynamics PhD Research Colloquium
Sloan School of Management, MITApril 30th, 2004Cambridge, MA
Overview
Purpose of the Research The Case Dynamic Hypothesis
Financial SectorThe Problem and Motivation
Incredible attempts to change the way business is run in the Financial Sector that seems to be not effective.
Sustained increment in sanctions (leading to the $1.4 billion settlement between SEC and financial firms related to the Research Analysts’ Case)
Financial SectorThe Problem and Motivation
Managers in Financial Firms are subject to pressures to produce and pressures to comply with the rules
Financial Firms are interested in playing fair and square to (1) gain reputation in the market, and (2) to protect the market.
Financial Firms are interested in avoiding regulatory action against them.
Purpose
Elaborate a Dynamic Theory of Compliance in Securities Industry
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1987 1991 1995 1999 2003
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are
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illio
ns)
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rad
es (
tho
usa
nd
s)
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Do
w J
on
es In
du
stri
al A
vera
ge
NYSE ShareVolume (millions)
NYSE Trades(thousands)
Dow JonesIndustrialAverage
Market Behavior
Policy Structure in Financial Sector with Multileveled Control Mechanisms
Expertise regarding regulated activities
Favoring of public interest
considerations
Producer Self - Restraint
Internal Controls
Self - Regulatory Organizations
Private Litigation
Public Regulation
Legislation
Market Controls
Layers of Control… Self-regulatory Organizations
NYSE, NASD Public Regulators, Prosecutors
SEC oversees SRO’s (NYSE, NASD) SRO’s oversee and set rules for
Broker-Dealer Firms
Layers of Control…Attorney representing firms:
“[Representative John] Dingell beats on the SEC, the SEC beats on the Exchange, and the Exchange beats on us.”
Congress Can redefine the rules and exert pressure
on the system for change.
Data SEC’s Documentation of the $1.4 billion
“Research Analysts’ Case” settlement with financial firms
Supplementary data from NYSE, NASD, and other sources
Legal cases, industry conference proceedings, reports, Congressional hearings, trade press, and other documents
Interviews with individuals across different levels of regulatory system and experts in securities regulation
Coding of NYSE disciplinary cases: Cases from 1990-2003
Securities Civil Lawsuits and Class Actions and Securities Arbitrations Filed, 1975-2003
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8000
10000
12000
1975
1977
1979
1981
1983
1985
1987
1989
1991
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1995
1997
1999
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2003
Year
Civ
il A
ctio
ns
and
Arb
itra
tio
ns
0
100
200
300
400
500
600
Cla
ss A
ctio
ns
Total ArbitrationCases Received
Civil Suits InitiatedUnder FederalSecurities andCommodities Laws
Federal SecuritiesFraud Class ActionLawsuits Filed
Enforcement and Disciplinary Actions by Securities and Exchange Commission and Securities Industry Self-Regulatory
Organizations (SROs), 1985-2002
0
500
1000
1500
2000
2500
3000
1985
1987
1989
1991
1993
1995
1997
1999
2001
2003
Year
To
tal
Nu
mb
er
TotalEnforcementActions
Final SRODisciplinaryActionsReported toSEC
Total Corporate Underwritting
0
500
1000
1500
2000
250019
90
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
Time
$ Bi
llion
s Total CorporateUnderwitting
Hypothesis
Pressure toComply with the
Rules
Number of DealsDone (Activity
Stream)
Extent ofProblems
+
B
Relevance ofProblems
+
ProducersPerception of
Problems+
+
Self-ControlLoop
Producers ProblemThreshold
-
Actual RuleCompliance
+
-
Pressure toComply with the
Rules
Number of DealsDone (Activity
Stream)
Extent ofProblems
+
B
ControllersPerception of
Problems+
Relevance ofProblems
+
ProducersPerception of
Problems+
+
Self-ControlLoop
Relevance ofProblems to the
Controller
+
+
ControllersProblem Threshold
Producers ProblemThreshold
-
-
InternalControl Loop
B
Actual RuleCompliance
+
-
-
Pressure toComply with the
Rules
Number of DealsDone (Activity
Stream)
Extent ofProblems
+
B
ControllersPerception of
Problems+
Relevance ofProblems
+
ProducersPerception of
Problems
Clients Perceptionof Problems
+
++
Self-ControlLoop
Relevance ofProblems to the
Controller
+
+
Relevance ofProblems to the
ClientControllers
Problem Threshold
Producers ProblemThreshold
-
-+
Clients ProblemThreshold
-
+
InternalControl Loop
Market ControlLoop
B
B
Actual RuleCompliance
+
-
-
Pressure toComply with the
Rules
Number of DealsDone (Activity
Stream)
Extent ofProblems
+
B
Effectiveness of theInternal Control
System
Pressure to Increase theEffectiveness of the
Control System
+
ControllersPerception of
Problems+
+
Effectiveness of theRegulatory System
+
Relevance ofProblems
+
ProducersPerception of
Problems
Clients Perceptionof Problems
+
++
Status of theMarket
Self-ControlLoop
Relevance ofProblems to the
Controller
+
+
Relevance ofProblems to the
ClientControllers
Problem Threshold
Producers ProblemThreshold
-
-+
Clients ProblemThreshold
-
+
InternalControl Loop
Market ControlLoop
B
B
Actual RuleCompliance
+
-
+
-
+
+
+
-
Pressure toComply with the
Rules
Pressure toProduce
Number of DealsDone (Activity
Stream)
Extent ofProblems
+
B
Effectiveness of theInternal Control
System
Pressure to Increase theEffectiveness of the
Control System
+
ControllersPerception of
Problems+
+
Effectiveness of theRegulatory System
+
Relevance ofProblems
+
ProducersPerception of
Problems
Clients Perceptionof Problems
+
++
Status of theMarket
Self-ControlLoop
Relevance ofProblems to the
Controller
+
+
Relevance ofProblems to the
ClientControllers
Problem Threshold
Producers ProblemThreshold
-
-+
Clients ProblemThreshold
-
+
InternalControl Loop
Market ControlLoop
B
B
Actual RuleCompliance
+
-
+
-
+
+
+
-
Actual DealProduction
+
+
-
-
Some Inferences Control Systems vary
in Effectiveness Interactive Layers of
Actors in the System manage to deal with complex problems through informal ‘networked’ arrangements
Also, informal networks can come to “live with” certain questionable practices (the “normalization of deviance”)
Control Systems seem to respond to ‘external’ shocks from other layers in the system.
Modeling Effort—Financial Sector
Mix of: Rule-following preferences Propagation of changes in systems of rules Erosion of compliance standards (change in
norms) Erosion of risk-perception capacity
Questions?
Thanks!
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