This issue of the European Business Organization Law Review is devoted to the full range of fundamental problems in the field of law and finance. At the same time, it highlights the major disruptions of financial markets at the example of these issues. Ultimately, this raises the forward-looking question about changes for the paradigm in law and economics possibly resulting therefrom. The articles in this issue originate from papers and proceedings of the kick-off conference for the new doctorate and PhD programme at the Goethe University on ‘Law and Economics of Money and Finance in Times of Financial Crisis’, which took place at the House of Finance/Goethe University of Frankfurt on 15 and 16 May 2009. As programme directors and organisers of the conference, we are proud and delighted that so many outstanding scholars from Europe and the United States agreed to present a paper and participate in the ensuing, most lively discussions, thus contributing to a very prolific intellectual exchange and a very successful kick-off of our programme to be launched this fall term.

After a slow start, the European Company (Societas Europaea – SE) has become increasingly popular. Besides documenting the growth of this new company type, we examine whether firms choose to incorporate in the SE corporate form because they engage in ‘legal arbitrage’ by exploiting differences in legal rules between jurisdictions. We specify a number of hypotheses on particular legal arbitrage motives. To validate our hypotheses, we use a broad telephone survey among SE users in Germany as well as a simple country-level regression model based on a unique, hand-collected dataset on SE incorporations. We find strong evidence that firms use the SE to mitigate the effect of mandatory codetermination rules. Establishing a one-tier board structure (in jurisdictions that impose a two-tier structure on their national public companies) and taking advantage of the SE's mobility for tax purposes also seem to be driving SE formations. By contrast, our analysis fails to support the suggestion that firms use the SE to shop for the most favourable national company law to fill the gaps in the SE Regulation.

The financial crisis has reignited the debate on how to best strike a balance between private ordering and regulatory intervention. As a matter of legislative technique this requires a policy decision whether a ‘rules’ or a ‘principles’ approach should be pursued. It is therefore with considerable foresight that Professors Lord Eatwell and Kern Alexander of the Judge Business School at the University of Cambridge organised a conference on ‘Principles v. Rules in Financial Regulation’, which took place in Cambridge from 11 to 12 April 2008. This issue carries a conference report by Kern Alexander and major contributions by Steven L. Schwarcz, Edward J. Kane and David G. Mayes.

This essay takes stock of the corporate governance reform efforts in which Italian policy makers have engaged since the beginning of the 1990s. After describing the reform process and its drivers (a concern for Italian equity markets' attractiveness in an increasingly competitive and global framework, scandals, and EC activism) the essay analyses the main reforms to single out what has worked (i.e., what has had a practical positive impact on Italian listed companies' corporate governance) and what has not. After concluding that the corporate governance legal framework has greatly improved as a result of reforms, the essay identifies a number of areas where further steps could be taken to protect investors against the risk of expropriation by corporate insiders. It is also argued, however, that the mother of all corporate governance reforms in Italy would be a change in legal and political culture; legal culture should change so as to put substance over form, function over doctrine. That would be a precondition to effective enforcement of corporate and securities laws. Political culture should change from one that deems it to be the norm for politicians to decide on the allocation of corporate control to one more respectful of property rights. Finally, two modest, bottom-up proposals to help change legal culture in the long run are put forth.

We apply the paradigm of the firm as a nexus of contracts to the debate on regulatory competition vs. unification of law as an alternative way of regulating the business corporation. This approach views the business corporation as a set of coordinated contracts among different parties. Agency problems and related agency costs are the result of this interaction. The economic analysis of corporate law, securities regulation and bankruptcy law identifies law as a means to minimise such agency costs. In this paper, we develop a model where companies are heterogeneous in their preferences about the legal regulation of contractual relationships. We then compare a regime of regulatory competition with one of single supply of regulation and we analyse their relative costs and benefits.

The European Business Organization Law Review presents three articles, by Schwarcz, Kane and Mayes, analysing some of the main issues regarding principles versus rules in financial regulation. These articles result from papers presented at a symposium in April 2008 entitled ‘Principles v. Rules in Financial Regulation’ organised by the Centre for Financial Analysis and Policy and the Centre for Corporate and Commercial Law Studies at the University of Cambridge. The symposium attracted academics, policy-makers, regulators and practitioners from several leading jurisdictions representing a range of disciplines including accounting, economics, finance and law, who were invited to present papers on specific areas of the principles-versus-rules debate in financial regulation and to discuss the impact of the global credit and financial crisis on principles-based regulation.

The Financial Market Stabilisation Act of 2008 and the Supplementary Financial Market Stabilisation Act of 2009 allow the German state to gain unlimited control over banks of systemic importance. The emergency character of both acts is to be understood against the background of the turbulences of the financial crisis and the short time span available for bank rescue. Prior to the Acts, neither German insolvency law nor company law nor capital market law provided the means to safely restructure troubled banks. The content and evaluation of these state interventions in the banking sector under the pressure of the financial market crisis are relevant not only for Germany, but in a broader international context.

The first mechanism to obtain unlimited control over banks of systemic importance, which has been applied in the takeover of Hypo Real Estate in 2009, relies on company and takeover law instruments such as capital increases and squeeze-outs. These instruments have been modified by the two Financial Market Stabilisation Acts as regards state-initiated takeovers of systemically important banks. However, these modifications and additional measures, e.g., for combating shareholder strike suits, raise doubts on their compatibility with EC law and German constitutional law. Indeed, actions at the German Federal Constitutional Court are already pending.

The second mechanism to obtain unlimited control involves expropriating the shareholders of systemically important banks. This comes with advantages such as transactional certainty and compliance with EC law. However, expropriation touches on the fundamental principles of the German economic order and especially on the constitutionally guaranteed right of ownership. The Rescue Takeover Act, which has been introduced by the Supplementary Financial Market Stabilisation Act, does not breach this constitutional guarantee. However, great care has to be taken in the application of the Act in the individual case.

This essay, prepared for a University of Cambridge conference on ‘Principles Versus Rules in Financial Regulation’, posits a new issue in that debate. Although principles-based regulation is thought to more closely achieve normative goals than rules, the extent to which that occurs can depend on the enforcement regime. A person who is subject to unpredictable liability is likely to hew to the most conservative interpretation of the principle, especially where that person would be a potential deep pocket in litigation. This creates a paradox: unless protected by a regime enabling one in good faith to exercise judgment without fear of liability, such a person will effectively act as if subject to a rule and, even worse, an unintended rule.

The governance of finance is replete with challenges as evidenced by the frequent financial crises that have accompanied the growth and development of financial markets. Every crisis can be taken as a symptom of governance failure. The immediate reaction tends to be an attempt to fix the problems that gave rise to the most recent crisis. By definition, such a regulatory approach lags behind actual developments on the financial marketplace, thereby inadvertently sowing the seeds for the next governance failure. A similar lag effect can be observed in current attempts to repair the governance of global finance. This paper argues that reform proposals currently under discussion fail to take into account important changes in the organisation of global financial relations between financial intermediaries, their home governments and sovereign wealth funds (SWFs). They challenge the basic principles that inform conventional regulatory regimes: a clear distinction between public vs. private; regulation vs. firm-level governance; and stakeholding vs. supervision. The paper discusses alternative modes of governance that have emerged during the crisis and are complementing for, if not substituting, more conventional forms of governance.

A wave of company law reform has swept across Europe and has now reached Denmark, where a proposal for a new combined companies act has been put forward and will soon enter the legislative process. In this article, the driving forces behind these reforms are explored. They are: the freedom to choose among the company law regimes of the European Union that follows from the case law of the EC Court of Justice; the demise of the doctrine of protection of capital; and the increasing insignificance of the distinction within company law between public and private limited companies. The main tenets of the Danish reform are: the introduction of a combined companies act to cover both the public and the private limited company; the possibility to choose between the main corporate governance models known in European company law, which, in combination with the possibility to use English at board meetings, the general meeting of shareholders and in public documents and accounts, should cater to the needs of cross-border business and investment; and a relaxation of the capital regime allowing limited companies more freedom in deciding the structure of their share capital and the distribution of control.

Simplifying business formalisation and eliminating outdated formalities is often a good way of improving the institutional environment for firms. Unfortunately, the World Bank's Doing Business project is harming such policies by promoting a reform agenda that gives them priority even in countries lacking functional business registers, so that the reformed registers keep producing valueless information, but faster. Its methodology also promotes biased measurements that impede proper consideration of the essential tradeoffs in the design of formalisation institutions. If Doing Business is to stop jeopardising its true objectives and contribute positively to scientific progress, institutional reform and economic development, then its aims, governance and methodology need to change.

Sovereign wealth funds have been investing governments' foreign assets for decades, although it is only in recent times that such funds have emerged as managers of large ‘excess reserves’. Since the crisis however, the sources of funding for sovereign wealth funds have evaporated, while advanced economies are competing for capital injections from these funds. At the same time, the concerns about excessive investment of sovereign wealth funds in advanced economies that were widespread prior to the crisis, are now being voiced less frequently. Against this background, this article provides a reassessment of the growth prospects of sovereign wealth funds. Although the growth path for these funds indeed needs to be revised substantially, there are no grounds to believe that sovereign wealth funds will become less important players in global financial markets over the future, as the structural drivers behind the accumulation of large foreign assets in emerging economies remain in place. Hence, sovereign wealth funds are likely to continue growing and increase their relative importance in global financial markets. Therefore, it remains imperative to resume the efforts – that seem to be partly halted by the current economic and financial crisis – to build a global governance framework for sovereign wealth funds.

This paper traces the financial-institution crisis of 2007–2008 to a breakdown in the incentives of regulators, supervisors, managers and investors to perform adequate due diligence on securitised investments. Investors allowed their trust in the reputations of credit-rating firms and the giant financial firms that manufactured highly rated tranches of securitised loan pools to blind them to the casino ethics of these firms' managers and line employees.

Government credit-allocation schemes generate incentive conflicts that undermine the effectiveness of government supervision and eventually produce financial crisis. For political reasons, most countries establish regulatory arrangements that embrace three contradictory elements: (1) politically directed subsidies for selected borrowers (US beneficiaries have included homeowners and builders); (2) subsidised provision of explicit or implicit repayment guarantees for the creditors of financial institutions that participate in the credit allocation scheme; and (3) defective government monitoring and control of the subsidies to leveraged risk-taking that the other two elements produce. The competition encouraged incentive-conflicted supervisors to outsource much of their due discipline to credit-rating firms and accountants. This outsourcing encouraged institutions to leverage and securitise their loans in ways that pushed credit risks on poorly underwritten loans into corners of the market where supervisors and credit-rating firms were not obliged to look for them and in fact failed to discern the dangers posed until it was too late. That taxpayers are forced to pay the bill for this regulatory failure is a scandal of the highest order.

Private equity has become a multi-trillion dollar business in recent years, but its rapid growth has been accompanied by public controversy and calls for regulation. I review the policy debate, from voluntary best practice codes of UK private equity firms to proposals for supervision and control by continental European socialists, and analyse the economic case for regulation. I find little evidence of market failure and strong arguments for private ordering by investors, banks and labour unions, who appear to have both the ability and the incentives to safeguard against managerial conflicts of interest, excessive debt and other maladies. In contrast, it is doubtful whether politicians have sufficient information to fine-tune activity in this area, and more or less unpredictable policy changes may cause significant harm to business confidence. Altogether, the case for regulation is weak. However, if political pressures to ‘do something’ are overwhelming, as they currently appear to be, greater disclosure and transparency may be the least costly alternative.

This article considers the nature of the rules that would need to exist to enable a satisfactory regulatory regime for cross-border banks in Europe in the light of the present crisis. It sets out first what would need to apply in normal circumstances when banks are sound before going to consider how earlier coordinated intervention and ultimately resolution before capital is eroded can be achieved. It suggests in particular that harmonising the detail of regulatory systems would be very time-consuming but not strike at the heart of the problem which is how countries can cooperate across legal boundaries and the structure that banks would need to have to make this feasible. It concludes by exploring the institutional structures that might make this possible, suggesting that if any new European level body is needed, the most important would be a resolution agency as demonstrated by US experience.

This is a case study of the German securities regulator's (BAFin) decision on the Schaeffler case of 21 August 2008, which concluded that the Schaeffler Group's strategy for building up a controlling stake in Continental AG did not violate German disclosure rules. Moreover, it assesses whether the Schaeffler strategy would have been disclosed if the amendments to the German disclosure rules made by the Risk Limitations Act of 21 August 2008 had been in force at the time Schaeffler built up its swap position in Conti. In contrast to BAFin's decision, I hold that Schaeffler's swap long positions prompted disclosure requirements under the ‘holding on behalf’ provision of Article 10(g) of the European Transparency Directive 2004/109 as implemented in German securities and takeover law. While BAFin's decision was subject to the specifics of the case at hand, inadequate enforcement rules help explain why Schaeffler took the risk of regulatory action in the first place. Rather than relying on ex-post enforcement, I argue in favour of developing a self-regulatory, ex-ante enforcement scheme using the model provided by antitrust leniency programmes.

Electronic communications operators can be exposed to two types of ex ante measures – merger remedies and regulatory measures. Although in a merger control procedure competition authorities prefer structural remedies, these seem to be less adapted to the electronic communications sector, since communications operators naturally tend to concentrate. Given that the electronic communications sector is characterised by economies of scale and a network effect, behavioural remedies seem more appropriate. In EU sector-specific legislation, regulatory measures that can be imposed on operators with significant market power can be defined as behavioural as well. This can make the difference between the two types of measures even vaguer. However, the difference should be found in the very purpose of state intervention. Competition law should not be used to make an existing market more competitive, unless some element of the market is illegal. Conversely, regulation only requires that some form of conduct is considered undesirable for some reason (it need not necessarily be illegal). Unfortunately, on several occasions, the European Commission (mis)used competition law powers to regulate the market. Should this approach be applied extensively, it would result in the creation of what could be defined as hybrid competition law.

The global financial crisis has revealed significant weaknesses in resolution regimes for large and internationally active financial institutions. The nub of the problem is the mismatch that exists between the way institutions are organised and operate, the way they are regulated and supervised and the way they are resolved in a crisis. The Lehman case illustrated that the greater the integration of individual entities into the operations of the wider group, the greater the challenges in achieving an orderly resolution. In a crisis it is legal entities rather than business lines that fail, and it is the legal entities that will be liquidated in separate and territorially-based proceedings. It is unrealistic to expect the creation of a global regulatory authority or an overarching international insolvency framework for cross-border financial groups in the foreseeable future. In light of the quasi-insurmountable obstacles to achieving a framework that adapts legal and regulatory frameworks to the economic reality of complex group structures and allows for a coordinated (or even consolidated) resolution of global financial institutions, this paper proposes an alternative approach. In order to reduce the complexities in resolution it suggests changes to the way in which financial groups structure themselves and conduct their operations.