With Enron and WorldCom fading from memory and their perpetrators behind bars, the members of the Securities and Exchange Commission are being accused of tilting toward business interests and away from investors. But is that inevitable? It might well be, according to a paper from Washington DC attorney Erik F Gerding.

In his paper, The Next Epidemic: Bubbles and the Growth and Decay of Securities Regulation, Gerding puts up a very strong case that the winding back of Sarbanes-Oxley is just the start of an historic cycle in the periodic growth and decay of securities law. Gerding argues that during a bubble, securities law is wound back amidst strong political pressures to deregulate financial markets and dilute securities regulations. This is accompanied by epidemics of widespread securities fraud which are usually discovered once the bubble has collapsed. When each bubble bursts, there is a sharp political reaction and the politicians introduce sweeping regulations back to the capital markets.

Gerding examines this pattern in six bubbles and bursts: the 1690s English stock market boom; the South Sea Bubble; the Gilded Age bubbles in the United States: the Panic of 1869 and the railway Boom of 1863; the 1920s Stock Market; the 1960s Boom in Conglomerate Stocks; the 1990s Bubble that culminated in Sarbanes-Oxley.

He argues that the Sarbanes-Oxley critics who say the law won't stop fraud are right, but for the wrong reasons.

"In this light, the regulations of the Sarbanes-Oxley era have little prospect of addressing the next epidemic of securities fraud. First, these regulations are likely to be diluted by lawmakers and regulators as political pressure build... the first signs of the political/regulatory cycle shifting direction have appeared. Second, the deterrent effect of these regulations will be undercut by the dynamics of the next bubble as compliance deteriorates."

The key, he says, is to design a securities law regime that takes these forces into account. Failure to do that could be disastrous the next time around, he warns.

"The principal flaw in Sarbanes-Oxley is not in any of its provisions, but in that it represents just another episode of new securities laws designed to re-fight the last war by seeking to prevent the unique schemes just committed.

"Sarbanes-Oxley is likely to be revisited and revised; if not now, then when memories of Enron and other recent scandals recede even further. The political market will inevitably shift and lay the groundwork for future deregulation of the financial markets. And securities law, which has grown so much in the last five years, will again decay with the next stock market bubble.

"A failure to confront the periodic growth and decay of securities law leaves capital markets vulnerable to the next epidemic of fraud. US markets may not be as fortunate with Enron's successors; the next epidemic of fraud and the next stock market bubble collapse may trigger a cataclysmic blow to investor confidence and investor trust in the integrity of the capital markets."