[nickff]

I agree that it's an incentive problem, and that it is directly analogous to what happened with the ratings agencies, but I don't think regulation will help much.

Auditing worked when the shareholders were paying for it, because they were interested in getting 'tough' reports, and they were holding the auditors to account. As soon as you make it mandatory, and the companies are paying for it, the audit becomes de rigueur; more of a formality than a search for truth. I don't think regulators are part of the solution here.

I think that having 'crowdfunded' audits by shareholders would work much better, but it probably won't happen while audits are required for all public companies. You'd have to put the onus of auditing back on the shareholders, and expect that some results will go un-audited.

[maxmax]

Regulations would help if they were truly enforced and, in the case of fraud, criminal charges were pursued. White collar prosecutions are so rare, there is no longer any real deterrent.

[nickff]

I am not sure how regulation will really solve a problem of incentives. I know that locking up corporate executives is very popular, but I don't think it works. You just end up with a bunch of audits that are technically correct, but fail to detect big problems.

I recently read "The Smartest Guys in the Room", and I'm not sure how you regulate that kind of problem out of existence; I don't think Sarbanes–Oxley really fixed it, but I am not sure regulations really can. Look at Theranos and Nikola; these should have been found out earlier, but their deceptions were not covered by auditors.

[maxmax]

Of course there will still be fraud, but enforcement of regulations provides powerful disincentives to cheat. Right now it's wild west, and when systemic risk shows up, the Fed bails everyone out without consequence.

[nickff]

I don't think regulations can get rid of systemic risk, but maybe that's because of how I see systemic risk issues. Most of those huge market corrections seem to be due to massive mistakes made simultaneously by a lot of people. The 2006 crisis is a great example, where investors thought real estate markets in different states were independent of each other, which turned out to be incorrect.

[maxmax]

The real estate bubble and the financial crisis in 2008 that followed was due to oversight failure, pure and simple. Rather than address that failure, the government bailed out everyone.

It wasn't magic.

[nickff]

The regulators were relying on the same assumption (of uncorrelated real estate markets state-by-state) by the credit ratings agencies.

The investors, ratings agencies, and regulators all believed in the same incorrect assumption. If that assumption had been correct, the crisis would never have happened.