Court actions challenging self-regulatory organizations' constitutionality – including one targeting the municipal securities market's principal regulator – could upend the regulatory framework in the U.S., potentially igniting a financial crisis, a law professor said.
"To be clear, I don't think any judicial decision affecting an SRO in some way is going to trigger a financial crisis," said Benjamin Edwards, a professor of law at the William S. Boyd School of Law at the University of Nevada, Las Vegas. "What matters is how it affects the SRO and how it affects markets."
U.S. markets are "the largest and the deepest, and they function extraordinarily well," Edwards said in an interview. Part of the reason why is because the U.S. has a regulatory environment that penalizes fraud, he said, adding that when investors believe disputes involving financial products will be resolved fairly, it gives them more confidence to invest.
SROs play a key role on a day-to-day basis of maintaining that investor confidence, according to the law professor. In an
Not everyone is an SRO fan, however, as some recent court filings show.
"The Municipal Securities Rulemaking Board is a one-of-a-kind regulatory entity that flouts our entire constitutional structure," the American Securities Association, a trade association, said in a brief
The MSRB, which serves as the roughly $4 trillion municipal securities market's principal regulator, isn't the only SRO whose structure is being challenged as unconstitutional. On Feb. 20, Alpine Securities Corp. filed a petition with the U.S. Supreme Court seeking a review of a lower court's decision in Alpine's case against the Financial Industry Regulatory Authority.
The Supreme Court should grant the review in part to consider "whether FINRA's unusual status as the purportedly private enforcer of the federal securities laws violates the Constitution's structural provisions," Alpine's petition said.
"Over the last two decades, the Supreme Court has ruled that the leadership structures of numerous federal agencies needed to change to comply with the separation of powers," said Brian Barnes, a partner at law firm Cooper & Kirk who serves as counsel for Alpine.
No financial crisis occurred when the Supreme Court ruled in favor of plaintiffs that challenged the structures of the Consumer Financial Protection Bureau, the Federal Housing Finance Agency or the Public Company Accounting Oversight Board, "and we are confident the same will be true for FINRA," Barnes said.
A spokeswoman for FINRA said it "will oppose Alpine's meritless request for the Supreme Court to overturn the D.C. Circuit Court's decision, which rejected Alpine's attempt to halt FINRA's expedited disciplinary proceeding against it."
Alpine isn't FINRA's only critic. A chapter on financial regulatory agencies that is part of the policy agenda of the Heritage Foundation's 2025 Presidential Transition Project – a project commonly known as Project 2025 – described FINRA as "poorly managed and organized." FINRA should be abolished and its regulatory functions should be merged into the SEC, the chapter said.
Alpine's petition for a writ of certiorari is likely to be denied, "because, statistically, only about 1% of them get granted," Edwards said.
"It doesn't mean that these issues won't eventually hit the Supreme Court," he said, adding that even when it comes to Alpine's petition, "they might surprise me and take it."
Were the Supreme Court to declare SROs unconstitutional, that could "generate systemic risk," Edwards said in his "Supreme Risk" article, which was posted on SSRN, an open-access repository, in August 2021 and revised in October 2022.
"While many have discussed the social issues that might arise because of a majority-conservative Supreme Court, one critical consequence of the current Court has been overlooked: the role of the Court in generating or avoiding systemic risk," the article said.
SROs play an "enormous" role in the U.S. economy, according to the article.
"Today, SROs oversee the U.S. electrical grid, the brokerage industry, derivatives markets, securities exchanges, municipal securities, and other markets," the article said.
However, "four different constitutional doctrines, now resurging under a majority-conservative Supreme Court," could threaten SROs' existence, the article said.
"Recent judicial decisions and changes in the composition of the Supreme Court amplify the risk that federal courts may declare the SRO model unconstitutional," Edwards said in the article.
The article grouped the constitutional risks facing SROs into four categories: nondelegation doctrine risks, separation of powers risks, state action risks and Appointments Clause risks.
"Despite SRO centrality and importance, little thought has been devoted to the systemic risk that the national and global economy faces should the Supreme Court of the United States suddenly declare the SRO model unconstitutional or otherwise invalidate financial regulation," the article said. "Financial markets might collapse if SROs lost the power to enforce their rules or if the Supreme Court simply declared them void."
In the interview, Edwards, who previously practiced as a securities litigator in the New York office of Skadden, Arps, Slate, Meagher & Flom, likened SROs to private clubs.
"And because they are private clubs, they can enforce their own rules, they can move efficiently, they don't have to provide due process like a government agency would," he said. "Their funding comes from fees that are assessed against their members."
If, for example, a presidential administration decided to impose austerity measures on government that included cutting government employees' salaries, that wouldn't affect the salary of anyone working at FINRA, Edwards said.
"It may cause them to have to do more work if their counterpart at the SEC is gone," he said, but generally speaking, "the SROs are well-insulated from these kinds of political shocks."
That "separateness" is one reason why the U.S. financial system has been so stable, Edwards said, adding that he suspects that if government shutdowns also meant the shutting down of the financial markets, Congress and the executive branch "would knock that foolishness off relatively quickly."
In the brief it filed on Feb., 27, the American Securities Association asked the court to set aside an SEC order that "shortens the timeframe to report trades to the Municipal Securities Rulemaking Board to one minute."
The SEC order, dated Sept. 20, 2024, granted approval of a proposed rule change to amend MSRB Rule G-14.
In its brief, the ASA argued that the order "must be set aside because the MSRB is unconstitutionally structured in violation of the private nondelegation doctrine, Article II and the separation of powers, and the Appointments Clause."
The MSRB writes rules governing every aspect of the municipal securities market, funding itself "through tens of millions of dollars in fees and fines that regulated entities are required by statute to pay," the brief said.
"But while the MSRB wields classic governmental power, it lacks the 'accountability checkpoints' that ensure that its power is wielded by individuals who are answerable to the people," the brief said.
Though it serves as the municipal securities market's principal regulator, "the MSRB does not carry out the enforcement of its rules or conduct compliance examinations," according to a
"The MSRB instead provides support to the Financial Industry Regulatory Authority (FINRA), the SEC and federal bank regulators that share responsibility for enforcement and compliance examinations," the document said. "The MSRB also communicates with the Internal Revenue Service, which enforces tax laws related to municipal securities."
On Feb. 5, the MSRB announced that it was delaying the announcement of an effective date for the amendments to Rule G-14 that the SEC approved in its September 2024 order. On March 7, the MSRB announced that at a previously scheduled meeting held March 6, the board approved the filing of amendments to Rule G-14 to make "substantive changes" to the transaction reporting requirements the SEC had approved in its order, but which had yet to become effective.
"MSRB will not establish an effective date for the amendments approved by the SEC last year in their current form," the MSRB said in a press release. "Instead, MSRB intends to file further amendments to Rule G-14 with the SEC, which are expected, at a minimum, to establish less significant reductions to current reporting timeframes for manual trades."
A spokesman for the ASA declined to comment citing its ongoing litigation. The MSRB does not comment on ongoing litigation, a spokeswoman there said.
