The U.S. crowdfunding market, which allows the general populace to fund companies outside of the normal strictures of securities law, was created by the JOBS Act in 2012. It was put into place formally by Securities and Exchange Commission regulations that became effective in 2016 and were further amended in 2020 to increase the issuance limit to $5 million.
In Schwartz’s view, liberalized laws that allowed the creation of crowdfunding have democratized the market for startup funding, allowing traditionally excluded groups to have both access to new investment opportunities and new sources of capital. More traditional securities law has high barriers that largely foreclose retail participation in private company securities offerings. This requires entrepreneurs to rely on high-net-worth personal connections or relationships with institutional investors for fundraising.
If the book’s usefulness were confined to the relatively small world of crowdfunding, its import would be limited. However, Schwartz’s analysis has implications that reach toward the broader securities markets. A general thesis of his centers around the concept of “private ordering,” where market participants create their own rules independent of government regulation to develop a system of market exchange based on trust and confidence in counterparties.
Private ordering and regulation / Schwartz’s main example of private ordering is in how crowdfunding platforms have an incentive to protect their reputations by acting as gatekeepers, independent of any regulatory requirements, listing only a small percentage of companies that apply to participate on their platforms. He further argues that the most likely best way to keep costs down and yet maintain investor protection is for governments to focus their regulatory attention on crowdfunding platforms rather than on individual companies or investors.
His enthusiasm for private ordering dovetails with an at-times skeptical view of government regulation.In particular, he eschews most U.S. crowdfunding regulations except for the $5 million per-issuer limit, which he believes limits the potential for fraud, and a requirement that crowdfunding platforms be licensed by the Securities and Exchange Commission.
However, he does believe that some “market failures” can be addressed with government regulation. He advocates regulation to help avoid fundraisers “gaming” the system by setting artificially low targets that allow them to close under a U.S. rule that a crowdfunding offering cannot close until the target is successfully met. He also advocates for U.S. regulations that would impose time limits on crowdfunding offerings so dormant ones don’t linger, following what other international regulators have done.
Finally, he argues for and defends regulations that require companies raising money through crowdfunding to make available periodic financial statements. He finds it ironic that some international jurisdictions’ crowdfunding regulations require disclosure when a company is fundraising when its incentive to voluntarily disclose information is already high, but those jurisdictions do not require disclosure after a company has raised money and has less incentive to provide disclosure.
His analysis of the multiple jurisdictions across the world suggests the evolution of a market for regulation. For example, New Zealand, which adopted some of the most liberalized crowdfunding laws and which was one of the first jurisdictions to adopt laws allowing crowdfunding, had one of the greatest needs for private company capital. Schwartz views New Zealand’s model as a success because it has kept costs low, encouraged capital formation, and empowered private ordering to protect investors, while having only one violation for fraud after nearly a decade. A second example that he points as evidence of the success of liberalized law is the United Kingdom, which similarly took a light-handed private-ordering regulatory approach to address a need for capital, with results that he views as being successful in encouraging capital formation and minimizing cases of fraud.
Schwartz’s critical analysis of the effectiveness of government regulation and his willingness to consider private ordering as means whereby markets can redress at least some market failings on their own make him a unique voice among law school academics. At a time when government regulation is expanding, it would be helpful for people like Schwartz to cross-examine the regulatory state. His willingness to temper his criticism of several government regulations by accepting some current regulations and his advocacy for some regulatory restraintsindicates that his views are influenced more by careful analysis than by rigid ideology.
Part of his premise for constraining government regulation in the crowdfunding world is based on the limited amount of capital that investors can put at risk in crowdfunding and the fact that there has not been widespread fraud in the crowdfunding world. It is not clear to what extent his views would carry over to the broader securities markets where fraud is rifer, the amounts at risk are larger, and there is no gatekeeper such as a registered platform. However, it would be interesting to consider whether an opportunity for private ordering exists in the broader markets.
Schwartz should expand on his ideas through more books and consider expanding his securities law scholarship beyond crowdfunding. His insights into private ordering and his analytical approach to evaluating regulations represent views that need to be heard in the broader securities law landscape.
