Carrot or Stick? The Impact of Regulatory Leniency on Municipal Disclosure Compliance

Abstract

We examine how lenient self-reporting programs affect compliance in the context of the SEC’s 2014 Municipalities Continuing Disclosure Cooperation initiative (MCDC). In an effort to increase transparency in the municipal debt market, the MCDC granted favorable settlement terms to municipal-debt issuers and underwriters that voluntarily self-reported having violated SEC disclosure requirements. Although there was widespread participation among underwriters, the vast majority of municipal issuers did not participate in the MCDC initiative, despite having publicly observable disclosure violations. Consistent with an improvement in underwriter oversight of the initial bond offering following the MCDC, we find that official statements were less likely to include false claims regarding past disclosure compliance, particularly for issuers with participating underwriters. However, contrary to the initiative’s primary objective, we find that issuers’ compliance with continuing disclosure requirements decreased by 9% after the MCDC initiative. Overall, our findings suggest that absent a credible ex-post enforcement threat, regulatory leniency programs are unlikely to be successful and could instead exacerbate noncompliance by revealing the weaknesses of the existing regulatory regime.

Keywords: Municipal Bonds, Municipal Disclosure, Regulatory Amnesty, Municipal Underwriters

JEL Classification: G24, G28, H74, M40, M41