Economics of Business Regulations

This article focuses on the economics of business regulation in the United States as well as the impact of national business regulations on the global economy. The economics of federal business regulations and compliance are described and analyzed. The regulatory burden of different sized businesses is summarized. The economic issues associated with differences in international business regulations are also addressed. The regulatory impact of international trade agreements, such as the North American Free Trade Agreement, and environmental pacts, such as the Kyoto Protocol, are discussed.

Keywords Business Regulations; Compliance; Global Economy; Kyoto Protocol; North American Free Trade Agreement; Regulatory Burden

Economics > Economics of Business Regulations

Overview

In the United States and around the world, governments actively regulate business and industry. Business regulations refer to the use of laws or rules by a government regulatory agency to protect consumers and investors as well as to provide orderly and predictable business procedures. Government regulations, in general, refer to statutes established by federal departments or agencies that are enforceable by law. The U.S. government, as represented by approximately 160 different federal agencies, issues more than 8,000 rules and regulations each year. Due to the impact of business operations on the lives of citizens, health of the environment, and the strength of the national economy, business regulations comprise a significant portion of regulatory activities. In the United States, local, state, and federal governments regulate business structures, intellectual property, reporting, hiring, retirement, fair and equitable treatment of employees, working conditions, wages, waste disposal, product advertising and distribution, trade, environmental impact, taxes, employee savings plans, benefits, business safety, and business accounting. Governments develop business regulations to protect the general public from business abuses, preserve the natural environment and ecosystems and, in some cases, control anti-competitive practices between businesses.

Business regulations impact both the economics of businesses themselves and national economies as a whole. First, compliance with business regulations is a massive expense for most businesses. Second, the specifics of national business regulations make nations more or less competitive in the global marketplace. For example, business regulations effect a business' ability to legally hire foreign workers, import and export goods, manufacture products in foreign countries, sell business interests to foreign investors, use foreign-made products in manufacturing, and advertise foreign and domestic products.

Business regulations are highly responsive to events and trends in the private sector as well as to demands expressed by the electorate. The U.S. government created the following laws and accompanying business regulations in response to perceived public problems:

  • Clean Water Act. In 1972, the Environmental Protection Agency developed and passed the Clean Water Act in response to increasing public awareness and concern over water pollution. The Clean Water Act established the regulations concerning the discharge of pollutants, by individuals and business, into the waters of the United States.
  • Emergency Planning and Community Right-to-Know Act. In 1986, the Environmental Protection Agency developed and passed the Emergency Planning and Community Right-to-Know Act (EPCRA) as concerns about the environmental and safety hazards created by the storage and handling of toxic chemicals increased. The EPCRA establishes regulations for businesses, as well as the federal, state, and local governments and Indian tribes, regarding emergency planning and “Community Right-to-Know” reporting on hazardous and toxic chemicals.
  • U.S. Patriot Act. In 2001, the federal government passed the U.S. Patriot Act, which includes a host of new business regulations, in response to the September 11, 2001 attack on the World Trade Center. The Patriot Act, which includes the Uniting and Strengthening America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act and the International Money Laundering Abatement and Financial Anti-Terrorism Act, empowers federal regulators to obtain information from a wide range of businesses (Van Cleef, 2003).
  • The Sarbanes-Oxley Act. In 2002, The Sarbanes-Oxley Act, which includes numerous new business accounting and reporting regulations, was passed in response to the Enron Corporation’s accounting scandal. The Sarbanes-Oxley Act was actualized to help investors defend against corporate accounting fraud. The Sarbanes-Oxley Act requires that corporations engage in risk assessment and risk auditing to monitor its financial reporting and auditing processes. Section 404 of the Sarbanes-Oxley Act, which focuses on management’s assessment of internal control over financial reporting, instructs corporations to conduct a top-down market risk assessment to evaluate the corporation’s internal controls systems.
  • Securities & Exchange Commission Regulations. In 2005, the Securities and Exchange Commission issued new corporate risk reporting and disclosure regulations. The SEC requires business reporting on risk factors in three main categories of market behavior including industry risks, company risks, and investment risks. The SEC's new corporate risk reporting requirements, as represented by changes to annual report requirements on Form 10-K and quarterly reports on Form 10-Q, further the SEC's commitment to integrating corporate disclosure and processes first described in the Securities Act of 1933 and the Securities Exchange Act of 1934. Corporations must now disclose risk factors in their annual reports and describe changes in previously disclosed risk factors in their quarterly reports. Risk factors are believed to present a summary of the risks facing the company and identify factors that investors should consider when making an investment. The SEC’s new corporate risk disclosure requirement, as described in Item 503(c) of Regulation S-K, instructs that, when appropriate, a company, has to engage in a discussion identifying the major factors that may negatively affect the issuer’s business, operations, industry, financial position or its future financial performance. The SEC argues that the new reporting requirements and regulations should not be burdensome as the SEC noted that companies should already be in a position to recognize new or changing material risks affecting their businesses. The SEC argues that disclosure of risk factors will alert investors to risks specific to the company or its industry that make an offering speculative or high risk (Banham, 2004).

Business regulations, while usually supported by society at large, are often opposed by business interests on grounds that complying with a business regulation is unduly burdensome to the business or that the business regulation is unwarranted or based on inaccurate assumptions. The business sector is generally in favor of deregulation. For example, Ronald Reagan was elected president in part owing to his promises to provide regulatory relief to businesses (Levine, 1989). In the twenty-first century, businesses wishing to change or challenge business regulations have two options. First, businesses may lobby and petition Congress for a change. Second, businesses may bring a lawsuit against government. As business regulations continue to grow in number and scope rather than shrink, lawsuits against regulators are increasingly common. For example, in 1998, the National Mining Association had over 40 pending court cases challenging federal regulations for air and water quality standards. Ultimately, national governments weigh the economic impact of business regulations with the well-being of citizens, environmental goals, and the socio-political climate when making business regulations. In many instances, businesses chafe at the expense of compliance and the limitations that business regulations impose (Andelman, 1998).

This article will describe the economics of business regulation in the United States as well as the impact of national business regulations on the global economy. The following sections provide an overview of the economics of federal business regulations. This section serves as the foundation for later discussion of the economic issues associated with differences in international business regulations.

Applications

Economics of Federal Business Regulations

The U.S. federal government develops business regulations in a highly transparent and participatory process. The federal government publicizes proposed business regulations, and government regulations in general, in the Federal Register. The Federal Register is the government’s official daily publication which delineates all the current rules, proposed rules, notices from Federal agencies, executive orders, and other presidential documents. Proposed business regulations that become law are added to the Code of Federal Regulations (CFR). The Code of Federal Regulations is the organizational system for the rules published in the Federal Register.

The federal government's regulation-making process is generally referred to as rulemaking. Rulemaking refers to the process followed by federal agencies to formulate, amend, or repeal a regulation. The rulemaking process includes two main stages: The proposed rule stage and a final rule stage. In the proposed rule stage, the regulatory agency provides notice of a proposed regulation. During a 30, 60, or 90 day period, any person or organization may review this document and submit comments on it in writing to the regulatory agency. The regulatory agency is legally bound to consider the public comments received on the proposed regulation. In the final rule stage, the regulatory agency incorporates a response to the significant issues raised by those who submitted comments, discusses any changes made to the regulation, and publishes the complete text of the final regulation in the Federal Register (How to Solve, 2005).

The federal government, as part of the eRulemaking Initiative, is committed to providing public access to regulatory information for individuals and businesses. The eRulemaking Initiative is intended to “allow citizens to easily access and participate in the rulemaking process; improves the access to, and quality of, the rulemaking process for individuals, businesses, and other government entities while streamlining and increasing the efficiency of internal agency processes” (Federal Register, 2004). To further the federal government’s eRulemaking Initiative, the federal government maintains two informational websites about federal regulations and compliance procedures. RegInfo.com is a central website for federal regulatory information. Regulation.gov, established in 2003, is considered by the federal government to be the federal regulatory clearinghouse. The website provides the public with access to rules open to discussion. Citizens can read full texts of the any associated documents, and submit comments to the appropriate federal agency. The website includes compliance information for business regulations governing advertising and marketing, emergency and disaster planning, environmental compliance, finance, franchises, government contracting, human resources, information security, intellectual property, international trade, licenses and permits, taxes, and workplace health and safety.

The federal government categorizes all proposed business regulations into two categories: Economically significant and not economically significant. Executive Order 12866, "Regulatory Planning and Review," requires that economic analysis be undertaken for all proposed federal regulations considered to be economically significant. In 1996, an interagency group developed best practices procedure for preparing the economic analysis of a significant regulatory action. Regulators are required to undertake the following steps in their economic analysis of all proposed regulations:

  • Develop a statement of need for the proposed action and appropriateness of alternatives to federal regulation.
  • Undertake an examination of alternative approaches.
  • Perform an analysis of benefits and costs.

Congress, and all relevant government agencies, review the economic analysis of all proposed business regulations prior to final decision-making.

Compliance with federal, state, and local business regulations is one of the major expenses of business operations in the United States. Regulatory compliance, which is generally overseen in a business by compliance officers or in-house lawyers, costs U.S. businesses billions of dollars and hours per year. The cost of compliance with business regulations, often referred to as the regulatory burden, has grown over the past twenty years. In 1988, according to the United States Office of Management and Budget, the private sector spent 5 billion hours and approximately $100 billion complying with government business regulations and paperwork requirements (Kurland, 1993). By 2000, the cost of compliance with business regulations, and federal regulations in general, grew to approximately $843 billion or 8 percent of the U.S. Gross Domestic Product (GDP). The United States Small Business Administration argues that small businesses bear the largest burden from the costs associated with regulatory compliance. For example, in 2000, regulatory compliance cost small firms with fewer than 20 employees approximately $7,000 per employee per year and medium-size firms with 20-499 employees approximately $4,300 and large firms with 500 or more employees approximately $4,500 per year per employee. Ultimately, the cost of regulatory compliance in 2000 was 55 to 60 percent higher for small businesses than medium or large businesses (Crain & Hopkins, 2000).

The expense for compliance with business regulations is raised by compliance problems that require additional resources to address. There are, according to federal regulators, six common categories of regulatory mistakes made by across businesses and industries:

  • Failure to comply with the books and records regulations
  • Inaccurate documents
  • Weak or nonexistent internal controls
  • Insider trading compliance
  • Personal securities transaction compliance
  • Antiterrorism compliance

Businesses with compliance issues, such as those described above, may face federal fines and penalties. Compliance problems may be resolved through the formation and oversight of an in-house compliance committee. Compliance committees work to ensure that business operations occur within the parameters established by federal regulations. Compliance committees work to mitigate compliance risk. In addition to the costly compliance problems common across businesses and industries, there are compliance problems specific to industries or areas of business. For example, 401K administrators and plans, as a group, have been found to commit compliance mistakes specific to their business specialty. Examples of 401K administrator and plan compliance mistakes include the following: Plan administrators fail to remit contributions and loan repayments to the plan; plan sponsors fails to monitor the plan's mutual funds; and plan administrators fail to fully and accurately apply a plan's definition of compensation. These compliance mistakes may result in substantial federal fines and business audits (Kelvin, 2003).

Issues

International Differences in Business Regulation

Business regulations vary significantly between nations. Business regulations and national financial systems are generally shaped by the cultural, social, and political climate of a country. The international differences in business regulations are creating economic problems in the global economy. The global economy is characterized by growth of nations, both in populations and in output and consumption per capita, interdependence of nations, and international management efforts. Indicators of global growth and interdependence include the huge increases in communication links, world output, international trade, and international investment since the 1970s. The global economy is built on global interdependence of economic flows that link the economies of the world. The global economy is characterized by economic sensitivity. National economic events in one region often have profound results for other regions and national economies. National economies exist not in isolation but in relationship and tension with other economies worldwide. The global economy includes numerous economic phenomena and financial tools shared between all countries. Examples of the interrelationship of the global economy include the international price of gold, the price of oil, and the related worldwide movement of interest rates.

In some instances, the differences and variations in international business regulations create economic tensions and trade incompatibility between countries. For example, national differences in business regulations and financial systems have posed serious economic challenges to member nations of the European Union. Significant national differences in business regulations have challenged trade relationships and the goal of achieving a single and unified European Union market (Cole, 2006). The World Bank compiles and publishes international comparisons of business regulations. The statistics and descriptions are compiled to aid businesses involved in international commerce and trade to understand foreign business practices and regulations (Matthes, 2005).

In some instances, nations come together to create complimentary business regulations. Examples include trade pacts such as the North American Free Trade Agreement (NAFTA) and global environmental pacts. The North American Free Trade Agreement, which was implemented in 1994, is an agreement between the United States, Canada, and Mexico intended to remove most barriers to trade and investment among member nations. Business regulations, as negotiated and specified in international trade agreements such as North American Free Trade Agreement, tend to be complex and fixed. Businesses involved in trade between the United States, Canada, and Mexico need to understand and follow the business regulations concerning import licensing, certificates of origin, health codes, and labeling.

One of the largest global environmental pacts, the Kyoto Global Warming Pact created in 1997, imposes limits on emissions of carbon dioxide and other gases scientists believed to be associated with rising world temperatures and melting glaciers. The Kyoto Protocol has been ratified/approved by 191 countries. The United States, as of 2013, supports but has not ratified the Kyoto Protocol. Canada withdrew in 2012. Environmental regulation began in the United States with the passage of the Clean Water Act and the Clean Air Act. Regulation to address the problems of future and past hazardous waste disposal include the Resource Conservation and Recovery Act (RCRA) and the Comprehensive Environmental Response, Compensation, and Liability Act (CERCLA) or the Superfund program. Environmental regulation began in Europe with a common environmental protection policy built into the Treaty of Rome (1987) and was extended and expanded by the Treaty on European Union (1992). Environmental regulation has been criticized by businesses for ignoring production processes, being expensive, and excessive. Critics argue that environmental regulation has traditionally focused on "end-of-the pipe" solutions (such as emissions or waste control) rather than addressing the basic processes that created the problem initially (Anderson, 1999).

NAFTA and international environmental alliances are designed to promote economic growth in all member nations. Internationally coordinated and complimentary business regulations have the potential to create the economic growth of nations. The growth of nations varies between regions, nations, and historical eras. Economic and political changes promote or depress the growth of nations depending on variables such as national leadership, political and economic stability, natural resources, international relations, and infrastructure. The current era of the global economy, a product of economic globalization, is creating strong, though variable, national economic growth and development worldwide (Jones, 2005). The process of globalization, a process of economic and cultural integration around the world caused by changes in technology, commerce, and politics, requires complimentary national financial systems. The future strength of the global economy depends on the international coordination of business regulations.

Conclusion

In the final analysis, business regulations create rules and regulations for all aspects of business operations and industries. Business regulations are shaped by public problems. For example, the environmental and civil rights movements in the United States during the 1960s resulted in the creation of significant business regulations. The growth of environmentalism, along with increased civil rights laws and international immigration, significantly influenced business activities in the United States and around the world. Federal business regulations shape how businesses hire and treat employees, manufacture products, advertise products, transport products to markets, and dispose of waste. In the twenty-first century, the private sector is exploring global connections of people, politics, products, and culture. The public sector is responding by creating business regulations that strengthen global trade relationships and the global economy.

Terms & Concepts

Business Regulations: The use of laws or rules by a government regulatory agency to protect consumers and investors as well as provide orderly and predictable business procedures.

Code of Federal Regulations: The Code of Federal Regulations is the organizational system for the rules published in the Federal Register.

Federal Register: The Federal Register is the government’s official daily publication which delineates all the current rules, proposed rules, notices from Federal agencies, executive orders, and other presidential documents. Proposed business regulations that become law are added to the Code of Federal Regulations (CFR).

Globalization: A process of economic and cultural integration around the world caused by changes in technology, commerce, and politics.

Government Regulations: Statutes established by federal departments or agencies that are enforceable by law.

Private Sector: All enterprises that are outside of government control including micro, small, medium, and large enterprises.

Public Sector: The economic and administrative enterprises of a local, regional, or national government.

Nations: Large aggregations of people sharing rules of law and an identity based on common racial, linguistic, historical, or cultural heritage; rarely act unilaterally.

Rulemaking: The process by which federal departments and agencies establish, change, or revoke a regulation.

Sarbanes-Oxley Act: A law, enacted in 2002, which introduced highly significant legislative changes to financial practice and corporate governance regulations.

World Bank: An international economic development assistance organization that was founded in 1944.

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Suggested Reading

Fri, R. (1976). How to live with the new regulators. Management Review, 65, 42. Retrieved July 27, 2007, from EBSCO Online Database Business Source Complete. http://search.ebscohost.com/login.aspx?direct=true&db=bth&AN=6045207&site=ehost-live

Martin, J., & Leeder, S. (1994). Deregulation by delegation: The regulatory review process in Queensland. Australian Journal of Public Administration, 53, 95. Retrieved July 27, 2007, from EBSCO Online Database Business Source Complete. http://search.ebscohost.com/login.aspx?direct=true&db=bth&AN=9701220130&site=ehost-live

Stender, N. (2002). The risks of technology deregulation. China Business Review, 29, 24. Retrieved July 27, 2007, from EBSCO Online Database Business Source Complete. http://search.ebscohost.com/login.aspx?direct=true&db=bth&AN=6544086&site=ehost-live

Essay by Simone I. Flynn, Ph.D.

Dr. Simone I. Flynn earned her Doctorate in cultural anthropology from Yale University, where she wrote a dissertation on Internet communities. She is a writer, researcher, and teacher in Amherst, Massachusetts.