) The widening probe into the biggest bankruptcy filing in American history is turning up shocking failings by Enron's auditors, its lawyers, and most of all, its senior executives. The people in charge of running Enron engaged in financial chicanery that may well turn out to be criminal, and those who were supposed to monitor the company overlooked or even endorsed the most outrageous abuses. One of the few heroes to emerge from this sordid case is Sherron Watkins, an Enron finance executive who wrote a letter in August to Chairman and CEO Kenneth L. Lay that laid out in amazing detail the company's accounting tricks. Her letter, since made public, shows that Lay knew far more about misdeeds at the company than he has admitted.
The Enron implosion suggests that the balance between totally free markets and regulation has gotten out of whack. Massive government intervention would be a mistake. But reforms in fields ranging from accounting to energy trading to campaign finance would go a long way toward removing financial incentives to violate the public's trust.
Let's start with auditors. Even leaving aside Enron, aggressive accounting has become all too common. If investors can't trust companies' audited income statements and balance sheets, it will be harder for worthwhile enterprises to get the funding that they need to grow. This week's Cover Story spells out seven worthy ideas for cleaning up the auditing profession. They include putting tough limits on accounting firms' ability to consult for the companies that they audit as well as limiting the ability of audit-firm partners to go to work for their clients.
Energy-trading deregulation may also need rethinking. Enron lobbied hard and successfully to get the trading of energy derivatives exempted from scrutiny by either the Securities & Exchange Commission or the Commodity Futures Trading Commission. That enabled Enron to take on enormous risks and big debts without disclosure, putting shareholders in unrecognized peril.
The U.S. is firmly committed to a deregulated economy, which tends to produce lower costs and more innovation through competition. But even deregulation can't function without appropriate ground rules and oversight. If investors feel that they are being deceived, capital won't get where it's needed. The growth of the U.S. economy will suffer.