The new law, called the Jump-start Our Business Start-ups, or JOBS, Act, tries to regulate crowdfunding constructively. This innovation might be as well received as Wikipedia, which is constantly being updated and improved by a vast army of users. There may well be disappointments at first, but the concept can be tinkered with, like other democratizing financial innovations that have eventually delivered much good to society. I discuss many such examples in my new book, “Finance and the Good Society.”
Consider Wall Street in 1811. It wasn’t obvious then, but worldwide economic growth received a major boost that year from a New York law that allowed anyone who satisfied some minimal requirements to set up a corporation, with limited liability. The law turned out to be one of the most socially productive pieces of modern financial history.
By clarifying that shareholders would never be personally liable for a corporation’s debts, the New York law would allow investors to hold a diversified portfolio consisting of many stocks. That wasn’t feasible without first establishing limited liability, because of the risk that a lawsuit involving any company in the portfolio could bring a major personal loss. The New York law, proven successful, was copied globally. This created a pool of investors for which investment bankers could place shares.
The framers of the New York law didn’t see themselves as inventors of a brand-new market. They were merely responding creatively to an economic crisis. Congress had imposed an embargo on trade with Britain starting in 1807, citing grievances related to Britain’s war with France. By 1811, the trade embargo was causing economic pain in the United States, because America had been an exporter of cotton and other fibers to British textile mills. There was a pressing need for more American textile mills, but few people in the United States wanted to start them, thinking it would be hard to compete with Britain after the embargo eventually ended.
The new provisions of the New York bill were regarded as expedients to deal with this crisis. The bill made it possible for anyone to start a joint stock company at any time and for any purpose, without special action by the government. But the effects were profound. It was the kind of socially productive financial innovation that the proponents of crowdfunding want today: a new means of financing exciting enterprises, products and services.