Forbearance in Oversight - Evidence from SEC Investigations around Natural Disasters

Abstract

This study provides evidence that selective non-enforcement (forbearance) shapes the Secu- rities and Exchange Commission’s (SEC’s) selection and investigation process. To empirically test whether the SEC practices forbearance, we exploit regionally dispersed and time-varying natural disasters that affect firms but not the responsible SEC regional offices. We first establish that natural disasters adversely affect regional GDP and firms’ R&D investment. In our main analysis, we find that non-disaster-affected SEC regional offices open fewer investigations and increase the length of investigations in disaster-affected firms. At the same time, overall SEC enforcement intensity remains stable and enforcement feasibility is maintained. Cross-sectional analyses reveal that the decline in investigation likelihood is especially pronounced for firms more likely to be compliant. Examining the consequences of forbearance, we find no evidence that firms exploit the temporary reduction in oversight. Overall, our results imply that the SEC applies forbearance without encouraging opportunistic behavior.