Should Law be a Gate Keeper of finance ? The Case of the Prudent Man Rule

The ongoing financial crisis is largely explained by the fact that organizational rules and governance of finance would have continuously reduced perception of risks since the 1980s because of successive financial innovations and correlative financial bubbles. This paper analyses this argument in the case of the prudent man rule, the legal standard used by fiduciary institutions to regulate their investment policies. This standard inherited the notion of « prudent investment » from the tradition of equity. Analysis of case law shows that this notion as defined by courts resisted financial innovations because such investments were taken as too speculative by the legal tradition of trusts. But, thanks to legislative and judicial changes, it fitted the conception of prudence imported from the new financial theory in the 1970s and allowed institutional investors to invest in riskier asset classes since the 1980s. Finally, it contributed to the drift of finance in the late 1990s and in the 2000s since it failed to prevent and punish too risky behaviours. This paper examines structural features of this legal tradition of trusts that are responsible for that dramatic shift and the inability of this law to be a gate keeper of finance and to support a more Keynesian understanding of finance. Rather than a slow deterioration of the protection by invasion of finance into the pension funds law, we have to consider what constitutes, in this legal tradition, a foundation that opposes another conception of finance than this of mainstream economics. My hypothesis consists in telling that this tradition, since it focuses its investigation on individual actions without attention to collective dynamics, does not allow judicial work to think effects of combination, liquidity, mimicry, that are however essential to speculative functioning of finance. So, far away to be a gate keeper, the standard of prudence supports this functioning.ou