Transparency and regulatory competition are more effective
tools than increased regulatory oversight in ensuring the
effective functioning of Canadian capital markets, according to
a new study Securities Market Regulation in Canada released today by The Fraser Institute.
This paper suggests that authorities seeking to build a better
model for regulating Canadian capital markets should examine
the individual pieces of the existing regulatory framework and
explore to what extent market forces and private incentives can
be relied upon to achieve specific public policy objectives.
Market solutions should be considered before resorting to new
regulations and more supervision.
Historically, Canadian authorities have a long track record of
taking a hands-off approach to markets, preferring to rely on
self-regulation unless significant problems emerge. However,
regulators have been rapidly shifting to the other extreme and
have been tightening the regulatory environment even where no
discernable problem exists.
"Without a clear problem surfacing that a market solution
cannot resolve, there is no rationale for introducing
regulation and the burden it imposes," says Neil Mohindra,
senior economist at the Institute and author of the paper.
"Increasingly, regulation is becoming the first line of
defense for investors when it should be taking a back seat to
other strategies such as corporate governance. Canadian
securities regulators need to regain confidence in market
forces as an effective tool to use in their pursuit of public
Significant developments such as increasing global integration,
advances in information technology and demutualization of
exchanges have contributed to the obsolescence of some
regulatory functions. For example, a for-profit exchange facing
significant domestic or foreign competition has strong business
incentives to offer quality self-regulation and safeguard the
operational integrity of their trading infrastructure.
"Consequently, regulatory oversight over an exchange isn't
needed, and it impairs the ability of the exchange to market
itself based on the quality of its self-regulation," says
The existing Canadian securities regulatory regime is a complex
web, composed of 13 provincial and territorial securities
regulatory authorities (SRAs), along with various
self-regulatory organizations (SROs), such as the Investment
Dealers Association and Mutual Fund Dealers Association.
There are some signs that the combination of an increasingly
tighter regulatory environment and the complicated regulatory
framework is proving to be a toxic mix. "For example,
compliance costs have doubled over a five-year period for
junior companies," notes Mohindra. "The right prescription for
Canada's capital market woes is a healthy mix of deregulation
and regulatory competition."
Mohindra argues that SRO oversight programs could be replaced
by increased transparency. This would consist of periodic
external performance reviews that would be publicly disclosed.
"Information on how well SROs are executing their
self-regulatory functions should be in the hands of investors
rather than controlled by regulators," he says.
In addition, the burden associated with multiple organizations
exercising oversight can be alleviated if external performance
review requirements are consistent across jurisdictions. Easing
regulatory barriers that inhibit competition from foreign
self-regulatory organizations further strengthens incentives to
offer quality regulation.
Encouraging authorities in other countries to sign on to the
concept of more transparency and less formal oversight will
further increase the global integration of capital markets. "It
will be easier for securities exchanges to establish global
platforms if they are not subject to different oversight
regimes in every country," says Mohindra.
To the extent that regulatory frameworks serve as a barrier to
more regulatory competition amongst SROs, they run counter to
the interests of Canadian investors and other market
participants. Easing regulatory barriers to competition will
strengthen the incentives of self-regulating organizations to
offer quality regulation in line with investor preferences.
Competition between SRAs (provincial regulatory authorities)
would also contribute towards healthier capital markets in
Canada. Regulatory competition would not only improve the
quality of regulation, but it would also facilitate
differentiation, and thus regulatory regimes could be
constructed in tune with the needs of different types of public
"While a national regulator might be better positioned to
foster regulatory competition with other countries through
bilateral and multi-lateral negotiations, it would be risky to
move in that direction," says Mohindra.
"Concerns raised over the impact on junior and regional markets
are legitimate, and trying to address these concerns within a
national regulator would likely result in the internalisation
of existing flaws in the regulatory system into one giant
bureaucracy," he continues.
There is a role for public enforcement of securities
legislation against transgressions such as fraudulent
behaviour. However, to ensure the integrity of information
disclosure of public companies, Canadian investors would be
better served by a system that places more reliance on private
enforcement mechanisms for redress over actions such as
deliberately misleading disclosure.
"In these cases, investors acting in their own interests
have stronger incentives to be vigilant than regulatory bodies
acting in the broader public interest," says Mohindra.
· Canadian SRAs should resort to regulatory solutions only when
market solutions fail to materialize.
· Canadian SRAs should be prepared to act unilaterally in
easing regulatory barriers to foreign entry.
· Canadian SRAs should encourage the International Organization
of Securities Commissions to study how regulatory barriers to
cross-border activity impede the public objectives of
· Market participants in Canada should not be burdened by
multiple SRA oversight.
· Provincial authorities should consider stronger public
accountability measures for SRAs.
About the Author
Prior to The Fraser Institute, Neil Mohindra worked as a policy
analyst on financial sector issues at the federal Department of
Finance. Before that, he was a research associate with the Task
Force on the Future of the Canadian Financial Sector (the
"MacKay Task Force").