Transparency in Securities Regulation

But when it comes to the performance of Canada’s self-regulatory organizations (SROs), such as the Toronto Stock Exchange (TSX) or Investment Dealers Association, the policy of the CSA is to keep investors in the dark.

SROs perform a number of regulatory functions. For example, the TSX’s responsibilities include monitoring trading to ensure manipulative trading does not occur. Under the current regulatory framework, some (but not all) CSA members undertake examinations of the operations of Canadian SROs as part of their oversight programs. These examinations generate no information for investors. The regulators do not inform investors of what specifically they are examining. They do not inform investors of the results.

Provincial securities regulators are expected to act in the public interest. Presumably the regulators believe that investors can be confidant about the integrity of self-regulation in Canada simply because SROs are subject to some unknown degree of regulatory scrutiny by regulators that operate in a public interest capacity.

But because regulators are expected to act in the public interest, does this mean they always do? In fact, all public service entities presumably operate in the public interest. However, it is not unknown for government entities to substitute their own private objectives, such as bureaucratic empire building, for the public objectives they are expected to pursue. And finding an example in the news of a politician or bureaucrat furthering personal interests is about as difficult as finding a blade of grass.

In addition, determining the public interest is a subjective process, and the broad public interest is not necessarily aligned with a subset of the public such as investors in general or a specific group of investors.

The YBM case is a good example. The Ontario Securities Commission (OSC) was tipped off by law enforcement officials that a company called YBM could be linked to Russian money laundering. Instead of making this information publicly available, it approved a prospectus from the company. There may well have been a public interest rationale for this behavior, such as avoiding the disruption of a criminal investigation, but clearly the OSC did not act in the interests of potential investors in YBM.

If a provincial regulator detects a major weakness in the operations of an SRO, it is conceivable that it would choose not to inform investors if it concludes that it is in the public interest to preserve the reputation of Canadian capital markets to withhold information. In this scenario, the incentives for an SRO to correct a deficiency are weaker because it does not face market pressure for change.

Some CSA members seem to be under the impression that lots of regulation combined with extensive supervision and oversight is the route to making a small country such as Canada attractive in increasingly globalized capital markets. But are market participants persuaded by mass when it comes to regulation and regulatory resources? One could easily argue that what market participants really desire is information. This is why rigorous oversight regimes that generate no information for investors should be replaced with transparency.

How could this be accomplished? Quite simply, regulators should scale back or eliminate their direct oversight, and instead replace it with straightforward transparency requirements. More specifically, this would entail SROs commissioning periodic external third party reviews of their performances that would be made publicly available. The reviews would assess how well the SRO has conducted its regulatory responsibilities for ensuring that its rules, which would also be publicly available as is currently the case, have been followed.

Investors would be able to see for themselves how well an SRO is performing rather than being forced to rely on reassurances from regulators who really have nothing to lose if they make errors in judgment. By relying on transparency rather than rigorous regulatory oversight, Canada would become much more attractive to market participants in global capital markets.