COMPLIAX Self-Regulation in Securities Markets Paper commissioned by: IFC/World Bank Securities Markets Group John Carson – World Bank Consultant MD, Compliax Consulting Inc. IOMA / IOCA Conference Mumbai, India May 2011

COMPLIAX Reliance on SROs – Models GOVERNMENT MODEL LIMITED EXCHANGE SRO MODEL STRONG EXCHANGE SRO MODEL INDEPENDENT SRO MODEL Public authority performs most or all regulatory functions. Exchanges have very limited role. Exchange performs front-line regulatory functions for its market Exchange as SRO performs extensive regulatory functions UK France Emerging model in EU Trend towards this model Most prevalent model Trend away from this model Only developed in a few countries US (NYSE) Hong Kong (HKEx) Singapore (SGX) Sweden (OMX) Australia (ASX) US (CME) India (BSE, NSE) Brazil (BSM) Japan (TSE) Malaysia (BM) Member dealer SRO performs extensive regulatory functions US (FINRA, NFA) Canada (IIROC) Japan (JSDA) Korea (KOFIA) 2

COMPLIAX Key International Trends 1.Value of self-regulation has increasingly been questioned 2.Reduced reliance on SROs (esp. in Europe) 3.Exchange SROs’ roles cut back due to conflicts Independent SRO units if Exchange retains important role 4.Self-regulation is stronger and more credible in many countries that rely on it. 5.Move to more independent governance and away from Member control 6.SROs must be responsive to broader stakeholder interests 7.Stronger oversight and direction from statutory regulators 3

COMPLIAX Exchange SROs’ Reduced Roles 1.Reduces conflicts of interest in self-regulation. 2.Positions Exchanges to focus on product and market development, and competitiveness. Business focus Reduced costs Participants and issuers are mainly treated as customers 3.Fosters competition among marketplaces. 4.Public regulators are often more effective regulators. Much broader jurisdiction and power 5.Public regulators may impose higher and more consistent standards of regulation. 4

COMPLIAX Managing SRO Conflicts of Interest 1.Separate governing body to oversee regulatory operations 2.Separate organizational structures for regulatory and business operations 3.Firewalls to separate regulatory operations from business or advocacy operations 4.Separate and secure premises for SRO operations 5.Contract out all or part of the SRO’s regulatory responsibilities 6.Establish policies and procedures on managing conflicts of interest. 5

COMPLIAX Main Lessons for Emerging Markets 1.SRO frameworks might be a valuable addition to an effective regulatory framework. 2.But there is no single “right” approach. Each market’s approach is based on its size, complexity and existing institutions – and public policy. 3.The traditional “closed club” SRO is no longer valid. 4.Demutualization does not preclude an Exchange’s SRO role, but requires a new framework and reassessment of functions. 5.The Independent SRO model has many advantages – but also presents big challenges (building a new organization, costs, regulatory capture). 6