Overzealous regulators and the Indian situation (26 May 2002)
It’s astonishing how much trouble on Wall Street a state attorney general can cause when he sets his mind to it’, wrote Michael Lewis, author of Liars Poker in his Bloomberg column.
He was talking about Eliot Spitzer, who forced Merrill Lynch’s to cough up $100 million in a quick settlement after catching email from its star analysts, which showed that they were blithely plugging companies which they personally thought were ‘crap’.
Spitzer, whose political fortunes have soared after his headline grabbing action, has now threatened to train his guns at other investment banking jewels of Wall Street. Moreover, California and New Jersey are also following his lead and the Securities Exchange Commission (SEC) has been forced to order an inquiry. Lewis suggests that Spitzer may be overdoing things by pretending that the greedy little speculators who hoped to strike rich by following the Henry Blodgets and Mary Meekers of Wall Street were ‘honest good folk’ who had invested the hard earned savings. Maybe, but it at least sends a deterrent signal to unscrupulous analysts focused only on their compensation.
The Merrill Lynch decision also provides some interesting contrasts with India. We could accuse the New York Attorney’s office of having woken up after a big stock collapse. But he did wake up and also got quick results. In India, our regulators squabble among themselves to shirk responsibility, instead of dusting down the rulebook and going after the scamsters. Or, they simply wash their hands off. The plantation company scandal is a case in point. These companies raised over Rs 15,000 crore and went bust before the regulators discovered that they were not subject to any supervision at all. They then tried to figure out whether they should be looked at as Non-banking finance companies (NBFCs) or mutual-fund like outfits.
It was after a year of haggling to avoid regulatory responsibility that the finance ministry dumped the supervision on the Sebi. It was the same with NBFCs. Tens of thousand NBFCs were allowed to collect public deposits until the CRB group collapse caused a run on all of them. Only then did the RBI get serious about registering and scrutinising NBFCs. The result: it had to reject 18,000 applications and registered only 780 NBFCs under a new registration procedure which is a prerequisite to collecting public deposits. Co-operative banks and provident funds are no different. They were allowed to function with minimal supervision until the Home Trade scam threatened to explode into a huge problem. The finance ministry is now attempting to push the proposal for a separate Pensions regulator and the Provident Fund Commissioner and has also ordered an audit of all exempt PFs. Will it lead to better regulation and supervision? Only time will tell.
Similarly, it was never a secret that co-operative banks and trusts are hand-maidens of politicians and hence escaped detailed scrutiny. But the RBI did not try hard enough to get more powers until the scam occurred. Even now, those who are chasing the Home Trade scam say that the investigations (by the CID) are indifferently conducted and are more an attempt to appease public sentiment than to clean up the system and book the guilty. The vanishing companies, which made away with public issue proceeds are another scandal that regulators do not want to pursue. They hope that people will write off their investments and forget about it. The frequent lament about the lack of powers has another interesting dimension. While Sebi, RBI and Department of Company Affairs (DCA) have all hidden behind the absence of powers, look at how they fight to protect their turf.
Unlike Sebi, which has actually spelt out the powers that it wants and the specific amendments that it needs, the DCA and RBI have never been specific in their demands. They probably prefer status quo—after all, lack of powers is always a good cover for inaction. What is more astonishing is that these departments are actually lobbying to cut the powers of fellow regulators. For instance, the DCA has demanded that Sebi should be asked to cut back on the maximum penalties proposed as a part of the Sebi Amendment Act and rationalisation of higher penalties. Why should DCA worry that Sebi would indiscriminately slap a Rs 25 crore fine for minor offences? After all, Sebi is subject to as much pressure from companies and their political patrons as the DCA and it always works in favour of companies. The Balaji Telefilms case is a good example. Even though Sebi’s investigating officer had recommended a suspension, Sebi merely issued a warning citing previous track record of the investment bankers.
Contrast this again with the Merrill Lynch case, where $100 million was paid by the investment bank and will be shared between all 50 US States, Columbia and Peuto Rico. Of this, $2 million will also go to the North American Securities Administrators Association, which is the organisation of State securities regulators. Such funding through fines and settlements is to be used by the States for enforcement purposes, investor education or put into a general fund. The money acts as an incentive to expose wrongdoing and allows them to hire the best legal brains. Moreover, the settlement still leaves the door open for investors to sue Merrill Lynch all over again.
Getting back to the Indian situation, the DCA here, wants government to scrap the Securities Appellate Tribunal and refer disputes against Sebi’s orders to the Company Law Board. Surely this is the brainchild of the corporate sector, who would prefer CLB’s inefficiency and slowness to Sebi. After all the SAT’s track record so far is so much superior to that of decades of inaction by the DCA and CLB, that the temerity of such a proposal is itself astounding. Ironically, the DCA itself is hiking penalties that can be imposed on companies. Instead of seeking parity with Sebi, why is it seeking to dilute Sebi’s powers?
Ideally, the DCA itself should be reconstituted as a separate body along the lines of Sebi. In the last decade or more, just one DCA secretary has lasted for a term of more than a year—this should end. If the DCA is to be made efficient and accountable, its chairman should have a fixed tenure like that of the Sebi chairman and RBI governor, better emolument and more powers. We would rather see the DCA lobbying for such a drastic change for itself, rather than try and scuttle Sebi’s powers. After all, its actions only hurt the investors. Investor associations who have always held that a jail term here and a fine there is of no use to them unless the money comes back to those who have lost it. By sabotaging the attempt to empower Sebi, the DCA is hurting investors’ interest and aiding corporate houses who prefer the present lawlessness. Maybe the agile law minister should spend some time looking at these issues. -- Sucheta Dalal