Securities regulation requires clear objectives to achieve outcomes that are in the best interests of Canadians. In this section, we present the objectives that we believe will best anchor securities regulation in Canada. We also discuss approaches used by securities regulators in Canada, and in other key capital market jurisdictions, to measure the performance of securities regulation. We believe that clear, uniform objectives, combined with a strong system to measure performance against those objectives, will help to secure Canada’s advantage in global capital markets.
Securities regulation plays an important role in helping to ensure that capital markets function effectively. The core objectives of securities regulation are to promote investor protection, enhance economic efficiency by allocating capital to its best uses, and foster confidence in capital markets. Securities regulators, in working to achieve these objectives, are often required to be mindful of other considerations, which are referred to as the guiding principles of regulatory conduct.
Our draft Securities Act prescribes core objectives and guiding principles that we believe will best position securities regulation in Canada (see Table 1). They reflect Canadian best practices and those supported by the International Organization of Securities Commissions.4 We believe that having a uniform set of core objectives and guiding principles for Canada will foster a clearer understanding of what securities regulation is intended to achieve, and how securities regulators should conduct themselves.
We recommend a uniform set of core objectives of securities regulation and guiding principles of regulatory conduct for Canada.
During our deliberations on objectives and principles, we focused particular attention on two areas that we believe need to be assessed closely in light of the recent turmoil in global capital markets. We deliberated on whether the reduction of systemic risk in the larger financial system should be a core objective of securities regulation. We also discussed whether a guiding principle of regulatory conduct should be to enhance competition and innovation in Canada’s capital markets, as had been recommended by previous expert bodies.5 Our views on these matters are discussed below.
The core objectives of securities regulation are to:
The guiding principles of regulatory conduct include:
Note: This is an abridged list of the guiding principles prescribed in the draft Securities Act.
a) Systemic Risk
Securities regulators’ focus on systemic risk has been primarily concerned with clearing and settlement issues, setting minimum capital requirements, and limiting the contagion from failing securities dealers. Globally, securities regulators have been much less involved in the more comprehensive financial stability mandates of prudential regulators and central banks. This approach was largely based on the conventional wisdom that systemic risk and the prospect of systemic failure are predominantly a banking phenomenon.
Recent developments in the global financial system have highlighted the need for securities regulators to be involved in the management of systemic risk through increased monitoring, coordination, and crisis management. Systemic failures, once largely confined to banking institutions, are increasingly manifesting themselves in capital markets. This transformation has largely been caused by the fact that it has become easier to access capital directly from the capital markets rather than through traditional banking institutions with systemic safeguards.
Along with this shift has come a corresponding concern that systemic risk in capital markets is growing. Financial innovation has led to the introduction of increasingly complex instruments. The impact of these complex instruments on capital markets is not well understood. Hedge funds and private equity funds are growing in importance, but are less-regulated and more opaque. Securities firms are becoming larger and more international, increasingly affiliated with commercial banks or insurance firms, and more involved in global trading activities, particularly in over-the-counter derivatives.
“We believe that effective securities regulation can contribute to the management and reduction of systemic risk and that this is a laudable objective, particularly given recent events in global financial markets.”
In our consultation process, stakeholders were generally in favour of addressing the role of a securities regulator in reducing systemic risk in the larger financial system. Stakeholders suggested that the changing nature of systemic risk requires the full attention and response capabilities of all financial sector regulators and their ability to act in a coordinated manner. They indicated that securities regulators should be actively engaged in the reduction of systemic risk.
After careful consideration, we have come to the conclusion that the role of a securities regulator in facilitating the reduction of systemic risk should be explicitly addressed in securities legislation and regulation. Although the prudential regulator and the monetary authority have a more direct role in mitigating systemic risks to the larger financial system, securities regulators should play a significant role in working to help reduce systemic risk. We believe that securities regulators should have the power to take interim measures to deal with market events that might pose systemic risks to Canada’s capital markets. As a result, we have suggested language in the draft Securities Act for such a power.
We recommend that a guiding principle of regulatory conduct should be to facilitate the reduction of systemic risk. We also recommend that appropriate interim powers be prescribed in legislation to allow securities regulators to quickly respond to market events that might pose systemic risks to Canada’s capitals markets.
b) Competition and Innovation
The integration of global capital markets has put regulators under increasing pressure to reduce regulatory burdens in order to make regulation more cost-effective relative to other jurisdictions. In light of this more global environment, commentators and expert bodies have advocated that securities regulators, as a guiding principle, should foster competition and innovation in Canada’s capital markets. However, the recent turmoil in capital markets has called into question whether efforts in pursuing cost-effective regulation have gone too far. It is clear that, in some cases, financial innovation was allowed to proceed without having appropriate regulatory safeguards in place. It is also clear that certain financial institutions were allowed to take on excessive risk without having sufficient liquidity and capital in place to cover potential losses.
We believe that regulation of the capital markets and the financial sector more broadly, is fundamentally about maintaining public confidence in the integrity of the system and protecting investors. Like many other observers, we are deeply troubled by the apparent excesses in the financial system that are now having a devastating impact on all of us. Regulation will need to be reviewed and recalibrated to protect investors and restore confidence in global capital markets. However, over the long run, the competitive realities of the global economy will persist; the costs imposed by the regulation of capital market activities will continue to influence where capital is allocated and thus impact business investment, job growth, and living standards. Regulation simply cannot be developed without assessing the burden it will have on market participants.
We recommend that the guiding principles of regulatory conduct include the need for regulation to be cost-effective. We also recommend that they reflect the need to facilitate innovation and maintain the competitiveness of Canada’s capital markets.
There is significant variation in the degree of performance measurement in securities regulation across Canada. Some securities regulators have made performance measurement a priority while others have not. This has implications for the ability of market participants and the public to hold securities regulators accountable. We believe that there should be a single, comprehensive system of performance measurement for securities regulation in Canada.
There are important efforts underway in many countries to develop systems that measure the performance of regulatory activity in capital markets. The efforts of the British Columbia Securities Commission and the Financial Services Authority (FSA) in the United Kingdom are particularly noteworthy.6 We believe that they should inform the development of a comprehensive performance measurement system for securities regulation in Canada.
a) British Columbia Securities Commission
The Commission has developed a performance measurement system that is one of the most advanced among its securities regulatory counterparts in Canada. The Commission actively manages its system and is committed to developing it further. It currently uses 13 performance measures. The results of its performance are presented in its annual report and in its forward-looking service plan, both of which are made available to the public.
The Commission evaluates performance in meeting its mission7 by measuring its success in advancing the following goals: promoting a culture of compliance; acting decisively against misconduct; educating investors; and advancing smart rule-making and guidance. The advancement of each goal is supported by a specific policy strategy, which is linked to a number of performance measures. For example, the goal of acting decisively against misconduct is being advanced by three strategies: to disrupt abusive junior market practices in British Columbia; to disrupt and stop securities fraud; and to build stronger criminal investigation capability in British Columbia for financial crime. The evaluation of the Commission’s performance in this area is based on the action taken in response to ongoing misconduct and the timeliness of the resolution of enforcement cases. The former is based on the percentage of new cases with active misconduct where the Commission has intervened, while the latter is based on the average life (in months) of cases resolved via settlement or decision. As Table 2 indicates, the Commission presents the current and previous years’ results and targets, and provides a target for the upcoming year.
The Commission only uses performance measures that evaluate progress in achieving the four goals over several years. This provides the opportunity to properly assess performance over time and whether new regulatory approaches are having the desired effect. In addition, the Commission will only choose measures where it can collect accurate data and form baselines in a timely manner. It also seeks ongoing opportunities to benchmark its regulatory activity against other regulators.
|Acting Decisively Against Misconduct
(British Columbia Securities Commission)
|Measure 1—Percentage of new cases with active misconduct where the Commission intervened*|
|2006 (Actual)||2007 (Actual)||2008 (Actual)||2009 (Actual)||2010 (Actual)|
|Measure 2—Average life, in months, of cases resolved via settlement or decision**|
|2006 (Baseline)||2007 (Actual)||2008 (Target)||2008 (Actual)||2009 (Target)|
Source: British Columbia Securities Commission. Annual Report, 2007-08.
* The Commission tracks the number of cases it accepts each fiscal year for enforcement action. It then calculates the percentage of the cases where it took formal action in the form of a freeze order, temporary order, or some other corrective action.
** The Commission measures the average number of months a case is open from when the Commission first learns of the conduct to the case’s completion by settlement or decision.
b) Financial Services Authority
The FSA is required by law to report on its performance against its legislated mandate. It measures its performance against three strategic aims, which embody its statutory objectives as well as its principles for good regulation. The strategic aims are to help retail consumers achieve a fair deal; to promote efficient, orderly, and fair markets; and to improve business capability and effectiveness. The advancement of these strategic aims is articulated by desired outcomes. Performance is measured against achieving these desired outcomes, using a range of metrics, including high level indicators, activity measures, and process measures. The FSA has also put in place a significant number of measures to track the provision of service to regulated entities and publishes key statistics on compliance and enforcement. The FSA is working to develop better measures to assess the costs and benefits of regulation, an area that is particularly difficult to quantify in a meaningful way.
The performance assessment is reported to the Executive Committee and the Board of the FSA every six months, and it is presented to the public annually in a series of publications, including the Outcomes Performance Report, the Performance Account, and the FSA’s annual report.
c) A Performance Measurement System for Canada
“…any performance measurement system will only be effective if it is readily understandable and informative, and it is applied consistently to the securities regulatory regime across the country.”
Royal Bank of Canada
Based on these best practices, we believe that uniform performance measures should be developed for securities regulation in Canada and should include measures of performance against statutory objectives, service standards, enforcement outcomes, and measures to assess the costs and benefits of regulation.
We believe that it is important for the securities regulator to establish service efficiency targets in areas where there is significant interaction with regulated entities and the public. Performance against these targets should be measured on an ongoing basis and disclosed to the public. This disclosure will help to set service expectations and will likely promote a higher quality of service and a more client-focused regulator.
We suggest that performance should be reported to the public on an annual basis at a minimum. It should be presented in a manner that is clear and concise, and it should be possible for the public to understand how the regulator is faring in relation to the past and the milestones it has set for the future.
We recommend the development of a single, uniform performance measurement system for securities regulation in Canada that includes timely reporting to the public on the advancement of statutory objectives, service efficiency, enforcement outcomes, and the costs and benefits of regulation. We also recommend that a governance board provide oversight of the performance measurement system, in order to ensure that it is advanced in a transparent and effective manner.
4 The International Organization of Securities Commissions, or IOSCO, is an international cooperative forum for securities regulatory agencies. IOSCO members regulate more than 90 percent of the world’s securities market. IOSCO has developed a set of core objectives and principles to guide securities regulatory agencies. See the IOSCO publication entitled, “Methodology for Assessing Implementation of the IOSCO Objectives and Principles of Securities Regulation.” (February 2008).
6 The FSA is an independent organization responsible for regulating financial services in the United Kingdom. It is an integrated financial sector regulator, covering most financial services markets, exchanges, and firms.
7 The mission of the British Columbia Securities Commission is to protect and promote the public interest by fostering a securities market that is fair and warrants public confidence and by fostering a dynamic and competitive securities industry that provides investment opportunities and access to capital.