Is sufficient priority given to capital formation, employment, efficiency and competition?

A matter for debate here in Sri Lanka, before and after the Golden Key debacle, has been whether investors are sufficiently protected from errant investment schemes and public offers. 

The financial crisis of 2007-2008, which was possibly the worst financial crisis since the Great Depression of the 1930s, resulted in the promulgation of the Dodd-Frank Act in the US to ‘promote financial stability in the United States’. Basel III capital and liquidity standards were also adopted by countries around the world. Similarly, now MiFID II and MiFIR, which continue to baffle many outside jurisdictions, provide a fair ambit of regulation for the European Union.

A current question, especially with proposed regulatory roll-back in the US, is whether the world is moving too fast in the direction of regulation, whilst losing site of the sustenance of the very activity it regulates, important aspects of which are capital formation, competition etc.

Prior to 2002, Section 5 of Sri Lanka’s Monetary Law No. 37 of 1974 (as amended), whilst establishing the Central Bank of Sri Lanka as the authority responsible for the administration and regulation of the monetary and banking system of Sri Lanka, entrusted the Central Bank with the duty of regulating the supply, availability, cost and international exchange of money as to secure, so far as possible by action authorised by this Act, the objects of (a) the stabilisation of domestic monetary values; (b) if there has been a determination of the par value of the Sri Lanka rupee, the preservation of the par value of the Sri Lanka Rupee and the free use of the rupee for current international transactions; (c) if there has been no determination of the par value of the Sri Lanka Rupee, the preservation of the stability of the exchange rate of the Sri Lanka Rupee in relation to foreign currencies; (c) the promotion and maintenance of a high level of production, employment, and real income in Sri Lanka; and (e) the encouragement and promotion of the full development of the productive resources of Sri Lanka. 

In 2002, this Section was repealed in favour of a more streamlined objects clause, with the Central Bank of Sri Lanka as the authority responsible for the administration, supervision and regulation of the monetary, financial and payments system of Sri Lanka, entrusted with the duty of securing, as far as possible, the objectives of:

(a)economic and price 

stability; and 

(b) financial system stability, with a view to encouraging and promoting the development of the productive resources of Sri Lanka.

A Central Bank publication of June 2014 makes reference to this amendment having been introduced to overcome the difficulties faced by multiple objectives being in conflict and inconsistent with each other. Further, the said publication cites the consensus developed at the time internationally that a Central Bank’s primary goal should be the maintenance of price stability and the importance of the financial system stability for economic stability, as the grounds of incorporating price stability and financial system stability in the new objects clause. 

However, if one compares these revised objectives, with the stated objectives of the Federal Reserve Bank of the United States for instance, it could be seen that the focus in the US is more specific and growth-driven in view of the three specific goals set out therein, i.e., 

(a)maximum sustainable employment;

(b) stable prices, and 

(c)moderate long-term interest rates. 

In relation to monetary policy, the objectives of the Bank of England are identified to be (a) maintenance of price stability; and (b) subject thereto, to support the economic policy of the Government, including its objectives for growth and employment, in addition to the general objective of the Bank, viz. the protection and enhancement of the stability of the financial system of the UK. 

The objectives of the Monetary Authority of Singapore are to (a) to maintain price stability conducive to sustainable growth of the economy; (b) to foster a sound and reputable financial centre and to promote financial stability; (c) to ensure prudent and effective management of the official foreign reserves of Singapore; and d) to grow Singapore as an internationally competitive financial centre. It is further provided that when giving effect to its objects, the Authority is to act on the basis that the object in paragraph (b) prevails over the object in paragraph (d) above.

Consequently, it can be seen that the stated objects of the several Central Banks cited before, are, expressly, more growth driven. The maintenance of price and financial stability by these institutions are not limited to facilitating economic growth, but are expressly targeted towards achieving economic growth. In this respect, it appears that even though in Sri Lanka, the object of, for example, the promotion and maintenance of a high level of production, employment, and real income has now been omitted, in the jurisdictions cited above, analogous provisions still remain.

Similarly, even when one compares the Securities Exchange Laws, Sri Lanka’s legislative provisions have traditionally been weighted towards (a) creating a fair and orderly market; (b) protecting investors; and (c) ensuring standards. However, in the US, whilst the protection of investors and maintenance of fair, orderly and efficient markets is mandated, there are provisions which mandate equal priority to be given to the facilitation of capital formation.

Consequently, the object of capital formation (the process of generating capital/a term used to describe the net capital accumulation during an accounting period for a particular country, including addition of capital stock) has been given equal status as the protection of investors and their interests, and it may be argued that this is justifiable, in view of the fact that ultimately, it is the enhancement of capital that would bring about real benefit to the investors and the people.

It is in this background that it could possibly be argued, that the objective of capital formation is as important, and a competing interest, that must be considered, when taking regulatory measures. 

In this respect, in the US for example, when making rules, the respective regulators would take into account the effects the rules would have on efficiency, competition and capital formation.

The differences found in our legislative provisions possibly stem from the very foundation of our respective societies, Sri Lanka as a stated Socialist Republic, whilst the US as a Capitalist nation.

With the passage of time, we now proclaim to have a mixed economy, but an important question that must be posed is whether the present legal framework which regulates our markets is reflective of this mixed economy.

In this respect, if in fact we are to make the private sector the engine of growth, should the legal regime that supervises our financial and capital markets also give due statutory recognition, consideration and impetus for economic growth physically and monetarily? 

In this light, should it be the legally-sanctioned duty of all stakeholders to encourage capital formation, maximisation of employment and the promotion of efficiency and competition, whilst simultaneously taking measures to protect investors? Consequently, should there be a permissible threshold of risk when seeking to develop and make available more capital raising opportunities in markets where the fundamental principles of the capitalist system, i.e. of demand and supply play out?

These are all matters that would require in depth policy level debate and consideration and which need to be ironed out from a holistic macroeconomic viewpoint, and if accepted to be necessary, then reflected in legislation, in order to ensure clarity of purpose and statutory responsibility towards maximising potential benefits.

[The writer is an Attorney-at-Law in practice before the Superior Courts who is also engaged in Corporate and Legal Consultancy. He is a Fellow Member of the Chartered Institute of Management Accountants (CIMA – UK), and an Alumnus of both the Faculty of Law of the University of Colombo and the Harvard Kennedy School of Government, Executive Education. He is a Commission Member of the Securities and Exchange Commission of Sri Lanka.]

(Disclaimer: The views expressed herein are that of the author and do not necessarily reflect the views of the SEC.)