SEC Chief speaks on importance of regional integration of capital markets

Securities and Exchange Commission (SEC) Chairman Thilak Karunaratne yesterday highlighted the importance of the integration of capital markets within South Asia. 

He made a compelling case for such integration during his speech at a South Asian Federation of Exchanges (SAFE) workshop and panel discussion on the ‘Way forward for Exchanges in South Asia’. The event featured sessions by top executives representing the Bombay Stock Exchange (BSE), Pakistan Stock Exchange (PSX), Chittagong Stock Exchange, Maldives Stock Exchange, Royal Securities Exchange of Bhutan, Central Depository Bangladesh, Mercantile Exchange Nepal and the Colombo Stock Exchange, which is the chair of SAFE. The event coincided with a SAFE Executive Committee Board Meeting in Colombo. Following are excerpts from Karunaratne’s speech. 

I believe this is a much-needed platform to deliberate on the ‘Way forward for Exchanges in South Asia’, which is the theme of this year’s forum. 

South Asia remains the fastest-growing region in the world as reported by the World Bank with economic growth forecast to accelerate from 7.1% in 2016 to 7.3% in 2017. Sri Lanka’s growth rate is currently less but it is expected to be around 6.5% in 2018. Although the region’s economic growth projections are promising for the next few years, our countries will need to explore further opportunities to sustain this economic growth momentum. 

We have long come to believe that liquid, efficient stock markets are the foundation for achieving sustained economic growth. For these reasons, countries which have been overly dependent on traditional bank credit for many years are now gradually turning their attention to capital markets. Unfortunately in Sri Lanka the situation is different. Increasing interest rates are luring investments away from the capital market.

The fair and efficient functioning of exchanges is of significant benefit to the public. Therefore the failure of an exchange to perform its regulatory functions properly can have a far-reaching impact on the economy as a whole.  Regulatory functions of traditional exchanges include rulemaking in respect of members, products and trading itself. But as exchanges move from mutual entities to for-profit enterprises, as most of you have already done, they can create a number of challenges in respect of the regulatory roles the exchanges perform. These concerns include the compatibility of for-profit operation of exchanges with public interest objectives to the adequacy and efficiency of regulation.

In Sri Lanka we are in the process of introducing a new Securities and Exchange Commission (SEC) Act and we expect it to be passed by Parliament in the third quarter 2017.This will align our regulatory framework with international benchmarks and will include provisions to enable the licensing and regulation of a Demutualised Exchange. In this process, we will focus on governance arrangements as the primary means of ensuring stock exchanges have robust arrangements for maintaining a proper balance between the commercial interests and its regulatory responsibilities.

Moreover, after Demutualisation Stock Exchanges evolved into profit-seeking commercial enterprises which will explore arrangements to establish global alliances to remain profitable and internationally competitive. 

For that reason, there is a need towards greater integration of markets where there are no barriers to the movement of capital and there is easy access to each other’s stock markets. 

Now let me touch on the importance of regional integration of capital markets and working towards developing a regulatory environment which encourages stock exchanges to embrace integration.

 More recently, capital market integration has continued to accelerate as new investing opportunities emerge. Unfortunately, South Asia is the most malintegrated region in the world as a result of highly restrictive national policies governing financial markets.

Domestic markets can derive substantial benefits from regional integration including better allocation of capital, efficient sharing of risks, enhanced portfolio diversification and lower cost of capital. On the other hand various barriers including regulatory, information, infrastructure and taxation pose serious challenges to integration. Here one word of caution on the possibility of exposing exchanges to cyber attacks.

The above process will bring both opportunities and challenges to regulators, therefore it is important to move towards this way recognising the differing needs and development levels of the various regional markets. 

Moreover, a strong framework for prudential regulation is necessary to ensure that risks arising from integration are being assessed and managed well. Removal of controls on capital transactions within the region, the harmonisation of capital market infrastructure including regulations, taxation, accounting, trading systems and cross-listings of securities are necessary steps to move towards regional financial integration.

Investor confidence can be described as the foundation on which the capital market is built and sound regulation will be able to contribute towards attracting both local and foreign investors and stimulate economic growth. 

If markets are not operated in a transparent, efficient and fair manner investors are quick to flee environments that are unstable or unpredictable. Therefore, securities regulators are expected to detect market malpractices that distort price discovery and erode public confidence in the market and act promptly to deter such aberrations and protect the investing public. 

Here I wish to quote a news dispatch from Xinhua, the Chinese news agency datelined Beijing, February 26. I quote: ‘A Chinese regulator lashed out at “financial crocodiles” that gobbled up retail investors’ interests on the stock market on Sunday, vowing stricter regulation. Some “barbarians” and “crocodiles” hurt retail investors by plundering the stock market under the cloak of legality, said Liu Shiyu, chairman of China Securities Regulatory Commission (CSRC), at a press conference.

‘Liu said he was “astonished at the chaos” of the stock market after he assumed office last year. “The lure of money is huge.... On the capital market, financiers are just half a step away from ‘financial crocodiles’,” Liu told reporters. He said the CSRC’s top priority is market regulation, which “allows no ambiguity or wavering”.’

Cooperation is fundamental to regulating capital markets and as such the IOSCO Multilateral Memorandum of Understanding (IOSCO MMOU) and the recently finalised Enhanced Multilateral Memorandum of Understanding (EMMOU) can help to strengthen our framework for regulatory cooperation and information-sharing among fellow regulators for better supervision of markets.

Going forward, we must continue to work towards more interconnected markets that work better for us in the future and ensure that our region remains a global growth hotspot. 

In conclusion, I trust your deliberations will definitely lay the foundation to explore future developments in the region and promote regional cooperation and integration. Finally let me wish the forum all success. 

Pix by Upul Abayasekara