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GAZETTE
JULY/AUGUST 1987
standards rather than rules and
operates on the basis of a "club
ethic". Its success rests implicitly
on the ability of its members to
keep out or so to "disoblige"
undesirables that they can no
longer carry on effective business.
It is noteworthy, however, that
under this system protection for
the private client and small investor
was largely incidental. Historically,
the system has worked reasonably
well, but it is debatable if it can do
so in the post-deregulation market,
where club rules are no longer in
control.
The case for practitioner-based
regulation
A strong case can also be made
for
practitioner-based regulation.
The City employs a large number of
people, earns an enormous amount
of foreign exchange and pays a
great deal of t ax. Modern
technology, in combination with
global deregulation, has made the
City extremely vulnerable to com-
petition from overseas financial
centres. The imposition of a heavy
handed legalistic system could
easily drive business away ir-
revocably. In addition, too many
restrictions will tend to drive
business underground or offshore
— a situation in which it will be im-
possible to protect investors. This
is the essence of the case for
practitioner-based regulation. The
Stock Exchange in London is quoted
as a prime example of successful
practitioner-based regulation. It has
a reputation for strict adherence to
high standards and, since 1973,
has had a successful system which
ensures compensation in the event
of a Stock Exchange firm failure.
In addition, there is the argument
that practitioners will have more
experience of the investment
markets and will thus be able to
regulate them more sensitively
than civil servants, especially in
areas where suspected malpractices
are shadowy or legally hard to
define. A good example of this is
the practice of "churning". This
occurs when clients are persuaded
to do deals where the only merit is
to generate commission. There is
a fine line, however, between
churning and simple bad judge-
ment. Churning is thus not only
hard to prove but also difficult to
define.
It cannot be assumed, however,
that there is a straightforward
choice between an independent
statutory agency and a practitioner-
based regulatory body. Even an
independent agency, such as the
U.S. Securities and Exchange
Commission (the S.E.C.) which
had policed the American stock
markets for 50 years does not
operate
independently
of
practitioner-based bodies such as
the N.Y. Stock Exchange. In secon-
dary trading, for example, the
S.E.C. has had to delegate its
control almost entirely to self-
regulatory organisations.
Despite extensive debate, the
new rules have, in principle, been
acknowledged as a major advance
in investor protection. Even the
most hardened advocates of
practitioner-based
regulation
acknowledge the need for tight re-
gulation in certain areas, for
example, the so-called "over the
counter" markets to which the
public have access. The new
Financial Services Act has been
designed to regulate not only the
U.K. Stock Exchange but all bodies
which engage in various aspects of
the investment business. Thus Life
Assurance and Unit Trust com-
panies, Investment Management
companies and a whole range of
Financial Intermediaries will fall
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