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Managing Conflicts of Interest in Regulatory Roles
Context:
A former SEBI chairperson was mocked for not having experience with share certificates, casting doubts on their ability to regulate securities markets. Today, the tables have turned, with a new chairperson facing criticism for having too much experience, raising concerns about conflicts of interest.
Managing Conflicts of Interest in Regulatory Roles
- In any market economy, conflicts of interest are common, but issues arise when regulators allow personal interests to affect official decisions. Excluding individuals with conflicts may limit the talent pool, so the goal should be managing, not eliminating, conflicts of interest.
- Safeguards: In the U.S., market professionals frequently move between regulatory agencies like the Securities and Exchange Commission (SEC) and private firms, sharing expertise between regulators and industry.
- Safeguards like disclosure, cooling-off periods, and recusals are employed to manage conflicts of interest.
- Independent Regulators: Historically, the government was both a business operator (e.g., BSNL, LIC) and a regulator in sectors like telecom and insurance, creating perceptions of bias.
- Independent regulators (like SEBI, CERC, PNGRB) were established to eliminate conflicts of interest.
The Glass-Steagall Act, enacted in 1933, was a significant piece of legislation aimed at restoring public confidence in the banking system following the Great Depression. It primarily sought to separate commercial banking from investment banking, thereby reducing the risks associated with speculative activities that could jeopardise depositors’ funds.
SEBI’s Conflict Management
- Barring Directors: SEBI was tasked with regulating securities markets, and its early mandate barred company directors from serving on its board to avoid conflicts.
- The SEBI Act was amended in 1995 to allow directors with capital market expertise to join, while ensuring mechanisms to manage conflicts.
- Code to Manage: SEBI attracts professionals from public and private sectors. Public sector professionals typically don’t hold shares, facing fewer conflicts, while private sector professionals may own securities, raising conflict potential.
- SEBI introduced a Code on Conflict of Interest for Board Members in 2008 to address these issues.
- Demutualisation: SEBI identified conflicts among frontline regulators like stock exchanges, which were historically governed by brokers.
- To address repeated misconduct, exchanges were demutualised and corporatised in 2005, separating regulatory and commercial functions.
- Conflict Management: SEBI uses conflict management to improve governance across markets, asset management, and product distribution.
- Insider trading, front-running, and personal gain from confidential information are prohibited.
- Investment advisers and analysts must disclose conflicts and cannot promote products they have personal interests in.
- Governance in Asset Management: Key executives in asset management companies must invest in the schemes they manage to align their interests with investors.
- Employees are restricted from trading in securities related to companies they invest in or oversee.
- Independent Directors and Related-Party Transactions: Independent directors are not allowed to hold stock options to ensure unbiased decisions.
- Related parties are barred from voting on related-party transactions to avoid conflicts.
- As the securities market grows more complex, SEBI and the government need to attract diverse talent while implementing a robust conflict management framework. This should cover all regulators and ensure transparency, following governance norms, market practices, and international standards.
