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ing of the act and the necessity standard is a rigid one. The burden is not lightly overcome.
Judge MČLaren last month had occasion to consider the question anew in his ruling in Zuckerman v. Yount, an August 2 decision of the U.S. District Court for Northern Illinois. The question was whether an exchange's membership requirements were immune from antitrust scrutiny. The plaintiff, a prospective broker-dealer, had alleged that defendants conspired to restrain it from securing business by inducing the Midwest Stock Exchange to postpone, delay, and deny its membership on the exchange; and prevent one of its principals from functioning as a specialist. Defendants responded by arguing that the complained of actions did not constitute antitrust violations because they had been performed pursuant to the duty of self-regulation imposed by the 1934 act.
Judge McLaren's technical holding was that the issues precluded summary judgment as sought by defendants because there were indeed genuine issues of fact to be resolved. But the heart of the opinion deals squarely with the issue of implied immunity growing out of the 1934 Act.
Judge McLaren reiterates that Silver makes clear that there is nowhere an express exemption, that exemptions, if any, are only by implication, and that such implied exemptions are not favored. Antitrust repeal is to be regarded as implied only if necessary to working of the act and, even then, only to the minimum extent necessary.
Crucially, if the implied exemption is to be kept at the minimum, writes the Judge, “there must first be an inquiry as to whether the rules that were allegedly violated are essential enough to the operation of the 1934 act that the anticompetitive impact that may result from their enforcement must be tolerated.” Judge McLaren has provided us, by so ruling, with two vital lessons. First, of course, that the implication of exemption can only flow from true necessity; but second, that the antitrust test of necessity is to be applied by the courts. It is in part a fact determination and summary judgment is barred.
I believe these are sound principles, and by leaving their determinations to the courts under the antitrust laws, H.R. 5050 does major service to the commitment to fair and open markets.
There are other very important advances made by your bill. In November 1971, in my appearance before this panel and in a letter to the Assistant Attorney General, I urged action against a number of specific anticompetitive exchange practices that I felt could not meet the courts' standard. Foremost among them were commission rate fixing, limited membership and prohibitions on members engaging in offboard trading. It is to the great credit of this subcommittee, and will be to the immeasurable benefit of the investing public that H.R. 5050 proposes to eliminate all three of these barriers to the operation of free and competitive forces.
I would therefore like this morning to express particular support for sections 6(b)(2) and 6(b)(5) of proposed section 202 of your bill and to similarly urge the adoption of proposed section 209.
Section 6(b)(2) would end at long last the unwarranted "private club” approach to exchange membership. Any registered broker-dealer could become a member upon meeting applicable standards of competency and responsibility.
Today, as you know, there is still an artificial limitation on exchange membership arbitrarily fixed at 1,366 seats for the New York Stock Exchange. Since many exchange members do not, of course, use the actual facilities of the floor, the restriction cannot be justified on the basis of space limitation. Rather, the motives are bluntly and disturbingly anticompetitive. Restriction preserved the value of seats on the basis
of their artificial scarcity. And what is worse, since the principal benefit enjoyed by many exchange members is access to the membership commission rate, a seat in effect currently represents access to a price-fixing scheme. Thus the combination of your proposed sections 6(b)(2) and 6(b)(5) would effectively put an end to the exchange's abominable status as a trade association engaged in price fixing and selling selective memberships.
The key, of course, to the continued enjoyment by the exchange of this unwarranted privilege remains the practice of fixing commission rates. That is why adoption of 6(b)(5) is so terribly important. Happily this legislation would require competitive commission rates for all transactions on registered exchanges. It is, I believe, a far healthier and more pervasive solution to current industry ills than the halfway proposal of the SEC. The Commission would by 1974 allow negotiated rates on transactions over $100,000 but has not as yet addressed itself to the issue below that amount. I am hopeful that the SEC will rethink its position, indeed it may now be doing so. In the long run, only fully competitive rates can effectively protect and benefit investors.
This has always been a viewpoint shared by the Department of Justice. To be sure, as recently as this past July, Assistant Attorney General Kauper testified before this subcommittee that the continuance of fixed rates denies brokers the flexibility to adjust their rates in a manner dictated by costs, is not necessary to protect investors or otherwise serve the public interest, and indeed has had serious adverse effects on the securities markets.
In other words, gentlemen, in the securities markets, as in all our markets, we must rest our faith and build our foundation on competition, not on protective regulation. This is especially important as we move in the industry toward a central market system whose objectives are that customers should receive the best possible execution of their orders in any market, wherever situated. It is just such a system that is envisioned by H.R. 5050.
No current exchange rule more perniciously undercuts the premises of these goals than does rule 394 which prohibits exchange members from engaging in off-board trading in listed securities, except under the extremely complicated and very difficult requirements of 394(b). So outrageously anticompetitive, in fact, are these requirements that, I am informed, only two transactions met their standards in all of the first 6 months of 1973.
The exchange has long been aware of public urgings to rescind this rule. Indeed, a staff study of the SEC released in 1971 concluded:
"[T]he operation of Rule 394 appears ... to have thwarted rather than furthered the purposes of the Exchange Act, a result which appears to have important implications under the antitrust laws.” Because the exchange has consistently refused to heed these urgings by the SEC and by the Congress, this subcommittee had no choice but to recommend legislation that would have the effect of abrogating the rule. This is the thrust of proposed section 209 which prohibits any national securities exchange or association from preventing its members from executing transactions for customers in other markets whenever those markets offer a better price. Toward the same end, section 209 also requires the SEC to adopt rules to assure that brokerdealers execute orders for their customers at the best price.
I believe adoption of 209 is absolutely central to the goal of an open market. Rule 394 is designed to preserve the power of New York Stock Exchange members to impose double commissions on trade effected through the exchange. The interest of investors in getting best executions on the exchange has always been of distinctly secondary importance. This must not be allowed to continue. It is an abysmal practice.
Lastly, this morning I wish to raise with you two items in your bill regarding the authority of the SEC. Both are important, I think, to the best operation of the securities markets in the public interest; one with regard to assuring an effective, competitive central system and another with regard to the processing of securities related issues in the courts.
The first item concerns proposed section 17(d) of section 305, clarifying the Commission's authority to adopt rules concerning a consolidated tape and a composite quotation system. The institution of such a tape and the adoption of such a system are vital to insuring the advent of fully competitive forces in the envisioned central market system. However, it is unclear today whether the SEC's current authority is sufficiently broad to permit the adoption of the necessary rules. By making the SEC authority clear in this regard, H.R. 5050 affords added protection.
Finally, there is title I of your bill which aims at making the SEC more independent of the executive branch. This is a laudable objective, one which I feel can have lasting benefits to both investors and broker-dealers. My years as chairman of the Committee on the Judiciary leave me particularly interested in proposed section 4(d) (1) of section 101. The Commission is there authorized for the first time to conduct all its own civil litigation, including litigation in the Supreme Court. The Commission now conducts all such litigation except in the Supreme Court, wherein the Solicitor General assumes authority in handling cases.
This means that currently it is not the independent agency, but rather, the executive branch, that controls whether to petition for certiorari, what arguments to pursue, what to make as the controlling theory of the case, and who should get first crack at oral argument. Though I do not suggest any abuse of these determinations by the Solicitor in the past, the Commission itself feels strongly that these vital choices affecting national securities policy ought to be vested with the independent agency charged with administering the congressional policy in the public interest. I believe they are entitled to that freedom, free from executive control. Nothing in your bill would preclude the Solicitor from expressing his own views with respect to SEC cases, should he choose to do so.
Gentlemen, as always, I have immensely enjoyed sharing my views with you, and with your distinguished chairman. I hope I have not left the impression this morning that there are presently no healthy practices on Wall Street. Of course, there are. But there are still far too many obnoxious ones and they must be weeded out. When H.R. 5050 becomes law, we will be that much farther along in developing a healthy, open securities industry. Thank you. .
Mr. Moss. In his statement, Mr. Celler enthusiastically endorses the major provisions of H.R. 5050, particularly those provisions calling for the elimination of fixed commission rates and the elimination of New York Stock Exchange Rule 394.
Mr. Celler also endorses the determination made in H.R. 5050 not to grant the National Stock Exchange's immunity from the antitrust laws. Mr. Celler urges the subcommittee to continue this policy in its markup and reporting of the bill.
Our witnesses this morning and for the balance of the week will direct their attention to title IV of H.R. 5050. This title, concerning the back office problems facing the securities industry, generally parallels the provisions of H.R. 16946, reported by the committee and passed by the House last year.
S. 2058, a bill similar in purpose to title IV of H.R. 5050, has passed the Senate this year. The Senate bill would divide regulatory authority of stock clearing agencies, securities depositories, and stock transfer agents among the Federal bank regulatory authorities and the Securities and Exchange Commission.
Title IV of H.R. 5050, proceeding on the theory that it is the function performed and not the form of the entity performing such function that controls, vests all authority in the Securities and Exchange Commission.
Our first witness will be Hon. John Evans, Commissioner of the Securities and Exchange Commission. Before joining the Commission, Mr. Evans was counsel to the Senate Banking Committee. Commissioner Evans is accompanied by Mr. Lee Pickard, Director of the Division of Market Regulation.
You may proceed, gentlemen.
STATEMENT OF HON. JOHN R. EVANS, COMMISSIONER, SECURITIES AND EXCHANGE COMMISSION; ACCOMPANIED BY LEE PICKARD, DIRECTOR, DIVISION OF MARKET REGULATION
Mr. Evans. Mr. Chairman and members of the subcommittee, I have the privilege of appearing before you today on behalf of the Securities and Exchange Commission to discuss our views regarding title IV of H.R. 5050. At the outset, I would like to state that the other members of the Commission have considered and approved this statement.
The provisions of title IV of H.R. 5050 would, among other things, provide the Commission with additional authority over the processing of securities transactions and would provide a particularly comprehensive and effective regulatory framework for the development of an integrated national system for the prompt and accurate processing of securities transactions. We believe, however, that these objectives could be more appropriately achieved by a slightly different approach which would utilize the expertise and manpower of both the Commission and the Federal bank regulatory agencies, and avoid duplicate regulatory efforts.
Our specific suggestions to accomplish these objectives are more fully set forth in our comments in title IV, which were submitted to the subcommittee on July 20, 1973 (see p. 1784].
The principal entities engaged in the processing of securities transactions are depositories, clearing agencies, transfer agents, and brokerdealers. These entities perform an important and distinct function in the settlement and clearing process, but their activities are not coordinated into a smooth functioning, efficient nationwide system for the handling of investors' securities.
In general, this situation is the result of various diverse developments in the securities industry which have, independently of one another, led to different approaches in attempting to meet securities processing needs. For example, apart from the consolidation of the clearing operations of the New York and American Stock Exchanges, each major exchange and the National Association of Securities Dealers, Inc., has a separate clearing agency for transactions between its members. In addition, each corporate issuer either acts as its own transfer agent or retains a separate organization, which may or may not be a bank, to perform that function. Depositories have been of more recent origin, but there has been a definite tendency toward separate and independent depository systems. Interface between these clearing and depository systems, to reduce costs and improve transaction capabilities, has been slow and difficult. Although there has been some progress made, we still feel that a great deal more progress could be made.
We believe that coordination of the activities of these entities is necessary and fundamental to provide adequate facilities to meet the needs of the Nation's investors for processing securities transactions. There is no doubt that an adequate interface among these entities must be developed. The Commission is, of course, concerned about the rapidly rising costs of doing business in the securities industry and their adverse effects upon profits and services of the brokerage community. Creation of an integrated securities processing system would provide potentially important economies which would benefit all participants-broker-dealers, banks, other institutions, and individual investors.
Processing economies, the public interest, our concern for protecting investors against loss of securities and cash, the need to maintain the financial and operational responsibility of broker-dealers, the need for greater confidence in our securities markets and the expectation that the markets of the future will be required to handle greater volume with greater sophistication, all require present action toward building a nationwide system for handling securities transactions.
We believe that to achieve this, a single public regulatory body must be in a position to oversee the entire process, and we further believe that the Commission can best perform that function. Presently, the Commission has authority over the execution of transactions, as well as over clearing and settlement functions. We believe this authority should be strengthened and extended to transfer activities. These segments of the transaction process are inextricably related, and we strongly believe that the Commission should have the authority necessary to guide the development of a modern system and sufficient flexibility to allow and encourage private sector innovation.