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MEMORANDUM RE: THE PROPOSED NationAL SECURITIES EXCHANGE ACT

OF 1934

To the Commitlee on Banking and Currency of the United States Senaie.
To the Committee on Interstate and Foreign Commerce of the House of Representatires.

The National Automobile Chamber of Commerce (referred to hereafter as the chamber”) respectfully submits the following objections to certain provisions of the proposed act to regulate stock exchanges which directly affect business corporations whose securities are listed on national exchanges. The sections of the proposed act as they appear in the revised draft of the bill introduced in the House on March 19, 1934, to which the Chamber is particularly opposed are sections 11, 12, 13, 15, and 25.

The automobile industry believes that the proposed bill, through the provisions of the above sections, goes far beyond the legitimate purposes of stock exchange regulation and under the guise of that purpose extends to industry in general an unjustified governmental supervision over certain phases of its internal management. Aside from the question of the constitutional power of Congress to so extend governmental supervision to business in general, the chamber believes that there is no justification for governmental interference with the normal functions of private management. If long recognized principles are to be discarded and all business is to be supervised by a governmental agency then, in effect, all business is being put into the category of the railroads. To such a general theory that all industry should come under governmental bureaucracies, this chamber is unalterably opposed. If control of certain features of corporate management is to be given now to a Federal agency, it is likely to be but the beginning of the usurpation of other functions of management.

In addition to its general objection to the regulation of phases of general business management by a Federal agency, the chamber submits that the sections referred to impose undue hardship on business without compensating advantages to the public.

Sections 11 and 12 of the proposed bill would require corporations whose stock is to be traded in on an exchange to register with the exchange and the Federal Trade Commission and to file certain information, reports and data, together with such additional information as the Commission shall deem necessary or appro. priate in the public interest or for the protection of investors.

In connection with the registration of its stock, a corporation is required to agree in advance to comply with such rules and regulations as the Federal Trade Commission may make. This provision in effect makes an unfair demand of corporations and places an undue responsibility on directors. Considerable doubt exists as to the right of corporate directors to delegate their powers of management by agreeing in advance to matters which may affect the interests of the corporation when the determination of such matters is left entirely to outside parties over which the corporation will have no control. The fear that has arisen in connection with this section may well cause many corporations to refuse to register their stock with consequent loss of a free market for such stock and with the adverse economic effect which such a result would entail to the public in general.

Much of the specific information required by the sections would be of little benefit to the public but would seriously affect the interests of the corporation by the disclosure of facts intimately related to confidential affairs of the corporation to competitors and to prving individuals with no legitimate ends to be served. It is reasonable to assume that the average investor is primarily interested in the true character of the security, and the actual assets and the actual earnings of the corporation. The giving of information which goes beyond these phases of the corporation's affairs exceeds the legitimate requirements of investors and the public interest.

It is submitted that sections 11 and 12 have no proper place in this bill. If, however, the Congress deems the general purpose of these sections essential, it is suggested that fairness requires that the sections be substantially amended. If a provision along such lines is deemed desirable, the following is suggested in lieu of sections 11 and 12:

“SEC. 11. (a) It shall be unlawful for any person to effect any transaction in any security on a national securities exchange after such a security has been deprived of trading privileges of such exchange.

(b) If an issuer lend any funds, except upon exempted securities, at the money post of any exchange or to any member thereof or to any broker or dealer who transacts a business in securities through the medium of any such member

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except in accordance with such rules and regulations as the Federal Reserve Board may prescribe, provided that the provisions of this paragraph in regard to lending shall not apply to a member bank of the Federal Reserve System, or fails to file such information, documents, or reports as may be required by rules and regulations of the Commission to adequately reflect the terms, position, rights, and privileges of the different classes of securities outstanding and the actual assets and actual earnings of the corporation, including an annual report certified by an independent public accountant, the Commission, in its discretion, after notice and an opportunity for a hearing, may require that the securities of such issuer be deprived of trading privileges on such exchange.

The above section would fully protect the interests of the public in that corporations would be required to give all proper information or have their securities deprived of trading privileges on such exchanges. It would not require corporations to agree in advance to things they know not of and so would avoid a natural fear and hesitation over registration of securities.

It seems clear that if Congress has power to regulate exchanges, it has power to prescribe on what conditions trading in a stock may be permitted on such exchanges.

Section 13 (a) relating to proxies has been substantially modified but it still wilı impose considerable expense and trouble on corporations without any apparent benefit to their stockholders. It is believed that the methods of securing proxies under the corporation laws of the several States are fair, do not prevent the solicitation of proxies by stockholders dissatisfied with the management of a corporation, and that section 13 (a) should be omitted from the proposed act.

Section 15 requires the disclosure of all purchases and sales of stock by every person who is the beneficial owner of more than 5 percent of any class of any equity security or by any officer or director of an issuer whose stock is listed on an exchange, and permits the recovery by the issuer of any profit made by such persons on less than 6 months' transactons in the stock of such issuer. It is believed that this section will have far-reaching adverse consequences not contemplated by the sponsors of the bill. It will discourage the ownership of stock by officers and directors who are the parties directly charged with the management of corporations. That it is in the interest of the stockholders of a corporation to have those charged with the responsibility of management own a substantial interest in the corporation has long been recognized.

Furthermore the disclosure of purchases or sales by officers or directors of a corporation is likely to be misleading to the public. Parties without knowledge of all the circumstances unquestionably would be inclined to place undue importance on such transactions. For instance, suppose the head of a large corporation found it necessary for personal reasons aside from the nature of the investment to sell a substantial amount of stock of that corporation. Public knowledge of the sale might precipitate fear and cause a disastrous selling wave in the stock by the general public. Conversely, the values of stock may be unreasonably inflated upon news of the purchase of stock by such an individual. The section would put into the hands of unscrupulous officers and directors a most dangerous instrument for market manipulation. It is suggested that the public interest would best be served by omitting section 15 from the bill.

The penalties provided by section 25 seem to be too severe in view of the fact that the legislation is of new type and there are no precedents to guide persons who would endeavor honestly to comply with the act. Penalties should not be so severe as to discourage the doing of business under the act. We should profit from the experiences with the penalties imposed by the Securities Act of 1933. Respectfully submitted.

NATIONAL AUTOMOBILE CHAMBER OF COMMERCE.

MEMORANDUM SUBMITTED BY NOEL T. DOWLING CONCERNING THE POWER OF CONGRESS, UNDER THE COMMERCE CLAUSE, TO REGULATE SECURITY EXCHANGES

This memorandum is concerned with the basic question whether Congress, by virtue of the commerce clause, has power to regulate security exchanges. Its purpose is to show that a constitutional foundation exists upon which may be built a statutory structure for the regulation of such exchanges. For if this power can be established, as in my opinion it can, then it becomes largely a

severe.

question of fact and of administrative judgment whether and how far the regulation shall be extended beyond the exchanges themselves and applied to related and collateral activities.

I Regulation of security exchanges is a national problem.The national character of the problem of the regulation of security exchanges is shown by the facts. Some of them are subject to judicial notice. Others have been brought out by the congressional investigations or have been gathered as a result of independent studies. A few of the broader aspects may be noted here as bearing on the national interest.

Transactions upon the security exchanges may have a direct effect upon the ability of the instrumentalities of interstate commerce to perform their functions. New security flotation is difficult if, because of manipulation or loss of public confidence, existing securities have shrunk to abnormally low values. With this should be considered the frequent refunding operations made necessary for the American railways by virtue of their heavy funded debt. The other carriers (air and motor transport, pipe lines) have in general a small funded debt but their stock distribution is more limited, making speculative movements more

No reason appears why the burden which may thus be imposed upon the efficient functioning of the interstate transportation system is any less direct or real than that of low intrastate passenger fares, Railroad Commission of Wisconsin v. Chicago, B. & Q. R. Co. (257 U.S. 563).

Interstate commerce in largest part consists of the movement of goods financed by credit. Without adequate credit facilities the physical instrumentalities of interstate commerce are near to useless. An unrestrained speculative activity absorbing, at times, billions of dollars of credit, at high interest rates, of necessity increases the cost of financing and, to a significant extent, diminishes the volume of credit available for the interstate transaction. An even more serious impediment to the continued functioning of this interstate shipment is found in the vulnerability of the commercial banking system to extreme fluctuations in the quoted values of securities. Through direct investment and through collateral required of the borrower, the commercial banks are so circumstanced that an abrupt decline from a speculative peak must reap a heavy toll in insolvency, with consequent attrition of the interstate movement of commodities. A congressional power which can reach the purchase of stock in competing businesses, Northern Securities Co. v. United States (193 U.S. 197), the charging of discriminatory prices, Van Camp & Sons v. American Can Co. (278 U.S. 235), and the publication of an “unfair" list, Loewe v. Lawlor (208 U.S. 274), because of a possible diminution of interstate commerce, hardly can be said to fall short of protecting the essential credit foundation from the dangers presented by an unrestrained speculative market for securities.

Since “commerce among the States is not a technical legal conception, but a practical one, drawn from the course of business”, (Swift & Co. v. United States, 196 U.S. 375, 399) one must take a practical view of the nature of interstate com

In commercial reality it is, in the largest part, the result of orders placed by businessmen hoping to resell at a profit. If their predictions of their markets fluctuate, so will fluctuate the volume of interstate commerce. The movement of securities on organized exchanges is an important matter in shaping the judgment of business men as to the future. It seems clear that a power to regulate interstate commerce is incomplete if it cannot serve to guard the exchanges from manipulated movements and speculative hysteria. The words of Woolsey, J., are peculiarly appropriate in this regard (United States v. Brown, 5 F. Supp. 81, 85; D.C., S.D.N.Y. 1933):

"When an outsider, a member of the public, reads the price quotations of a stock listed on an exchange, he is justified in supposing that the quoted price is an appraisal of the value of that stock due to a series of actual sales between various persons dealing at arm's length in a free and open market on the exchange, and so represents a true chancering of the market value of that stock thereon under the process of attrition due to supply operating against demand."

None but the brave could say that interstate commerce is more directly burdened by the exclusion of cooperative marketing associations from grain eschanges, Board of Trade v. Olsen (262 U.S. 1), than by speculative upheavals on the securities markets.

The marketing of securities in interstate commerce has recently been subjected to a large measure of congressional control. See The Securities Act of 1933 (33 Columbia Law Review 1220). This control is incomplete without control of the securities exchanges. “Market support" is an almost invariable corollary of

merce.

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security distribution and, in the case of stocks, is often accompanied by additional sales on the exchange made by the sponsoring banking house or syndicate.

The strength of the national interest in the proper functioning of the securities exchanges hardly can be questioned. Ours is a credit economy, dependent upon the exchanges for the liquidity of its fixed assets and for the solvency of its financial institutions. This national interest is a factor which of necessity colors any judicial consideration of the implications of the commerce clause. As Holmes, J., writing for the court in Missouri v. Holland (252 U.S. 416, 433, 435), sustaining an act of Congress to carry out a treaty relating to the protection of migratory birds, said:

it is not lightly to be assumed that, in matters requiring national action, 'a power which must belong to and somewhere reside in every civilized government' is not to be found

Here a national interest of very nearly the first magnitude is involved

We see nothing in the Constitution that compels the Government to sit by while a food supply is cut off and the protectors of our forests and of our crops are destroyed. It is not sufficient to rely upon the States. The reliance is vain, and were it otherwise, the question is whether the United States is forbidden to act.”

While the existence of a national problem does not prove the existence of a national power, it does at least provide a good place to begin the inquiry. In the same case from which we have just quoted and in answer to the contention that the Migratory Bird Act constituted an invasion of power reserved to the States by the tenth amendment, Mr. Justice Holmes said (at 434):

“We must consider what this country has become in deciding what that amendment has reserved."

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II

The scope of the commerce clause is largely a question of fact.—That the scope of the commerce clause is commensurate with the national interests and that in proper circumstances Congress may control situations normally considered intrastate, is a doctrine announced by John Marshall more than a century ago. In discussing the power of Congress in Gibbons v. Ogden (9 Wheaton 1) he attempted to indicate something of its range by suggesting what it could not reach:

"The genius and character of the whole Government seem to be, that its action is to be applied to all the external concerns of the Nation, and to those internal concerns which affect the States generally; but not to those which are completely within a particular State, which do not affect other States, and with which it is not necessary to interfere, for the purpose of executing some of the general powers of the Government (at 195)."

Thus was the matter put in 1824. And it should not be forgotten that this ease, with its wide suggestion concerning the extent to which the delegated power over commerce may reach intrastate, came shortly after M'Culloch v. Maryland (4 Wheaton 316), with its doctrine of implied powers written into the theory of delegated powers, and constitutes part of Marshall's general development of constitutional interpretation. Under the affirmative implications of the words just quoted, it is permissible for Congress to regulate the internal concerns of a State if they affect other States and if it is necessary to interfere with them for the purpose of executing some of the general powers of the Nation.

As a corollary of the general rule that Congress has the implied power to take such steps as may be necessary to make effective its exercise of an express power, the Supreme Court has established the authority of Congress to enact whatever legislation is appropriate to "foster, protect, control, and restrain” interstate commerce. Second Employers' Liability Cases (223 Ú.S. 1); Mobile County v. Kimball (102 U.S. 691, 697); The Daniel Ball (10 Wall. 557, 564). This power, when need arises, extends not only to strictly interstate matters, but also to intrastate matters whenever the two are so intertwined or related as to affect interstate commerce or its successful regulation by the Federal Government. This exertion of congressional power is not restricted in niggardly fashion, but is recognized to be a governmental necessity and a beneficent adjunct of Federal authority.

But before examining the method by which the power may be extended to embrace intrastate affairs, it is well to note that, for the regulation of security exchanges, there is a core of interstate transactions around which the power of Congress may be built. For considerable proportions of the sales on the larger exchanges are made by interstate communication or contemplate physical delivery across State lines. That the transportation occurs before or after the sale does not serve to remove the transaction from he powter of Congress to regulate

under the commerce clause. Dahnke-Walker Milling Co. v. Bondurant (257 U.S.
282); McDermott v. Wisconsin (228 U.S. 115). That the thing sold is not tan-
gible property but rather the evidence of indebtedness or of ownership does not
serve to remove the transaction from the scope of the commerce clause. I'nited
States v. Ferger (250 U.S. 199); Champion v. Ames (188 U.S. 321).

Interstate Commerce Commission v. Goodrich T. Co. (224 U.S. 194) is illustrative.
In that case the Commission, acting under a congressional mandate, ordered the
Goodrich Transit Co. and a number of other Great Lakes water carriers to file
with the Commission on prescribed forms a statement of their operating revennes
and expenses, their corporate organization and financial condition, and other
desired data. The required statements were to contain information not only
concerning joint rail and water business, which was the portion of the carriers
business subject to Federal regulation under the then applicable statute, but
also concerning other aspects of the carriers' operations, both intrastate and
interstate. The Supreme Court held that the Commission's orders were valid.
Separation of the total business of the carriers into its component parts seemed
impracticable, and the accounting instructions were needed in order that the
Commission could inform itself so as to enable it properly to regulate the matters
within its authority. The decision is especially noticeable in view of the fact
that, in the case of one of the objecting carriers, the revenue drived from joint
rail and water traffic was less than 1 percent of its entire revenue.

Review of the decided cases indicates that the scope of congressional power is
ascertainable only by reference to the facts surrounding each application of it.
The problem and its treatment are strikingly similar to the procedure in cases
involving the due process clause. For example, in Stafford v. Wallace (258 US
495) the Supreme Court sustained the Packers and Stockyards Act against attack
under the commerce clause, noting that the business regulated was interstate
commerce or so associated with it as to be within the Federal powers. The late
Chief Justice Taft there said (at 513):

“It was for Congress to decide from its general information and from such
special evidence as was brought before it, the nature of the evils actually present
or threatening, and to take such steps by legislation within its powers as it deemed
proper to remedy them.”

Some years later, in Tagg Bros. & Moorehead v. United States (280 U.S. 420,
the Court had before it a case arising under the same statute; in this instance com-
plaint was made that the act, in permitting the fixing of permissible charges of
market agencies, violated the due process clause. The Court again upheld the
act, saying (at 439) that fixing the commission merchants' fees was reasonable
because “the purpose of the regulation attacked is to prevent their (the mer.
chants') service from thus becoming an undue burden upon, and obstruction of
that (interstate) commerce. In each case, the ultimate question was whether
there was a reasonable connection between the means adopted by Congress and a
permissible end. In each case the question was answered affirmatively.

The Supreme Court has often indicated its adherence to the doctrine that a
declaration of a legislative body, charged with the duty of knowing public condi-
tions, is of great weight in determining whether a particular statute is a resson-
able and necessary exercise of power. This rule, while originally applied in due
process cases (see, for example, Block v. Hirsh, 256 U.S. 135) has also been
utilized by the Court in commerce clause cases.

Of the latter class, Chicago Board of Trade v. Olsen (262 U.S. 1), sustaining the
Grain Futures Act, is of especial significance. And its significance becomes clear
when the case is compared with Hill v. Wallace (259 U.S. 44), holding the Future
Trading Act (a tax measure) unconstitutional. After the decision in the Hill
case Congress, as a result of an investigation, concluded that regulation of boards
of trade was necessary because trading in grain futures involved, or tended to
involve, a burden upon interstate commerce; and passed the Grain Futures Act.
Measured in terms of their objectives, there was no essential difference between
the two statutes. But the tax statute was invalidated, the commerce one sus-
tained. The difference in result turned on the finding by Congress as to the
effect of futures trading upon interstate commerce.

It is apparent, then, that regulation of intrastate transactions may be embraced
within the congressional authority over interstate and foreign commerce, if the
fact is that such regulation is related to regulation of interstate commerce and
implements or perfects the latter. A declaration by Congress, such as the declara-
tion in an introductory section of the proposed act to regulate security exchanges,
is affirmative evidence of the existence of the required relationship; the Suprenie
Court will not lightly disregard it.

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