Essentially everywhere in the world, we see unification of trading in all kinds of products -- spot or derivatives, equities or currencies or fixed income or commodities etc., OTC or exchange. It makes too much sense to reap economies of scale and economies of scope, both in the private sector and in the work of regulation and supervision. The arrangement in India, where the Forward Contracts Regulation Act (1952) envisages the Forward Markets Commission that is a part of the Department of Consumer Affairs, is a silly one.
Everything we have learned about how to run the equity market is valuable for commodity futures:
- The regulatory governance process at SEBI including authority to issue regulations, enforcement process, appeals at SAT, etc.
- Governance problems of Infrastructure Institutions with three-way separation between shareholders, managers and trading members.
- Netting by novation at the clearing corporation.
- Not having `badla' trading.
It is likely that the Ministry of Finance would not give an exemption to any exchange from regulation. A lot of what we saw in this field in the last decade would not have arisen if commodity futures had been placed with SEBI and MoF. But then, we have had dubious finance ministers and one should not be too confident. The price of sound governance is eternal vigilance.
Merging FMC into SEBI began as controversial ideas:
- One markets regulator or three? in the Business Standard, 1997.
- An interview in the Financial Express, 1998.
- Rethink financial intermediation in the Business Standard, 1998.
Then it turned into a government committee process:
- On 14 May 2003, a committee was setup headed by Wajahat Habibullah, who was secretary of the Department of Consumer Affairs. Key persons who shaped this work were S. Narayan, who was Secretary at the Department of Economic Affairs, and Ashok Lahiri, who was Chief Economic Advisor.
- Percy Mistry's committee said: Redraft the legal foundations for organised financial trading, so as to unify all organised financial trading under SEBI regulation. This would include currencies, equities, sovereign and corporate bonds, and commodity derivatives.
- Raghuram Rajan's report said: all organized financial trading, spanning currencies, fixed income, equities, commodity futures, exotics (such as weather and decision markets), and spanning all trading venues and forms of trading should come under a single regulator, the SEBI.
- The draft Indian Financial Code has a general and sector neutral treatment of financial regulation where all organised financial trading is the work of the Unified Financial Authority.
In 2003 and 2004, we were well on our way on getting this done. However, once the UPA government came to power in May 2004, and Sharad Pawar became the minister in charge of Consumer Affairs, it became infeasible to shrink his turf. By that time, substantial commercial interests had developed which wanted to preserve the existing arrangement, with regulatory capture of FMC.
More generally, one of the most harmful instincts of bureaucrats and citizens in India is the notion that the boundaries of government agencies are somehow sacred. There is much resistance to changing the role and function of a government agency. But every employee of government exists to serve the people of India, and we need to continually change the block diagram of government so as to best cater to the fast changing requirements of the economy.
Now we have a crisis on our hands, and policy makers have resurrected the project. While there is a news item, the details are not yet visible. The first step would be a small change in the allocation of business rules, through which the subject of commodity futures trading would shift from the Department of Consumer Affairs to the Ministry of Finance. The big step would be to repeal the FC(R)A and modify securities law appropriately; until this is done, the gains would be limited. The draft Indian Financial Code is a natural source of ideas on how this drafting should be done.
In the short term, the FMC would become a part of the Ministry of Finance. Important decisions at FMC would go up to the Ministry of Finance and ultimately the Minister of Finance for approval. The knowledge on organised financial trading at the Ministry of Finance will give us improved decisions under the existing law. We may expect considerable porting of regulations and public administration practice from SEBI into FMC.
This seems to be a season for old policy projects working out. First the Pensions Act, and now this. Nothing like adversity to make India deliver.
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