Speech by SEC Commissioner:
Convergence and Beyond
U.S. - Europe Symposium: Program on International Financial Systems

by

Commissioner Roel C. Campos

U.S. Securities and Exchange Commission

Armonk, N.Y.
November 15, 2003

I. INTRODUCTION

Thank you very much, Hal. That was a very nice and generous introduction. I want to congratulate you and Phil Wellons for the marvelous job you have done in organizing this symposium. It is delicate and laborious work and you have done a great job. Thank you for inviting me to be a part of this very capable and talented group.

Some of you may know that Hal Scott was one of my professors at Harvard Law School. Hal just told me that the class I took with him in 1979 was the very first banking law class given in any law school in America. Well, I remember that we did not have a book for that class and I never knew what far fetched items that were only tangential to banking might be covered when I came to class. Every class was an adventure and Hal would hand out Xeroxed materials that were still warm to the touch. I suspected at that time that Hal had been retained on some consulting project and he was using our class to help in his research. Just kidding. Anyway, I am glad, Hal, that you now have moved to the level of being able to hand out prepared glossy booklets and pamphlets.

These are marvelous facilities. It is good to know that an SEC regulated broker dealer can still prosper. I also have picked up a few decorating ideas. Have you noticed that on every strategic ledge or shelf there is a statue of a raging bull? I am thinking that possibly drawings of bulls or little porcelain ones, which is all we can afford with our SEC budget, will spur performance and productivity at the SEC. It seems to work for this company.

Before I go any further, I must give the standard disclaimer that the views I express here are mine and do not reflect the views of the SEC, its staff or the other Commissioners. The staff has come to know that I speak my mind and I often have different views than they do. I would like to think that the SEC Staff sometimes comes around to my way of thinking. My comments certainly do not signal future policy decisions by the Commission.

We have had terrific speeches by Randy Quarles last night and by Alexander Schaub today over lunch. In our "break out" sessions, we have explored in depth many of the international issues facing the securities industry today. There have been outstanding statements of principles and offerings of insight as to our mutual markets and regulatory framework. Most of you work and live in this arena of trans-Atlantic commerce and regulation. As such, given the prior speeches, your expertise, and the discussions that we have engaged in, and that it is a Saturday night - I find myself feeling great kinship to Elizabeth Taylor's fifth husband. You will recall that he was asked soon after the engagement was announced how, being the fifth, he would impress Elizabeth Taylor. He replied saying something like, "Well, I know what to do, I'm just not sure whether I can make it very interesting." We will see how I do in similar circumstances.

Tonight, I would like to present my views on the regulatory and business challenges facing European and U.S. financial markets, as well as the way forward, as I see it. I will speak about the securities regulation system of the United States and contrast it to the system in Europe. I also will discuss the concept of "convergence" and the current dialogue between regulators on both sides of the Atlantic. I also will address the question of "What is the next step after convergence is achieved?"

II. THE ISSUE OF A TRANS-ATLANTIC INTEGRATED MARKET

First of all, why are we having these discussions in the framework of this symposium? I think it is because all of us to some extent accept the notion that some form of integrated United States and European Union market - to be achieved in the future - will provide great value for both markets. Certainly, Alex Schaub had interesting statistics formulated by economist Benn Steil that predicted significant gains in GNP to both United States and Europe from an integrated market. However, Alfred Steinherr and others today questioned whether the gains from an integrated market would be as significant as Benn Steil predicts. Alfred posed the provocative question of whether most of the gains in output and productivity would primarily be realized from the integration of the European member markets, instead of the U.S. and EU being integrated. I certainly do not know the answer. Perhaps it is time to conduct a well-conceived, scientific study to determine the answer. Hal, maybe the Harvard Program on International Financial Systems can get funding to conduct a serious and definitive study on this issue?

Presently, it is true that there is a great deal of business being done on both sides of the Atlantic. The markets are being accessed successfully. However, the transaction and regulatory costs of cross-border access may be significant. Separately, the world has other significant players besides the U.S. and Europe. We must also not forget that there are ever growing giant markets in China, with its 1.4 billion people, and in India, with its 1.0 billion people. Further, India is training 70,000 software engineers a year. The rapid growth of these markets may influence - positively or negatively - the desire to integrate the U.S. and EU markets. In any event, until I see credible evidence to the contrary, I, for one, will continue to operate under the assumption that there is a large benefit to integrating the EU and U.S. markets as much as possible.

III. REGULATORY DYNAMIC IN THE U.S. AND EU

The SEC's primary concern in regulating U.S. markets is investor protection. Karel Lannoo of the Center for European Studies pointed out today that, in the U.S., 50% of the investors are retail, whereas, in Europe, the number of retail investors is quite small. Further, securities in Europe are overwhelmingly debt instruments in contrast to equity instruments being the dominant security in the U.S. Consequently, investor protection means different things to Americans and Europeans. From my perspective, American investors are better off when markets include foreign issuers and service providers, for which there is adequate information. Competition in our markets is a good thing and I embrace it.

The SEC has a long history of encouraging foreign financial services firms and issuers to come to US markets by generally according them what I call "national treatment plus." Essentially we treat foreign firms and issuers in the same manner we treat domestic players, with special consideration when circumstances warrant different treatment - the "plus" that I referred to. The SEC over the years has made numerous accommodations for foreigners that were consistent with investor protection.

The Sarbanes-Oxley Act is a good case study for the SEC's treatment of non-US market participants. The Act treated domestic and foreign market participants the same. However, in implementing the Act, it quickly became clear that in some cases, its impact on foreign market participants would not be equal because of conflicting home country regulations. The SEC made numerous accommodations in the implementing rules where consistent with the spirit and intent of the Act.

Some examples of the Sarbanes-Oxley Act accommodations that were made are as follows:

As can be seen, the Commission has recognized that accommodations for foreign market participants should be made where possible to do so without sacrificing investor protection. Once again, notwithstanding the carefully considered "pluses" or accommodations to foreign players, the starting point of our regulation is to treat everyone the same. Our goal in doing so is to create a level playing field. This way, all market participants receive the same regulatory treatment, regardless of their country of origin. Similarly, investors can count on getting the same information about all market participants regardless of their country of origin.

Complementing the notion of appropriate accommodations for foreign players is the concept of the "convergence" of international standards for securities regulation. If you can be patient, I will attempt to define convergence a little later in this presentation. Certainly, convergence of international principles, must occur based on best practices. Convergence must never be a "race to the bottom." The SEC has stated its support of, specifically, the convergence of international accounting standards at the highest level of practice. I believe the Commission further demonstrates support for this concept, on a broad basis, by recognizing the development of international standards principally through the work of the International Organization of Securities Commissions ("IOSCO"). The SEC also supports public "roundtables" to promote discussion and dialogue regarding international principles. To this end, the SEC also supports and has entered into Memoranda of Understanding (MOUs) both bilaterally and multilaterally to establish standards for enforcement, discovery and production of evidence.

In addition, the SEC promotes the concept and occurrence of dialogue between Europe and the U.S. I will have more to say about "dialogue" in a few minutes. So, to be clear, the SEC's approach consists of (i) national treatment "plus" appropriate accommodations, (ii) promotion of development of international principles, primarily through IOSCO and through convergence projects such as the U.S. GAAP/IAS convergence project, and (iii) the continuation of dialogue between Europe and the U.S.

IV. EU APPROACH TO SECURITIES REGULATION

Alex Schaub today at lunch had a very interesting description of the EU system of securities regulation. Many, including myself, have been under the impression that the EU supports a system of "mutual recognition." "Mutual recognition" has always meant in the SEC's view, that a player (e.g., an issuer or exchange) that was regulated in their home country, regardless of the quality of the home country standards, would not be subject to the regulation of the second country. Under mutual recognition, the second country could not add additional regulatory requirements and would depend solely on the home country's regulation. Very interestingly, Alex said that the words "mutual recognition" were now "banned from the vocabulary of Europe." Well, Alex, as we say in America, "Now, you tell me!" I spoke on this subject in Brussels last June and said that the SEC did not favor mutual recognition. Of course, the press immediately said I was tough and uncompromising for not being willing to accept mutual recognition. If you and I had spoken before my speech, I could have told the press that you and I were in agreement and saved myself all that grief. Alex, I think you intentionally wanted me to suffer! I am just kidding. Well, I can't wait to tell Fritz Bolkenstein the next time I see him. I do not know if he yet realizes that he also has to remove the words "mutual recognition" from his vocabulary.

Alex, I think you said that what now exists in the EU is best described as a determination of "equivalence" and, where equivalence cannot be achieved, an acceptance of "diversity" in the standards of member states. Well, Alex, we in America, also accept the concept of diversity. We usually are speaking about diversity in the composition of boards of directors or student applicants to schools. In any event, I offer a few random thoughts and questions for you. I wonder whether the EU can accept diversity before there has been "harmonization" of standards? In other words, can we have diversity without harmonization? For that matter, can you determine that equivalence has occurred if there is no harmonization? In that vein, can you reach "equivalence" if you have only a small amount of "harmonization?" If so, how much harmonization produces equivalence? And, finally, what exactly is "equivalence afterall?" I think you and I need several bottles of wine and a few hours to do justice to these questions.

All kidding aside, the SEC and European regulators share the same concern for investor protection, financial stability, and free and fair competition. However, the practical application of your principles of equivalence will be very interesting to me and I am sure we, at the SEC, will monitor your progress with keen interest.

V. THE WAY FORWARD - DIALOGUE

Regulators and policy makers should work together to facilitate cross-border business while maintaining high regulatory standards. The way to work together to avoid clashes or conflict in our regulatory approaches is through dialogue. If we have effective dialogue, then, as Ambassador and Chairman Francois Bujon de l'Estang stated so well in one of our sessions, "we will at worst have 'disharmony', but not conflict."

Currently, there are many dialogues between groups on both sides of the Atlantic on regulatory issues. Some examples are as follows:

• he US-EU financial markets regulatory dialogue.
   
• A brand-new dialogue between the SEC and the Committee of European Securities Regulators.
   
• The Trans-Atlantic legislative dialogue.
   
• The Trans-Atlantic business dialogue.
   
• The PCAOB-European Commission dialogue.
   
• The formation of IFAC to deal with International Standards of Auditing.

There are two purposes for these dialogues: cooperation and convergence.

As I stated previously, the first purpose is to enhance cooperation in order to make sure that new regulations, at a minimum, do not conflict. We can achieve this through discussions of our respective plans for regulation.

The second purpose of dialogue is to achieve convergence of regulatory standards. I believe this is the way to create a truly level playing field. Convergence will not happen over night. However, even partial convergence will facilitate cross-border business. Most likely, convergence efforts should begin with new issues in securities regulation that have not been previously dealt with in home countries, where it will be relatively easy to work together and to develop common approaches.

All right, I have put it off as long as I could. I must now try to define "convergence." I cannot in good conscience kid Alex Schaub about his lack of precision for "equivalence" when I have not offered any definition myself for "convergence." I cannot help but be reminded of the U.S. Supreme Court Justice who, with his colleagues, had to reach a decision about a case involving pornography. The Justice said something like, "I don't think I can define 'pornography,' but I know it when I see it."

In the same way, I am not sure I can define "convergence," but I will know it when I see it. Trust me! This definition also may be very helpful to Alex in defining "equivalence." He too will know when he sees it. Obviously, this definition is the regulator's dream. Without having to set descriptions or measures, the regulator can decide, based on wisdom, but not capriciousness, when convergence or equivalence has occurred.

I should leave it there to taunt and hound academics like Hal Scot, who will try to create some order and rationality out of what Alex and I have said today. After all, I still harbor a few grudges against academics for all the weekends I had to give up in my youth completing their assignments.

As a random and reckless act of kindness, however, I will offer a further explanation of my thoughts on convergence. Convergence is the movement of two or more sets of standards toward each other at a relatively high level, producing identical or nearly identical principles of regulatory purpose. An example would be in the area of audit committees. Convergence will occur, if both countries agreed to a standard that an audit committee comprised of individuals that collectively are independent of management will control and oversee the outside auditor relationship to produce accurate and transparent financial statements for the company. The underlying methodology might be different, as in the examples of the German employee on the audit committee or the Japanese use of a separate statutory board of auditors. However, these different methodologies would still support the converged standard of the independent audit committee overseeing the outside auditor.

It seems to me that Alex's use of "equivalence" may produce "convergence," but not necessarily. Using the audit committee standard described above, Alex could decide that one of the member states that provided for executives or management (and not the audit committee) to select the outside auditor was "equivalent" if there was a second review by another independent auditor. Therefore, "equivalence" would result if, in the judgment of the regulator, the same product were generated from the standard - in this case, an accurate and reliable and transparent financial statement. In my opinion, in this example, the standards have not converged. The audit committee standard described initially contains a fundamental judgment that the severing of the direct reporting relationship between management and the outside auditor is necessary for auditors to consistently produce reliable financial statements. The second example does not embrace the fundamental judgment that management cannot be involved in directing the outside auditors, since management, under that example, selects the outside auditor. Therefore, these two standards are different in a fundamental way and have not converged.

Again, these are only examples. Alex and his colleagues may well interpret "equivalence" in a manner that consistently produces "convergence." Assessing equivalence, it seems to me, will also bring a large measure of regulatory subjectivity into the decision of whether different standards are producing equivalent products. In contrast, determining whether convergence has occurred provides for a more objective process in assessing whether the standards are identical or nearly so. Of course, convergence may occur for some standards and not for others. Regulators will always be challenged to determine how troublesome the "un-converged" standards are to cross-border transactions and offerings.

My discussion should not be interpreted in any way as criticism of the approach Alex and the EU are taking. The SEC supports the EU's efforts to achieve integration of their markets and I believe that effort, with the continuing dialogue, will help lead to convergence of EU and U.S. standards. I am encouraged by the progress to date and I believe that convergence is a realistic goal.

Certainly, efforts to achieve convergence can be and have been successful, as demonstrated by the following examples:

• The IOSCO International Disclosure Standards for Cross-border Offerings, developed in 1998. These standards are incorporated into the SEC's registration statement and annual report for foreign issuers. They also are incorporated into EU directives such as the Prospectuses Directive. However, it is my view that agreement on further disclosure principles that go beyond the prospectus are needed.
   
• The IOSCO principles governing auditor independence and auditor oversight, which have become the basis of regulation and standards internationally.
   
• In the same way, the IOSCO principles for credit rating agencies have also become the principal influence and framework for regulation and standards for many countries.
   
• Further, the IOSCO principles to govern the regulation of sell-side securities analysts have had enormous influence for regulators across the world. The principles set out international ethics standards for these analysts. They will help to address conflicts of interest globally in the equity research field.
   
• The short-term convergence project of the International Accounting Standards Board and the Financial Accounting Standards Board, which, if successful, could greatly facilitate cross-border business, appears to be making strong headway. The ultimate convergence of the two standards may result in the SEC not requiring the conversion from IAS to U.S. GAAP for foreign issuers that are listed in the U.S.

Contrary to what I often hear from sources outside the U.S., the SEC will support convergence of standards toward those of Europe or other parts of the world, when appropriate. The following two examples of convergence of standards demonstrate that the SEC will move in the direction of European principles when appropriate:

• The requirement of consolidated supervision for broker-dealers and their affiliates in Europe has encouraged the SEC to propose rules that establish two separate voluntary regulatory frameworks for the Commission to supervise broker-dealers and their affiliates on a consolidated basis.
   
• The SEC has encouraged the FASB to move toward a principles-based financial accounting standards regime, as described in the SEC staff report issued earlier this year, favoring the use of broad clear principles with succinct implementation rules. In the report, it is understood that should application of any of the rules clash with the relevant broad principle, the principle will control.

VI. ACHIEVING CONVERGENCE IN THE MOST SIGNIFICANT AREAS

Once the standards are the same in different countries, or principally the same, firms should experience much lower costs of operating across borders. However, even after convergence is achieved, regulators will still have an interest in regulating market participants. Differences may arise in how the regulations are applied. One critical element of creating a level playing field through convergence is having similar enforcement regimes for those standards. Disparities in enforcement can wreck the benefits of perfectly converged standards. This means that convergence must be seen as an ongoing process, beyond the standards themselves.

In recent discussions with SEC staff and other international regulators, I have come to realize, to my surprise, that there has been no meeting of the minds as to what are the items most needing convergence. Stated another way, what are the greatest impediments to cross border securities and capital transactions? Is it the need for converged financial reporting standards? Is it periodic disclosure? What about capital adequacy for broker dealers? What about enforcement?

Since we do not have agreement as to what items need convergence, who should decide what the items are and what should be the priorities? It seems to me that representatives from industry must be included in the ongoing dialogue. Industry representatives can identify what are the greatest impediments to cross-border transactions and deal making. I would also include investor representatives. Investors could also provide a perspective as to what standards need convergence to permit investing to occur more easily across the Atlantic.

I have two suggestions. First, the U.S.-EU financial market regulatory dialogue should seek to identify the items most needing regulatory convergence, inviting industry and investor representatives to participate. Second, because of the broad international implications, IOSCO also should take on to identify the items needing convergence and invite industry and investor participation in their process. There are a number of worthy candidates to provide the perspective of industry and investors. The important thing is to identify them and to receive their suggestions.

VII. FOREIGN TRADING SCREENS

The above discussion provides a context to talk about one of the recurring issues in many of the dialogues between the United States and the EU: the requests for exemption from SEC registration by some foreign exchanges. The argument in favor of an exemption is that because the exchanges are regulated elsewhere, they need not be regulated in the U.S. Essentially, the foreign exchanges are requesting, as Alex Schaub told us, the forbidden "mutual recognition" approach that has now been abandoned within the EU. No one has made the argument, at least to me, that there has been a convergence of the standards of the regulation of exchanges in Europe with the U.S.

I have two points about this issue. The first is that there may be good arguments, other than the one just mentioned, for the SEC to grant an exemption from registration. However, we haven't heard them. I have invited, and continue to do so, the proponents of exemptive relief to explain to me and the SEC staff how the presence of foreign exchanges in the U.S., on terms other than those that apply to U.S. exchanges, will benefit our markets and investors.

A sub-point is that the SEC must have some type of oversight of the exchanges in the U.S. Any special treatment of foreign exchanges must enable the SEC to hold accountable anyone who may commit wrongdoing while taking advantage of U.S. markets.

My second point regarding this issue is a question for the exchanges: why not register with the SEC? Respectfully, if as much time had been spent with the SEC staff to work out the terms of registration as has been spent in avoiding registration, I think foreign exchanges like Euronext would be operating in the U.S. as registered exchanges. As with Sarbanes-Oxley, I am sure our SEC staff would consider the case for appropriate accommodations, where investor protections could be maintained. As indicated earlier our national treatment has always had a "plus" component and it may be possible to extend the "plus" into the context of exchange registration. Indeed, the Bourse de Montreal, a foreign institution, is a joint owner of the proposed Boston Options Exchange ("BOX") in partnership with the Boston Stock Exchange and Interactive Brokers. As proposed in filings with the Commission, BOX would be a fully-automated options exchange with an internalization component. The SEC has reasonable requirements to assure that the BOX control-persons will remain under SEC jurisdiction and the application will likely be approved in the near future.

Some have argued that the foreign exchanges do not want to be subject to some sort of double jeopardy. Again, respectfully, if any party desires to conduct business in foreign jurisdictions, that party must, as a fundamental matter, be ready to abide and be subjected to the rules of the country in which business is conducted. This is a basic reality for any player in foreign markets. Moreover, I would submit that a foreign exchange that is registered in the U.S., listing registered securities, and complying with securities regulations in the U.S., would not be subject to any significant additional or incremental regulations in their home jurisdictions, or other jurisdictions for that matter. So, again, why avoid registration with the SEC?

In the meantime, foreign exchanges are more than welcome in our markets - under the same terms that apply to US exchanges.

VIII. THE EXISTENCE OF A POST-CONVERSION MODEL

In thinking about what the next step should be if convergence were reached, I found that I did not have to go very far - in actual distance either physically or intellectually. For almost fifteen years, the U.S. and Canada have been engaged in the Multi-jurisdictional Disclosure System ("MJDS"). The MJDS grew out of a concept release published in 1985 on Facilitation of Multi-national Securities Offerings. The release requested comment on two alternative approaches to facilitating cross-border offerings, either harmonization, based on common disclosure standards, or mutual recognition, based on automatic acceptance of filings made in another jurisdiction. You see Alex, the SEC itself has used and evaluated the forbidden term of "mutual recognition." Although some have described the resulting MJDS regime as market recognition, that is an error. I would describe the approach that was adopted as a post-convergence model. The reason that MJDS gained the support of the SEC was that the Canadian and U.S. systems were in almost every respect converged. MJDS was never solely about an automatic acceptance of another national regulator. The SEC knew that standards between the two countries were converged and had confidence that the Canadian securities regulators would implement and enforce the converged standards. No other MJDS has ever been proposed or implemented.

The MJDS permits large Canadian companies (greater that $75 million of public float) to file registration statements and annual reports with the SEC using the documents they file in Canada. These companies also may rely on Canadian regulatory requirements in connection with takeover bids for Canadian companies that have U.S. shareholders. The MJDS-eligible Canadian companies file their registration statements and reports on special Commission forms, designated for use by MJDS filers, which accompany the corresponding Canadian documents.

The contents of MJDS registration statements, schedules and reports are mandated by Canadian disclosure requirements, rather that the SEC's disclosure requirements. Commission staff generally does not review documents filed on MJDS forms, but instead relies on Canadian regulators to perform that function. Canadian issuers filing documents under the MJDS continue to be subject to the anti-fraud provisions of the U.S. federal securities laws and MJDS registration statements are subject to the Commission's authority to suspend effectiveness.

As part of the MJDS, Canadian securities regulators adopted a reciprocal system that permits eligible U.S. companies to file registration statements and reports in Canada following SEC disclosure requirements without being subject to regulatory review in Canada. Since these reciprocal arrangements were adopted, however, they have been used almost exclusively by Canadian companies filing registration statements and reports in the United States. To our knowledge, in the years since the MJDS has been in operation, fewer that a dozen offerings in total have been made in Canada by U.S. companies using the reciprocal arrangements. There are slightly more that 100 Canadian companies that regularly use the MJDS to make filings with the SEC.

Probably the biggest challenge to the existing MJDS has been the implementation of the Sarbanes-Oxley Act in the U.S. The question presented was whether the Canadian securities regulation standards would stay converged with that of the U.S. I am happy to say that, to date, Canadian securities regulators, in particular David Brown - Chairman of the Ontario Securities Commission, have pushed hard to have the Sarbanes-Oxley standards accepted in Canada. As a consequence, most would agree that Canada and the U.S. continue to have converged standards - thus, allowing MJDS to continue.

Like all systems, MJDS probably needs some maintenance and update, given the post-Enron world and Congress' mandate to the SEC to deal with the many sources of fraud in the public company reporting context. To that end, the SEC and the Canadian securities regulators should give further thought to how we might cooperate in overseeing these issuers that avail themselves of MJDS. We also should pursue whether means exist to develop programs within MJDS that more efficiently utilize the respective regulators' resources. For example, thought should be given to the possibility of conducting joint examinations on the major MJDS participants. A continuing challenge for both authorities is to reflect developments in each other's jurisdiction. This is a two-way street for ideas.

MJDS offers one example of a post-convergence model or paradigm. The key element again is the high degree of convergence of the two countries securities regulation standards. However, it is likely that other post-convergence models will need to be developed because convergence may not occur to the same degree with Europe as has occurred between Canada and the U.S. It may be that for a significantly converged jurisdiction, the adoption of simpler forms for registration could provide the basis for facilitation of cross-border offerings. Currently the adoption of the new Form 20-F disclosure through the work of IOSCO Standing Committee No. 1 offers an example that could be further developed.

IX. CONCLUSION

My simple message tonight is that convergence will create opportunities for substantial improvements in Trans-Atlantic offerings and other cross-border transactions. We must also recognize that, as regulators, we do not always hold all of the authority required for creating the cross-border facilitation that we may desire. Our respective countries have sovereign and political objectives that may influence the direction we can take. The SEC will continue to support the various forms of dialogue that are currently underway between the EU and the U.S. I am very encouraged by the progress and results of the dialogue. Alex, I hope that you and your colleagues in the EU continue to support and participate with the SEC in the ongoing dialogue. The SEC is also much encouraged by the continuing dialogue with CESR. Hopefully, my call for the identification of the most needed areas of convergence will produce clear objectives for further convergence in the near future.

The concept of convergence is not a delaying exercise on the part of the SEC. I have offered several examples of success, in which the SEC made large contributions, in the convergence of international principles. There exists at least one working example in the form of MJDS of a post-conversion model. As convergence is achieved, other post-conversion relationships and cooperative systems can be developed.

It is my belief that the convergence of international standards offers the best and surest way of creating an environment that will ultimately support a largely integrated trans-Atlantic market. I look forward to working with all of you to achieve that worthy goal.

Thank you for your very kind attention.

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