Commentary: The land of the regulated

Whatever happened to the land of the free? The US used to be the great crusader for free markets, spreading the capitalist gospel throughout the world. By contrast, the European Commission is seen as a bureaucracy stamping on the entrepreneurial spirit.

But, in securities regulation, it appears the tables have turned. Richard Breeden, the chairman of the US Securities and Exchange Commission, has cast himself as the heavy-handed regulator. He believes that the only way to protect investors is to insist that the securities firms with which they trade have deep enough reserves of capital to deal with most eventualities.

By contrast, the EC's capital adequacy directive leans more towards good market practices, such as hedging dealing positions and minimising risk, and requires a much lower level of capital. The two sides are now slugging it out to try to find common ground on which to base international securities regulation.

Mr Breeden argues that if the SEC had adopted the EC's rules, many of Wall Street's leading firms would have collapsed after the 1987 stock market crash. This ignores the EC's approach on best practice, which might have reduced much of the shock. Mr Breeden does not accept that netting off a long position with a short position reduces risk, yet this is a basic principle of risk management in most securities trading companies.

The EC argues that forcing firms to hold high levels of capital will push up the cost of trading, prompting investors to trade through offshore centres and less regulated markets.

Mr Breeden is an experienced regulator whose view cannot be ignored. But his approach is one that has not moved with the times. Capital helps, but it does not protect investors against bad market practices. In securities, the keys are good monitoring and good regulators.