Lecture: U.K. Sinha on SEBI & Regulation

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I am very happy to be here among the bright students of the Jindal Global University and especially at the Centre for Regulatory Governance in the Law School. My Regards particularly for the Vice Chancellor of the University, Prof Raj Kumar have taken this initiative, which I must say is most needed–the study of the regulators of India as its economy speeds ahead. 

A critical question I shall address today is that of the accountability of the regulators. In my discussions with Subhomoy (Bhattacharjee) I understand this is an area where the Centre will be most involved. 

I should begin by explaining that so far as the working of the regulatory system in the country is concerned, and here I include all of them like SEBI, RBI, IRDA, CCI and so on, all of them only have got regulation making powers. The critical test to apply is what happens when it is discovered that the regulation framed by a regulator is in conflict with the rules framed by the government or the law passed by Parliament or the provisions of the Constitution of India. We are very sure what will prevail and of course the regulations framed by the regulators shall not prevail. 

But then what happens when we are coming to a situation or a stage where the regulation framed by the regulators has the force of law and that implies they also have the force of law meaning the exercise of coercive powers.

So, the question arises, what should be the accountability of the regulators. Here, I will also, just as an aside, would like to tell you that when SEBI Act was passed, in 1992, the regulation making power of SEBI was subject to concurrence and approval of the government. So, all the regulations in draft form would be sent to the Ministry of Finance and based on whether the Ministry of Finance would say yes or no, the decisions would be notified.

Subsequently, in their wisdom, the government and Parliament have allowed that the law making power, the regulation making powers of Sebi as exercised through the Sebi board do not require approval from the government. The  SEBI board is competent to do it and now the same applies to all the other regulators.

So, now the question arises, how do you enforce their accountability? There are various approaches to this question of accountability. By the way, let me come back also to state that in post-independence India, we have inherited a number of laws and regulations relating to commerce, trade and the financial markets. The regulators have come up therefore not with a clean slate but within a body of existing laws. 

For instance the Companies Act was passed in 1956. Subsequently the Security Contract Regulation Act, SCRA was passed. The Forward Market Commission Act was passed. 

The Controller of Capital Issues Act was passed. And you will be surprised that almost all these acts happened within a span of two years, 1956-1957. These laws brought out a very new concept that there will be an authority sitting in the government but it will be named differently.

For example, The Controller of Capital Issues sitting in the North Block in the Ministry of Finance used to decide which company in which season of the year could raise how much money and at what price. So if a company had to issue shares, he could not decide. It was decided by the Controller of Capital Issues.

Same was the situation with regard to the Companies Act, the Company Law Board and others.  The important thing to note here is that all these authorities were part of the government. Most of the time these were designated as attached offices. So if you were a Director or a Joint Secretary in the government, you are also made Controller of Capital Issues or if you were DG Investigation (income tax) or whatever.

The appellate power against their order was also given to a senior officer in the same ministry. So if the Joint Secretary was passing an order, the Secretary or a group of additional Secretaries would review it. The real change which is relevant for all of you and for all of us is the real change that happened in post 1991 and the first act to be passed was the Securities and Exchange Board of India Act in 1992 where the concept of independent directors came in.

So although the law was passed by the Parliament, it created a class of independent directors who were not beholden to the government for their day to day work. And I would also like to highlight here they were not beholden to the government even for their finances. So they were allowed to raise their own levies and through those levies they could be financially independent.

This meant an  important way in which the government exercises control over agency, by allocating finance to them was done away with. Just as these independent regulators came in, the practice was repeated in all the subsequent IRDA, CCI etc Acts. The laws were passed by the Parliament but there was now a separate independent authority. Of course the chairman of that authority was appointed by the government.

Now I come to the question of accountability in the new framework, because here are a set of people operating away from the government and yet they frame laws and those laws affect the rights of you and me, for example. If there is something happening, if some mishap is taking place in the securities market, I lose my money, where do I go? The regulator can pass orders against any individual or any company and you know the powers are very, very serious. Sebi is one of the most powerful regulators in the world today.

They can pass what is called the cease and desist orders. They can pass several other types of order too. Another thing to be noted here is that in our Constitution there is a separation of executive power, judicial power and legislative powers.

But these new generation regulators had all three of them combined in this, even today. So prima facie it will appear to you who are students of law that this is in violation of the constitution. How is it possible? But that is a fact.

And there are multiple examples where this matter has been taken to the Supreme Court and the Supreme Court has held that because of the sensitivity of the matter that they are dealing with, this separation will not apply and they will exercise all the three powers. So Sebi has, as I said earlier, regulation making power which is called subordinate legislation. They also have executive powers. They also have policing powers. They can investigate a matter. And they of course have quasi-judicial powers and the chairman and the member of the Sebi can pass orders which are enforceable.

In fact, based on their orders people have been penalized for as high as 25 crore rupees or they have been barred from practicing in the securities market for a period of 10 years or more. So imagine what serious powers they have. So coming to accountability, yet the law provides that they are not accountable to the government of the day.

This is again a concept which we have to understand and appreciate. Because if the regulator is accountable to the government of the day, then day to day political developments will start affecting its working. So there is a conscious decision that they are not accountable to the government of the day.

So the question is who are they accountable to? Number one, they are accountable to their board which has outside members. Secondly, they are also accountable to Parliament. And the mechanism through which it happens is that there is a committee of subordinate legislation of the parliament.

And all the regulations which are framed by the regulator have to be presented before this. And within six months, the parliamentary committee on subordinate legislation can decide whether this regulation is right or wrong or it needs to be amended. They have that power.

Unfortunately, friends, not a single regulation has ever been studied by the parliament, not only with regard to Sebi, but by anybody. So this is a very serious lacunae in our country. While the government of the day doesn't have a direct power, the Parliament through its committees is also not exercising the power.

So one or two ways in which the governments try to control or hold the regulator accountable is through the power of making appointments. So the appointment making powers are there. I'll give you a very interesting case.

The rules framed under SEBI provide that the chairman of SEBI, for example, can be appointed for a period up to five years. The word is up to. So you can appoint him for one year also.

It is as per the law. It's not a violation. So the system which has now become prevalent for the last 15, 20 years, that is they are appointed only for a period of three years.

So the word in the notification is that the appointment will be initially for up to a period of three years. Of course, if it is found that there is nothing against that person and he can be given an extension, then he is given a five year term. 

The second way the government exercises control over these regulators is through the mechanism of vigilance. You know, the government has several vigilance authorities like CBI or the ED. If a complaint emerges, then the vigilance agencies start working. And of course, the committee of the parliament, the standing committee of finance and all, they can summon the regulator.

In the past, whenever there has been a crisis, as you might have heard a joint parliamentary committee is set up. So they can summon the authorities and they can do this. Here I will take you to some recent developments in the USA.

The USA also follows almost the same thing. But in practice, it is very different. For example, recently, the president of the United States has passed what is called an executive order saying that no regulation can be passed by any of the regulators unless they are approved by us.

So if the SEC in the USA wants to frame any regulation, the draft will go to the White House. Similarly, the US Government has passed an order saying the case for cryptocurrencies needs to be reconsidered. In the process the earlier regulator Gary Gensler was asked to go. A new person, Paul Altman, has come. In India, by the way, that does not happen. With a change of government, you do not change the RBI governor or change the SEBI chairman. But there it happens. 

And the first decision he has taken as the new chairman is that cryptocurrency, which Gary Gensler felt were very risky assets and they cannot be held to be securities, he has allowed that to be done. And some of you might be aware that even a very close family member of the president has himself floated a new crypto asset. So these are the changes which are happening there.

There are many other areas on which we can talk subject to your interest. For example, we can talk about how insider trading is prevented, how manipulation and fraudulent practices in the market are controlled. What does SEBI do about corporate governance? What is happening in the area of ESG? What is happening in the area of ensuring that the corporate boards in India have diversity, not only gender diversity, but other diversities.

But I'll stop here and I'll wait for your questions because I don't know exactly which particular area you would like to study in depth or hear from me in depth. So I'm stopping here. Please feel free to ask questions.

Q&A: 

Q: Mr. Sinha, the first question I have for you is that in 2014, SEBI floated a discussion paper that effectively banned equity crowdfunding. I believe this was during your time. Could you take us through the thought process as to why equity crowdfunding was effectively banned and it remains prohibited even today? 

Ans: The correct sequence of developments was the following. Without anybody asking for it, SEBI floated a discussion paper to allow crowdfunding in the country. Around the same time, there were several reports about crowdfunding in the debt market in China leading to a serious crisis. I'm not aware whether you are aware that there were mishaps involving about $200 billion in China. And one of the things which happened there was that the providers of that platform, which were providing that crowdfunding, were floating on the sidelines their own fictitious companies.

And those companies didn't exist, but people did the crowdfunding hoping that they had come onto such a valuable platform, and they will get their money back. Another experience and feedback which SEBI got was that nowhere in the world has crowdfunding in equity markets succeeded.

What has succeeded is crowdfunding for a social cause or to some extent for debt market. So the advisory committee of SEBI then decided and recommended to SEBI board that it's too premature in the country to go towards that route, so that was not allowed. However, what was allowed was that in alternate investment funds, AIFs, if there are investors who are coming through what is called the accredited investor route, then they should be allowed.

So that was provided. So in short, my response is that floating that paper and also not taking it forward was a conscious decision in the best interest. Can SEBI review it? Yes, of course SEBI can review it, but personally I feel the time has not yet come.

Q: Just a follow up to that question. So having gone through some of the orders that SEBI has passed and also those passed by the Registrar of Companies, you don't impose a penalty on the platform which facilitated crowdfunding. It is understandable that crowdfunding is not something that SEBI wants to take up, but then why aren't the platforms being penalized if they are facilitating something that's illegal? 

Ans:They should be penalized because number one, under what law or regulation are these platforms running. I'll take you back to what is called the collective investment schemes or unauthorized money collections and this used to be very rampant around 2011–14. There is a very famous case, I am sure all of you have heard of, where SEBI had to take the strictest possible action. This was the Sahara case. Now by the way SEBI has a regulation called collective investment schemes regulation. We had to go through a laborious process of investigation followed by court cases before the company could be made to cough up its proceeds.