Prof. Jayanth R. Varma’s Financial Markets Blog

A blog on financial markets and their regulation

Ownership of Exchanges in India

I participated in a discussion on the CNBC TV channel last night on the
ownership of Indian exchanges. This issue has become controversial
because of the reported desire of the government and the regulators to
discourage Indian companies and foreign entities from becoming strategic
investors in Indian stock exchanges

My views on this are very simple. It is far more important to
ensure that the securities trading industry is highly competitive than
to regulate the ownership of exchanges. Stock exchanges are highly
capital intensive technology driven businesses which require deep
pocketed investors who are willing to make the strategic investments
required to grow the business. Any attempt to exclude deep pocketed
investors tends to favour incumbent exchanges and perpetuate existing
monopolies and duopolies. From the social point of view, this would be
a most unfortunate outcome as it would lead to a less competitive and
therefore less vibrant, less innovative and less investor friendly
capital market.

Much has been written about the alleged conflict of interest that
would arise if certain categories of investors were to become
controlling shareholders of exchanges. It has been suggested that
ownership by financial institutions is the best solution. I do not
agree with this view at all. Almost any potential owner of an exchange
is conflicted because of the pervasive role of stock exchanges in a
modern market economy. Financial investors are among the most highly
conflicted of all potential owners. Some
of them own broking subsidiaries and it is surely absurd to get rid of
broker ownership only to reinstate it through the back door. All banks
and term lending institutions live in mortal fear of the capital
markets disintermediating them out of existence. Sixty years ago, the
conflict of interest between
banking and capital markets was taken so seriously that the US passed
the Glass-Steagal Act prohibiting banks from owning securities
firms. That was surely silly,
but the idea that they are the best possible owners of stock exchanges
is even more silly.

It is only an anti
capital market mind set that can think of financial institutions as preferred investors
in exchanges. Unfortunately, that mind set is in abundance in policy
making circles in India.

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