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Carrots Needed

Updated: Mar 31, 2018

First published in The Financial Post -

By: Anita Anand and Andrew Green

The manifold arguments in favour and against a national securities regulator have been made many times. Now that the Supreme Court of Canada has heard the legal arguments, the discussion about which argument is stronger must be accompanied with an analysis of what the future might bring. A highly plausible scenario is that the court will decide, either in a split decision or a full majority (the latter of which is unlikely), that the proposed securities act is within the legislative authority of the Parliament of Canada. What would then transpire in terms of the move toward a national system of securities regulation?

To date, the primary efforts of the federal government have been via the Canadian Securities Transition Office set up in 2009. The CSTO has been active in establishing the infrastructure necessary to establish a federal securities regulator. All jurisdictions except Alberta, Quebec and Manitoba have been co-operating with the CSTO and in particular its consistent efforts toward preparing draft initial regulations under the proposed securities act; designing processes, rules and organizational details related to adjudication; designing a detailed fee structure for the regulator; etc. With a majority of provinces participating in the CSTO’s useful efforts, the future for a national securities regulator is promising.

An obvious question is how constitutional legitimacy — or a judgment that is favourable to the federal government — would change the process that the transition office has undertaken. It is not yet clear whether the proposed securities act would be amended and, if so, in what respects. This issue leads to a more basic concern: Because the proposed act is the subject of the reference, would it be the case that an amended act in any form would fall outside the decision regarding constitutionality that the court hands down? Further, while the CSTO has made effective headway on a number of important structural items, it would be useful to add public consultation into its process. From a democratic standpoint, it is important to hear from all stakeholders when designing and effecting the transition.

Moving from the CSTO to the structure of the regulatory regime, it may be that in the short term at least three provinces — Alberta, Quebec and Manitoba — do not participate in the national securities regulatory regime. Given the importance of a national securities regulator to the functioning of Canadian capital markets, the federal government would likely proceed without these provinces, providing them with an opportunity to opt in voluntarily if their positions should change. It is worth noting that Quebec’s and Alberta’s relationships with the federal government are not identical, and they are not necessarily acting in unison on this issue.

From a practical standpoint, because some provinces may not join the national system immediately, two regulatory systems would likely operate in tandem: the existing passport system relating to prospectus reviews and other select issues and the new federal regulatory system. A few questions arise: If an issuer wishes to do a national securities offering, and it has chosen Alberta as a principal regulator, will it be able to offer securities in non-passport systems? It is quite possible that the federal government will participate in the passport system “by default,” as does Ontario. Over time, and presuming that holdout provinces join the federal model, which they may well do if they face demand from their issuer communities, this “two-track process” would fall away.

Even without all provinces onside initially, however, one can certainly envision more effective co-ordination in enforcement with a positive court ruling. What is conspicuously absent from enforcement actions in Canada is co-ordinated investigations and prosecutions across provincial jurisdictions. A federal body with numerous provincial jurisdictions onside, together with a federal enforcement team operating under federal criminal and securities law, will alleviate some of the co-ordination issues that have arisen in the past in trying to co-ordinate among numerous provincial commissions and their respective offices of the attorney-general. This would be a different system than that currently in place at the federal level.

What about the long term? The federal government could use a series of sticks and carrots to bring in holdout provinces. The most obvious of these is the proposed securities act, which constitutes a carrot of sorts, since its opt-in structure allows reticent provinces to join the federal scheme over time. A further carrot relates to federal funds that have been set aside to compensate the provinces for loss of revenue from fees in the transition to a national regulator.

We can think of the use of carrots and sticks in terms of small and large capital markets. For provinces with small capital markets, it is likely that the federal government will assume as a carrot the cost of securities regulation and will make compensation for lost revenue from fees, at least where the administrative costs of running the provincial regulatory body are lower than the revenue gained from fees.

Provinces with larger capital markets may rely more on the information and expertise of their securities regulators as to the relative value of maintaining the provincial regulatory system. Additional carrots would therefore be required. Choosing commissioners and/or the head of the federal commission from a province, or locating the head office in a province, could be potentially significant carrots. The Wise Persons’ Committee (2003) and the Expert Panel (2009) alluded to carrots of this sort.

The ultimate issue for the federal government will be whether it has offered sufficient carrots to break the conditional co-operation that currently exists among passport jurisdictions. This need to foster the breakup of the conditional co-operation leads us back to the court. The outcome will be key to the success of the federal government’s plan, because the outcome will change the likelihood of a voluntary shift in the equilibrium away from the current co-operation on provincial regulatory monopolies.

In particular, a key question in the constitutional reference is whether the court will find paramountcy obtains which would permit the federal government to regulate exclusively in certain areas (e.g. securities offerings). A paramountcy clause could effectively prevent provincial regulation in certain areas and would be a significant stick.

To conclude, there are two related results from federal success in the reference. First, federal success would reduce the size of the carrots that the federal government would need to provide to the provinces and/or the provincial regulators to bring about the move. If the federal government does not need the support of the provinces, it would be in a better bargaining position, although this bargaining position also would depend on the federal government’s willingness to take political costs that may result from implementing a policy resisted by different provinces or regions.

Second, federal success in the constitutional references may change the expectations of the provinces about the likely continuation of the current system of provincial regulatory monopolies, tipping the equilibrium to that of abandoning the conditional co-operation of passport supporters in the current system. It may have such a large effect on these expectations that the federal government could reduce the size of the carrots to an even greater extent, with the existing conditional co-operation collapsing on its own. It may only be a matter of time until this occurs, especially if pressure to join a federal model from stakeholders inside holdout provinces escalates.

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