[Senate Hearing 107-]
[From the U.S. Government Publishing Office]
S. Hrg. 107- 266
SAVING INVESTORS MONEY AND
STRENGTHENING THE SEC
=======================================================================
HEARING
before the
COMMITTEE ON
BANKING,HOUSING,AND URBAN AFFAIRS
UNITED STATES SENATE
ONE HUNDRED SEVENTH CONGRESS
FIRST SESSION
ON
THE ``COMPETITIVE MARKET SUPERVISION ACT'' (S. 143) WHICH SEEKS TO
REDUCE EXCESS USER FEE COLLECTIONS MADE BY THE SECURITIES AND EXCHANGE
COMMISSION (SEC), PLACE SEC FUNDING ON A STABLE BASIS, AND PROVIDE FOR
PARITY OF SEC SALARIES WITH FEDERAL BANK REGULATORS
__________
FEBRUARY 14, 2001
__________
Printed for the use of the Committee on Banking, Housing, and Urban
Affairs
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WASHINGTON : 2002
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COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS
PHIL GRAMM, Texas, Chairman
RICHARD C. SHELBY, Alabama PAUL S. SARBANES, Maryland
ROBERT F. BENNETT, Utah CHRISTOPHER J. DODD, Connecticut
WAYNE ALLARD, Colorado TIM JOHNSON, South Dakota
MICHAEL B. ENZI, Wyoming JACK REED, Rhode Island
CHUCK HAGEL, Nebraska CHARLES E. SCHUMER, New York
RICK SANTORUM, Pennsylvania EVAN BAYH, Indiana
JIM BUNNING, Kentucky ZELL MILLER, Georgia
MIKE CRAPO, Idaho THOMAS R. CARPER, Delaware
JOHN ENSIGN, Nevada DEBBIE STABENOW, Michigan
JON S. CORZINE, New Jersey
Wayne A. Abernathy, Staff Director
Steven B. Harris, Democratic Staff Director and Chief Counsel
Linda L. Lord, Chief Counsel
Rohit Kumar, Deputy Chief Counsel
Dean V. Shahinian, Democratic Counsel
George E. Whittle, Editor
(ii)
C O N T E N T S
----------
WEDNESDAY, FEBRUARY 14, 2001
Page
Opening statement of Chairman Gramm.............................. 1
Prepared statement........................................... 24
Opening statements, comments, or prepared statements of:
Senator Miller............................................... 5
Senator Reed................................................. 6
Senator Stabenow............................................. 6
Senator Bayh................................................. 7
Senator Sarbanes............................................. 8
Senator Schumer.............................................. 11
Senator Carper............................................... 12
Senator Corzine.............................................. 14
Senator Bunning.............................................. 24
WITNESSES
Laura S. Unger, Acting Chair, U.S. Securities and Exchange
Commission..................................................... 1
Prepared statement........................................... 25
Response to written question of Senator Sarbanes............. 38
Response to oral questions of Chairman Gramm................. 39
James E. Burton, Chief Executive Officer, California Public
Employees' Retirement System (CalPERS)......................... 15
Prepared statement........................................... 30
Marc Lackritz, President, Securities Industry Association........ 17
Prepared statement........................................... 32
Leopold Korins, President & Chief Executive Officer, Security
Traders Association............................................ 19
Prepared statement........................................... 33
Additional Material Supplied for the Record
Prepared Statement of Robert B. Fagenson, Vice Chairman, Van der
Moolen Specialists USA, Inc., Vice Chairman of the Board of
Directors of The Specialist Association of the New York Stock
Exchange, February 14, 2001.................................... 42
Prepared Statement of Lon Gorman, President, Schwab Capital
Markets, Vice Chairman, The Charles Schwab Corporation, Vice
Chairman of the Board of the Securities Industry Association,
dated February 14, 2001........................................ 43
Prepared Statement of Robert H. Forney, President & Chief
Executive Officer, Chicago Stock Exchange, dated February 14,
2001........................................................... 46
Statement of Investment Company Institute, dated February 14,
2001........................................................... 49
Letter to Chairman Phil Gramm from Al Anderson, Coastal
Securities, L.P., dated February 13, 2001...................... 50
Letter to Chairman Phil Gramm from Robert I. Turner, Knight
Trading Group, dated February 14, 2001......................... 51
Letter to Joseph P. Morra, U.S. Securities and Exchange
Commission from Cameron Smith, The Island ECN, Inc., dated
October 12, 2000............................................... 53
Letter to Chairman Phil Gramm from Matthew Andresen, The Island
ECN, Inc., dated February 14, 2001............................. 55
(iii)
SAVING INVESTORS MONEY AND STRENGTHENING THE SEC
----------
WEDNESDAY, FEBRUARY 14, 2001
U.S. Senate,
Committee on Banking, Housing, and Urban Affairs,
Washington, DC.
The Committee met at 2:30 p.m., in room SD-538 of the
Dirksen Senate Office Building, Senator Phil Gramm (Chairman of
the Committee) presiding.
OPENING COMMENTS OF CHAIRMAN PHIL GRAMM
Chairman Gramm. Let me call the Committee hearing to order.
We have the Acting Chairman of the SEC, Laura S. Unger. I want
to thank you, Madam Chairman for coming today.
We have a bill before us that does two things. First, it
seeks to change the law to assure that we always have enough
money to fund the SEC but that the fees on new stock issues and
transactions do not become a general revenue source for the
Federal Government. Second, we want to establish pay parity,
where we are paying people at the SEC wages that are
competitive with financial regulatory agencies. I think this is
very important. While there are few people who love Government
less than I do, I believe that if you are going to do things in
Government--and Government does have a role in a free society--
then you need to have the best people performing those
functions, and having more competitive pay is very important to
accomplishing that goal.
Our plan today is to hear from Chairman Unger, to pose a
question or two and then go to our panel, which is somewhat
depleted, because the airport is closed due to fog, but we
still have a good representation of people.
Madam Chairman, we would be very happy to hear from you.
STATEMENT OF LAURA S. UNGER
ACTING CHAIR
U.S. SECURITIES AND EXCHANGE COMMISSION
Ms. Unger. Thank you very much, Mr. Chairman. It is an
honor to appear before this Committee today regarding your
proposed legislation. And hello to Senators Reed and Miller. I
want to express my appreciation for this legislation, the
Competitive Market Supervision Act of 2001, and to the
cosponsors of the legislation for their leadership in
developing this important bill.
As you described, the Competitive Market Supervision Act
addresses two critical issues facing the Commission today. One
is the excess collections of securities fees, and the other is
our need to match the pay of the Federal banking regulators.
The bill, as I understand it, aims to improve the current
system of SEC fee collections. As you know, the Federal
securities laws direct the Commission to collect three types of
fees: Registration fees, transaction fees, and fees on mergers
and tender offers.
The SEC's fee collections have been a subject of concern
since 1983, when we first began contributing more to the
Treasury than was required to actually fund the agency's
operations. Congress revised this fee schedule last in 1996.
Obviously I let it slip, having worked on the legislation,
which was an honor. The National Securities Market Improvement
Act, as you recall, I am sure, provided for a significantly
reduced transaction and registration fees with the expectation
that these reduced fees would result in collections more in
line with the cost of funding the agency's operations.
As you described, that has not turned out to be the case.
As our markets have continued to expand over the last couple of
years, so too has the amount of fees collected. At the time
NSMIA became law, the Dow hovered near 6,000; the Nasdaq
composite had just reached 1,200, and about 900 million shares
changed hands on the New York Stock Exchange and Nasdaq on an
average day. Today, our market indices have roughly doubled
with the share volume on the NYSE and Nasdaq averaging 3.5
billion shares a day. As a result, the aggregate fees collected
have increased from $774 million in 1996, which at the time was
2.5 times the amount of our budget, to $2.27 billion in fiscal
year 2000, which is more than 6 times the amount of our budget.
The Competitive Market Supervision Act responded to this
situation by significantly reducing the amount of fees that
would be collected in future years. And I thought I would just
mention a couple of ways it does this.
First, the bill reduces fees in a comprehensive manner. By
targeting all three types of fees that the Commission collects,
the bill not only reduces costs to investors and other market
participants, but also the costs to the capital raising process
itself. I recall you, Mr. Chairman, calling it a tax on capital
formation--so it would address that concern. It also has the
effect of spreading the costs of regulation among those who
benefit from the activities of the Commission.
Second, the bill creates a mechanism to adjust that
transaction fee on a yearly basis and to cap the collections
each year, which addresses many of the difficulties in trying
to predict or project future market growth. Although we have
certain technical concerns with this particular mechanism, I do
think it would result in more stable and predictable fee
collections in the future.
Third, the bill preserves the ability for the appropriators
to fund the SEC's operations from offsetting collections. It
does this by shifting the fee collections from general revenue
to offsetting collections, increasing the likelihood that we
will receive adequate funding in the future to protect
investors and promote the integrity and efficiency of our
Nation's market.
I again want to commend you and the bill's other sponsors
and the Committee's staff for the thought and the effort that
went into developing this bill. And again, as I mentioned there
were some technical concerns with the bill. In particular, one
of them was the status of the CBO's projections, which I
understand is being adjusted to reflect more current numbers.
This critical improvement will reduce the possibility of a
funding shortfall in future years. We look forward to
continuing to work productively with the Committee and its
staff on this bill.
More important to the agency, Mr. Chairman, is the
component of the bill that addresses pay parity and that
addresses our staffing crisis. Currently, attorneys,
accountants, and examiners at banking agencies earn anywhere
from 24 to 39 percent more than their counterparts at the SEC.
This has had a significant impact on our staff's morale, not to
mention their pocketbooks. The pay discrepancy makes little
sense for a number of reasons.
First, with the Gramm-Leach-Bliley Act of 1999, the
Commission staff will be working toe-to-toe with many of the
bank regulators in examining and regulating complex financial
firms.
Second, the demographics of our markets have changed
dramatically. I gave you some numbers in terms of volume and
the level of the Dow indices, but the number of investors has
changed as well. Twenty years ago, only 5.7 percent of
Americans owned mutual funds. Today, there are 88 million
shareholders, representing 51 percent of U.S. households,
holding $7.4 trillion worth of mutual funds. This is more than
double the amount of what is on deposit in commercial banks and
$2 trillion more in assets than are held at commercial banks.
Clearly, we need to have sufficient staff and resources to
carry out our mission of ensuring fair and efficient markets
and adequate investor protection.
Finally, we believe that pay parity is simply good public
policy. The issues that the Commission faces today are more
complex and difficult than ever. No single business has been
transformed more by technology than the securities industry.
New technology, new market entrants, and new financial products
are reshaping our markets. No less important, our markets today
are becoming increasingly global--a trend that most expect to
accelerate in the coming years.
At such a pivotal time in our markets' development, we
cannot afford to have a serious staffing crisis. I know all
Government agencies have to struggle to hire and retain
professionals in a world where base salaries for first-year
associates at top area law firms average $125,000, but our
attrition rate is nearly double the rest of the Government
average. Over the last two fiscal years, we have lost 30
percent of our attorneys, accountants, and examiners, including
a number of our most experienced and skilled professionals who
have left for better paying jobs. If this trend continues
because of our inability to pay employees the money they fairly
deserve, the Commission's mission will be severely threatened.
The Commission greatly appreciates the Committee's
recognition of the staffing crisis that we currently face.
Together with the authorization and appropriation levels
sufficient to make pay parity a reality, the bill should go a
long way to ensuring that the Commission can continue its
tradition of excellence as our securities markets enter the
21st Century.
In conclusion, this legislation is an important step toward
reducing and reasonably allocating fees on market participants.
It also attempts to ensure stable, long-term funding for the
Commission, including pay parity for the Commission's staff. We
look forward to working with the Committee and its staff on the
bill, and I appreciate your indulging me a few extra minutes,
Mr. Chairman.
Thank you.
Chairman Gramm. Well, Madam Chairman, let me thank you for
your testimony. I have a chart over here on the left that shows
the same thing you said, and that is, as you see the changes in
the slope, on several occasions we have had legislation to try
to limit the growth of fees to what we need to fund the SEC.
This is a classic user fee. We tell people that these fees
are going to be used to fund the SEC's operations from which
they will benefit, so they are paying for what they get.
But what has happened--as a result of the dramatic changes
we have had in the market--is that while there has never been
any question about the intent of Congress, these fees have
become a general revenue source. The problem is we are now
collecting six times as much as we need to fund the SEC, and
this has become a tax on every saver, every investor, every
mutual fund, every teacher retirement in the country.
I have been trying to come up with figures to use as an
example. Although it is virtually impossible to get inside
mutual funds and look at this, just take some averages that
might be applicable to a college professor or to an auto
worker, say, who has an investment account and contributes to
it each month for 45 years. Given that they are paying an
average share of these excessive fees on trying to build up a
retirement, they would pay $1,304.55 during their working
lifetime in excessive fees that intended to fund the SEC but,
in fact, now have become part of the general revenue stream of
the Government.
If that individual teacher invested that extra money at 6
percent instead of paying these fees, they would have at
retirement an additional $5,800.39. Or for a couple, if you had
two teachers who were married who used a savings program, that
would be worth $11,600 to them at retirement. So the point is,
these fees, not on any individual transaction, but over time,
become a fairly substantial tax burden as people try to
accumulate wealth.
Finally, I would argue that if you define the efficiency of
a tax as the amount of money you collect relative to the cost
you impose on society, this has to be one of the most
inefficient taxes, because you are taxing the initial issue of
stock, you are taxing transactions.
We have pay parity for economists at the SEC. And I did not
warn you in advance, so you may not have it. If you don't, just
send it to me. But it would be interesting to compare the
retention rate of economists at the SEC relative to lawyers.
Ms. Unger. You are correct. I have everything but that. I
have attorneys, accountants, and compliance examiners.
Would you rather have Mr. McConnell, our Executive
Director, answer that?
Chairman Gramm. Why don't you just send it to me?
Ms. Unger. Okay.
Chairman Gramm. The point is, we have an anomaly in that
the SEC actually has pay parity in one area but not in others.
I think it is very important, as I told Chairman Levitt, this
is something we do strongly support. Senator Sarbanes and I
tried to put pay parity in our end-of-the-year bill in the last
Congress. But there was an objection in the House, so it did
not happen.
I think it is good to pair pay parity in this bill along
with a mechanism to guarantee we always have the money needed
to fund the SEC, but not have a system which generates these
huge, unintended levels of revenues and fees.
I look forward to working with you, and I appreciate your
support of this bill.
Ms. Unger. Thank you.
Chairman Gramm. Senator Miller.
COMMENTS OF SENATOR ZELL MILLER
Senator Miller. I am also proud to be a cosponsor of this
bill. You have mentioned the two main parts of the bill that I
think are very worthy goals, and I am glad that I can support
it.
You touched on this in your remarks, but I wish that you
would amplify a little bit about the ramifications from an
international perspective that you are concerned about that a
lack of pay parity raises.
Ms. Unger. We have a surplus of vacancies, and we cannot
attract the people that we need to take care of our domestic
agenda. And as technology brings us to a more global
marketplace, we need some expertise and some very specialized
people to consider more closely those global issues. We do have
some limited staff persons devoting time to that now, but we
don't really have sufficient resources to spend as much time on
that as I believe the agency needs to, and as much of the rest
of the world would like.
Senator Miller. Thank you. I know you could talk a lot
about this--but briefly, could you just sum up how you think
this bill protects the integrity of our securities markets?
Ms. Unger. I was a staff person at the SEC right out of law
school. At that time, pay parity was an issue. I guess it was
12 or 13 years ago. So it has been something that has been
discussed for a long time.
People don't work at the SEC because of the money,
obviously, but we see people leave every day because they
cannot afford to work there any longer. To the extent that we
have compromised the level of people we can attract and retain
at the Commission, it compromises our ability to carry out the
function of the agency and the mission of the agency, which is
to ensure investor protection and a fair and efficient
marketplace.
We are being challenged daily by what is going on in terms
of technology and how it is impacting our market, market
structure, retail online trading. . . . There are a whole host
of issues--such as the global marketplace which was mentioned
earlier--that we need to tackle today. Yesterday would have
been even better.
And so, to the extent we can be fully staffed and have the
best people we possibly can to do that, everybody will be
better off. As I mentioned, there are a significant number of
households that are invested in the U.S. securities markets.
Senator Miller. Thank you.
Chairman Gramm. Senator Reed.
COMMENTS OF SENATOR JACK REED
Senator Reed. Mr. Chairman, Ms. Unger, I want to thank both
of you. There has always been an issued raised up here to what
extent that these fees are passed through to the ultimate
consumers, and as a result, to what extent the relief will be
passed through to ultimate consumers. Can you comment on that
or any studies you have or any anecdotal evidence?
Ms. Unger. I have what I think is a combination of
anecdotal evidence and industry statistics. I am not exactly
sure of the source other than it was cited last year at this
hearing. The percentage that was cited is that 87 percent of
the Section 31 fees on New York Stock Exchange transactions are
passed on to the individual investor, and approximately 82
percent of Section 31 fees on Nasdaq securities are passed
through to the individual investor.
I read all of the testimony for the witnesses that follow
me today, and the Securities Industry Association testimony
spent most of the time discussing the cost to the investor of
these fees and the fact that reducing the Section 31 fees would
result in significant savings to investors. I presume, then,
that the industry intends to pass this cost savings, should the
bill become law, on to retail and other investors.
Senator Reed. You are more familiar with the fee structure
than I am. But typically, this is not itemized, any type of fee
that is charged to a consumer, is it? I have heads shaking yes.
Maybe I should wait for the industry representatives to come up
here.
Ms. Unger. They are behind me. I cannot see them.
Senator Reed. There is a lot of head twitching going on in
the audience.
Ms. Unger. On the confirmation statement, there is a line
that says ``SEC fees paid.'' So there is some disclosure.
Senator Reed. Another quick question. There are provisions
in which the fee schedule has to be adjusted based upon
covering your revenues as we go forward. We will estimate how
much is required, et cetera. The SEC is involved in that
readjustment process?
Ms. Unger. Well, my understanding is the estimate is based
on the CBO's projections and the cap and floor have a role in
determining exactly what the level is. The only thing that is
uncertain is what happens after 2011, because we are capped at
I think it was $884 million. I think that is right. Is that
right? $884 million. So the question then will be whether our
fees will be the exact amount of our appropriation. I think we
would like to be involved in that very much.
Senator Reed. Thank you.
Thank you, Mr. Chairman.
Chairman Gramm. Senator Stabenow.
COMMENTS OF SENATOR DEBBIE STABENOW
Senator Stabenow. Thank you, Mr. Chairman.
Commissioner Unger, you have spoken about I think and made
a very compelling case for allowing the SEC to better compete
for qualified professionals. And I notice that in your
recommendations, you have laid out the need for $71 million per
year in order to be able to accomplish your goals. I wonder if
you could tell us how you reached that number and in this tight
labor market whether or not, in fact, you feel that will allow
you to reach the goal?
Ms. Unger. Well, certainly we would take more if offered.
But my understanding is that the number is based upon achieving
pay parity agency-wide as is done at the FDIC. But those are
where the numbers are in terms of the projections of the $70.9
million cost.
Senator Stabenow. It is your feeling based on experience at
this point in reaching out and recruiting that would solve the
problem?
Ms. Unger. I think it would help substantially. I sent an
e-mail to the entire Commission when I was designated Acting
Chairman, and as part of that, being a former staff person who
is now in a position to perhaps help, I mentioned that I would
continue to work for pay parity, and I cannot tell you how big
a stack of e-mails I have gotten in response. It is something
that is very much talked about, especially since this
legislation made it seem that we were getting very close to its
being a reality. And it is something people would be very, very
happy with.
It doesn't sound like a lot of money, but when you are
talking about the difference between being able to afford your
children's school tuition and staying at a Commission where you
love the work, it is a huge difference.
Senator Stabenow. Okay, thank you.
Thank you, Mr. Chairman.
Chairman Gramm. Thank you.
Senator Bayh.
COMMENTS OF SENATOR EVAN BAYH
Senator Bayh. Thank you, Mr. Chairman. I had thought
briefly about creating a stir today by announcing that Bayh
agrees with Gramm on tax cuts.
[Laughter.]
But I did not want hearts to start palpitating around the
Capitol.
Chairman Gramm. Well, you can go ahead.
[Laughter.]
Senator Bayh. I will, however, say----
Ms. Unger. Valentine's Day.
Senator Bayh. That is right.
Senator Schumer. It would be a better story if Gramm agreed
with Bayh on a tax cut.
[Laughter.]
Senator Bayh. Thank you. I agree with that, Senator
Schumer. I will say that I agree with you when it comes to
reducing fees for the SEC, Mr. Chairman. And Ms. Unger, I want
to thank you for your testimony today and for your good work
for the Commission and just say it seems to me as if this is an
opportunity to have a win-win situation. It is good for
consumers, not only because it will reduce their cost of
transactions, but also increase the protection afforded to
those transactions.
I know I probably reflect the experience of all of us up
here when we hire good, dedicated staff people. And it is so
difficult to see them have to choose between doing right by
their families and continuing to serve the public that they
love. So if we can help to make your task a little bit easier
in that regard, I think we should.
Mr. Chairman, I, too, am pleased to be a cosponsor of this
legislation. I hope we can get it passed. I think we can do it
in a way that is fiscally responsible and achieves two
important public policy ends for the people of our country.
Ms. Unger. Thank you.
Senator Bayh. Thank you for your presence.
Chairman Gramm. Thank you, Senator Bayh.
Senator Sarbanes.
STATEMENT OF SENATOR PAUL S. SARBANES
Senator Sarbanes. Thank you very much, Mr. Chairman. First,
I want to welcome Laura Unger back before the Committee now as
the Acting Chairman of the SEC. And as I have done in the past,
remind all of the staff that are sitting behind us here that
one day they can be the Acting Chairman of the SEC.
[Laughter.]
Ms. Unger. I might prefer to be behind you. Thank you.
Senator Sarbanes. We remember your work here on the
Committee with great appreciation. I am delighted to see you.
As Chairman Gramm indicated, we worked together in an
effort to get the pay parity for SEC employees, and I strongly
support it, and I think the SEC ought to have it.
I don't want to rain on the parade, and I know where the
parade is going because it is marching through here at a rapid
clip. But I think out of an abundance of responsibility, if
that is the way to put it, I should point out that these SEC
fees are going to be reduced by about $1 billion in 1 year, $8
billion in 5 years, and $14 billion over 10 years. So it is not
an inconsiderable sum of money.
I appreciate the argument that says, well, they were put
into place under a certain rationale and we should not drift
away from that. But Jack Lew, the OMB Director, pointed out to
the Committee last year that, and I quote him:
Any additional reductions in SEC fees will necessarily come
at the expense of strengthening Social Security and Medicare,
providing tax relief to middle-income families, funding
critical initiatives, and paying off the debt.
I just simply want to note for the record, this is not cost
free. And since it will in effect impact the fiscal situation,
we need to recognize that.
Now, of course, the individual cost of these transactions
is tiny, although you can accumulate them over time and come to
a figure that in and of itself is not tiny. I don't think it is
deterred stock market activity. In fact, according to the CRS,
in 2000, pretax profits in the securities industry reached $20
billion, which was an increase of 59 percent from a year
earlier when pretax profits totaled $12.6 billion, and 1999 was
a 26 percent increase over 1998. I know the industry doesn't
want these fees and they are obviously going to be markedly
reduced. But the industry seems to be doing quite well, if I
may make that observation.
I have two substantive things I want to pursue. One is the
statute which lays down the benchmark about these fees, which
provides that the Commission shall in accordance with this
subsection collect registration fees that are designed to
recover the cost to the Government of the securities
registration process and costs related to such process
including enforcement activities, policy and rulemaking
activities, administration, legal services, and international
regulatory activities.
I understand that there are a number of Federal agencies
with which the enforcement division of the SEC cooperates on
their investigations, which themselves therefore incur costs in
meeting this statutory mandate of the costs related to such
process including enforcement activities. Is that correct?
Ms. Unger. Yes.
Senator Sarbanes. So if we were really trying to define on
a straight pass-through, as it were, those costs probably need
to be entered into the calculation.
Ms. Unger. The costs of cooperating with the other
agencies?
Senator Sarbanes. No, not your cost. The cost of the other
agencies from cooperating with you and carrying out your
enforcement activities.
Ms. Unger. Well, I think one of the agencies we cooperate
with most extensively is the Justice Department, which comes
out of the same Commerce-State-Justice pool of money. They
generally conduct a criminal investigation, whereas we conduct
a civil investigation. If we had criminal authority, certainly
we would be pleased to conduct both investigations. But in
point of fact, generally they pick the most egregious cases,
and there has been a lot of competition among the different
attorneys general, State and Federal, in terms of who has
jurisdiction over the securities cases, particularly in New
York.
Senator Sarbanes. But if the rationale of the fees, which
is now argued we should adhere to as provided in the statute,
so we do not make it a source of money for the general fund--if
the rationale for the fees is to recover the cost to the
Government--not to the SEC, to the Government--and I am reading
from the statute, of the securities registration process and
costs related to such process, including enforcement
activities, wouldn't it be reasonable to calculate the costs
which these cooperating agencies incur in order to help the SEC
carry out its responsibilities?
Ms. Unger. With all due respect, I don't think I agree with
that. The SEC is a law enforcement agency. I think we are
equipped to carry out our enforcement actions with or without
the Justice Department. Again, we have different remedies
available to us. So to the extent that we use our full array of
remedies, we are carrying out our responsibility as charged by
Congress in the 1934 Act, which is where we come from, which is
where we were chartered.
To the extent the Justice Department has taken a keen
interest in prosecuting white collar crime cases to make a
bigger point and provide greater deterrence and have a greater
array of cases and expertise in their offices, we do work
together. We give the Justice Department in New York a
substantial sum of money in order to carry out our enforcement
activities. So, I think what you are talking about already
takes place.
Senator Sarbanes. Now, that is an interesting point. Are
you asserting that the other agencies are reimbursed by the SEC
for any activities they carry out in the course of costs
related to the enforcement activities related to the
registration process? Is that your standard practice to
reimburse all these various agencies? Not just Justice, but
Treasury, FTC, and so forth and so on?
Ms. Unger. For the entire time I worked in the enforcement
division and the entire time I have been a Commissioner, I have
the list that I think you are referring to. I have not seen a
large number of cases where we have cooperated with these
agencies to the extent where they would need to be reimbursed.
Again, we are a law enforcement agency. We have a different
mission than the bank regulators who are protecting safety and
soundness.
Senator Sarbanes. Does the SEC think that their budget is
where it should be, or does the SEC think that your own budget
should be larger?
Ms. Unger. I think we had requested $567 million for our
budget this year, and I believe we are getting in the area of
$438 million, possibly $467 million. There is always room for
expansion.
But to the extent that we can, back to your other question,
work with the Justice Department in delivering our efforts
against fraud and making our point stronger, then we have
devoted resources to that in terms of our budget.
Senator Sarbanes. Mr. Chairman, let me just make this
observation and I will close.
Chairman Gramm. Sure. Go ahead.
Senator Sarbanes. First of all, I think you had left the
room. I see where the parade is going, and I appreciate that
despite Jack Lew's warnings and others about the broader fiscal
impact that, you know, this is proceeding down that course.
However, I do think that if the rationale for doing that is to
adhere to this link-up, that two things need to be very
carefully considered. First, what is an appropriate level of
budget for the SEC itself if we are going to drop the fees so
we don't go down so far that we are not able to meet providing
an appropriate SEC budget? Second, the extent to which we need
to factor in other costs incurred by the Government in order to
meet the charges or the responsibilities set out under the
statute.
Both of those I appreciate are a much lower order of
magnitude with respect to the bigger question. But
nevertheless, they both go to effectively carrying out the
securities laws, and I think we need to keep that very much in
mind in terms of what levels we go to.
Chairman Gramm. Senator Sarbanes, I think that is something
we should look at and we will try to look at it. Let me just
ask a quick question related to this. Now the SEC imposes
fines?
Ms. Unger. That is correct.
Chairman Gramm. Where does that money go?
Ms. Unger. Into the general revenue.
Chairman Gramm. I think that in terms of law enforcement,
we have to look at the fines and try to get a measure. If you
are paying the U.S. Attorney in New York for their
participation, that is covered. To the extent that it is not
covered, I think it is a legitimate question to look at. But we
also have to take into account fines that you are collecting as
part of the process.
Ms. Unger. Just for a point of clarification, though, we do
not generally refer cases to these agencies. They refer cases
to us. We are the ones who carry out anything relating to the
Federal securities laws. It would not be the Food and Drug
Administration or anything like that.
To the extent that they have a lead or a tip or something
that they think we should pursue, yes. And to the extent that
they might have some particular expertise in a case, then I
would assume yes also. But it is really the exception more than
the rule. We have tried to work more with the States and the
SRO's to avoid duplicating enforcement cases and to make
everybody's resources more effective.
Chairman Gramm. I assume you would do the same. That if you
saw something that looked criminal outside the securities laws.
Ms. Unger. Absolutely.
Chairman Gramm. It would be helpful to the Committee if you
would get for us an annual, maybe go back 10 years of what the
aggregate level of fines have been on an annual basis. I think
that would help us.
Senator Schumer.
STATEMENT OF SENATOR CHARLES E. SCHUMER
Senator Schumer. Thank you, Mr. Chairman. And I am part of
the parade as the lead democratic sponsor on this bill. I would
just make an observation about the bill before I ask a
question.
It is true what Jack Lew says in terms of money going to
one fund or another. But if we wanted to tax securities
transactions directly, then we should do it. In these days of
international competition, where we really run into danger that
the place where securities is traded ends up in London or
Frankfurt or Hong Kong, or somewhere else, I think we should be
really careful about that. That is one of the reasons I support
this bill.
I think later Mr. Forney will testify that he believes that
this could be a real albatross in terms of our American
market's renewed competition against foreign markets. And that
is another reason to be for this proposal.
I have one question on a somewhat tangentially-related
matter, to be honest, but I would like your view while you are
here. I have heard a lot of griping on Wall Street among
traders, specialists, et al., about decimalization. In fact, I
think the New York Stock Exchange is having a meeting to
discuss it Friday. I, for one, was never sold on the great
merits of decimalization, given some of the problems it might
create.
Are you content with how the implementation is going? Do
you see any problems, particularly with finding sticking
points? Is the consumer benefiting from decimalization the way
he and she were supposed to?
Ms. Unger. I am not sure if they are benefiting the way
they were supposed to, and I think certainly there needs to be
a little more time before we can definitively say what the
impact is.
There are two things that I have observed in the course of
the implementation of decimals or decimalization. One is the
multiple price points that decimals produces could result in
higher transaction costs, I believe, for a retail investor. The
other is what institutional investors are calling being
pennied. That their orders are being stepped in front of by
specialists or market makers at only one cent, when it is a lot
cheaper to do than it was in the sixteenth environment.
I think those are two issues that I will continue to look
at closely. We have had a number of roundtables on decimals,
and we are planning to have another one, when it is an
appropriate time, probably after Nasdaq implements their
decimals program, and we will report back to you.
Senator Gramm. If the Senator would yield, I just want to
tell my colleagues, we do have a vote on. It is my
understanding from the cloakroom that this is going to be an
extended vote; that they are holding it for people who are off
the Hill. I would suggest that we have the two Members who have
not questioned go ahead and do their questioning. Senator
Corzine, you will be the last questioner on this panel. Then
what I would like to do is just recess the Committee at that
point and I would have Senator Corzine do that, and then our
second panel can come up, and as soon as I get back, we will
start that second panel.
Senator Schumer. I want to do one follow-up, Mr. Chairman.
I guess it is fair to say right now that decimalization or
decimals, I guess is the easier way to put it, is not a
smashing success. There are some questions out there about how
it is working?
Ms. Unger. Again, I think we need to take more time to see
exactly what the impact will be. I don't know how smashing a
success it was; it would depend on your expectations, I
believe. I think it is fine, and there are some issues that we
need to look at closely to make sure it is better.
Senator Schumer. Thank you, Mr. Chairman.
We are paralyzed.
Ms. Unger. Who's in charge?
Senator Carper. Why don't we pass something while we are
here, Jon?
[Laughter.]
Ms. Unger. This bill would be okay.
COMMENTS OF SENATOR THOMAS R. CARPER
Senator Carper. Some of us are newer Members around here
than others. In your testimony, you speak of your gratitude to
the Committee for their understanding of the challenges that
you face with respect to compensation and being able to attract
and retain qualified staff. I am new on this side of Capitol
Hill, and would appreciate it if you would just take a minute
or so, for my benefit, and talk to me about the difficulty you
have had in attracting and keeping good people.
Ms. Unger. I mentioned in my oral testimony that while most
of the Government has experienced about a 7 percent attrition
rate, the SEC has experienced a substantial amount more, and I
do have a chart actually, which if you want me to can be made a
part of the record.
Senator Schumer. Without objection.
Ms. Unger. I would be happy to.
For fiscal year 2000, we lost 17.47 percent of our
attorneys while the rest of the Government lost about 6.7
percent. Again, we are seeing a large number of the attorneys
who are specialized in the area of securities law move
sometimes to other governmental agencies, which are paying, as
I said, 24 to 39 percent more. Certainly it is also hard to
compete with what a lot of the law firms are paying for first
year salaries.
I did say that I do not think people work at the SEC for
the money, and obviously, no one who works in the Government
works for the money. But, when there is such a disparity as
exists between the SEC and the rest of the Federal financial
regulators, not only do we have a hard time attracting the
talented and qualified people that we need, there is a morale
problem with the people who are at the agency in terms of
seeing what their colleagues elsewhere are making, and I
wouldn't say they are feeling like second class citizens, but,
you know, we feel that we are a very qualified agency and that
we have a very important mission to fulfill. And so to be
compensated accordingly would mean a great deal to these
individuals who are there now, and also it would really help
attract additional talent. We have a number of vacant positions
open now for that very reason, and I have the number here. We
have a total of 3,037 full time employees, but we have 3,285
slots. We are having a hard time filling those slots.
Senator Carper. Help me again with the numbers in terms of
the impact on the budget, revenues to the Federal Government
that the passage of this bill would create. Did I hear someone
say $14 billion over the next years? Did someone say that?
Ms. Unger. Senator Sarbanes was talking about the fact
that, right now, the offsetting collections that the Commission
generates are substantial, and we are funded out of offsetting
collections. A portion of our fees go into general revenue, and
a portion go into offsetting collections. At the end of this
bill cycle, we will be fully funded from offsetting
collections, and none of the fees will be going into general
revenue. And so we are going from substantial amounts of money
into general revenue to eventually zero.
But that is at the out years of this bill. This bill goes
through 2011, and I did mention to Senator Sarbanes, after
2011, we will be fully funded at an authorization level set by
this Committee that would equal the amount of offsetting
collections, so we would have to set our fees according to our
authorization.
The objection is that the money, the excess fees that we
have been producing since 1983 will no longer be going into the
general pot of money for Commerce-State-Justice that have been
used to fund, in part at least, some other programs.
Senator Carper. Right. I don't recall exactly how many
other Committees there are, but there must be a dozen or so
Committees, and if every Committee would pass legislation that
would change, really net the revenue to the Federal Government
by $14 billion over the next 10 years, that would be $140
billion.
My sense in listening to the questioning of some of the
other Members is that this bill's likely to be adopted, and
likely to be passed. My hope is that we are the only Committee
that tries this because, if not, we are going to have a much
smaller piece of pie to use for a tax cut than a lot of people
are talking about. That is not your worry here, but that is
something that needs to be said on the record.
Ms. Unger. It is a concern. I think the optics of the bill
from that perspective make it somewhat difficult but if you
consider that this is a tax on capital formation and investors,
then it is a tax cut in a different way. If you go back to the
statutory language that sets our fees to cover the costs of
securities transactions and preventing fraud and everything
else, then there is certainly an equity argument to be made.
Senator Carper. If even eight Committees were to pass
legislation that had a similar kind of impact, ironically, that
would add up to the same amount of money that we are talking
about using on these extenders, the R&D tax credit and a
variety of others that need to be extended that are about to
expire, so it adds up to be real money, we have to be mindful
of it.
Ms. Unger. I wonder how many other agencies bring in so
much in terms of revenue?
Senator Carper. I honestly don't know. Good question. That
having been said, you mentioned that most people don't work
here in Government for the salary. This guy does. And we are
delighted that he is here.
STATEMENT OF SENATOR JON S. CORZINE
Senator Corzine. Let me just say this is like most of my
meetings at Goldman, Sachs. Everybody just left.
Also I will be recusing myself on this because there might
be the perception of misinterpretation of why I might be voting
for something. In addition, I want to make a couple of
observations and make them quickly, because we have to go vote.
I embrace this pay equity element enormously. I think the
kind of turnover rates that you cited, 16 and 17 percent and
the number of vacancies is a real potential tax on investors
from the lack of ability to fulfill the mission of the SEC,
which I have great admiration for.
I think the point that Senator Sarbanes was drawing out
with regard to the appropriate level of the budget to fulfill
the SEC's mission effectively for investor protection and to
make sure that you carry out all the various missions, I think
could be questioned whether we have that set right, the $100
million that you talked about relative to your request versus
appropriations and whether there is timely and effective
ability to deliver on the mission just because of the lack of
resources.
Some of it because of parity, some of it just because of
maybe there is not as broad an investment in the role of the
SEC that I think might be necessary.
Occasionally I felt that when audits or other things were
going on from firsthand experience.
If I look at that chart, it looks like some of the budget
projections I also think I have seen at an old firm that I
worked at and I would have called that a trees grows to the sky
chart. I question because if you look at where SEC fee
collections are relative to the budget, up until about 1995,
some gap, but not the kind that produce $14 billion over 10
years, we have had an extraordinary period in securities
markets both in the underlying transactions and the new issue
market mergers. And one could wonder whether we have gauged
this properly for a more normalized event, and I certainly
wouldn't plan my business looking at a chart like this without
wondering whether historical relationships might be more
appropriate and looking at the 1995 issue might be one of
those.
Finally, just for all of those that would make the case
that sort of what it is turned into, a transaction tax is an
albatross, I wonder why we have had so much volume occur in the
marketplace, and whether there is sometimes stretching of what
the argumentation would be.
As I said, I am recusing myself, and I probably would come
out very favorably in that, but I do think there are some
observations in here about carrying out the mission that go
beyond the parity question.
And if you don't mind----
Ms. Unger. Do you want me to respond to any of that?
Senator Corzine. I would love to except they tell me I am
going to miss a vote. Then I won't be back here to hassle you
the next time.
Ms. Unger. Certainly if you have any questions that you
want to submit, I can send you a written response.
Senator Corzine. Right. I really do think you need, if I
had the time to be here, I would like to deal with, we have
gone through a clearly attractive period in securities markets
and is the adjustment, does it take into account the
consideration that you might have a dramatic falloff in volume
which might not be supported over a longer period of time,
which I think any practical business approach to this would
want to see one do, not just collect the dough for the general
revenues.
Ms. Unger. The short answer is yes. There is a mechanism
built in to take care of that.
Senator Corzine. Good.
Ms. Unger. Thank you.
Senator Carper. The Committee is in recess. We did it
together.
Senator Enzi [Presiding]. We will begin again, and I will
begin by welcoming the second panel. We will change the order
just a little bit because of airline connections.
First will be Mr. James Burton, who is the CEO of
California Public Employees Retirement System. Then Mr. Marc
Lackritz, who is the President of the Securities Industries
Association and then Mr. Leopold Korins, who is the President
and CEO of Security Traders Association.
Mr. Burton.
STATEMENT OF JAMES E. BURTON
CHIEF EXECUTIVE OFFICER
CALIFORNIA PUBLIC EMPLOYEES' RETIREMENT SYSTEM (CalPERS)
Mr. Burton. Thank you, Mr. Chairman and Members of the
Committee.
My name is James Burton. I am the Chief Executive Officer
of CalPERS. I do appreciate the opportunity to testify before
the Committee today. We are the largest public pension fund in
the United States with assets of $165 billion. Our plan has
864,000 active workers and 356,000 retired employees. We pay
approximately $4.8 billion in annual CalPERS retirement
benefits.
We administer this plan on behalf of 2,480 governmental
entities in California. We have a well-diversified portfolio
and we are represented in every conceivable asset class.
I am here to support S. 143, the Competitive Market
Supervision Act. We believe this measure would benefit large
and small investors alike by reducing the cost of securities
transactions that both types of investors must pay. We also
support S. 143 because it would enhance the ability of the SEC
to attract and retain expert staff that is responsible for
protecting investors and ensuring accountability and integrity
in our markets.
We understand that the Commission staff turnover rate is
considerably higher than that of other financial regulatory
agencies. The Committee heard testimony last year that the
attrition rate at the SEC is about 13 percent, while the
Federal Reserve Board and others only lose about 5 percent of
their staff each year.
Today, Acting SEC Chair Laura Unger told the Committee that
the Commission has lost 30 percent of its attorneys and
accountants over the past 2 years. As a large institutional
investor, CalPERS is troubled by this kind of turnover of the
SEC's professional staff. As a CEO, I can understand the added
pressure it places on other staff members who must pick up the
slack, even as essential responsibilities are unmet. CalPERS is
pleased to support a measure that would help the SEC solve this
problem.
We also urge the Committee to be certain that there is a
stable funding source for the SEC. This, too, is crucial for
the agency to attract and retain talented people.
Next, I would like to address the securities transaction
fees reduction element of S. 143. Our internally managed U.S.
equity portfolio turnover rate is approximately 10 percent a
year. This lower-than-average rate is based on our passive
investment strategy which seeks to replicate the Wilshire 2500
Index.
We also allocate a portion of our U.S. equity portfolio to
external managers whose turnover rate is much higher. Because
we do not trade as frequently as mutual funds, or even as often
as other public pension plans, our savings and transaction fees
from S. 143 won't be as great as others. It will be about
$342,000 annually. But what is important to us is that this
becomes essentially reduction in taxpayer costs.
Let me explain. CalPERS' actuaries make a number of
projections to determine how much the plan needs in
contributions today in order to pay beneficiaries in the
future. While employee contributions remain constant, employer
contributions are adjusted based on actuarial estimates. To the
extent CalPERS' administrative costs are reduced, through fee
reductions, for example, actuarial guidelines require employer
contributions to be decreased. Dollars not spent on
administrative costs are invested. For California taxpayers who
fund State and local public agencies, these savings translate
into a smaller tax burden.
Mr. Chairman, the CalPERS' Board of Administration passed a
resolution in support of last year's bill and remains strongly
supportive of both transaction fee reductions and SEC pay
parity.
I am pleased to testify in support of S. 143 and urge the
Committee to move the bill as quickly as possible. Thank you.
Senator Enzi. Thank you for providing your testimony. I
know that you do have to leave. We appreciate the effort that
you have gone to, to help us build this part of the record,
which is a crucial part of getting any of the bills passed.
I am sure that there will be some questions for you, but we
will get those to you, if you would respond to them and get
them back to us, we would appreciate that so that they can be a
part of the record.
Mr. Burton. Yes, sir. Thank you for the accommodation and
we will respond fully for the record.
Senator Enzi. Thank you.
Mr. Lackritz.
STATEMENT OF MARC LACKRITZ, PRESIDENT
SECURITIES INDUSTRY ASSOCIATION
Mr. Lackritz. Thank you, Senator Enzi.
If I could start off by borrowing a line from the old
broadway play, ``I am Not Rappaport,'' and I am not Gorman.
Unfortunately our witness today was going to be our Vice
Chairman of SIA, Lon Gorman, who is a Vice Chairman of Schwab
and President of Schwab Capital Markets, and is an expert in
trading and market structure. He is our Vice Chairman and also
a Cochairman of our Market Structure Committee. With the
closing of the airports, unfortunately his plane was diverted
back to New York, so he sends his apologies. Unfortunately, you
don't have the varsity in front of you today, but I will do the
best I can to testify in terms of our position on this.
We strongly support S. 143, the Competitive Market
Supervision Act of 2001, which was recently introduced by
Senator Gramm and Senator Schumer. We believe the time has come
for Congress to reexamine the issue of SEC fees, because the
basic assumptions underlying the current fee structure have
changed dramatically. The fees were implemented several years
ago to fund the cost of regulating the securities markets--
essentially to ensure that the SEC had enough funding to
adequately perform its regulatory duties, hire and retain the
best staff, and cover the agency's operating expenses. Today,
of course, the fees collected exceed that cost by 500 percent
or more. It is time to bring securities transaction fees back
in line with the cost of regulation.
Whenever an individual sells shares, the brokerage firm
puts a line item on the trade confirmation for securities
transaction fees. As you know, the fee is charged on sell
transactions, so that every time an investor sells shares, a
debit appears on their confirmation reflecting the amount of
the fee. To the individual investor, the fees may seem
relatively insignificant-- on a small trade, they can amount to
just pennies, maybe a few dollars on a larger trade. But do
they ever add up, Mr. Chairman. Last year, so-called Section 31
fees and other securities transaction fees provided an
estimated $2.27 billion in revenue to the Federal Treasury. The
budget of the SEC, however, was $377 million, meaning that
investors paid $1.9 billion more in fees than was necessary
just last year.
The securities industry strongly supports adequate funding
of the SEC. Our U.S. capital markets are the envy of the world,
in no small part because we have the most sophisticated and
professional regulatory system in the world. Proper oversight
of the securities markets is absolutely critical to investor
confidence. The industry agreed several years ago to pay
additional transaction fees in order to provide Congress with a
more reliable source of funding for the SEC. But no one
expected the staggering growth in market activity in the years
since 1996 legislation that established the current fee system.
Trading volume on the New York Stock Exchange and on the Nasdaq
has roughly doubled in the last 4 years, sending transaction
fees skyrocketing. These securities transaction fees should
continue to be collected to the degree necessary to ensure that
the SEC is fully funded and able to carry out its very
important responsibilities.
But it is clearly not in the interest of investors for
these fees to so grossly surpass the cost of regulation. These
fees drain capital from the markets, and from the pockets of
individual investors. Last year, that surplus amounted to $1.9
billion that could have been reinvested to stimulate economic
growth and create jobs. It is money that could and should
remain in the hands of investors.
It is important to point out that a reduction in securities
transaction fees will benefit the broad spectrum of investors.
As recently as 1992, about one-third of all U.S. households
owned stock, either directly or indirectly. Last year, that
number had risen to roughly half of all U.S. households
invested directly or indirectly in the markets. Every single
American who owns stock, directly or indirectly, through their
investments in mutual funds and pension funds pays these fees,
as was pointed out earlier. Regardless of their investment
choices, reducing the fee would benefit investors of all types.
Mr. Chairman, this legislation is really the right answer.
It brings the fees more in line with the actual costs of
regulation, and ensures that investors are not taxed beyond
that which is necessary for that purpose. It ensures that the
SEC will have adequate funding, not only this year, but into
the future, to perform its critical functions. And,
importantly, it ensures that the SEC can recruit and retain the
best-qualified regulators by creating pay parity between the
SEC and Federal financial regulators. The SEC is losing top
staff at an alarming rate to the private sector, as well as to
other financial regulatory agencies that can offer much better
pay. Experienced and well-qualified, competent and
sophisticated regulators are critical to the long-term
stability of our financial markets. By bringing SEC pay in line
with other agencies, such as the Federal Reserve Board and the
FDIC, we can be certain that talented professionals will
continue to offer their skills and experience to the SEC. So we
strongly support pay parity for the SEC staff, and always have,
Mr. Chairman. We support preserving fee revenues from Nasdaq
transactions as offsetting collections up to the latest CBO
baseline numbers. We strongly endorse S. 143, and urge Congress
to move quickly to pass this important legislation.
Finally, we are all keenly aware of the impact the current
economic slowdown has had on our capital markets and on the
American public in general. The market's downward move has had
a profound impact on the savings of the vast majority of
investors. After several years of unprecedented growth, the
current situation is particularly frustrating to the millions
of investors who have come into the markets in just the last 3
or 4 years, and, in fact, have not seen a downturn like this.
By returning to investors some of the $1.9 billion in excess
fees that were collected last year on transactions, Congress
can help alleviate at least a small portion of the losses of
the current market situation.
Passing the Competitive Market Supervision Act is the right
thing to do, and we urge this Committee to move the bill to the
Senate floor at its earliest opportunity.
Again, Mr. Chairman, thank you very much for the
opportunity to testify.
Senator Enzi. Thank you for the excellent job of standing
in on short notice.
Mr. Lackritz. Thank you.
Senator Enzi. Mr. Korins.
STATEMENT OF LEOPOLD KORINS
PRESIDENT & CHIEF EXECUTIVE OFFICER
SECURITY TRADERS ASSOCIATION
Mr. Korins. Senator Enzi and Members of the Committee,
thank you for the invitation to testify before you today on
SEC's transaction fees. I am Lee Korins, President and CEO of
the Security Traders Association. I appreciate this opportunity
to present the views of the STA, and I applaud all of you for
scheduling a hearing on this important issue in the first weeks
of the 107th Congress.
I have also submitted a longer written statement for
inclusion in the record.
I wanted to thank you, Senator Enzi, and the other
cosponsors of S. 143 for your efforts to enact legislation to
provide meaningful and equitable fee relief. STA supported S.
2107, the Competitive Market Supervision Act, last year, and
was heartened to see that you, the Chairman, and Senator
Schumer reintroduce the bill this past month.
In 1996, the Congress enacted the National Securities
Market Improvement Act, NSMIA, which modified the SEC fee
structure--including extension to Nasdaq trades of the
transaction fees imposed by Section 31. NSMIA was supposed to
reduce the amount of SEC fees collected. Unfortunately,
however, the 1996 legislation has not functioned as intended,
as the fees generate about six times the SEC's funding needs
and continue to increase.
Actual fee collections have significantly outpaced NSMIA's
projections because the Congressional Budget Office and the
Office of Management and Budget used very conservative
estimates of stock market growth that were relied on by this
Committee and Congress in drafting NSMIA.
In fiscal year 2000, actual collections from all sources
grew to $2.27 billion, over six times the SEC's budget, as has
been mentioned. The latest CBO estimate shows runaway growth in
the fees from $2.47 billion in fiscal 2001 to $3.76 billion in
fiscal 2005. In other words, total SEC fees are projected to
raise over $15 billion over the next 5 years, while the SEC
budget will require only a fraction of that amount over the
same period.
In my written testimony, I have included a chart that
illustrates this trend, showing how the fees will collect over
$16 billion in excess of what Congress intended in NSMIA over
just the 7 year period of fiscal 2001 to fiscal 2007.
Another defect in the NSMIA's fee structure is that it
fails to accommodate changes in the securities markets. For
example, unless Congress restructures SEC's fees this year, the
pending Nasdaq conversion to an exchange will redirect to the
general fund a significant portion of the fees that are
currently made available to the appropriators to fund the SEC.
Thus, we face the possibility of a fee structure that generates
billions of dollars in unanticipated collections while at the
same time creating a funding crisis for the SEC.
Clearly, this is not the scenario the Committee intended
when it fought to redesign the SEC's funding structure in 1996,
and reduce the amount of the fee surplus.
I want to emphasize here that the issue is not SEC funding.
Indeed, Mr. Chairman, the legislation that has been sponsored
with the Senators that have cosponsored it, protects and
enhances the SEC's funding.
For the record, let me state unequivocally, that the
industry and all investors consider it their duty to continue
the funding of the SEC. The discussion here is over the amount
of the fees, not whether we should have user fees.
Section 31 transaction fees operate as a tax on the gross
trading revenue of securities professionals. One STA member
firm which makes markets in about 100 Nasdaq stocks estimated
that its Section 31 fee payments amounted to 40 percent of its
net OTC trading profits before the allocation of overhead.
Another firm found that its Section 31 fee payments were twice
the amount of its rental payments for the building, housing,
and trading activities. Section 31 fees operate as a gross
receipts tax, meaning that fees are paid before Federal and
State taxes, before salary, and before all other allocations
for overhead. This is a perverse scenario, an onerous burden on
the very traders who provide liquidity in the markets for
hundreds of stocks.
A letter I received today, that will be entered into the
record, comes from Coastal Securities, a Nasdaq market maker in
Dallas, Texas. I will just read a portion of it. They indicate
that:
The burden of the Section 31 fee on Coastal Securities is
clearly reflected in its financial numbers. For the 4 years the
fee has been in effect, approximately 6 percent of our gross
equity trading revenues have been paid to the U.S. Government
under the guise of this charge. Even more dramatic, this fee
amounted to approximately 29 percent of our net Nasdaq profits
before allocation for such things as compliance, human
resources, accounting, etc. The Section 31 fee is in all
practical respects an additional tax that broker-dealers in the
Nasdaq market must pay. . . . The effective Federal Income Tax
rate for Coastal Securities is approximately 63 percent after
considering the Section 31 fee.
But ultimately, it is the investing public that shoulders
this burden. Section 31 fees are a tax on personal savings and
investment in the form of lower returns. And as more Americans
invest, more people pay this tax. Indeed, the percentage of
households owning equities, as has been mentioned, is now up
over 50 percent in the year 2000.
It is important to note that Americans of all income levels
are increasing their savings through equity ownership.
According to some of the most recent statistics, 29 percent of
households with incomes between $15,000 and $25,000 per year
own stock. Therefore, this is not just a tax on the wealthy. It
is paid by the smallest, as well as the largest market
participants.
Section 31 fees also hurt those who participate in pension
plans, including public pension plans. For example, over a 5
year period, the many State public pension plans will pay
millions of dollars in Section 31 fees. Some examples are New
York, over $13 million; New Jersey, over $2.5 million;
Connecticut, over $1 million; Michigan, nearly $5 million; and
Pennsylvania, approximately $6.5 million. At a time when the
Government is encouraging savings, we think it is inconsistent
to levy this pernicious tax on investment.
Finally, as Chairman Levitt explained during testimony last
year, 87 percent of the transactions on the New York Stock
Exchange, which include this fee, are paid by individuals, not
traders or firms. This clearly illustrates who ultimately bears
the burden of excess fee collections.
The STA strongly supports S. 143. This legislation provides
meaningful fee relief while ensuring that the SEC continues to
have the resources necessary to supervise and regulate
securities markets. Indeed, the fee level set in S. 143 will
accommodate the recent significant increases in the SEC's
budget and will pay and will include pay-parity provision as
part of this legislation.
Furthermore, S. 143 addresses concerns raised by Members of
the Appropriations Committee by ensuring that they will
continue to receive the same level of fees designated as
offsetting collections as included in the most recent budget
baseline. Indeed, without a change in current law, the
conversion of Nasdaq to an exchange will automatically deprive
these appropriators of nearly all the offsetting collections
they now receive.
We applaud the inclusion of the fee cap and the floor in
Section 5 that ensures against the unintended over-collection
of fees, while protecting the SEC from any shortfall. Given the
recent track record of budget projections, this is a prudent
safeguard to ensure that the legislation fulfills its intent.
In sum, S. 143 would move the fees collection system toward
its original purpose--providing a stable source of funding for
the SEC, derived from a constituency that benefits from its
oversight and regulation. The STA applauds the scheduling of
this prompt hearing on an issue of great importance to our
members across the United States.
Thank you very much for your interest, and I will be happy
to answer any questions.
Senator Enzi. Thank you.
We want to thank both of you for your excellent testimony.
I am glad that we were able to have a hearing this early on
this important issue. We are talking about a revenue surplus
again. That means an overcharge. Any time we have an
overcharge, we want to stop the overcharge and give it back to
the people that overpaid.
We are nearing Abraham Lincoln's birthday right now, and he
is legendary in his efforts to return money that was not his. I
think that is the case that we have here, too, and, while we
are doing it, we are being responsible for, not only reducing
the excess fees paid by the investors, but at the same time we
are providing an adequate level of funding for the SEC and
providing for an ability to attract and retain quality
employees. And I am pleased with the unanimity of the testimony
that has gone into the record today.
I do have a couple of questions for either or both of you,
and this relates to our international competitiveness. We do
want to assure that the U.S. markets do remain competitive.
Could you explain how the existing fee structure compares to
those of other international markets? Do other countries assess
a similar fee? And do either of you have any knowledge?
Mr. Korins. It is difficult to assess the fee structure
from one country to another, because of the various expenses of
transacting business in different countries. For instance, the
clearing costs in most European countries are much more
significant than the clearing costs of transacting business
here in the United States because of things like centralized
depositories and things that we have put in place over many
years.
But as far as transaction fees, per se, I do not know of
any country that exacts an actual tax on each transaction going
through its exchange. There are some other countries that levy
a securities transaction excise tax. It is not to fund the
regulators, for the most part. It is a tax. In fact, most of
them are repealing those taxes, because they realize that it is
disadvantaging them from an international competitiveness
point.
Your point about international competitiveness, I think,
also goes to the SEC pay-parity issue, which is that, as the
markets become globalized, it is really critical that we have
the most competent professional and understanding staff at the
SEC. To the extent that they are losing staff at the rate of 30
percent a year, that is not good from the standpoint of the
sophistication that is necessary to deal internationally with
other regulatory agencies.
Senator Enzi. Thank you.
Former SEC Chairman Levitt stated last year that 82 percent
of the fees collected on Nasdaq market transactions and 87
percent of the fees collected on the New York Stock Exchange
transactions are paid directly by the investors.
I am the accountant in the Senate, so one of the things
that I was interested in was who pays the remaining 18 percent
or 13 percent of the transaction fees collected. Even if this
fee is not paid directly by the investor, will it not be passed
on to the investor in some fashion?
Mr. Lackritz. Mr. Chairman, the remaining part is paid by
either market makers or specialists who are the intermediaries
in the transactions. As you know, costs--money is fundable, and
so costs get passed on that way. Absolutely.
Senator Enzi. Can you quantify the loss to investors from
what they would otherwise receive in returns because of the
fees? This 82, 87 percent?
Mr. Lackritz. Lee may want to address that. What we can
quantify is the amount of surplus that has gone into Government
as a result of the fees being too high. You can, obviously,
back that up and do some calculations and do the compounding
and the discount back to present value to come up with some
number. If you think about how much investments have
appreciated in the last couple of years up until 2000, it would
be an addition to that. For example, in 2000, the Nasdaq index
was down 39 percent for the year. That was the worst
performance Nasdaq had had since 1971. The Dow was down 6
percent, which was the worst performance it had had since 1981.
The S&P 500 was down about 10 percent, so, obviously, any part
of those returns or those fees that are going back to investors
would help ameliorate that loss that they experienced this last
year.
Mr. Korins. I think there was some testimony entered into
the record to the effect--and the Chairman indicated it--that a
member of a public pension plan who had over a thousand dollars
exacted in fees would, in fact, with a normal rate of return,
that money would end up being over $5,800 during the period for
an individual. This is a very meaningful amount of money that
is going out of public investors, as well as private investors.
Senator Enzi. That is what I was hoping for.
Mr. Korins. Yes, it was entered into the testimony earlier.
Senator Enzi. A little harder to put a handle on. Mr.
Korins, in your testimony, you mentioned the drain that
excessive fees have on the market and the way it reduced
liquidity, and that the major impact falls on small companies.
Could you expound on that a little bit more for me?
Mr. Korins. As market makers, and to some degree
specialists on an exchange, find that their expenses of staying
in the market keep increasing, that leads them to be more
attentive to the more liquid securities, which, of course, are
the larger issues that they trade. As a result, a certain
amount of capital is drained away from making markets in the
smaller, less active issues, because those require, usually,
capital commitments over an extended period of time. The
typical small issue does not turn over every hour or even
everyday. It sometimes means that you are tying up capital for
an extended period of time.
As people lose the ability to have an effective return from
the capital that they commit to these areas because of the
expenses that they incur, then it is detrimental to the smaller
issues. They will concentrate their capital and their talent on
the larger issues where the liquidity is.
Senator Enzi. I want to thank each of you for providing
this testimony and building the record for us and your
attentiveness in spite of the delay and the vote that we had
that created quite a disruption. We appreciate the testimony
and hope that that will wrap things up to get this bill
expedited.
There may be additional questions provided in writing. We
ask that you answer those as quickly as possible.
Mr. Lackritz. We would be happy to.
Mr. Korins. We would be happy to respond.
Senator Enzi. We would appreciate it, and so we will keep
the record open.
[Whereupon, at 4:10 p.m., the hearing was adjourned.]
[Prepared statements, response to written questions, and
additional material supplied for the record follow:]
PREPARED STATEMENT OF SENATOR PHIL GRAMM
The Competitive Market Supervision Act of 2001, S. 143, was
introduced January 22, would reduce the fees collected on securities
registration and transactions while assuring adequate funding for the
operation of the Securities and Exchange Commission. The bill would
also allow the SEC to bring the pay of its employees in line with the
pay of other Federal financial regulators.
The bill we have before us does two things. First, it seeks to
change the law to assure that we have a system whereby there will
always be enough money to fund the SEC, but the fees on new stock
issues and transactions won't continue to be a general revenue source
for the Federal Government.
Thanks to the growth in the economy, these fees are now generating
six times as much as we need to fund the SEC. And these fees, over
time, become a fairly substantial tax burden as people try to
accumulate wealth. I have been trying to come up with figures that
would help us understand the problem. By taking some estimates that
might be applicable to a college professor or an auto mechanic, saving
for retirement, we find that they will pay $1,304.55 in excessive fees
over their lifetimes. And if that money were invested for retirement
over a 45 year working lifetime, with a conservative 6 percent return,
that grows to $5,800, or $11,600 for a two-wage family. That shows that
the fees are a very heavy tax on people who try to build up savings, to
send their children to college, to retire, or to provide for their
future.
The second thing we want to do is establish pay parity for the SEC,
giving the SEC the ability to pay wages that are competitive with what
we now allow in financial regulatory agencies. I think this is very
important. There are few people who love Government less than I do. But
I believe that if you are going to do things in Government, and
Government has a role in a free society, then you need to have the best
people you can get performing those functions, and having more
competitive pay is very important.
----------
PREPARED STATEMENT OF SENATOR JIM BUNNING
Mr. Chairman, I would like to state my strong support for S. 143,
the Competitive Market Supervision Act.
I am a cosponsor of S. 143, and commend you, Mr. Chairman and the
Ranking Member of my Subcommittee, Senator Schumer, for your hard work
on this important issue. User fees should be used only for the purpose
for which they were collected. They should not be used to balance the
budget. The budget is not only balanced, but also we are running a
surplus. We are currently collecting way too much money in user fees--
more than the Securities Exchange Commission (SEC) needs to offset its
budget. This backdoor tax on capital is an unfair burden to investors
and brokers. I think it would be a nice Valentine to the American
investor, both large and small, to pass S. 143 in an expeditious
manner.
With more and more people investing in the markets, fee collections
have boomed to outrageous levels and these fees are passed on to
investors in terms of higher investment costs. Many of these folks are
small, first-time investors. Although the fees are a small percentage
and that percentage will decrease over the next 8 years, the SEC is
still collecting much more money than it needs. We tried to move this
legislation last year, but we were unsuccessful. It is time to cut this
tax. This money belongs to the taxpayers and should be given back to
them.
I also support the pay parity provisions of the bill. If we are
going to continue to have a strong SEC to ensure our markets remain the
envy of the world, the SEC must be able to hire and retain good people.
This bill will help ensure we keep good people to oversee our
securities markets. It will put their salaries in line with those paid
by the Federal Reserve and other Federal agencies. It won't pay what
Wall Street does, but it will help us keep those people who have chosen
to serve the public to continue in their jobs.
Again, I thank the Chairman for bringing this important legislation
before us.
PREPARED STATEMENT OF LAURA S. UNGER
Acting Chair, U.S. Securities and Exchange Commission
February 14, 2001
Chairman Gramm, Ranking Member Sarbanes, and Members of the
Committee: I appreciate the opportunity to testify before you today on
behalf of the Securities and Exchange Commission (``SEC'' or
``Commission'') regarding S. 143, the proposed ``Competitive Market
Supervision Act of 2001'' (the ``CMSA'' or the ``bill'').
The CMSA addresses two issues of great importance to the
Commission. First, the bill aims to improve the current system of SEC
fee collections. The Congressional Budget Office (``CBO'') estimates
that fees required to be collected by the SEC from all sources will
total over $2.47 billion in fiscal 2001.\1\ This represents more than
five times the SEC's fiscal 2001 appropriation of $422.8 million.\2\
The Commission shares the Committee's concerns regarding these excess
fee collections.
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\1\ CBO January 2001 Baseline.
\2\ Pub. L. No. 106-553, 114 Stat. 2762 (2000).
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The CMSA attempts to rectify this situation by significantly
reducing fees for investors, market participants, and companies making
filings with the Commission, while preserving offsetting collections
that will be available to our appropriators to fund the agency in
coming years. It also spreads the costs of regulation among those who
benefit from the activities of the Commission. We commend Chairman
Gramm, Senator Schumer, and the bill's other cosponsors for this effort
to achieve significant fee reductions in a comprehensive manner.
Second, the CMSA addresses what is perhaps the greatest challenge
facing the Commission today: The SEC's severe difficulties in
attracting and retaining a sufficient number of qualified staff. The
CMSA addresses the SEC's staffing crisis by giving us the much-needed
ability to match the pay and benefits of the Federal banking agencies.
In the wake of the historic Gramm-Leach-Bliley Act of 1999, pay parity
is more imperative than ever. The Commission greatly appreciates the
Committee's recognition of the ongoing staffing crisis we currently
face. The CMSA, together with authorization and appropriation levels
sufficient to make pay parity a reality, should go a long way to
ensuring that the Commission can continue to carry out its statutory
mandate of protecting investors and maintaining market integrity by
remaining an institution that can attract and retain dedicated
professionals.
Given the complexity of the issues involved in fee reduction, we
will first briefly review the current fee collections required by the
Federal securities laws and their relationship to the SEC's funding
before addressing the specifics of the bill. We will then address our
need for pay parity. Although we have several technical concerns with
the fee reduction portion of the bill's impact on the stable, long-term
funding of the agency, we are confident that we will be able to
continue to work together with the Committee to resolve these issues.
We look forward to a thorough and inclusive dialogue with you and other
interested parties.
Current Fee Collections and SEC Funding Structure
In previous testimony before the Securities Subcommittee, we gave
an overview of the history of SEC fees, the fee agreement contained in
the National Securities Markets Improvement Act of 1996 (``NSMIA''),
the impact of the Budget Enforcement Act on the fee debate, and the
SEC's own efforts to reduce fees.\3\ Today, we would like to focus on
the current fee collections situation and its relationship to the SEC's
funding structure.
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\3\ See Testimony of Arthur Levitt, Chairman, U.S. Securities and
Exchange Commission, Concerning Fee Collections, Before the
Subcommittee on Securities, Senate Committee on Banking, Housing, and
Urban Affairs (March 24, 1999).
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The Federal securities laws direct the Commission to collect three
different types of fees:
Securities registration fees required to be collected under
Section 6(b) of the Securities Act of 1933 that are paid when
companies register their securities with the Commission (``Section
6(b) fees'').
Securities transaction fees required to be collected under
Section 31 of the Securities Exchange Act of 1934 (``Exchange
Act'') that are paid when securities are sold on exchanges and in
the over-the-counter (``OTC'') market (``Section 31 fees'').
Fees on mergers and tender offers (and other significant
transactions) required to be collected under various provisions in
Sections 13 and 14 of the Exchange Act that are paid when
transaction documents are filed with the Commission.
The majority of the fees collected from these three sources--a
large portion of Section 6(b) fees, Section 31 fees on transactions
involving exchange-listed securities, and all fees collected on mergers
and tender offers--goes to the U.S. Treasury as general revenue. The
remaining portion of fee collections--a small portion of Section 6(b)
fees and Section 31 fees on Nasdaq transactions--goes to ``offsetting
collections.''
The distinction between the general revenue portion and the
offsetting collections portion of fee collections is central to
understanding the SEC's funding structure. Because our appropriators
use offsetting collections to fund SEC operations, offsetting
collections are crucial to full and stable long-term funding for the
SEC. The SEC has not received an appropriation from the general revenue
portion of fee collections, which CBO projects to be more than $1.5
billion in fiscal 2002,\4\ for the last 5 years.
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\4\ CBO January 2001 Baseline.
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Although some anticipated that NSMIA would lead to gradual
increases in general revenue funding for the SEC, this has not
occurred.\5\ Because the tremendous growth in transaction volume and
market capitalization we have witnessed in the last few years has far
exceeded the 1996 estimates on which NSMIA was based, current fee
collections are well in excess of original estimates.
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\5\ NSMIA contemplated that the increases would be gradual because
of the practical realities of the budget process--it is difficult to
maintain full and stable funding for the SEC in the context of a sudden
shift to general revenue.
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The following chart shows current CBO estimates of SEC fee
collections broken down between those that go directly to general
revenue and those that go to offsetting collections:
Estimated SEC Fee Collections \6\
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\6\ The numbers in this chart are based on the CBO January 2001
Baseline.
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(by fiscal year, in millions)
As the chart illustrates, total fee collections are currently
projected to increase through fiscal 2006, and then fall sharply in
fiscal 2007. This is because under current law both the general revenue
portion of Section 6(b) fees and all Section 31 fees will be reduced
dramatically in fiscal 2007--the Section 6(b) fee rate will be reduced
from the current $200 per million of the aggregate offering price of
the securities to $67 per million and the Section 31 fee rates will be
reduced from their current 1/300th of 1 percent of sales to 1/800th of
1 percent. In addition, the offsetting collections portion of Section
6(b) fees are gradually being eliminated over a multiyear period ending
in fiscal 2006.
``Competitive Market Supervision Act of 2001''
The proposed ``Competitive Market Supervision Act of 2001''
achieves meaningful reductions in fee rates in a comprehensive manner.
It significantly reduces the burden of excess fees not only on
investors and the Nation's securities markets, but also on the capital-
raising process. By targeting all three types of SEC fees for
reduction, the bill spreads the benefits of fee reduction among all
those who pay for the costs of regulation. Specifically, the bill would
further reduce the Section 6(b) fee rate on the registration of
securities from the scheduled reductions under current law. In fiscal
2002, the Section 6(b) fee rate would be reduced by 73 percent--from
the current $250 per million to $67 per million. The bill would reduce
this rate by another 50 percent in fiscal 2007--to $33 per million.
The bill imposes similar rate reductions on the fees associated
with merger and tender offers. Specifically, the fee rate on mergers
and tender offers would be reduced by 67 percent in fiscal 2002--from
the current $200 per million to $67 per million. The bill also reduces
this rate by another 50 percent in fiscal 2007--to $33 per million. The
collections resulting from the Section 6(b) fees and the fees on
mergers and tender offers are reclassified as offsetting collections
that would be available to the SEC's appropriators to fund the
Commission.
The bill proposes a more complex approach to reducing Section 31
transaction fees. The bill puts in place a mechanism by which the
Congress would set the Section 31 fee rate on a yearly basis. The rate
would be determined by taking a fixed dollar amount specified in the
bill for that year and dividing it by the estimated dollar volumes of
transactions on the exchanges and in the over-the-counter market for
that year. The fixed dollar amount for each year is calculated by
taking the total amount of offsetting collections available to the
Commission's appropriators under CBO's December 1999 baseline and
subtracting the anticipated Section 6(b) and merger and tender offer
fee collections for that year under the reduced rates discussed above.
In fiscal 2002, this mechanism could result in a Section 31 fee
rate of approximately $14 per million--less than half the current rate
of 1/300th of 1 percent (or $33 per million). Moreover, by resetting
the Section 31 fee rate on a yearly basis, the bill should avoid the
potential for excess collections or shortfalls inherent in an activity-
based fee. Instead, this approach should cause the amount of total fees
collected to approximate those in the CBO's December 1999 baseline
projection of offsetting collections through fiscal 2010.\7\ The bill
also designates all of the fees collected under this mechanism as
offsetting collections.
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\7\ The bill currently uses CBO's baseline projections from
December 1999. We understand from the Senate Banking Committee staff
that these numbers will be updated with CBO's most recent 10-year
projections. We encourage this amendment as it will lessen the
possibility of shortfalls in offsetting collections in fiscal 2007 and
after fiscal 2010.
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The CMSA reduces fees by eliminating the general revenue portion of
collections, which currently accounts for the majority of all SEC fees
and is estimated to reach more than $1.5 billion in fiscal 2002,\8\ and
redefining the make-up of offsetting collections. Going forward, all
Section 31 fees, all Section 6(b) fees and, for the first time, merger
and tender offer fees are shifted to offsetting collections. Because
our appropriators fund agency operations out of offsetting collections,
these changes ensure that the costs of Federal securities regulation
are shared more evenly. These changes also should help to preserve the
ability of our appropriators to fund SEC operations out of offsetting
collections, and, therefore, increase the likelihood that the SEC will
receive adequate funding in the future.\9\ We appreciate your efforts
to take into account SEC funding issues when crafting this bill. By
taking this approach, your bill facilitates the Commission's continuing
efforts to protect investors and promote the integrity and efficiency
of the Nation's securities markets.
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\8\ While we understand that there are rather complex Pay-As-You-Go
(``PAYGO'') budget scoring rules that may affect the ability of
Congress to reduce the general revenue portion of fee collections, the
Commission believes that it would be difficult to achieve truly
meaningful reductions in fees, as well as to provide full and stable
long-term funding for the SEC, without addressing the general revenue
portion of fee collections. We take no position on the larger tax
policy issues raised by the bill.
\9\ We are concerned, however, with the long-term impact on our
funding of the fixed dollar cap on Section 31 fee collections, as well
as the overall fee cap and floor, after fiscal 2010. By freezing the
transaction fee cap after fiscal 2010, the bill does not allow
offsetting collections to continue to grow in tandem with the
Commission's budget needs. In addition, it is unclear how the overall
fee cap and floor, which are both based on the Commission's
authorization level, would work in years after 2010. Historically, this
level has not been set, if at all, until the latter part of the
appropriations process. This creates a potential timing problem
because, under the bill, the authorization would, in fact, be needed at
the beginning of the legislative process to allow CBO to estimate
available collections. We hope to continue working with the Committee
on these issues and believe they can be addressed without undermining
the stated benefits of the bill.
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The bill also eliminates the possibility of drastic excess
collections or shortfalls in one year by setting an overall fee cap and
floor and by creating a mechanism to make intra-year adjustments in the
Section 31 fee rate to steer collections to a level between the cap and
floor. The Commission believes the concept of a cap and floor on fee
collections provides a workable way of avoiding the shortcomings of
previous attempts at fee reductions. The Commission does have some
concerns with the way the floor is set in the bill's current version.
The Commission believes a change to the way the floor is set will allow
the floor to continue to approximate the minimum necessary for the
Commission to operate. Revising the floor should also prevent future
CBO projections of offsetting collections from being skewed downward,
which would have the effect of reducing the amounts actually available
to our appropriators to fund the agency.
In addition, as a practical matter, the feasibility of this bill's
approach depends on the Commission receiving an up-front appropriation
each year that would be reduced by offsetting collections as they are
collected. The Commission would need such an up-front appropriation
purely for cash-flow reasons; it will not ``cost'' anything in terms of
general revenue. It is our understanding that most Government agencies
receive such an up-front appropriation and, until the last few years,
the Commission received one as well. Although we do not believe that
this ultimately will be a problem, the need for an up-front
appropriation underscores the need for an inclusive dialogue on these
complex issues.
Finally, we note that the bill should be modified to reflect
Congress's recent adoption of the Commodity Futures Modernization Act
of 2000 (``CFMA''). As the Committee is aware, the CFMA for the first
time allows the trading of a new class of securities--futures contracts
on single stocks and narrowly based stock indices. The CFMA provides
for ``assessments'' on these security futures products comparable to
the Section 31 transaction fees payable on stock option transactions.
We would be pleased to work with the Committee's staff in making the
technical changes necessary to include these CFMA assessments in the
bill's fee reductions, as well as to avoid any unintended negative
impact on the bill's funding structure.
Pay Parity with Banking Regulators
The second issue that the CMSA addresses is the Commission's severe
difficulties in attracting and in retaining a sufficient number of
qualified staff. At present, the Commission is unable to pay its
accountants, its attorneys, and its examiners what their counterparts
at the Federal banking agencies earn. Since all of the Federal banking
regulators are not subject to the Government-wide pay schedule, they
are able to provide their staffs with appreciably more in compensation
and in benefits than we can.
This disparity is a significant drain on morale. It is difficult to
explain to SEC staff why they should not be paid at comparable levels,
especially when they are conducting similar oversight, regulatory, and
examination activities. It is one thing for staff to make salary
comparisons with the private sector, but quite another for them to see
their Government counterparts making anywhere from 24 to 39 percent
more than they are.
This is particularly true in the wake of the landmark Gramm-Leach-
Bliley Act of 1999 (``GLBA''). As this Committee is well aware, the
GLBA demands that the Commission undertake additional examinations and
inspections of highly complex financial services firms both to fulfill
our own oversight responsibilities and to provide the Federal Reserve
and other banking agencies with the information and analyses needed to
fulfill their missions. Moreover, by allowing securities firms, banks,
and insurance companies to affiliate with one another, the GLBA
requires increased coordination of activities among all the financial
regulators. Even more so than in the past, Commission staff will work
side-by-side with their counterparts from the banking regulatory
agencies, including the Federal Reserve, the Office of the Comptroller
of the Currency, and the Federal Deposit Insurance Corporation.
However, we cannot match the salaries that these regulators pay.
The Commission has already seen several staff leave to take
positions with these agencies, primarily because of pay. Unless we are
put on equal footing, this trend will continue and most likely
intensify. Given the complexities of our markets and the new business
affiliations we are likely to see, the SEC does not believe it is at
all beneficial to have the financial regulators poaching from one
another based on pay. Instead, we should be working together from the
same starting point.
Pay parity will help resolve the Commission's staffing crisis.
Since 1996, our attrition rate has been increasing, particularly among
our more senior professionals. Over the last 2 fiscal years, the
Commission has lost 30 percent of its attorneys, accountants, and
examiners. These losses are adversely affecting the Commission's
continuing efforts to protect investors and promote the integrity and
efficiency of the Nation's securities markets. The Commission is losing
staff before they become fully productive because we cannot pay them
enough. In a world where first-year associates are making six-figure
salaries in Washington, DC law firms, the salaries the SEC can provide
are simply not competitive to attract and to retain a sufficient number
of talented professionals to reduce high turnover and fill open
positions. We recognize that the SEC cannot completely match the higher
salaries offered by brokerages, law firms, self-regulatory
organizations, and other securities-related businesses. Something needs
to be done, however, to close the pay gap and reduce the turnover
problems we face.
Recruitment
The lack of pay parity creates enormous difficulties in recruiting
attorneys and accountants. We have used recruitment bonuses where
possible, but have not met with much success. A typical first-year
associate in a top-tier New York or Washington, DC law firm makes
double, if not more, than a comparable staff attorney at the SEC. The
costs of 3 years of law school leave most graduates entering the job
market with significant amounts of student loan debt. It is not
difficult to understand why the private sector looks so appealing.
Our problem is even worse for accountants, who need to be
experienced when they walk in the door. Experienced accountants are
difficult to find and expensive to hire because their ability to
analyze complex financial statements is highly prized. We do not have
the luxury, if you can call it that, of being able to take someone
directly out of school. The Commission has attempted to ameliorate this
problem by developing an ``in-service'' placement program that allows
certain Securities Compliance Examiners to be reassigned as accountants
if they meet specific criteria, but even this effort has fallen short.
In fact, in fiscal 1999 only 46 percent of our available positions for
accountants were filled. This hiring rate is not sustainable. The
Commission needs the ability not only to keep staff longer, but also to
bring them to the Commission in the first place.
Retention Efforts
The SEC has also lost far too many of its most talented and
experienced staff. Over the past several years the Commission has
explored virtually every available approach to keeping staff longer. In
1992, we petitioned and received from the Office of Personnel
Management (``OPM'') the authority to pay the majority of our attorneys
and accountants approximately 10 percent above their base pay. While
special pay was a step in the right direction, it proved to be a short-
term solution. This is because staff that receive special pay do not
receive the Government-wide locality increase each year, which means
that their special pay becomes less valuable over time and hence
becomes less effective as a retention tool. Our appropriation last year
included funds to reinstate special pay rates for certain
employees.\10\ While this should help, based on our experience, we know
this is at most a temporary and partial remedy to the SEC's staffing
crisis.
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\10\ We submitted our special pay justification package for certain
attorneys, accountants, and examiners to OPM on December 21, 2000 and
are waiting their approval of our proposed special pay rates.
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The Commission has also used retention allowances and economist
special pay to help alleviate our retention problem. While these tools
have proved somewhat effective when targeted to specific staff and
situations, we believe they are incapable of providing the broad relief
that we need to combat the Commission's losses and treat all staff
fairly.
The Agency and Its Staff
Our inability to attract qualified staff and the current level of
turnover is threatening our ability to oversee the Nation's securities
markets and to respond in a timely manner to the changing events and
innovations in our markets by:
Hampering our ability to bring cases to trial and disrupting
the continuity we need when pursuing cases.
Hindering us from responding to changing markets in a timely
fashion, including through targeted deregulatory efforts.
Limiting our institutional memory, which is a crucial
component of our long-term effectiveness as a regulator.
Lowering employee morale, which in turn reinforces the
staffing crisis.
SEC staff work hard to handle the Commission's increasing, and
increasingly complex, workload. The time that our managers and senior
staff have to devote to this workload is, however, reduced by the time
it takes to recruit and train new staff. The SEC conservatively
estimates that it takes approximately 2 years for new staff to become
fully productive. During this period, new staff is somewhat of a drag
on the efficiency of the agency because they are still moving up the
learning curve. If these staff leave just as they become fully
productive to the agency, we do not break even on our investment in
training them. That is a loss not only for us, but also for the
investing public and our markets.
The SEC should be a place where highly motivated people come to
hone their skills and perform public service, both before entering the
private sector and after a stint in the private sector. Such career
paths speak highly of the Commission's professionalism and the
industry's regard for the agency and its staff. However, the Commission
should be able to keep staff for a minimum of 3 to 5 years. The SEC can
ill afford to have its future walk out the door. We need to ensure that
the Commission has the staffing resources to meet the regulatory
challenges that lie ahead as technology in general, and the Internet in
particular, continue to reshape our markets.
The Need for Commensurate Authorization
Resolving the Commission's staffing crisis requires the statutory
changes contained in the CMSA that would allow the agency to pay its
employees outside of the Government-wide pay scale, and it also
requires Commission authorization and appropriation at a level that
allows the agency to implement pay parity. Without the authorization to
be appropriated sufficient funds to implement pay parity, having the
authority to provide our employees with pay parity will do little to
address the staffing crisis we face. By our estimates, implementing pay
parity with the banking regulators, as the CMSA proposes, would require
a net funding increase of approximately $70.9 million in fiscal 2002,
with yearly adjustments for inflation thereafter.\11\ Although this is
a significant amount of money, it is crucial for the Commission to have
the resources it needs to fulfill its mission. The most vital resource
we have, ultimately, is our highly professional and well-regarded
staff. This is the one area we can least afford to jeopardize.
---------------------------------------------------------------------------
\11\ This assumes full-funding of special pay and no new staff in
fiscal 2002.
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Conclusion
The proposed ``Competitive Market Supervision Act of 2001''
addresses two important challenges to the Commission's continuing
efforts to protect investors and promote the integrity and efficiency
of the Nation's securities markets. First, the bill achieves
significant reductions in excess fee collections, while preserving
offsetting collections that can be used to continue to fund SEC
operations. While the Commission does have technical concerns with the
bill, as noted above, we hope that we can continue to work with the
Committee and its staff to iron these out. Second, the bill addresses
the SEC's serious staffing crisis by providing the SEC pay parity with
Federal banking regulators. We appreciate your recognition of these
challenges and commend the comprehensive manner in which you address
them. We look forward to continuing a thorough and inclusive dialogue
with you and other interested parties on this bill.
----------
PREPARED STATEMENT OF JAMES E. BURTON
Chief Executive Officer
California Public Employees' Retirement System (CalPERS)
February 14, 2001
My name is James E. Burton and I am the Chief Executive Officer for
the California Public Employees' Retirement System (CalPERS).
CalPERS is the largest public pension system in the United States
with an investment portfolio of more than $165 billion, held in trust
for its 1.2 million members. Among the members are 864,000 active duty
police officers and fire fighters, college professors and school
custodians, and other public employees. And some 356,000 retired public
employees receive $4.8 billion in annual CalPERS retirement benefits.
In short, CalPERS provides retirement plan administration for the
State of California and most of its cities, counties, and special
districts. In all, CalPERS administers the retirement system for 2,480
governmental entities.
Our $165 billion in assets are allocated among fixed-income
instruments, equities, real estate, and other investments. Our
investments in domestic equities are currently valued at some $67
billion.
I am here to support S. 143, the Competitive Market Supervision
Act. We believe this measure would benefit large and small investors
alike by reducing the cost of securities transactions that both types
of investors must pay. We also support S. 143 because it would enhance
the ability of the SEC to attract and keep expert staff that is
responsible for protecting investors and ensuring accountability and
integrity in our markets. This is a matter of great significance to all
Americans.
According to the testimony of SEC Chairman Levitt last year, the
Commission staff turnover rate is considerably higher than that of
other similar regulatory agencies. I believe he estimated the attrition
rate for the SEC at about 13 percent, while the Federal Reserve Board
and others only lose about 5 percent of their staff per year. The pay
parity provisions in the bill would put the SEC on par with the Federal
Reserve Board and other regulators. We also urge the Committee to be
certain that there is a stable funding source for the SEC. This, too,
is crucial for the agency to attract and retain talented people.
We have worked with the SEC and we know that when key personnel
leave, they take their institutional knowledge with them. This results
in inefficiencies as replacement staff go through learning curves. S.
143 will give the SEC the flexibility it needs to bring salaries in
line with other financial regulatory agencies.
Next, I would like to address the securities transaction fees
reduction element of S. 143 and how it will affect the 2,211 public
employee retirement systems in the Nation. The Federal Reserve Board
says that these plans own approximately $2 trillion in equities.
Wilshire Associates, a pension plan consulting and research
organization, estimates that the average annual turnover of equity
portfolios of public pension plans is 30 to 40 percent. This totals
$600 billion to $800 billion annually. Based on these estimates, the
fee reduction formula in the bill would save public pension plans
approximately $10 million per year in transaction fees.
CalPERS' domestic equity portfolio turnover rate is 10 percent per
year. This lower-than-average rate is based on our view that the long-
term investor performs better. The following table illustrates our
historical rates of return since 1991:
------------------------------------------------------------------------
Year Through June
------------------------------------------------------------------------
1991............................................... 6.5 percent
1992............................................... 12.5 percent
1993............................................... 14.5 percent
1994............................................... 2.0 percent
1995............................................... 16.3 percent
1996............................................... 15.3 percent
1997............................................... 20.1 percent
1998............................................... 19.5 percent
1999............................................... 12.5 percent
2000............................................... 10.5 percent
------------------------------------------------------------------------
Because we don't trade as frequently as mutual funds--or even as
often as other public pension plans--our savings in transaction fees
from S. 143 won't be as great as others. It will be about $342,000
annually. But what is important to us is that this becomes essentially
a refund to taxpayers.
I will explain. CalPERS actuaries make a number of projections and
assumptions to determine how much the plan needs in contributions today
in order to pay the beneficiaries in the future. While employee
contributions remain fairly constant, employer contributions are
adjusted based on actuarial estimates.
To the extent CalPERS' administrative costs are reduced, through
fee reductions for example, actuarial guidelines require employer
contributions to be decreased. Dollars not spent on administrative
costs are invested. For California taxpayers who fund both the State
and the local public agencies, these savings translate into a smaller
tax burden.
Mr. Chairman and Members of the Committee, the CalPERS Board of
Administration passed a resolution last year in support of S. 2107,
last year's version of the Competitive Market Supervision Act. This
action followed a presentation to the Board on the merits of S. 2107 by
Geof Gradler, your very capable Committee economist. We want you to
know that we appreciate Mr. Gradler's assistance.
Finally, we are pleased to testify in support of S. 143. We urge
the Committee to move the bill as quickly as possible.
Thank you.
----------
PREPARED STATEMENT OF MARC LACKRITZ
President, Securities Industry Association
February 14, 2001
Chairman Gramm, Senator Sarbanes, and Members of the Committee, I
am Marc Lackritz, President of the Securities Industry Association,
which comprises nearly 750 securities firms, including investment
banks, broker-dealers, and mutual fund companies. SIA deeply
appreciates the opportunity to present the views of the securities
industry on the issue of securities transaction fees.
Mr. Chairman, we strongly support the Competitive Market
Supervision Act of 2001, which you recently introduced with Senator
Schumer. We believe that the time has come for Congress to re-examine
the issue of SEC fees, because the basic assumptions underlying the
current fee structure have changed dramatically. The fees were
implemented several years ago to fund the cost of regulating the
securities markets-- essentially to ensure that the SEC had enough
funding to adequately perform its regulatory duties, hire and retain
the best staff, and cover the agency's operating expenses. Today, of
course, the fees collected exceed that cost by 500 percent or more. It
is time to bring securities transaction fees back in line with the cost
of regulation.
Whenever an individual sells shares, the brokerage firm puts a line
item on the trade confirmation for securities transaction fees. As you
know, the fee is charged on sell transactions, so that every time an
investor sells shares, a debit appears on their confirmation reflecting
the amount of the fee. To the individual investor, the fees may seem
relatively insignificant-- on a small trade, they can amount to just
pennies, maybe a few dollars on a larger trade. But do they ever add
up. Last year, so-called Section 31 fees and other securities
transaction fees provided an estimated $2.27 billion in revenue to the
Federal Treasury. The budget of the SEC, however, was $377 million,
meaning that investors paid $1.9 billion more in fees than was
necessary last year.
The industry strongly supports adequate funding of the SEC. The
U.S. capital markets are the envy of the world, in no small part
because we have the most sophisticated regulatory system in the world.
Proper oversight of the securities markets is absolutely critical to
investor confidence. The industry agreed several years ago to pay
additional transaction fees in order to provide Congress with a more
reliable source of funding for the SEC. But no one expected the
staggering growth in market activity in the years since the 1996
legislation that established the current fee system. Trading volume on
the New York Stock Exchange and on the Nasdaq has roughly doubled since
1996, sending transaction fees skyrocketing. Securities transaction
fees should continue to be collected to the degree necessary to ensure
that the SEC is fully funded and able to carry out its important
responsibilities.
But it is clearly not in the interest of investors for these fees
to so grossly surpass the cost of regulation. These fees drain capital
from the markets, and from the pockets of individual investors. Last
year, that amounted to $1.9 billion that could have been reinvested to
stimulate economic growth and create jobs. It is money that could--and
should--remain in the hands of investors.
It is very important to point out that a reduction in securities
transaction fees will benefit the broad spectrum of investors. In 1992,
about 37 percent of all U.S. households owned stock, either directly or
indirectly. Last year, that number had risen to roughly half of all
U.S. households. Every American who owns stock either directly, or
indirectly through their investments in mutual funds and pension funds,
pays these fees. Regardless of their investment choices, reducing the
fee would benefit investors of all types.
Mr. Chairman, the legislation you and Senator Schumer introduced
last month is the right answer. It brings the fees more in line with
the actual cost of regulation, and ensures that investors are not taxed
beyond that which is necessary for that purpose. It ensures that the
SEC will have adequate funding, not only this year, but also into the
future, to perform its critical functions. And, importantly, it ensures
that the SEC can recruit and retain the best-qualified regulators by
creating pay parity between the SEC and the Federal financial
regulators. The SEC is losing top staff at an alarming rate to the
private sector, as well as to other financial regulatory agencies that
can offer better pay. Experienced and well-qualified regulators are
critical to the long-term stability of our financial markets. By
bringing SEC pay in line with other agencies, such as the Federal
Reserve Board and the FDIC, we can be certain that talented
professionals will continue to offer their skills and their experience
to the SEC. Finally, we support preserving fee revenues from Nasdaq
transactions as offsetting collections up to the latest CBO baseline
numbers. We strongly endorse S. 143, and urge the Congress to move
quickly to pass this important legislation.
Finally, we are all keenly aware of the impact the current economic
slowdown has had on our capital markets and on the American public in
general. The market's downward move has had a profound impact on the
savings of the vast majority of investors. After several years of
unprecedented growth, the current situation is particularly frustrating
to the millions of investors who have come into the markets in just the
last 3 or 4 years. By returning to investors some of the $1.9 billion
in excess fees that were collected last year on transactions, Congress
can help alleviate at least a small portion of the losses of the
current market situation.
Passing the Competitive Market Supervision Act is the right thing
to do, and we urge this Committee to move the bill to the Senate floor
at its earliest opportunity.
Thank you very much for the opportunity to testify today.
----------
PREPARED STATEMENT OF LEOPOLD KORINS
President & Chief Executive Officer
Security Traders Association
February 14, 2001
Introduction
Chairman Gramm, Members of the Committee, thank you for the
invitation to testify before you today on the subject of the Securities
and Exchange Commission (SEC) transaction fees. I appreciate this
opportunity to present the views of the Security Traders Association
(STA), and I applaud you for scheduling a hearing on this important
issue in the first weeks of the 107th Congress.
I also want to thank you, Mr. Chairman, for your efforts to enact
legislation to provide meaningful and equitable fee relief. STA
supported S. 2107, the Competitive Market Supervision Act, last year,
and was heartened to see you, Mr. Chairman, and Senator Schumer
reintroduce this legislation as S. 143 last month. S. 143 is a balanced
and workable proposal, which I will discuss later in my testimony.
I am Lee Korins, President and CEO of the Security Traders
Association--the STA is composed of 30 regional affiliates and over
7,000 individual members throughout North America and Europe. It is the
largest group of its kind in the world. Our membership represents all
facets of the securities industry. While many members are traders for
securities firms and institutions, others are partners, specialists,
floor traders, proprietors or registered representatives--all of whom
are charged with the responsibility of executing orders at the fairest
prevailing prices. The fact is that no one speaks for individual
professionals in the securities industry with more credibility than
STA.
Today, I want to briefly discuss:
The history and evolution of SEC fees.
How the fee collections have consistently and substantially
outpaced budget estimates, Congressional intent, and the SEC's
funding needs.
How the fees act as a tax on savings, investment, and capital
formation.
STA's support for S. 143, which fairly reduces the fees while
preserving adequate funding for the SEC and maintaining offsetting
collections for the appropriators.
History of the SEC's Funding Structure
In 1996, Congress enacted the National Securities Markets
Improvement Act (NSMIA) reforming regulation of the securities and
mutual fund markets. NSMIA also modified the SEC's fee structure --
including extension to Nasdaq trades of the transaction fees imposed by
Section 31 of the Securities Exchange Act of 1934. The SEC
reauthorization was the result of a complex deal worked out between
House and Senate authorizers and appropriators, the Office of
Management and Budget (OMB), and the SEC, following years of
Congressional wrangling over a new SEC funding mechanism.
Unfortunately, however, the 1996 legislation has not functioned as
intended.
Background
Since the 1930's the Federal Government has levied SEC fees on the
regulated community, including registration fees authorized by Section
6(b) of the Securities Act of 1933, and transaction fees authorized by
Section 31 of the Securities Exchange Act of 1934. These fees were
deposited in the Treasury's General Fund as general revenues. The SEC
received no credit for collected fees and could not directly use the
funds, but rather was funded through an annual appropriation. Since
1983, the SEC has been a net contributor to the Treasury, collecting
far more fees than necessary to cover its budget.
In 1990, budget rules were significantly changed. Specifically, the
1990 Budget Enforcement Act set limitations on specific spending
categories and created ``pay-as-you-go'' procedures to require offsets
for decreases in revenue or increases in entitlement spending. These
rules put severe restraints on discretionary spending, forcing
appropriators to choose among competing programs. The SEC was thus
forced to compete for discretionary funding with the Departments of
Commerce, Justice, and State, which are funded in the same annual
appropriations legislation as the SEC.
Beginning in 1990, the appropriators decided to respond to the
problem of insufficient resources to fund competing programs by
imposing annual rate increases in the Section 6(b) registration fee in
each year's Commerce, Justice, and State Appropriations Bill. The
amounts attributable to such increases were credited against the
agency's appropriation account as an offsetting collection. Offsetting
collections are deposited in special appropriations accounts, as
opposed to the General Fund, and are available to appropriators to
finance agency activities. This funding mechanism increased the overall
funds available to the Appropriations Committees. This practice
eventually led to objections by various Members of Congress on both
jurisdictional and policy grounds. Since the agency was collecting far
more in fees than its budget required, opponents argued that the annual
SEC fee increases contained in appropriations bills constituted a tax.
Members began to call for a new SEC funding structure that allowed the
Government to cover the costs of the SEC's regulatory activities
without artificially inflating the cost of raising capital in the
markets. In 1993, the House Energy and Commerce Committee, under the
leadership of then-Chairman Dingell and Representative Bliley, crafted
a bill which would have established a mechanism by which the SEC would
set and collect fees solely to recover the costs of its regulatory
activities. The House unanimously passed this bill.
During that same year, the House and Senate again passed an SEC
appropriations measure which raised registration fees and credited the
amount as an offsetting collection. Both House Ways and Means and House
Energy and Commerce Committee members lodged complaints, and language
was included in the conference report on the Commerce, Justice, and
State Appropriations Bill indicating that the practice would be ended.
Funding Crisis
When the Commerce, Justice, and State Appropriations Bill for
fiscal year 1995 came to the floor of the House on June 28, 1994, the
bill again contained a provision that would have imposed additional
registration fees as offsetting collections. House Members succeeded in
striking the provision from the House bill on procedural grounds, and
subsequently prevailed in an effort to keep the provision out of the
conference agreement. This move left the SEC with an appropriation of
$60 million, significantly below the $297 million originally provided
by appropriators. The agency indicated that it would have to severely
restrict its operations beginning in October 1994 absent Congressional
action.
This funding crisis prompted Congress, to pass a stop-gap measure
(P.L. 103 -352), authorizing a registration fee increase for another
year, in order to fund the Commission through 1995. House Report 103 -
739 indicated that this was done as a one-time fix to avert an SEC
shutdown, and contemplated passage in the next Congress of an SEC
reauthorization that would ``eliminate the need for one-year-at-a-time
increases in registration fees.'' The stage was thus set for an SEC
reauthorization that would establish a predictable and adequate fee
structure to recover funds solely to offset the cost of the
Commission's regulatory activities.
Action in the 104th Congress
In 1995, control of Congress shifted to the Republican Party and
the legislative agenda was crowded, leaving unaddressed the SEC fee
issue. However, in light of the prior year's funding crisis, the
Administration's fiscal year 1996 budget proposal stressed the need for
a sound, stable, and long-term funding structure for the SEC. The
fiscal year 1996 Commerce, Justice, and State Appropriations Bill (H.R.
2076), was vetoed by the President due to unrelated policy disputes,
and the SEC's fiscal year 1996 budget was funded by a series of
continuing resolutions. Ultimately, Congress and the President agreed
to an omnibus spending bill (H.R. 3019) that funded the SEC for the
remainder of the year.
In 1996, then-House Commerce Committee Chairman Bliley (R-VA)
introduced H.R. 2972, the SEC Reauthorization Act. The bill was
designed to end the appropriators' practice of funding SEC activities
through the yearly ritual of raising registration fees as offsetting
collections. The proposal would have: Reduced Section 6(b) registration
fees over a 6 year period; incrementally extended the Section 31
transaction fees to Nasdaq trades; and reduced the rate for all
transaction fees beginning in 2002. In total, the package was projected
to reduce fee collections by $751 million by 2002. Initially, a portion
of the fees was to be deposited as offsetting collections. Beginning in
2002, all fees would be deposited in the General Fund and no fees would
be allotted as offsetting collections.
Mr. Chairman, in 1996 you introduced S. 1855, a bill that would
have also reduced SEC fees. However, in response to concerns by the
Clinton Administration you and then-Senate Banking Committee Chairman
D'Amato (R-NY) agreed to postpone consideration of the legislation. The
Administration expressed concern that ending the offsetting collections
funding practice would require appropriators to fund the SEC's full
budget out of the General Fund, subject to the discretionary spending
caps, forcing reductions in other programs.
The House passed H.R. 3005, the Securities Amendments of 1996, on
June 19, 1996, but not before adding the SEC reauthorization provisions
originally embodied in H.R. 2972. The Senate amended and passed H.R.
3005 without the fee provisions on June 27, 1996, setting up a
conference in which the SEC fee issue would have to be resolved. The
fee issue was highly controversial in conference. Negotiations among
House and Senate authorizers and appropriators, the OMB, and SEC held
up the bill for weeks and threatened to entirely derail the
legislation. An agreement was finally reached on the fee issue and the
bill was passed in the closing days of the 104th Congress. H.R. 3005
became P.L. 104-290 --the National Securities Markets Improvement Act
when the President signed the bill on October 11, 1996.
Under the complex deal worked out in conference, transaction fee
rates were fixed until fiscal year 2007, and decreased thereafter. The
NSMIA specified that a portion of the registration fee is deposited as
General Fund revenue, and a portion is made available to the
appropriators as offsetting collections. Transaction fees remain at 1/
300th of 1 percent until fiscal year 2007, when they are reduced to 1/
800th of 1 percent. Beginning in 1997, Nasdaq trades became subject to
the full transaction fee rate. While the exchange transaction fees are
collected as General Fund revenue, the Nasdaq transaction fees are
deposited as offsetting collections. (However, this will change when
the Nasdaq converts to an exchange later this year and those
transaction fees will be deposited in the General Fund, and therefore
be unavailable to the appropriators.) By pushing general revenue losses
into the out-years, the new fee structure minimized budget-scoring
concerns.
Current Situation and Impact
Unfortunately, actual fee collections have significantly outpaced
the Congressional Budget Office's (CBO) and OMB's conservative
estimates of market growth relied on by this Committee and Congress in
enacting NSMIA. In fiscal year 2000, actual collections from all
sources (including Section 31, Section 6(b), and merger and tender
fees) grew to $2.27 billion dollars-- over six times the SEC's budget
of $377 million. The latest CBO estimates show runaway growth in the
fees from $2.478 billion in fiscal year 2001 to $3.769 billion in
fiscal year 2005. In other words, total SEC fees are projected to raise
$15.2 billion over the next 5 years ostensibly to finance an agency
that will require only a fraction of that amount over the same period.
These excessive and growing fee collections will remain a tax on
savings and investment unless Congress takes action.
Thus, today's fee collection surplus was not anticipated because
the Government's budget projections used overly conservative estimates
of the dollar volume growth in the markets. The markets have
experienced remarkable dollar volume growth over the last few years.
For example, total volume on the Nasdaq increased from 272.6 billion
shares in 1999, to 439.6 billion in 2000. This 60 percent increase in
Nasdaq trading volume occurred even as the value of the Nasdaq index
plummeted by 50 percent.
With volume growth driving fee receipt growth, it is not surprising
that budget estimates routinely fall short of the actual fee
collections and must be continually revised upward. A set of fee
projections for fiscal year 2001-2007 illustrates this trend, and the
constantly expanding fee surplus:
Looking at fiscal year 2001, the 1999 estimate for fees for that
year were two and a half times greater than estimated in NSMIA just 3
years earlier. Now the latest CBO estimate for the fiscal year 2001
shows that fee receipts will be about 25 percent higher than estimated
in 1999 and three times greater than the 1996 NSMIA estimate.
Clearly, this is not the scenario this Committee intended when it
fought to redesign the SEC funding structure in 1996 to reduce the
amount of the fee surplus. I want to emphasize that the issue here is
not SEC funding. Indeed Mr. Chairman, the legislation you have
sponsored with Senator Schumer protects SEC funding. Section 5 of S.
143 safeguards against overcollections or undercollections of the fees.
This provision is one of the most important in the proposed legislation
to avoid repeating the mistakes of prior fee restructuring efforts--it
eliminates the need to have absolutely accurate long-term projections
of market activities--something that simply cannot be done. Section 5
ensures that the restructured fees will fund the SEC without turning
the fees into a general revenue tax--regardless of the accuracy of
budget projections.
For the record, I will state unequivocally that the industry and
all investors consider it their duty to pay for continued self-funding
for the SEC. That has never been in question, the discussion focuses
only on the level of collections.
Impact on Securities Professionals
Section 31 transaction fees operate as a tax on the gross trading
revenue of securities professionals. One STA member firm which makes
markets in about 100 Nasdaq stocks estimated that its Section 31 fee
payments amounted to 40 percent of its net OTC trading profits before
the allocation of overhead. Another firm found that its Section 31 fee
payments were twice the amount of its rental payments for the building
housing its trading activities. Section 31 fees operate as a gross
receipts tax, with traders reporting rates of 3.5 percent, and as high
as 6 percent of gross revenues. As a gross receipts tax, the fees are
paid before Federal and State taxes, before salary, and before
allocations for overhead. Because of this, market makers and
specialists face potential losses in a down market as margins get
further squeezed even as their trading volumes and their transaction
fees can continue to increase. This is a perverse scenario and onerous
burden on the very traders who provide liquidity in the markets for
hundreds of stocks.
Impact on the Markets
Excessive fees also reduce liquidity in the market. The major
impact falls on the thinly traded stocks of small start-up companies.
Therefore, the fees deter capital from flowing to the entrepreneurial,
high-technology companies that have driven the new economy and given us
the longest expansion in U.S. history.
Impact on the Investing Public
But ultimately, the investing public shoulders this burden. Section
31 fees are a tax on personal savings and investment in the form of
lower returns. And as more Americans invest, more people pay this tax.
Indeed, recent Federal Reserve data show that the percentage of
households owning equities has increased from around 32 percent in 1989
to 41 percent in 1995 and to over 50 percent in 2000. It is important
to note that Americans of all income levels are increasing their
savings through equity ownership. According to some of the most recent
statistics, 29 percent of households with incomes between $15,000 and
$25,000 own stock.
What is the impact of these fees on people saving through mutual
funds? Take for example two widely held mutual funds, the Vanguard
Windsor II Fund and the Vanguard Growth Fund. Each pays close to one
quarter of a million dollars annually in these fees--fees paid by
investors through reduced earnings. And just as more Americans are
owning equities, more people are also saving through mutual funds.
Forty-nine percent of U.S. households, or approximately 50 million
households own mutual funds. Seventeen percent of U.S. households with
incomes below $25,000 owned mutual funds in 2000. This is up from 13
percent of households in that income bracket just 2 years earlier. So
this is not a tax on the wealthy. It is paid by the smallest, as well
as the largest market participants in the country.
Section 31 fees are not only a drag on savings through equities and
mutual funds, they also hurt those who participate in pension plans,
including public pension plans. For example, over a 5 year period the
following States' public pension plans will pay millions of dollars of
Section 31 fees:
New York-- over $13 million.
California--nearly $18 million.
New Jersey-- over $2.5 million.
Michigan--nearly $5 million.
Pennsylvania--approximately $6.5 million.
Connecticut-- over $1 million.
Finally, SEC Chairman Arthur Levitt's testimony last year noted
that individual investors pay 87 percent of the fees levied on NYSE
trades. This clearly illustrates where the burden of these fees falls.
At a time when the Government is encouraging savings and planning
for the future, it is inconsistent for it to levy this pernicious tax
on investment.
Conclusion
STA strongly supports S. 143. This legislation provides meaningful
fee relief, while ensuring that the SEC continues to have the resources
necessary to supervise and regulate the securities markets. Indeed, the
fee levels set in S. 143 will accommodate the recent significant
increases in the SEC's budget and the ``pay parity'' provision that is
also a part of this legislation. Furthermore, S. 143 addresses concerns
raised by Members of the Appropriations Committees by ensuring that
they will continue to receive the same level of fees designated as
offsetting collections as included in the most recent budget baseline.
Indeed, as mentioned earlier in my testimony, without a change in
current law, the conversion of the Nasdaq to an exchange will
automatically deprive the appropriators of nearly all the offsetting
collections they now receive.
As I also mentioned earlier, we applaud the inclusion of a fee cap
and floor concept that insures against the unintended overcollection of
fees while protecting the SEC from any possible shortfall. Given the
recent track record of budget projections, this is a prudent safeguard
to ensure that the legislation fulfills its intent. In sum, S. 143
would move the fee collection system toward its original purpose:
Providing a stable source of funding for the SEC, derived from a
constituency that benefits from its oversight and regulation.
In closing, Mr. Chairman, STA applauds you for scheduling this
prompt hearing on an issue of great importance to our members across
the United States. Thank you, and I will be happy to answer any
questions.
RESPONSE TO WRITTEN QUESTION OF SENATOR SARBANES FROM LAURA S.
UNGER
Q.1. Section 31 of the Securities Exchange Act of 1934, the
statute which authorizes transaction fees, directs the
collection of fees ``to recover the costs to the Government of
the supervision and the regulation of securities markets and
securities professionals, and costs related to such supervision
and regulation, including enforcement activities, policy and
rulemaking activities, administration, legal services, and
international regulatory activities.'' Section 6(b) of the
Securities Act of 1933, the statute which authorizes
registration fees, similarly directs the collection of fees to
recover the costs to the Government ``of the securities
registration process, and costs related to such process,
including enforcement activities, policy and rulemaking
activities, administration, legal services, and international
regulatory activities.''
Please identify the Government agencies, in addition to the
Securities and Exchange Commission, that have conducted
enforcement activities, policy and rulemaking activities,
administration, legal services or international regulatory
activities that relate to securities markets, securities
professionals, or securities registration.
A.1. The Federal securities laws grant regulatory authority to
several of the Federal Government agencies other than the SEC,
most notably the Federal banking agencies (the Federal Reserve
Board, the Office of Comptroller of the Currency, the Federal
Deposit Insurance Corporation, and the Office of Thrift
Supervision), the Department of Justice, including the U.S.
Attorneys' Offices, and the Commodity Futures Trading
Commission.
While not constituting the ``supervision [or] regulation of
securities markets and securities professionals'' per se, a
number of other Federal Government agencies, in carrying out
their own statutory mandates, engage in enforcement or other
regulatory activities that relate, in some way, to the
securities markets, securities professionals, or securities
registration. For example, the Department of Justice, through
its Antitrust Division, has brought civil actions alleging
violations of the Sherman Act against securities firms and
national securities exchanges. As another example, the Equal
Employment Opportunity Commission has brought a civil action
against a securities firm alleging violations of the Americans
with Disabilities Act.
In some of these situations, these agencies may consult or
work cooperatively with our staff in conducting these
activities; in other situations, these agencies may conduct
these activities without the Commission's involvement or even
awareness. Accordingly, we cannot produce a definitive list of
the agencies that have conducted these activities. In addition,
other Federal Government agencies--for example, the Office of
Management and Budget under the Paperwork Reduction Act, 44
U.S.C. Section 3501 et seq. (1998)--have regulatory
responsibilities in connection with Federal agency rulemakings,
including Commission rulemakings.
Finally, the Commission and its staff provide information
to or obtain information from other Federal agencies in the
course of the Commission's enforcement and other regulatory
activities or as part of routine agency to agency cooperation
and information sharing.\1\ Arguably, where another agency
incurs costs to provide information to the SEC, these costs are
``related to the [Commission's] supervision and regulation'' of
the securities markets, securities professionals, or securities
registration.
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\1\ As partially reflected in an earlier list provided to Senator
Sarbanes's staff of Federal agencies our enforcement division has
cooperated with on investigations, the Federal Government agencies that
the Commission has been in contact with at least periodically over the
last several years include: the Central Intelligence Agency, Commerce
Department, Commodity Futures Trading Commission, Comptroller of the
Currency, Defense Department, Energy Department, Energy Information
Administration, Environmental Protection Agency, Federal Bureau of
Investigation, Federal Communications Commission, Federal Criminal
Investigative Organization, Federal Deposit Insurance Corporation,
Federal Reserve Banks, Federal Reserve Board, Federal Trade Commission,
Food and Drug Administration, General Accounting Office, Housing and
Urban Development Department, Internal Revenue Service, Justice
Department, Labor Department, National Archives and Records
Administration, National Credit Union Administration, State Department,
Office of Thrift Supervision, Small Business Administration, Treasury
Department, U.S. Agency for International Development, U.S. Customs
Service, U.S. Geological Service, U.S. Postal Inspection Service, and
the U.S. Trade Representative.
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RESPONSE TO ORAL QUESTIONS OF SENATOR GRAMM
FROM LAURA S. UNGER
Q.1. During the Committee's February 14 hearing, Chairman Gramm
asked the Commission to submit information on the effect of an
existing higher pay scale for economists on our retention rate
for economists compared to our retention rate for lawyers.
A.1. The Securities Litigation Uniform Standards Act of 1998
(``SLUSA''), P.L. 105-353, granted the Commission the authority
to pay its economists more than permitted under the General
Schedule. Although SLUSA does not amount to full pay parity for
the reason that is explained below, it does preliminarily
appear to be having some positive effect on the Commission's
attrition rate for economists.
During fiscal 1999, prior to introduction of the new pay
scale, the Commission lost three of the eight permanent
economists in its Office of Economic Analysis (``OEA'') and
hired an additional six, resulting in a total of 11 permanent
economists employed in OEA at the start of fiscal year 2000.\2\
During fiscal 2000, the first fiscal year the new pay scale
applied, three permanent OEA economists left the Commission and
eight more were hired. As of the start of fiscal 2001, the
Commission employed a total of 16 permanent economists in OEA,
none of whom have left as of mid-March 2001.
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\2\ As a recruiting tool, OEA also hires a number of
Intergovernmental Personnel Act (``IPA'') fellows, who typically are
university faculty members in finance or economics. Because IPA fellows
are temporary employees who work pursuant to contract for a set period
of time, they have not been included in these figures.
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Given the limited time it has been in effect and the
limited number of staff to whom it applies, it is hazardous to
attempt to draw any conclusions from this data. Nonetheless, if
we were to try to draw conclusions it would appear that while
the authority granted by SLUSA has slowed attrition, it has not
brought the Commission's economist attrition rate down to an
acceptable level. The loss of three of the 11 economists who
began fiscal 2000 in OEA constitutes an attrition rate of over
21 percent.
Even with SLUSA's pay authority, the Commission still
cannot match the pay and benefits of economists at the Federal
banking regulators. Economist pay at the Commission is
currently capped at the EX-IV level for base pay, and at the
EX-III level for total pay. For IPA fellows, pay is capped at
the General Schedule 15/10 level. Pay at the Federal banking
agencies is not subject to these caps. The Competitive Market
Supervision Act would address these problems and therefore
better enable the Commission to recruit and retain economists.
Q.2. During the Committee's February 14 hearing, Chairman Gramm
asked the Commission to submit the amount the Commission has
contributed to the Federal Treasury in the past 10 years
through collection of fines imposed for violations of the
securities laws.
A.2. The table attached as Appendix A shows, by fiscal year,
the total fines collected and contributed to the Treasury in
connection with Commission enforcement actions as of February
2001. The chart includes fines collected through settlements
and judgments after litigation, but does not include
disgorgement.
Appendix B is a chart that was discussed during the hearing
and should be included in the record.
PREPARED STATEMENT OF ROBERT B. FAGENSON
Vice Chairman, Van der Moolen Specialists USA, Inc.
Vice Chairman of the Board of Directors of
The Specialist Association of the New York Stock Exchange
February 14, 2001
Chairman Gramm, Senator Schumer, Members of the Committee, good
afternoon. I am Robert Fagenson, Vice Chairman of the Board of
Directors of The Specialist Association of the New York Stock Exchange.
I am pleased to appear before you to present the Association's views
concerning S. 143--The Competitive Market Supervision Act of 2001. The
Association wholeheartedly supports the legislation because it will
provide significant relief to all American investors while preserving
the high quality of securities regulation by ensuring that the
Securities and Exchange Commission (``SEC'') is fully funded. I will
limit my testimony today to transaction fees imposed by Section 31 of
the Securities Exchange Act of 1934 (``Exchange Act'') and the
registration fees under Section 6(b) of the Securities Act of 1933
(``Securities Act'').
The Specialist Association is comprised of 18 broker-dealer firms,
which include all of the individual specialists of the New York Stock
Exchange. Our specialists are at the heart of the auction market of the
world's most active stock exchange. The Exchange's auction trading
marketplace is the mechanism through which the prices of stocks listed
on the Exchange are ``discovered'' and liquidity is provided to buyers
and sellers. We coordinate orderly trading in our respective specialty
stocks. We supply liquidity when necessary to the proper operation of
the market, acting as buyer or seller in the absence of public demand
to buy or sell in those stocks.
Over 260 billion shares of stock were traded on the Exchange in
2000 in more than 221 million transactions. Specialists participated as
principal, selling for their own accounts, in 13.6 percent of those
transactions, paying approximately $50 million in Section 31 fees last
year (an amount we expect to significantly increase this year). A total
of $370 million was paid in Section 31 fees in 2000 on NYSE
transactions by all NYSE member firms and their customers.
Beginning in the 1930's, the Federal Government, through the SEC,
has collected fees on the registration of securities under the
Securities Act (``Section 6(b) fees'') and on sales of securities under
the Exchange Act (``Section 31 fees''). Although these fees were
initially intended as user fees to defray the costs of Federal
securities regulation, the amounts collected have exceeded the cost of
running the SEC since 1983. As discussed below, those collected amounts
now are more than six times the SEC's budget. In short, the Section
6(b) and Section 31 fees have become a general tax on capital raising
and a tax on American investors. Moreover, as I will discuss in a
moment, Section 31 fees represent a tax imposed at a particularly
inopportune time in the life cycle of a specialist's or market maker's
capital.
Please let there be no misunderstanding. We support continued full
funding for the SEC, an agency that has overseen our constantly
growing, remarkably fair and efficient markets that raise new capital
and serve the public investor, contributing to our worldwide reputation
for fairness and integrity. What we object to is misuse of the
financing mechanism designed to offset the cost of operating the SEC
through over-collection of the fees and application of the proceeds to
completely unrelated purposes.
As things stand, the Section 31 fee cannot be viewed as anything
but a tax on the sale of securities, a purpose for which it was never
intended. Although assessed in relatively small increments--it is
currently set at 1/300 of 1 percent of the total dollar amount of
securities sold, the tax is creating a drag of over $1 billion per year
on the capital markets. This drag on our markets represents a cost paid
by all investors, including the huge number of individual participants
in mutual funds, pension plans, and other forms of retirement accounts.
These fees have consistently grown over years. In fiscal 1999, the
SEC's fee collections from Section 6(b) and Section 31 fees (and fees
related to mergers and tender offers) mushroomed to $1.75 billion. That
is, the SEC's fee collections amounted to more than five times its $337
million budget. In fiscal 2000, the agency collected more than $2.27
billion, more than six times what was needed to fund its operation.
To bring transaction fees back into line with the cost of running
the SEC, there have been efforts to cap or reduce Section 31 fees,
including Chairman Gramm and Senator Schumer's proposal last year.
These efforts are supported by, among many others, Americans for Tax
Reform, the National Taxpayers' Union, Citizens for a Sound Economy,
the U.S. Chamber of Commerce, the Profit Sharing/401(k) Council, the
Security Traders Association, the Securities Industry Association, and
all the securities and options markets, including the New York Stock
Exchange and our Association.
Also, we expect the trading volume on the Exchange to continue to
increase, which in turn will have the effect of increasing the Section
31 tax. In fiscal 1999, the average daily trading volume was 809
million shares. In 2000, it was over one billion shares. And with
decimalization now fully implemented, volume will surely increase again
by a significant amount (as it did when the standard trading increment
was reduced to 1/16 from 1/8).
The Section 31 ``tax'' is unfair particularly to our members
because it in effect imposes a tax on the amount of gross revenue,
rather than on profits. Thus, our members must pay this tax regardless
of whether their business is profitable. Moreover, the Section 31 tax
is imposed at a particularly inopportune time in terms of its ultimate
effect on market liquidity. Unencumbered by Section 31 fees, revenue
generated by specialists and market makers in securities transactions
could be used by these market professionals to make our markets more
efficient through investment in technology, provide more liquidity to
the market and provide additional benefits to American investors. Thus,
investors and the market in general lose more than simply the amount of
the Section 31 fees themselves in terms of sacrificed market liquidity
and efficiency.
We would also be wise to remember that we have had the benefit of a
thriving and competitive bull market for an unprecedented number of
years. During such times, the impact of measures placing inappropriate
burdens on capital formation and market activity can be softened or
blunted. As is often the case with respect to ill-advised policy, it is
only when market conditions eventually decline and liquidity becomes
more scarce that the full brunt of a cloaked tax such as the current
Section 31 fees will be felt by us all. This will be particularly true
to the extent that market prices stagnate or decline.
In conclusion, the general tax revenue is the objective of other
laws, but not the securities laws. Congressional action to restore the
unintended tax now represented by the Section 31 fee to its original
purpose--to fund the operations of the SEC, and not for any other type
of Federal expenditure--is long overdue. While providing significant
relief to investors by reducing the excess fees collected by the SEC,
at the same time S. 143 guarantees full funding of the agency by
providing it with the authority to adjust fee rates in the event fee
revenues are projected to fall below the appropriated amounts. All
American investors will benefit from this bill. We applaud your efforts
regarding this important matter and we are committed to working with
you and this Committee toward the passage of this legislation.
The Association is thankful for this opportunity to express its
views on the Competitive Market Supervision Act of 2001. Thank you, Mr.
Chairman.
I would be pleased to respond to any questions you, Senator
Schumer, or other Committee Members may have.
----------
PREPARED STATEMENT OF LON GORMAN
President, Schwab Capital Markets
Vice Chairman, The Charles Schwab Corporation
Vice Chairman of the Board of the
Securities Industry Association
February 14, 2001
Chairman Gramm, Senator Sarbanes, and Members of the Committee, I
am Lon Gorman, President of Schwab Capital Markets and Vice Chairman of
The Charles Schwab Corporation, a national and global leader in
corporate and municipal finance, and in securities sales, trading, and
research. I also serve as the Vice Chairman of the Board of the
Securities Industry Association (``SIA'').\1\ I am testifying on behalf
of SIA and we appreciate this opportunity to present our views
concerning securities transaction fees and the legislation introduced
by Chairman Gramm and Senator Schumer.
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\1\ The Securities Industry Association brings together the shared
interests of more than 740 securities firms to accomplish common goals.
SIA member-firms (including investment banks, broker-dealers, and
mutual fund companies) are active in all United States and foreign
markets and in all phases of corporate and public finance. The U.S.
securities industry manages the accounts of approximately 50-million
investors directly and tens of millions of investors indirectly through
corporate, thrift, and pension plans. The industry generates in excess
of $300 billion of revenues yearly in the U.S. economy and employs
approximately 700,000 individuals.
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We believe it is critical that the Congress examine the issue of
Securities and Exchange Commission (SEC) fees because the facts and
assumptions on which enactment of the current statutory fee structure
was based have changed. Fees that were developed several years ago to
fund the cost of regulating the securities markets now seriously exceed
the Government's cost of regulation to such a degree that they
constitute a drag on capital formation, and a special burden on every
American investor.
The ``Competitive Market Supervision Act'' (S. 143), introduced by
Chairman Gramm and Senator Charles Schumer, has earned the strong
support of the securities industry because of its dual approach that
combines a fee-rate cut and a cap on revenue generated by the
transaction fees. S. 143 represents the best approach for full funding
of the SEC and reducing the burden on capital caused by this excessive
fee. If enacted, the Gramm/Schumer proposal would save investors $8
billion over 5 years--funds that would have otherwise been collected as
excess fees and remitted to the Treasury General Fund.
Relief for Investors
The U.S. securities markets serve as a strong engine for economic
growth and job creation. The securities industry furnishes the seed
capital for start-up companies, provides the liquidity that is
essential to bringing investors into the market, harnesses investment
for growth and expansion for the economy, and creates savings and
investment vehicles for millions of Americans. Today, almost 50 percent
of U.S. households own stock, directly or indirectly. By the end of
this year, the number of individuals who own stock is likely to exceed
80 million.
In fiscal year 2000 SEC fee collections exceeded $2.2 billion,
$1.89 billion more than the $377 million SEC appropriation for fiscal
year 2000. That is more than six times the Commission's funding level.
Fee collections are projected to exceed SEC appropriations by more than
$2 billion in fiscal year 2001. In fact, fee collections are projected
to exceed the cost to run the Commission by more than $2 billion for
each year through fiscal year 2005. If the current statutory fee
collection continues American investors will shoulder the burden of
more than $15 billion in these fees over the next 5 years. We do not
believe it is in the interest of investors--or, of the Nation's capital
markets--for these fees to so grossly surpass the regulatory costs
incurred. These transaction fees drain capital from the private markets
removing it at the very start of the capital-raising process--and
divert it into the U.S. Treasury.
Why should the general public care? Aren't these fees being paid by
Wall Street? Generally they are not. When brokerages charge an investor
for selling shares, they generally pass on the SEC fees to the
customers in transaction costs. In fact, most securities confirmations
include a separate line item for the SEC transaction fee. Once this fee
is reduced, investors will be able to see the savings immediately. The
individual investor, not the broker, is paying the vast bulk of the
transaction fees. This is money that could help fund retirement
savings, fuel economic growth, and create jobs.
We know that our markets have been made better, and fairer, by the
presence of a strong and effective Securities and Exchange Commission.
And, because it is in our interest--and, more importantly, in the
public interest--to have an effective SEC, SIA has always strongly
supported full funding for the agency so that it can carry out its
important investor protection mission. In the past, SIA has supported
full funding for the SEC even at times when budget freezes and budget
cuts were being pressed on all Federal agencies. If S. 143 is enacted,
the excess fees charged to investors, the industry, and issuers will be
reduced; yet will still generate substantially more in revenues than
the cost of running the SEC.
Background
Five years ago, the industry was asked to ``step up to the plate''
and pay additional fees in order to help Congress move to a more
reliable funding mechanism for the SEC. We agreed to do so because we
believed it was in the long-term interests of the securities markets.
The fee structure adopted as part of the National Securities Markets
Improvement Act of 1996 (``NSMIA'') for the first time assessed
transaction fees on the Nasdaq markets. This provision was intended to
establish parity between the fees assessed on exchange and Nasdaq
markets. While it was expected that, as a result of these changes, the
fees paid by investors and the industry would increase in the near
term, the ultimate goal of NSMIA's fee provisions was to bring fees
collected by the SEC more in line with the actual cost of running the
agency.
At the time these provisions were enacted, no one anticipated the
explosion of market activity that has taken place over the past several
years and continues today. In particular, no one could have predicted
the phenomenal influence that online investors would have on the equity
markets. In 1996, the transaction fee, already levied on NYSE stocks,
was first imposed on transactions of securities traded on the Nasdaq
Stock Market.
Since the enactment of the NSMIA in 1996, SEC appropriations have
risen in an effort to give the SEC sufficient resources to oversee the
markets and enforce the Federal securities laws. However, the increase
in transaction and other fees paid by investors, issuers, and the
industry has far exceeded the increase in the cost of running the SEC.
The following chart sets forth the fees collected by the SEC during
fiscal years 1996 -2000 and estimated fees to be collected during
fiscal years 2001-2005 (including Section 6(b) fees, Section 31 fees,
and other fees), compared with the amounts appropriated or requested to
be appropriated to the SEC during these years (dollar amounts in
millions):
In addition to our concerns about these fees as a drag on
investment, we are concerned about the potential for these fees to
jeopardize market liquidity.
Although transaction volume and market valuations have increased,
market maker and specialist revenue on these transactions has declined
as a result of lower margins and technology investment to handle the
ever-increasing volumes. Section 31 fees thus comprise an increasing
share of gross trading revenues, even though the rate of the fee has
remained constant. If left uncorrected, these fees will have a
significant effect on the ability of market makers and specialists to
commit capital to the market. We believe that our equity markets--much
admired and envied throughout the world--would operate much less
efficiently in the absence of market maker and specialist liquidity.
Unintended Results
This result certainly was not intended by Congress. When Congress
adopted NSMIA's fee provisions, its intent was clear. The language of
Section 6(b) states that the registration fees to be collected by the
SEC under that section ``are designed to recover the costs to the
Government of the securities registration process, and costs related to
such process. . . .'' \2\ Similarly, the language of Section 31 states
that the transaction fees to be collected by the SEC ``are designed to
recover the costs to the Government of the supervision and regulation
of securities markets and securities professionals and costs related to
such supervision and regulation. . . .'' \3\ Unfortunately, the fees
have far exceeded the cost of regulation. They divert resources which
could be used more productively elsewhere in our economy; and they
discourage capital investments in technology that could be used to make
our equity markets more efficient and attractive to investors. This is
real capital that could be used to fund new businesses, to build
plants, to create jobs, and to add to the national wealth.
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\2\ Securities Act of 1933, Section 6(b)(1).
\3\ Securities Exchange Act of 1934, Section 31(a).
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Furthermore, the transaction fee structure creates an uneven
playing field. Congress expressly stated that extending the transaction
fees to Nasdaq securities was intended to ``provide more equal
treatment of these organized markets, which are overseen by the
Commission.'' However, when Congress extended the SEC transaction fees
to Nasdaq trades, it failed to take into account the structure of the
Nasdaq market. In the Nasdaq market, dealers frequently must trade as
principals to maintain orderly markets and to provide liquidity to
customers on demand. Although many of these dealer-to-dealer trades are
being effectuated ultimately to fill a customer order, they are
nevertheless subject to multiple fee assessments.
Conclusion
There may be some who believe that since the U.S. stock market has
recently had a number of record years, investors, market makers,
specialists, and other market participants somehow can, or should, pay
these fees. We have demonstrated that we are more than willing to pay
the fair cost associated with regulation. But, it simply is not right
to charge investors, issuers, and other market participants six times
the cost of regulation. At a minimum, a burden of this size, with its
potential to adversely affect the structure of the capital markets,
should not be imposed inadvertently because of changed circumstances.
The securities industry is faced with a number of challenges
currently and in the near future: Converting and expanding quote
capacity to accommodate decimalization; further reducing settlement
time to T+1; ensuring that investors and issuers benefit from the
explosion in technology and electronic commerce; and, meeting the
competitive challenges of globalization. All of these challenges have
required, and will continue to require, significant financial
investment on our part, as well as the time and efforts of our most
talented industry professionals. We intend to meet these challenges to
maintain and enhance the international preeminence of our capital
markets, to help fund the continued growth of the U.S. economy, and to
ensure that investors and issuers have even more opportunities in the
new century.
We appreciate Chairman Gramm and Senator Schumer's recognition of
the disparity between the fair cost of regulation and the costly burden
of the transaction fee. This legislation will better align the amount
of fees collected with the cost of regulation. We have confidence that
Congress, once it reviews the facts, will make a decision that is in
the interest of millions of investors. We are committed to working with
you and this Committee to find such a solution.
Thank you.
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PREPARED STATEMENT OF ROBERT H. FORNEY
President & Chief Executive Officer
Chicago Stock Exchange
February 14, 2001
Chairman Gramm, and other distinguished Members of the Committee, I
appreciate your interest in the Section 31(a) fee issue and welcome the
opportunity to offer my views on behalf of the Chicago Stock Exchange.
The excessive Section 31(a) fees, monies that end up in the general
revenues rather than the intended purpose of funding the SEC, are
simply a hidden tax on the American people who are working hard to
build a secure financial future for themselves and their families. You
are to be commended for your efforts on this very important issue.
The Chicago Stock Exchange (``CHX'') opened for trading in 1882 and
today has become the second-largest stock exchange in the United
States. In 2000, over 26 billion shares traded and approximately 65
million trades executed--transactions representing a total value of
over $1.2 trillion. We are known as an innovative, low-cost, and high-
quality equity marketplace that is a leader in technology. Our
automated trading systems provide a significant boost in productivity,
capacity, and reliability while reducing our operating costs. Our
investment in technology has served us well, resulting in an average
annual growth rate of more than 70 percent over the past 5 years.
Today, we are able to process over 10,000 trades per minute. The CHX
also uniquely benefits the investor by providing the largest auction
market for Nasdaq stocks. These and other aspects of our exchange, such
as extended trading hours, automated price improvement, and the ability
to trade more than 4,400 issues--more than any other U.S. exchange--
distinguishes the CHX.
While we are justifiably proud of our growth, we continue to be an
organization mostly comprised of small businesses that fiercely compete
with much larger rivals. Excessive Section 31(a) fees are not just an
unfair burden on investors, they are also an impediment to small
trading firms growing their businesses, providing quality jobs to
people in our community, and providing serious competition that
benefits all investors.
The Case For Reducing Section 31(a) Fees
Before I lay out the arguments for reducing fees, let me reassure
you that the Chicago Stock Exchange supports a fully funded SEC.
Investor protection is of the utmost importance --investors have to
have confidence in the integrity of our markets. At the same time,
these excessive collections must be brought into line with the true
budget needs of the SEC.
Section 31(a) Fee Collections Far Exceed Expectations and
SEC Budget Needs
When the NSMIA fee structure was established in 1996, no one could
have anticipated the explosion in transaction volume that has occurred
and the huge increase in fees that are being collected as a result. As
SEC Chairman Arthur Levitt noted in 1998:
[t]he projections made in 1996 when NSMIA was enacted did not
anticipate the strength of the bull market we are enjoying
today. Collections are currently up across the board--not only
for Nasdaq trades. Collections will continue to increase if
market activity continues to grow.
They did. The fiscal year 2000 revenue generated by Section 31(a)
transaction fees alone (not including other fees, such as registration
fees) was $1.1 billion, which far exceeded the SEC's appropriated
budget of $377 million. In fiscal year 2001, Section 31(a) fees are
again expected to exceed $1 billion because the sharply increasing
volume of transactions is expected to continue. For many reasons that
include growing investor activity in the United States and around the
world, we believe that even if market values decline, transaction
volume is likely to continue to grow.
This unexpected growth in securities market transaction since 1996,
which at our exchange has averaged more than 70 percent growth per
year, provides sufficient reason for Congress to revisit the fee
structure established in NSMIA to bring it more in line with the
purposes Congress articulated. If left unchecked, the Section 31(a) fee
is expected to continue to swell, imposing a back-door tax on capital
and limiting the U.S. securities industry's ability to create better
products for investors at lower costs and aggressively compete in the
global market.
The Section 31(a) Fee Structure Harms Competition in the Industry
Excessive Section 31(a) fees also reduce competition within the
industry. The CHX is a regional exchange that trades securities that
are listed and also traded on the primary markets (the New York Stock
Exchange, the American Stock Exchange, and the Nasdaq). CHX competes
for these trades almost entirely based upon speed, quality, and cost of
execution. To be successful, it must better the primary markets in
these areas.
The CHX strategy is to gain a cost advantage over its competitors
through greater reliance on technology and enhance productivity. The
CHX has invested heavily in creating systems and processes that can
efficiently execute large numbers of transactions. Our productivity has
increased more than 50 percent in each of the past 5 years. These
investments are fixed costs. As volume increases, these fixed costs are
being spread over a greater number of trades, which, in turn, allows
the CHX to reduce transaction fees for all users of its markets. The
strategy has proven to be successful to the point where there are now
many products that have no associated exchange fee.
While the CHX has been able to reduce its transaction fees as the
volume has increased, Section 31(a) fees have remained constant. The
result has been that an increasingly larger percentage of our
customer's cost of doing business at the CHX is beyond our ability to
control. Cost is, in large part, what gives the CHX a competitive
advantage and that advantage grows as our volume grows. A Federal
Government tax rate that remains fixed regardless of volume or SEC
needs limits our ability to compete and provides a disincentive to
pursuing further volume-related efficiencies.
Mr. Chairman, let me cite a specific example of just how these
excessive fees can impact a small business trading on our Exchange.
Rock Island Specialists, a specialist firm on our floor, has 70
employees. It competes successfully with firms many times its size
because of the quality of its service and importantly, its ability to
control its costs. Like all successful small businesses, Rock Island
Specialists would like to grow its business and create new employment
opportunities, but growth requires capital.
This year Rock Island will pay the U.S. Government approximately $4
million in Federal income taxes. It will pay the U.S. Government an
additional $1.75 million in Section 31(a) fees; a 44 percent Federal
surtax on its business. I believe that we are all better served by
allowing small businesses to use the excess fees to build their
businesses and create greater competition in the marketplace. Investors
will benefit from the competition and new jobs will be created.
Section 31(a) Fees Harm Our Ability to Compete Internationally
European exchanges are consolidating their operations. It is our
view that, in the near future, only a few large exchanges are likely to
dominate the European market. These exchanges will pose a competitive
threat to U.S. exchanges should they add U.S. securities to the multi-
national mix of securities traded in their markets. The ability to
route orders over vast distances to foreign markets and to receive
prompt reports of executions is becoming less difficult with each
advancement in communications technology. National boundaries are
losing their relevance in the securities markets.
Foreign exchanges will be in direct competition with U.S. regional
exchanges for trades in securities listed on the U.S. primary
securities markets. The foreign exchanges are likely to find, as U.S.
regional exchanges have found, that to be successful they will have to
compete on quality and cost executions. But these foreign competitors
will not be subject to Section 31(a) fees and therefore have a cost
advantage over U.S. regional exchanges. This advantage could prove
critical to the CHX and other U.S. regional exchanges that compete with
the primary markets, and with each other, based largely on their
ability to provide lower cost transactions.
This potential competitive threat can be seen in the financial
futures markets which, since their inception in the 1970's, have been
international markets. Traders from around the world direct orders to
U.S. futures exchanges to trade foreign currency; Eurodollars, U.S.
Treasury Bonds, and other financial futures contracts. Similarly,
traders from around the world direct their orders for German Bund
financial futures to a German futures exchange. As recently as 2 years
ago, those traders directed their orders for Bund futures contracts to
a futures exchange in England. In this example, the business left
England and went to Germany because the futures exchange in Germany
could provided the same product in a more cost efficient means.
The lessons learned from events in the international derivatives
markets also can apply to securities markets. We can expect that
investors will shift from a market in one country to a market in
another to trade the same product at a lower cost, just as has happened
in the derivatives markets. Anything that imposes a higher costs on
U.S. exchanges, such as excessive Section 31(a) fees, risks harming our
international competitiveness.
The Current Section 31(a) Fees Structure Deserves Congressional
Attention
As noted above, the current Section 31(a) fee structure was
carefully crafted by Congress in 1996 to meet important public policy
goals. Again, the CHX supports a fee structure that provides stable,
long-term funding mechanism for the SEC to ensure that its essential
regulatory and oversight functions are continued. Today, the
Commission's funding is no longer in question. Given the explosive
growth in securities transactions and the likelihood of continued
expansion, the issue has become whether the current Section 31(a) fee
formula is appropriate in 2001 and beyond. From the perspective of the
CHX, excessive fees harm our ability to compete at home and abroad to
provide the highest quality service at the lowest industry costs for
our members and all investors.
The Competitive Market Supervision Act of 2001 will restore the
Section 31(a) fee structure to its intended purpose: Fully funding the
SEC. We support this effort to eliminate what has become an unfair tax
on investors and an unfair burden on participants in the U.S. equity
markets.
We appreciate the Committee's interest in this issue and we
appreciate the opportunity to present the views of the CHX. We remain
committed to focusing our efforts on lowering trading costs while
enhancing U.S. leadership in this most critical of industries.
STATEMENT OF THE INVESTMENT COMPANY INSTITUTE
February 14, 2001
The Investment Company Institute* appreciates the opportunity to
submit our testimony to the Committee in strong support of S. 143, the
Competitive Market Supervision Act of 2001. The Institute would like to
commend Chairman Gramm, Senator Schumer, and the other Members of the
Committee for their continuing efforts to facilitate staff retention by
the SEC and better align the fees imposed under the Federal securities
laws with the costs incurred by the Securities and Exchange Commission
(SEC) in implementing and enforcing such laws.
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*The Investment Company Institute is the national association of
the American investment company industry. Its membership includes 8,414
open-end investment companies (``mutual funds''), 489 closed-end
investment companies and 8 sponsors of unit investment trusts. Its
mutual fund members have assets of about $6.937 trillion, accounting
for approximately 95 percent of total industry assets, and over 83.5
million individual shareholders. The Institute also represents the
interests of investment advisers.
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Mutual funds are an integral part of the U.S. economy and have
become one of America's primary savings and investment vehicles. More
than 88 million investors in over 50.6 million U.S. households own
mutual fund shares today. Since 1990, the percentage of U.S. retirement
assets held in mutual funds has more than tripled to $2.4 trillion.
Moreover, most mutual fund investors are ordinary Americans; the median
household income of fund shareholders is $55,000.
The Institute has always supported, and will continue to support,
providing the Federal Government with adequate financial resources to
ensure effective regulatory oversight of mutual funds. We believe,
however, that fees charged under the Federal securities laws should be
reflective of their intended purpose to offset the costs associated
with activities of the SEC. The Institute remains concerned that, in
the absence of legislation such as S. 143, SEC fees will generate
revenues significantly in excess of those required to fund SEC
operations. Indeed, we note that while the SEC's budget for the current
fiscal year is $422 million, it will collect more than $2 billion in
fees. In essence this excess revenue amounts to a needless tax on
investors who are saving for retirement, sending their children to
college, or otherwise providing for their future. According to
information provided by this Committee, the amount of this needless tax
is expected to be about $8 billion over 5 years and $14 billion over 10
years. S. 143 will eliminate this needless tax on investors by reducing
fees collected by the SEC to an amount commensurate with the SEC's
appropriated budget.
Importantly, S. 143 is drafted to guarantee that the SEC receives
100 percent of the funds it needs to operate. Indeed, if fee
collections fall below 100 percent of the SEC's appropriated budget,
the legislation will permit temporary fee increases as necessary to
ensure that the agency has adequate financial resources to continue
effective regulatory oversight and to continue important investor
protection initiatives. The Institute supports this important
provision.
In addition to ensuring that the SEC is provided adequate financial
resources to fulfill its regulatory responsibilities, S. 143 will
better enable the SEC to maintain adequate staffing resources. The SEC
has experienced a staff attrition rate nearly twice that of the overall
Federal Government. S. 143 would enable the SEC to combat this high
attrition rate of its professional staff by permitting the SEC to set
employee pay levels at levels comparable to those paid by other
financial regulatory agencies. This provision will enable the SEC to
attract and retain qualified staff, and thus ensure its continued
excellence in its regulatory oversight role.
The Investment Company Institute believes S. 143 will benefit the
millions of Americans invested in mutual funds and especially applauds
provisions that: (1) reduce the heavy tax paid by consumers through
excessive fees charged to mutual funds under the Federal securities
laws; and (2) reform the SEC's pay structure to enable it to attract
and retain qualified staff. As such, S. 143 will better enable the SEC
to fulfill its mission of protecting investors and maintaining the
integrity and the efficiency of the Nation's securities markets. The
Institute endorses and urges the passage of S. 143 for these reasons.
We appreciate your consideration of our views and look forward to
working together to ensure that S. 143 becomes law during the 107th
Congress.