18 October – LAWFUEL – The Law News Network – It is an honor to be here, and to visit this great country in my capacity as Chairman of the SEC. As I told Chairman Liu and Chairman Sheng, I have only been in the job for two and a half months, but already, I’m turning a year older. (That’s because, as it happens, today is my birthday.)
It’s fitting that I’ve traveled halfway across the globe to come here to talk about money. What most everyone thinks of as money — that is, paper currency — was of course invented here in China more than 1,000 years ago. Back then it was called “Flying Money,” because an unexpected breeze could blow it right out of your hand.
Perhaps all of us could use some Sung Dynasty folk wisdom in these modern times. Money still “takes flight” if you don’t hang on to it properly. And that’s as true for electronic transactions as it as for currency, and as true for nations as it is for any individual.
As a matter of fact, this principle of “flying money” works two ways. A nation can cause capital flight by undermining investor confidence. But if a nation has clear and well enforced rules, a sturdy regulatory regime, and the right safeguards, it can bolster investor confidence. And if its companies put their investors’ money to its best possible use, and in the manner they promised they would, money will fly in their direction.
Today, of course, nearly everyone uses paper money. So it doesn’t readily occur to us why China’s invention of currency was so revolutionary — and why it took centuries for that idea to be accepted around the rest of the world.
The convenience of paper notes is obvious, of course. The alternatives were very difficult to carry around — gold, silver, or maybe grain or cloth. But if substituting something lightweight, like pieces of paper, were all that it took, the development of currency wouldn’t even count as a significant invention.
What was truly the genius of China’s new concept of paper money was its ability to resolve the issue of trust in the marketplace. People had to have complete confidence that the paper currency would indeed be just as good as the metals and commodities they were accustomed to using.
What China proved is that only if you can create trust in the Treasury, will people rely on its promises to conduct their business.
Our capital markets of the 21st century work in precisely the same way. They rely on trust. The buyers and sellers in today’s securities markets don’t know each other, or even see each other. They’re often in different countries.
In fact, the best and most modern capital markets today are remarkably efficient and liquid, precisely because they don’t require any in-depth interaction between buyers and sellers. Not just small transactions, but significant deals can be arranged and agreed to in seconds, over a computer screen.
That can only work if there is unshakeable trust in the issuers of the securities, and the markets on which they’re traded. For this reason, maintaining investor confidence is our most important job at the SEC.
Just as merchants during the Sung Dynasty needed confidence that the imperial treasuries would honor their paper banknotes, investors in our capital markets today absolutely must have confidence that, when they buy shares in a company, that company’s disclosures to them have been full and fair.
If investors don’t have this confidence, they won’t part with their money so easily. They’ll insist on a premium for their investment. And this means the cost of capital will increase for companies.
If trust in your market is so little that you have a built-in risk premium, this much is certain: money won’t fly in your direction.
One of the keys to building trust in China’s capital markets is a sound securities regulatory regime. Ensuring that China’s listed companies have financial statements that accurately reflect their true financial picture is essential to an economy where investments are going to be made for sound financial and economic reasons, and not for political motives.
Sophisticated financial disclosure practices will also attract more foreign interest in Chinese companies listed on China’s exchanges. That’s vitally necessary if China’s equity markets are going to experience growth on par with its underlying economy.
Let me illustrate this point by briefly considering the upcoming IPO for China Construction Bank, which has been very much in the news here. This is simultaneously an example of what’s going right, and what more remains to be done.
The roadshow that kicked off in Hong Kong a week and a half ago was a success. And there’s a strong likelihood that CCB will be heavily oversubscribed. For that, China deserves congratulations.
We’d be kidding ourselves, however, if we didn’t recognize that CCB could have done even better if it had been listed in New York rather than Hong Kong.
We’d also be foolish not to notice that even with the success of the CCB’s roadshow, there’s now speculation in the press about the health of its balance sheets; how many of CCB’s existing loans will become non-performing; and how much management has really changed.
Perhaps, the exacting process of listing on a U.S. exchange would have helped CCB avoid these concerns, which go directly to the question of investor confidence. Of course that process would be expensive and time consuming. But no one should pretend that the avoidance of strong securities laws and tough enforcement, which is admittedly cheaper on the front end, isn’t more expensive in the long run.
And that long run cost is borne by investors.
That takes me to my final point. Some critics claim that America’s “gold standard” of disclosure and enforcement is just too difficult for a developing market such as China’s.
The criticism is misplaced, because it focuses only on the costs of disclosure, without looking at the benefits.
I won’t pretend that securities regulation is cheap; and I firmly believe that the SEC and regulators everywhere need to work constantly to find ways to make our rules less costly and more efficient. But there is simply no substitute for honesty and integrity in our capital markets.
The full, accurate, and timely disclosure of material information that is promised to investors when Chinese companies list on U.S. exchanges will improve company disclosure practices right here in China. And that will help achieve China’s objective of upgrading the governance of its firms.
The ability to list on a US securities exchange means that the issuer is among the best of the best. It is a signal not just to investors in U.S. markets, but to other markets around the world, where Chinese companies may be listed as well.
The Securities and Exchange Commission would like nothing more than to work closely with China as its reform process heightens the importance of state-of-the art securities laws, sound financial reporting practices, and stringent disclosure rules.
Thank you for this opportunity to discuss these issues under the auspices of our Joint Economic Committee. And let me say, on a personal note, that I can think of no better birthday gift than to have the opportunity to thank our Chinese partners in person for your invention of paper money. I can’t imagine what it would be like to go through airport metal detectors otherwise.