The need for securities' market regulation in Ethiopia Abbas Mohammed Isaac Newton reportedly said, "I can

calculate the motions of heavenly bodies, but not the madness of people" when he lost 20,000 pounds of his fortune during the South Sea Bubble some three hundred years ago. The Bubble refers to an overheated market speculation of shares of a company known as South Sea Company, which started operation in 1711. Despite The Companys weak financial position and absence of business operation investors bought its share based on incorrect and fraudulent information coming from the companys managers. The price of the share of the company reached its peak with speculation. However, it collapsed with rumors spreading that the company was not doing well and that managers sold their shares in 1720 in a buyout. This event ruined the livelihood of thousands of people in England including the renowned scientist of the time Isaac Newton. This incidence became the cause of the promulgation of the Bubble Act of 1720, which prohibited unchartered formation of joint share companies and imposed penalties on those who were engaged in such type of securities trading. It is only in 1844 that this general ban against establishing a share company without obtaining a charter from the state was lifted and Parliament issued Company Act of 1844. This Act brought in the principle of obligatory disclosure through the registration of prospectuses in cases of subscription to corporate shares by public invitation, and directors and promoters were held to civil liability for false statements in the prospectus; the Directors Liability Act of 1890 and the Companies Act of 1900 followed it requiring companies to provide a significant amount of information in the prospectus. These Acts established the principle of affirmative disclosure and went considerably beyond the prohibition of fraud. The U.S. did not have a regulation before the 20th century unlike the UK. In fact, the existing regulations at the beginning of the 20th century were state legislations, and supervision and regulation were conducted by the states' apparatuses; Kansas was the first state to pass what is called blue sky law in 1911 other states following suit. These laws were anticipated to protect investors through antifraud provisions, regulation of brokers and dealers and registration of securities. The 1929 Stock Market Crash, which ushered in the Great Depression, also paved the way for another wave of regulations in the US. During the Crush, numerous investors lost their life savings and found out that the securities they had purchased for years were worthless and these investors, who had been given little information about the securities they had invested in, were drawn by pledge of easy riches and became victims of widespread fraud and manipulation. Of the approximately $50 billion of securities that were sold in the decade following World War I, approximately $25 billion worth proved to be totally valueless. Because the whole country was affected

by the economic collapse of the market and the desperation of the Depression, the US Congress which is the law making body of the country held hearings to study the crisis and work out a strategy for restoring public confidence in the securities market. The result was the enactment of the Securities Act of 1933 and the Securities Exchange Act of 1934.

The objectives of these laws were to eliminate abuses, restore investor confidence, and maintain the integrity of the capital markets. The method by which the 1933 and 1934 Acts were to accomplish this goal was through a system of comprehensive disclosure. So long as corporations disclosed all material information about their operations and their securities, investors could make their own investment decisions. To this day, disclosure remains the primary tool for regulating our securities markets. These laws have been amended on several times. Recent corporate accounting scandals and financial irregularities called for the enactment of Sarbanes-Oxley Act of 2002. The Act followed by the collapse of big companies such as Enron, Worldcom, Tyco and Adelphia. The first step to investors' protection is the imposition of disclosure obligation on issuers of securities. Regardless of the nature of the securities, i.e. whether it is an initial offering or subsequent offering, or whether the securities are equity or debt instrument, an issuer must be subjected to initial and continuous obligation to divulge information to the public so that investors are empowered to make learned decisions about their investments. The specifics of information to be disclosed vary from jurisdiction to jurisdiction. However, disclosure of information should be accurate, relevant, and timely and above all should empower investors to make a calculated decision. Brokers, dealers, investment management firms, market analysts and advisors are the main players in the market. Especially as the volume of the value of transactions become larger and the market expands, obviously it will be very difficult for an average investor to navigate through the market. Hence, brokers, dealers, advisors etc play major role in the market nowadays. Conflict of interest may arise between investors and market intermediaries and the law should somehow regulate this potential problem. As these intermediaries are entrusted with the task of managing the assets of investors, there is high risk that they misuse such assets or resort to fraud, manipulation or due to their incompetence loose the asset of others. Hence, the law should ensure that market intermediaries are honest and competent. Stock exchanges are the main components of the securities

market and there should be clear law the way to establish them and about their organizational form. There must be minimum entry requirement for intermediaries such as capital, staff, or organizational requirements. Both their financial and organizational activities should be supervised in order to ensure that their business competence and financial soundness. In order further to protect investors, the law should prohibit market manipulations and fraud. Insiders trading, market manipulations and other practices which make the market imperfect or in other words unfair trade practices should be prohibited. Especially insider trading distorts the proper functioning of the market and should be prohibited. The mere presence of a legal framework for investor's protection does not bring about the much needed trust and confidence. The laws should be enforced and implemented efficiently and effectively. Hence, the law should provide for adequately empowered regulator. In this regard the experience of countries varies. Some countries designate an independent commission for this purpose, for instance like the US, and in other countries the task is entrusted to several state departments and still in other countries the law is enforced by self-regulatory organs. But the most important point is that such a regulator should be adequately empowered to enforce the law. When we come to Ethiopia we find that the securities market is at its rudimentary stage. We dont have a stock exchange for securities trading for that matter. However, recently we are witnessing the mushrooming of public share companies soliciting fund from the public at large. A burgeoning securities market does have a lot of benefit to the economy of the country. Securities market facilities saving from the public to companies thereby contributing to economic property. It can play a constructive role in transforming way of doing business in this country as naturally the market should encourage disclosure of information and the channeling of fund among the wider populace. The disclosure of information can bring about financial and accounting systems that live up to international or some legal standards. The impact of this on the modernization of both human resource and financial management of organizations is clear. However, the existing legal framework of the country suffers from critical gaps in supporting such a market. There is no separate law that governs the securities market. Of course the Commercial Code of 1960 allows for the

establishment of Share Companies which are the major focus of the securities market. The Code contains detail rules regarding the establishment, rights and duties of such companies (such as the right to issue shares and other debt instruments), obligations of directors, etc. But it fails in putting forward strong disclosure rules. The requirements laid down do not guarantee the provision of adequate, relevant and timely information. The other problem of the Code is that the mechanisms that it has arranged do not ensure the accuracy and timeliness of information. Though the Ministry of Commerce and Industry has been conferred with some authority in this regard, the powers are not adequate to enforce the provisions. In fact, though the Ministry whose title is now changed to "Ministry of Trade and Industry" still registers share companies, it does not go beyond giving the companies legal personality. It does not ensure the adequacy, relevancy and timeliness of information provided by promoters. Therefore, Ethiopia needs to promulgate a comprehensive regulation which addresses core objectives of investors' protection, enhancement of market efficiency and fairness, and avoidance of systemic risks. The law should contain basic rules regarding disclosure of substantial information, prohibition of market manipulation and fraud, the licensing and supervision of financial intermediaries and creation and allocation of adequate power to a regulator. However, particular attention must be paid to the existing market situation in designing appropriate regulatory mechanism. Ethiopia does have a backward economy with meager public resource. It will be expected that the market picks up very slowly. Market capitalization and turn over will be very low. Public trust and confidence is expected to be low as compared to other well developed markets. Besides, the creation of an independent and autonomous regulatory organ may not be warranted due to lower market capitalization, number of companies, and turnover. Hence, it will be advisable to assign the regulatory function to some ministry or agency till such time the volume of the market calls for an independent regulatory organ. The future law should also critically contemplate about the role of selfregulatory market players especially stock exchanges. The regulation of securities market is a complex task which involves knowledge and expertise in law, finance and accounting. It will be very difficult for the public sector to attract competent professionals under the existing civil service compensation scheme. Hence, effective enforcement will be a thorny issue for the public

organs. And this problem can be alleviated through joint regulatory role between public organs, market players and exchanges.