Libertarian Paternalism happening in India and US

SEBI has passed some major reforms y’day. It was in an overdrive mode last year and is interesting to see some action once again. The idea is to make equity investments  more friendly for investors

  • It has lowered transaction costs across the entire securities trading spectrum,
  • it has floated a concept of anchor investor to make markets more stable (cannot sell share till 30 days of allotment),
  • No shares to have superior voting rights

However, two developments weree really interesting as we see some form of libertarian paternalism (LP) happening:

Rationalisation of disclosure norms for rights issues: Since rights issues are made to existing shareholders, who are in possession of basic information about the company and have been receiving reports regarding major developments in the company on a continuous basis, it has been decided to rationalize disclosures in rights issue offer document by doing away with or modifying existing disclosure requirements.

So, it has done away with disclosures which are repeated in the rights issue prospectus making it easier for investors to read. This is a form of LP where the regulator has intervened making things easier for the investor. The standard regulation approach following classical economics would be let investors decide which info is useful and which is not. However, we know it does not really work that way and SEBI has intervened to make things easier. However, the choice to select whether to invest in the rights share or not remains with the investor (this is what LP is all about).

Another decision:

Transparency in payment of commission to Mutual Fund distributors : There shall be no entry load for the schemes, existing or new, of a Mutual Fund.  The upfront commission to distributors shall be paid by the investor to the distributor directly. The distributors shall disclose the commission, trail or otherwise, received by them for different schemes/ mutual funds which they are distributing or advising the investors.

 This is again a continued form of LP from SEBI. I have bragged in numerous posts how mutual funds in India(see this one, see US case) are actually a distributor’s fund with most benefits going to a distributor than an investor. SEBI has been trying to reform this. It first removed entry load from direct applications, then it asked MFs not to charge entry load in case of bonus units. And now this step which does away with direct loads completely.

However, again it leaves the discretion to investors on how much entry load they want to pay their distributors. This is what LP also suggests- just intervene to kae things better. This means distributors better provide valuable investment advice or he does not get any commissions.

Now in the US. As I mentioned in my last post Obams’ new plan proposes setting a Consumer Financial Protection Agency. This will look into all matters pertaining to regulation in financial products/payments that matter to consumers.

1. Transparency: CFPA will be authorized to require that all disclosures and other communications with consumers be reasonable: balanced in their presentation of benefits, and clear and conspicuous in their identification of costs, penalties, and risks.

2. Simplicity. We propose that the regulator be authorized to define standardsfor “plain vanilla” products that are simpler and have straightforward pricing. The CFPA should be authorized to require all providers and intermediaries to offer these products prominently, alongside whatever other lawful products they choose to offer.

3. Fairness. Where efforts to improve transparency and simplicity prove inadequate to prevent unfair treatment and abuse, we propose that the CFPA be authorized to place tailored restrictions on product terms and provider practices, if the benefits outweigh the costs. Moreover, we propose to authorize the Agency to impose appropriate duties of care on financial intermediaries.

4. Access. The Agency should enforce fair lending laws and the Community Reinvestment Act and otherwise seek to ensure that underserved consumers and communities have access to prudent financial services, lending, and investment.

Just like in SEBI’s case, this one is also a form of LP. As consumers cannot understand financial products, it is better to ask the agency to simplify things for them. US takes a step further and even advocates designing plain vanilla financial products ( I had also advocated the same in my paper) helping people make right choices.

All this would have been completely unthinkable if not this crisis. Though in India’s case the issues are completely different. Indian regulators seem to have taken a liking for findings of behevaioral economics (see this as well) (though am not sure whether SEBI has consciously nudged). I even pointed Fed could be nudging as well.

These are all quite remarkable development I must say. We may not be realising it, but LP is beginning to shape our decisions

2 Responses to “Libertarian Paternalism happening in India and US”

  1. A check on India MF Industry « Mostly Economics Says:

    […] is the vanilla products which even US is contemplating to introduce. I had mentioned in this post that if developed countries need such products, […]

  2. Mutual Funds to have a label like food products « Mostly Economics Says:

    […] need simpler disclosures like labels, they are of immediate application in developing economies. SEBI (see this as well) and PFRDA have already taken many lessons. They should be keenly looking at […]

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