to require some, but not all, market-makers to be subject to Rule 113. As the SEC has suggested, it may be possible after experience with the new National Securities Market System to modify the rule, but even so all market-makers would still be treated the same.

In closing, I want to again thank you for the courtesy with which you received our testimony on S.2519 and for asking for our response to these questions. As you recognize, the Subcommittee on Securities is dealing with complex issues, the resolution of which will chart the structure of our Nation's securities markets for many years to come.

We stand ready to be of assistance in any constructive way to you and the other members of the Subcommittee and its staff in helping find the right answers to these issues.

Senator WILLIAMS. Now we have Mr. Kolton of the American Stock Exchange.

STATEMENT OF PAUL KOLTON, CHAIRMAN OF THE BOARD, AMERICAN STOCK EXCHANGE, ACCOMPANIED BY NORMAN S. POSER, SENIOR VICE PRESIDENT IN CHARGE OF POLICY PLANNING, AND GORDON NASH, COUNSEL

Senator WILLIAMS. We welcome you back to our subcommittee. Mr. KOLTON. Thank you, Mr. Chairman. It is a pleasure for us to be here.

My name, as you know, is Paul Kolton. I am chairman of the board of the American Stock Exchange, and with me today on my left is Norman S. Poser, senior vice president in charge of policy planning and on my right, Gordon Nash of the law firm of Lord, Day & Lord, exchange counsel.

I am pleased to be able today to present to the subcommittee the Amex's comments on S. 2519, the National Securities Market System Act of 1973. With the committee's permission we plan shortly to submit a detailed memorandum commenting on the bill's various sections, and we request that this memorandum be made part of the record of this hearing.

Senator WILLIAMS. Very well, it will be (see p. 535).

Mr. KOLTON. For an industry going through profound change, and for one that must be increasingly responsive to an uncertain public. we believe that S. 2519 is a constructive and perceptive measure. And while we do not agree with every one of its provisions, we believe that the bill basically points the direction in which we are and should be moving.

We wish to comment today on three principal aspects of the bill. These are: SEC oversight of industry self-regulation; the development and operation of a central market system; and, finally, unlisted trading on exchanges in over-the-counter securities.

As to the first item, S. 2519 would give the SEC substantial new oversight over the Nation's stock exchanges. In general, the bill would establish a new-and, in our view, appropriate balance between the SEC's need for adequate oversight similar to that which it now has over the NASD-and the continuing need of the exchanges to maintain the necessary initiatives to perform their self-regulatory activities. We are particularly pleased that the subcommittee recognizes the benefits to the public inherent in the self-regulatory process.

The bill would for the first time give the Commission power to review specific actions by an exchange in applying its rules; and to affirm or reverse an exchange's decision, or to reduce the penalty in a disciplinary action. The Amex supports this proposal.

Despite our affirmative position on this issue, the subcommittee will be interested that a number of exchange governors-and particularly those public governors who formerly served in governmentexpressed the most serious reservations about this proposed grant of power to the SEC, on the ground that it would tend to erode the selfregulatory process. Nevertheless, on balance, the Amex supports this provision.

S. 2519 would also amend section 19 (b), which now gives the Commission power to change exchange rules in 12 specific regulatory areas. Section 19 (b) would be changed in two ways: First, its coverage would be expanded to include all exchange rules, and second, additional procedural safeguards would be introduced, which the SEC would be required to observe in any proceeding to amend an exchange rule.

We do not believe there has been a demonstrated need for the SEC to have the authority to change all exchange rules. We believe such SEC power should continue to be confined to those specific areas which relate to the protection of investors or to the public interest-and consistent with this we recognize that it may well be advisable to add to the list of areas now covered by section 19 (b), in order to assure that the Commission's powers cover all those exchange activities which are of public concern.

Also, we support the procedural safeguards which S. 2519 would add to section 19 (b).

Section 19 (c) of the bill would give the SEC authority-which it now has in connection with NASD rules-to review all proposed exchange rules and to disapprove such rules, after there has been an opportunity for public comment and a hearing.

As I indicated earlier, the Amex believes that it is in the public interest for the SEC to have adequate oversight powers over the selfregulatory activities of the exchanges. Consequently, we support the concept of SEC review of proposed exchange rules. We do believe, however, that this provision, like section 19 (b), should be limited to those exchange rules which relate to the public interest or to the protection of investors, and we would suggest, therefore, that section 19 (c) should be limited to the same specific regulatory areas as section 19(b).

Aside from these new oversight powers which the bill would give the SEC, we note that a new section 6(b) (4) would introduce a number of general standards to which exchange rules would have to conform. While these and other-requirements and prohibitions may appear unexceptionable, some of them could create serious, though probably unintended, problems for an exchange. For example, a prohibition against regulation of matters unrelated to the protection of investors would be difficult, as a practical matter, for an exchange to interpret and apply, since exchange rules necessarily cover a wide variety of administrative, "housekeeping," and other matters pertaining to members, their employees, listed companies, et cetera. And the prohibition. against imposing unreasonable burdens on competition could, we are advised by counsel, be construed as a call for the end of the concept of limited exchange membership-a concept which we believe essential to the orderly functioning of the markets, and for which no realistic or workable substitute has been proposed.

We are concerned, too, about the proposed requirement of section 6(b) (4) that exchange rules provide safeguards against unreasonable profits or unreasonable rates of commissions and not fix minimum profits. While Congress, the SEC, and the Justice Department are clearly moving to divorce the exchanges from the business of regulating rates, this provision would require exchanges to gear up and employ the complex paraphernalia of rate analysis data gathering, review of income and expenses, and other rate studies-in order to de

termine the reasonableness of members' profits, commissions, and other charges. Under these opposing pressures-to stop setting rates, on the one hand, but to analyze the reasonableness of profits, on the otherthe responsibilities of an exchange would be far from clear, and perhaps impossible to comply with.

For these reasons-we believe that the act should continue to require that exchange rules be designed to prevent fraudulent and manipulative acts and practices, and to promote just and equitable principles of trade-but we would suggest the bill not include the new and potentially troublesome standards that are now incorporated in the bill.

The Amex supports-as it has in the past-the concept of a central market system based on auction market principles, maximum disclosure, and pervasive and equal regulation and surveillance of all participants.

To a large degree, our present auction markets are attractive to the public because orders are concentrated there; any diminution of the flow of orders would make the markets that much less attractive and less responsive.

We believe that, as we move into a competitive rate environment, Congress, the SEC, and the industry must address themselves to assuring that exchange auction market trading-with its flow of orders is preserved and encouraged. As a central market system evolves, we must bring the third market, which is largely a dealer market, into the system, subject to the appropriate disclosure and regulatory requirements, and thus provide a maximum flow of orders for the benefit of the investing public.

We note further that S. 2519 tends to leave the specific structure of the system to future developments. This flexible approach is, we believe, a realistic one.

We are concerned, however, that the bill gives the SEC full authority to design the central market system and to regulate those who process market data but makes no provision for the role which the selfregulatory organizations must necessarily play in defining, building, operating, and eventually-paying for the system.

Beyond having the right to comment on proposed SEC rules, the exchanges and the NASD would presumably have no statutory voice in how the markets of the future are to be structured and governed.

Under the bill, for example, the SEC would have the power to allocate the costs associated with the development and operation of the system. While we understand that the principal purpose of this provision is to give the SEC power to arbitrate any disagreements as to the allocation of costs which might arise among industry organizations, we are troubled that this innocent-seeming provision actually gives the Commission practically unlimited discretionary power to impose charges on the self-regulatory organizations-particularly since these costs have not yet been ascertained and could conceivably be disproportionate to the benefits to the public or the industry.

If the central market is to evolve and is to contain the essential elements of fairness, disclosure, and regulatory responsibility, then a governing structure will have to be set up with the legal authority to make regulatory and policy decisions. For some time the Amex has believed that such a governing structure with equal representation

from the public, broker-dealers, and the self-regulatory organizations might emerge through the pressure of events.

It would now appear though that legislative guidance, beyond simply giving additional rulemaking power to the SEC, is necessary. We believe this approach would insure coordination in the development of the central market, would tap the innovative resources necessary to develop such a system, and would assure the continuation of the selfregulatory process which despite its imperfections has served the public remarkably well over the years.

We would suggest, therefore, that S. 2519 be amended to provide for the creation of a new organization which would have statutory responsibility to design a central market system, determine its costs, and allocate them among the participating self-regulatory organizations and firms; implement the system, if feasible; and, finally, provide its governing structure.

Finally, I would like to turn to the provisions of S. 2519 which would amend section 12(f) of the Exchange Act to give the SEC authority, under certain criteria, to permit exchanges to admit over-the-counter securities to unlisted trading privileges.

Here, we start from the premise that, for qualified companies, an auction market generally serves the public more economically than a dealer market and it should be made available to the maximum extent possible.

We also concur with the view of the subcommittee that in an environment of open communication and increasing competition among marketmakers, stocks whose trading characteristics warrant an auction market should be permitted to trade on an exchange, even though companies' managements may not choose to apply for an exchange listing. Thus, the American Stock Exchange supports this proposal in the context of a central market system that is to be developed.

We also recognize that before over-the-counter securities can be admitted to trading on an unlisted basis a number of problems would have to be resolved. These include the matter of preserving incentives for companies to list or remain listed, and the regulatory relationship which an exchange would have with an unlisted company. We believe that these problems can be resolved satisfactorily by the SEC and the exchanges as a central market emerges.

Thank you.

Senator WILLIAMS. Thank you very much, Mr. Kolton. Let me see if I can get a better understanding of your expanded "self-regulatory organization." Really, it is a new concept of regulation. Does it combine within a "super self-regulatory organization" the present selfregulatory entities and others, too?

Mr. KOLTON. As we see it, Mr. Chairman, it would combine the present self-regulatory entities, the primary users of that system, that is the broker-dealers, and members of the public. An organization such as that would have the advantage of being able to reach out because of its statutory basis, over the entire industry, and to resolve a series of problems that have plagued the industry over a period of many years and that have not lent themselves to a solution partly because as the industry has expanded and grown no one organization has had the capability of reaching out to all the elements within the industry.