March 11 (Reuters) - Following are excerpts from the written testimony submitted by Securities and Exchange Commission Chairman Mary Schapiro to the House Appropriations subcommittee on Wednesday:
Important questions have been raised concerning the agency's handling of tips or whistleblower information related to the activities of Bernard Madoff. Former Chairman Cox asked the SEC Inspector General to look into what happened, what failed to happen, and to report back to the Commission.
It is clear that, regardless of the ultimate findings of the Inspector General, the agency needs to improve its ability to process and pursue appropriately the more than 700,000 tips and referrals it receives annually.
We have retained the Center for Enterprise Modernization to begin work immediately on a comprehensive review of internal procedures to evaluate tips, complaints, and referrals, with a goal of establishing a process that will more effectively identify valuable leads for potential enforcement action. In addition to these changes, it is essential that we work to improve our risk-based oversight of broker-dealers and investment advisers.
Our Office of Compliance Inspections and Examinations (OCIE), together with other agency staff, are presently working on an initiative to identify the key data points that would facilitate a risk-based oversight methodology and better allow the staff to identify and focus on those firms presenting the most risk.
These steps will build the knowledge base of our inspections program, better enabling them to conduct oversight of complex trading strategies and products that exist in our markets today. In addition, the examination staffs of the SEC and FINRA are working together to identify better ways that incipient frauds might be detected at an early stage.
CREDIT RATERS, ACCOUNTING
I also plan to focus on the critical role played by rating agencies, and to improve the current ratings process. The SEC recently approved additional rules, pursuant to our authority under the Credit Rating Agency Reform Act, to address certain weaknesses in the ratings process. These rules were a step in our continuing efforts to bring transparency and accountability to the ratings process, which plays a critical role in the market's pricing and allocation of capital.
In the area of accounting standards, the SEC staff completed a congressionally-mandated study of fair value accounting. The staff issued guidance to financial institutions so that they can give fuller disclosure to investors, particularly with respect to hard-to-value assets.
We have also continued to work closely with the Financial Accounting Standards Board to deal with such issues as consolidation of off-balance sheet liabilities, the application of fair value standards to inactive markets, and the accounting treatment of bank support for money market funds.
In the area of combating false rumors and manipulative activity in the marketplace, the agency initiated examinations of the effectiveness of broker-dealers' and investment advisers' controls to prevent the spreading of false information. The SEC adopted a package of measures designed to strengthen investor protections against naked short selling, including rules requiring that "fails" from short-sales be closed out in a significantly shorter time; eliminating the options market maker-exception of Regulation SHO; and expressly targeting fraud in short-selling transactions.
As we move forward, the Commission will consider other steps necessary to eliminate manipulative and illegal activity in our markets, as well as limit market volatility.
In an effort towards bringing the unregulated world of credit default swaps into the sunlight, the agency has worked with private parties and its regulatory counterparts at the Commodity Futures Trading Commission and the Federal Reserve to facilitate the development and regulatory approval of central counterparties, clearance and settlement systems, and trading platforms for these products.
Over the coming year, we will also have an agenda that focuses on issues of corporate governance, including proxy access, risk disclosure, disclosure related to executive compensation; money market fund regulation; retail investor protection; and international cooperation.
SEC BUDGET, STAFFING
Between 2005 and 2007, the agency lost 10 percent of its employees, a decline that inevitably affected all of the SEC's major programs. The SEC oversees more than 30,000 registrants including 12,000 public companies, 4,600 mutual funds, 11,300 investment advisers, 600 transfer agencies, and 5,500 broker dealers. We do this with a total staff of 3,600 people.
With support from this subcommittee, during the last two fiscal years the SEC was able to lift its hiring freeze and begin rebuilding its workforce.
As you know, the previous Administration's request for FY 2009 gave the SEC an increase of less than 1 percent over last year. But, the SEC will require a 5 percent increase just to sustain current staffing levels and provide cost-of-living and merit adjustments for staff. As a result, the previous Administration's request would have resulted in a cut of nearly 100 staff. The subcommittee's support for a 2009 appropriation of $943 million for the SEC will be enormously helpful as we work to reinvigorate and strengthen the agency in the wake of the last few difficult months.
However, I have learned since coming to the agency several weeks ago that this funding level would still require the agency to make significant cuts in its current operations. I do not believe it would be wise for the SEC to retrench during such perilous times in our markets.
For this reason, I have submitted a reprogramming request to the subcommittee to use $17 million in the SEC's unspent prior year funds in fiscal year 2009. These are monies appropriated to the agency and obligated in past years, so this is not a request for the subcommittee to find new funds for the agency.
The President is requesting a total of $1.026 billion for the agency in FY 2010, a 9 percent increase over the FY 2009 appropriation. This proposal demonstrates the Administration's firm resolve to strengthen oversight over our financial markets. It will fund an additional 50 staff for the SEC, enhance our ability to uncover and prosecute fraud, and begin to build desperately needed technology.
Specifically, we plan to add staff to the SEC's Enforcement program to focus on pursuing tips, complaints, and other leads, thus increasing the resources the SEC can dedicate to frauds that citizens bring to our attention. The Examination program would also receive new positions to expand its inspections of credit rating agencies, and to strengthen risk-based surveillance and examination oversight of investment advisers.
Finally, I plan to increase the number of staff in our Office of Risk Assessment specifically dedicated to deepening our understanding of risk, and incorporating risk assessment into all aspects of operations.
With the additional IT funds provided under the President's Budget for FY 2010, I plan to focus on several key projects:
First and foremost, we will use additional funds to enhance our systems for handling tips, complaints, and referrals. The SEC has a number of different processes to track this kind of information, but there is no central repository or system through which this information comes together to ensure it is handled consistently or appropriately.
The SEC also plans to use additional technology funding to improve our ability to identify emerging risks to investors. We have many internal data repositories that have resulted from filings, examinations, investigations, economic research, and other ongoing activities. But we need better tools to mine this data, link it together, and combine it with data sources from outside the Commission to determine which firms or practices deserve a closer look.
Finally, we aim to complete the multi-year efforts to improve the case and exam management tools available to our enforcement and examination programs. These systems will give our senior managers better information on the mix of cases, investigations, and examinations, so they can apply resources swiftly to the continually evolving set of issues and problems in the markets.
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