"The decision of the New York Stock Exchange to take no action against its various members who were involved in the Whitney episode does not necessarily indicate that the ideal of self-regulation is impossible. It does, however, suggest that the kind of limitation under which even the ablest and most upright management presently functions, as respects self-policing. It also suggest that the appropriate balance, by statute or otherwise, between stock exchanges and the federal government, has not yet been attained. It will not be attained until the rules are applied to the little fellow and the big shot alike."
The New York Stock Exchange had been in trouble during the 1930s, but how much depended on one's perspective. "Commission brokers" who served the public badly needed new customers and more volume. Specialists and floor traders, on the other hand, were content to trade with each other inside the club. The governance of the NYSE still served the club rather than the public. In the mid-1930s, although they owned half the seats on the exchange, specialists and floor traders occupied two-thirds of the seats around the board of governors table.24
Perhaps the most contentious issues during the legislative process had been the fact that NYSE professionals simultaneously filled two seemingly contradictory roles. As brokers, they facilitated transactions for third parties; as dealers, they bought and sold for their own accounts. This "broker-dealer" function permeated the entire industry from the commission houses down to the floor. Outlawing it would have transformed not only the NYSE but also the entire industry. Nevertheless, early legislative drafts had threatened to do away with these dual roles. Section 11 of the 1934 Securities Exchange Act gave the SEC the authority to divide or "segregate" these functions. But the SEC first proceeded with caution.25
In fall 1937, SEC Chairman William O. Douglas began pressuring the NYSE for governance changes. A group led by commission brokers worked closely with Douglas, convinced that real reform was the only way to move the becalmed exchange ahead. This pressure—plus the fact that Richard Whitney was inexplicably preoccupied—spurred the NYSE to convene the Conway Committee, led by William McChesney Martin, a young broker. In March 1938, just hours after Richard Whitney was expelled for embezzling exchange funds, the NYSE passed a new constitution drafted by Martin.
Overnight, the NYSE was transformed from what Robert Sobel described as a parliamentary system dominated by the floor, into a more presidential system characterized by a smaller board of governors, a professional staff, and a full-time paid executive—Martin himself. In fall 1938, Douglas again used the lever of segregation to pry out of the exchange a reform program, including better audits, new capital requirements, and indebtedness rules.26
(24.) Robert Sobel, N.Y.S.E.: A History of the New York Stock Exchange, 1935-1975 (New York, 1975), 8, 16-18.
(25.) Sobel, N.Y.S.E., 21-24.
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