The arrest of MMM President Sergei Mavrodi may have put an end to the MMM pyramid scheme, but it has left Russians and foreign observers pondering its implications for Russia's ability to develop and regulate its securities market. Among the Russians, opinion ranges from the outrage of MMM shareholders at the government's interference to the "I told you so" of those yearning for the days when ripping off workers was the prerogative of the state. Foreign observers see the MMM scam as part of the inevitable growing pains of emerging markets and caution against a backlash leading to over-regulation of the market.


But at least some of Russia's securities regulators see the MMM debacle as an opportunity to push forward with their agendas for ending the fragmentation among securities regulators and for fostering fair and orderly securities markets by developing self-regulation. Their agendas imply an interesting question. Russia already has both laws designed to deter swindlers and securities regulators to enforce them. So how did MMM get as far as it did?


Part of the problem is the sheer enormity and velocity in the growth of Russia's securities markets. Securities of public companies were virtually non-existent two years ago. Today, they consist of the shares of thousands of privatized companies and of 650 funds, as well as of hundreds of banks and other companies formed outside the privatization process.


Part of the problem is focus. Only 10 months ago, the executive branch and the legislature were shooting at each other. And in between political battles, Russia has grappled with hyperinflation and privatized half of its industry. Securities and the role of securities markets just did not make it anywhere near the top of the agenda.


Finally, part of the problem is the fragmentation of Russia's securities regulators. Four agencies -- the Ministry of Finance, the Central Bank, the privatization agency (which is known as GKI) and the State Anti-Monopoly Committee -- regulate Russia's securities markets. Their institutional biases and constituencies make them behave more like competitors than co-regulators.


Looking at the MMM scandal from the perspective of this background, and knowing that such scams are an inevitable part of any market's development, one might welcome the collapse of the pyramid with the satisfied words of the train dispatcher watching the 8:03 roll into the station: "Right on time." The scandal has elicited public statements from both Prime Minister Viktor Chernomyrdin and President Boris Yeltsin -- happily, to the effect that the Russian government has no intention of rescuing MMM shareholders. And it has caused the government to take another stab at addressing the regulatory fragmentation, appointming Acting Finance Minister Sergei Dubinin to head an inter-agency committee to get securities regulation in Russia back on track.


What should the Dubinin committee do? First, it must propose legislation that puts teeth into the enforcement of the securities laws. One of the legacies of the Soviet legal system is the nearly complete absence of tools like injunctions, administrative proceedings and private rights of action -- the tools that make the violation of Western securities laws a non-trivial pursuit.


Second, the committee must turn the CSE into a unified securities regulator with a professional staff. At the meeting during which the Dubinin committee was formed, First Deputy Prime Minister Oleg Soskovets reportedly blamed the MMM debacle on "splitting up responsibility for the securities markets into so many parts that it is impossible to put it back together."


Third, the Dubinin committee needs to foster the creation and licensing of self-regulatory organizations, or SROs. Here again, the groundwork has already been laid. The most active securities regulator of the last two years, GKI, has been quietly working with foreign consultants to create SROs for more than a year. An SRO for share registrars has been in place for some time. In addition, in mid-July -- just as the MMM pyramid began to crumble -- GKI and the CSE helped launch the Stock Market Participants' Professional Association, made up of 15 of the leading Russian brokerage firms. This brings to about a dozen the number of SROs across Russia.


The role that exchange trading played in fostering, and then in destroying, the MMM pyramid shows how self-regulation -- with the vigilant oversight of the CSE -- could have prevented Mavrodi from going big time. If the Russian Raw Materials and Commodities Exchange and the Central Russian Universal Exchange had been constituted as self-regulatory organizations with rules and listing standards subject to CSE review -- as is the case, for example, with the New York Stock Exchange -- then the trading of MMM shares would have been analyzed for its manipulative potential before the commencement of trading, rather than in the aftermath of a debacle.


Effective self-regulation will not come overnight. One of the key concepts of self-regulation is collective greed: Eventually, Russian brokers will figure out that they stand to make more money by fostering fair and orderly markets collectively than by trying to get rich off of scams like MMM. For those brokers who had proprietary positions in MMM shares when the bottom fell out, this lesson will be quicker in coming.


But for the others, the lesson will take a while to learn. On Aug. 8, the president of the Russian Commodities and Raw Materials Exchange is reported to have declared of the exchange's members, "I don't care if they sell pigs from [the exchange's facilities] or MMM shares." He should care. His successor will.





Richard P. Bernard is a partner with Milbank, Tweed, Hadley & McCloy in Moscow. A longer version of this article will appear in the "International Financial Law Review." He contributed this comment to The Moscow Times.