Securities and Exchange Commission

The U.S. Securities and Exchange Commission (SEC) is a government agency that regulates American stock exchanges and enforces federal securities laws. It was established by Congress under the Securities Exchange Act of 1934. Dishonest investment practices that led to the stock market crash of 1929 and the Great Depression (1929–41) that followed prompted Congress to establish both the SEC and a series of laws to regulate businesses and to hold them accountable to investors.

Stock market practices

The stock exchange is an organization that gives businesses the ability to find investors. A business offers to sell shares, or stocks, that represent an investment in its company. The company uses the investors' money to improve business. If the business is successful and grows, the stocks become worth more than they cost. Likewise, if many people show an interest in a stock, the price increases. In either situation, investors make money. Investors lose money, however, if a business performs poorly or is unable to attract interest in its stock.

In the early 1900s, the stock market and investment companies were unregulated. As a result, several dishonest practices for manipulating stock prices emerged. Prices of a stock could be driven up by a group of corporate officials and market operators by creating the illusion of great interest in a stock. By buying and selling lots of stock quickly at the same cost, other investors were misled by the apparent frenzy of activity. Prices rose, and the officials sold their stocks at inflated prices to make a profit. The stock would then plummet, leaving other investors with a loss.

Similarly, insider trading was a practice by which business executives used knowledge of corporate performance to position their own investments before making the information public. By doing so, they could sell before the stock prices dropped on bad news or buy before prices soared on good news. Another unregulated practice involved investing in the market on margin, which means using borrowed money. Buying on margin made the market unstable and was a great factor in the Great Depression.

Regulation

Before the economic catastrophe of the Great Depression, the federal government did little to regulate business. As a result of the nation's desperation, the government became involved in the national economy in unprecedented ways. Among the pieces of legislation passed for regulating business was the Securities and Exchange Act of 1934. It established the Securities and Exchange Commission as a regulatory organization with quasi-judicial powers.

All national securities exchanges, or stock markets, must adhere to policies established by the SEC. Dishonest market practices, such as those that led to the crash of 1929, are either prohibited or regulated. The SEC monitors activity to encourage corporations and investors to be honest. Penalties for fraudulent, manipulative, or dishonest dealings result in fines, imprisonment, or both. As a result of SEC regulations, public confidence in stock markets has allowed them to outlast periodic dips in the economy.