November 30, 2011
Tackling the power of the 1%--A Commentary by Jonathan Macey ’82
The following commentary was posted on Politico.com on November 30, 2011.
Tackling the power of the 1%
By Jonathan Macey ’82
This time it is the Wall Street bankers and not the Occupiers who are getting hit with pepper spray.
The spray comes straight from the laser printer in the chambers of a federal judge, Jed Rakoff, in New York. The victory that Rakoff gave to the Occupy Wall Street movement Monday came from the federal courthouse - not far from Zucotti Park, the lower Manhattan headquarters of OWS.
Rakoff is the leader of a new wave of judges who take the view that the litigation dance played by the SEC and Wall Street actually affects other people - like investors and home buyers and even the economy as a whole.
He refused to allow the usual chummy settlement between a government agency - the Securities and Exchange Commission - and a major bank - Citigroup. He instead created a new legal paradigm - in which the big banks and their purported government watchdogs must give the rest of us a look at the backroom machinations that have ruined the U.S. economy.
The SEC sued Citigroup earlier this year for fraud - alleging that the bank sold investors mortgage-bank securities that the bank knew would default, while claiming that the securities were safe and had been "rigorously selected by an independent investment adviser." Investors lost $700 million. The bank made a profit of $160 million by taking a short position in the very assets it foisted on clients, according to the SEC's complaint.
The SEC and Citi agreed to a business-as-usual settlement. The lawyers for the SEC and the bank, all old pros, agreed that Citi would pay a $285-million fine. As is typical, in the settlement agreement Citi agreed to go forth and do no more wrong. But, also following standard operating procedure, the SEC settled with Citi without the bank have to admit that it did anything wrong in the first place.
An experienced former securities litigator himself, Rakoff knows how these things are done between Wall Street and the SEC. The SEC doesn't like to litigate cases against big defendants. They pick on the little guys. The big guys, meanwhile, view lawsuits with the SEC - which in the pre-Rakoff era meant settling without admitting or denying guilt - merely a cost of doing business.
Attorneys in and out of the SEC encourage this view - because this sort of litigation is their business. The SEC likes it that way - because if it spent time actually litigating cases, they would have to reduce dramatically the number of cases they could bring. Then they wouldn't be able to report to Congress and the public every year that they had brought (and settled) a record number of cases and collected a record amount in fines.
Rakoff says that while the deal was a good one for Citigroup, "it is harder to discern from the limited information before the court what the S.E.C. is getting from this settlement other than a quick headline." But the SEC likes quick headlines - especially these days when its public image is so tarnished.
Rakoff asked at the settlement hearing whether the public interest required figuring out whether Citigroup actually was guilty. But he didn't get a direct answer.
So Rakoff decided that he could not approve a deal where the defendant was permitted to decline to acknowledge any wrong-doing. He said this "is neither reasonable, nor fair, nor adequate, nor in the public interest."
Rakoff was also clearly disturbed about Citi's remarkable status as a repeat "non-offender." He noted that the big bank was a "recidivist" - repeatedly entering into settlements with the SEC, in which the bank neither admitted nor denied guilt, and agreeing to court orders prohibiting it from violating securities laws in future.
The SEC routinely extracts these promises. But has not tried to enforce them in more than a decade. It continues instead to allow defendants to settle again and again - all without admitting that they did anything wrong.
Adopting the language of the Occupy Wall Street movement, Rakoff ruled that if judges do not have enough information on which to base their decisions, then the deployment of judicial power "serves no lawful or moral purpose and is simply an engine of oppression."
"In any case like this," Rakoff wrote, "that touches on the transparency of financial markets whose gyrations have so depressed our economy and debilitated our lives, there is an overriding public interest in knowing the truth."
Rakoff directed Citigroup and the SEC to "be ready to try this case" before him in July 16, 2012. If he sticks to his guns, maybe there will finally be a public airing of what went on inside Wall Street that caused the mortgage meltdown. We could finally get a glimpse into the backrooms of the economic collapse.
Until the SEC and the courts begin to take an interest in learning whether fraud was rampant on Wall Street then and is now, we will never know the extent to which Wall Street is to blame for the financial crisis.
Rakoff's decision is a watershed event for the capital markets. It is a significant victory for the ideals of the Occupy Wall Street Movement. And it just might be the first step on to restoring accountability to both Wall Street and the SEC.
Jonathan Macey is the Sam Harris professor of corporate law, corporate finance and securities law at Yale Law School. He is also a member of the Hoover Institution Task Force on Property Rights.