SEC: Wrongdoers Will Have to Admit Crimes

The New York Times reports:

The Securities and Exchange Commission, in a fundamental policy shift, said Friday that it would no longer allow defendants to say they neither admit nor deny civil fraud or insider trading charges when, at the same time, they admit to or have been convicted of criminal violations.

The change is the first time that the S.E.C. has stepped back from its longstanding practice of allowing companies to settle fraud charges by paying a fine without admitting wrongdoing. The new policy will also apply to cases where a company or an individual enters an agreement with criminal authorities to defer prosecution or to not be prosecuted as part of a settlement.

Robert Khuzami, the director of enforcement at the S.E.C., said the agency would continue to use the “neither admit nor deny” settlement process when the agency alone reached a deal with a company in a case of civil securities law violations. Those types of cases make up a large majority of S.E.C. settlements.

The commission has been sharply criticized, in federal court and on Capitol Hill, for allowing companies to repeatedly settle fraud cases without admitting or denying the charges. Until last week, that policy had been applied even when a company acknowledged the same conduct to another government agency, often the Justice Department.

For example, the S.E.C. and the Justice Department announced on the same day last month that Wachovia bank would pay $148 million to settle charges that the bank reaped millions of dollars in profits by rigging bids in the municipal securities market, one of several such settlements announced last year by the two agencies.

In the Justice Department settlement, Wachovia said it “admits, acknowledges and accepts responsibility for” manipulating the bidding process in the sale of derivatives on tax-exempt bonds to institutional investors like cities, hospitals and pension plans over a six-year period ending in 2004.

But in fashioning a settlement based on the same facts with the S.E.C, Wachovia agreed to settle the charges “without admitting or denying the allegations.” Wachovia is now part of Wells Fargo.

Under the new policy, a civil settlement will cite the admission of conduct or conviction in the corresponding criminal case, Mr. Khuzami said. But the S.E.C.’s enforcement staff will have discretion whether to use relevant facts from the criminal case in its own court documents for the civil case.

Last year, the S.E.C. encountered the conflict between simultaneous admission and nonadmission of facts in three other cases involving bid-rigging by large Wall Street firms. S.E.C. officials declined to comment on whether additional cases could result from the Wall Street bid-rigging.

Mr. Khuzami said the policy change had been under consideration since last spring and had been discussed with commissioners “over the last several months.”

The S.E.C. has defended the practice of allowing companies to avoid admitting or denying charges, saying that by settling with companies, it saves the commission the far greater expense — and potential risk — of fighting them in court. The agency says it is usually able to get as much money from a settlement as it could win in a protracted legal case, with money being returned to investors more quickly.

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A basic reason that people break rules is that they believe they can get away with it. And you're more likely to think that you can cheat without consequence if you know that watchdogs won't bark, much less bite.

This observation doesn't just jive intuitively with our understanding of human nature, it also squares with lived reality. Fewer police means more crime. No drug testing in baseball means an epidemic of steroid use. Rare audits mean more tax cheating. And so on.

Wall Street, of course, is the mother of all case studies of how lax oversight leads to more cheating. Here, in the world of big money, the incentives for bad behavior are astronomically high -- especially given how huge fortunes can be made before the market imposes any punishments for cheating (a corrective that libertarians believe, wrongly, can deter most wrongdoing).

You'd think that this simple truth would be fresh in people's minds, with the U.S. still grappling with the aftermath of a financial crisis that was brought on, in part, by widespread cheating by banks, mortgage brokers, and various other players.

Apparently not.

This week Congress decided to give the Commodity Futures Trading Commission, a key Wall Street watchdog which polices the derivatives market, a third less money than the Obama Administration had requested.

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Top bankers have famously soured on President Obama because of his occasional criticisms of Wall Street -- despite the Administration's record of going easy on an arrogant financial elite who blew up the economy.

No banker has more frequently complained about being wrongly picked on than JP Morgan Chase CEO Jamie Dimon. JP Morgan emerged in a much better position than most banks and Dimon has suggested that his bank was one of the good guys and should not be lumped in with, say, Countrywide or AIG

“It’s never fair to punish everybody regardless of their behavior,” Dimon told the New Republic last year. “There are good banks and bad banks just like there are good politicians and bad politicians, and I’m not going to sit here and accept that somehow it’s OK.”

A year earlier, right after Obama took office, Dimon said something similar: "It's unfair to talk about us as one. . . . Not every company was responsible."

But, of course, JP Morgan was hardly a saint during the go-go years. According to a recent SEC settlement, it engaged in truly deplorable behavior around mortgage-backed securities. Specifically, in late June, the bank agreed to pay $154 million to settle charges by the SEC that it peddled a toxic derivatives product known as "Squared" to unwitting investors even as it knew the product -- designed by a hedge fund, Magnetar, who then bet against it -- would fail to perform.

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That is the finding of a big new study of the SEC just finished by the Boston Consulting Group.

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Gutting the SEC Will Mean More Fraud

There were no great surprises yesterday when SEC chair Mary Shapiro urged a House committee not to cut the SEC's budget. But there were plenty of shocking statistics.

Shapiro noted that GOP plans to roll back the SEC's funding to 2008 levels would mean cutting its $1.1 billion budget by $241 million and force the agency to lay off nearly a fourth of its staff. If that's not gutting a federal agency, I don't know what it is.  Read More