I have argued in a paper that the revolving door seems much less problematic than conventional wisdom would have it. And Ed DeHaan, Simi Kedia, and their co-authors have found that SEC lawyers who go through the door usually try to show off when at the agency by bringing and winning bigger cases.
But Congressman Stephen Lynch isn't so sure about that door, and has introduced the SEC Revolving Door Restriction Act of 2015 to put some brakes on it. His press release:
H.R. 1463, the SEC Revolving Door Restriction Act of 2015, amends the Securities Exchange Act of 1934 to prevent former employees of the SEC from seeking employment with companies against which they participated in enforcement actions in the preceding 18 months. H.R. 1463 defines enforcement action as court actions, administrative proceedings, or Commission opinions. Former employees must seek an ethics opinion from the SEC if they are interested in seeking employment within a year of their termination at the SEC with a company that was subject to an SEC enforcement action in which they participated.
I'm actually not too sure what this adds to the typical revolving door restriction. Federal prosecutors can never work on matters on which they worked while in government service. And they are barred from representing clients for at least one year. This lengthens that limitation to 18 months, but at the White House, it's already 2 years for lobbying.
The agency isn't too excited about this, as they have observed over at Jim Hamilton's World of Securities Regulation:
Delaying staffers’ employment in the private sector would affect a significant number of SEC employees, who have a long tradition of leaving government service to join the defense bar. At the 2015 SEC Speaks conference, when current and former agency staff members were asked by Chair Mary Jo White to stand, at least two thirds of the room took to their feet.
But it doesn't seem to add much to the regs already in place. Even POGO, the NGO that seems to be behind the introduction of the bill, acknowledges - indeed, it collects data on - previous ethics restrictions: "SEC regulations require former employees to file [ethics] statements if they intend to represent an employer or client before the agency within two years of their SEC employment." This even gives them the out of a waiver. But you can look over the text of the bill and let me know if you see anything more than a more specific ban of agency officials working on matters post-employment that they handled pre-termination.
One of the things you now have to do if you're a bank with over $50 billion in American assets is to file a resolution plan, or living will, with the authorities - this basically states how you are going to dispose of the company if it becomes insolvent. After passing all the big American banks through an annual set of stress tests, the regulators have turned their attention abroad:
In their review of the resolution plans from BNP Paribas, HSBC Holdings plc, and The Royal Bank of Scotland Group plc, the agencies noted some improvements from the original plans. However, the agencies have jointly identified specific shortcomings with the 2014 resolution plans that will need to be addressed in the 2015 submissions.
It's annoying enough to be told by some foreign regulator that you aren't sufficiently prepared for a disaster, given that you're home regulator is telling you that you are. But it must be especially annoying if you are a state-owned bank, which RBS is, to the tune of 66% of its outstanding shares. That's almost a foreign relations issue. And given that the resolution of international banks like these is one of the most difficult issues facing bank regulators - there has been a failed effort to create a framework going on since Lehman Brothers failed so chaotically - it must be grating to be told to revise the plan:
The agencies will require that the annual plans submitted by these three institutions on or before December 31, 2015, demonstrate that the firms are making significant progress to address all the shortcomings identified in the letters, and are taking actions to improve their resolvability under the U.S. bankruptcy code. These actions include:
- Amending the financial contracts entered into by U.S. affiliates to provide for a stay of certain early termination rights of external counterparties triggered by insolvency proceedings to the extent those rights are not addressed by the International Swaps and Derivatives Association 2014 Resolution Stay Protocol;
- Ensuring the continuity of shared services that support critical operations and core business lines throughout the resolution process; and
- Demonstrating operational capabilities for resolution preparedness, such as the ability to produce reliable information in a timely manner.
Those are actual requirements! The first one anyway. The other two could be goalposts that just get moved further away next time. Anyway, one question in the brave new world of international banking supervision is whether supervision is a tool that home banks are using for competitive advantage against foreign banks. It will be interesting to see whether this sort of charge is leveled at this sort of action.
The 31 banks subject to stress tests - to see how their positions would hold up if the economy hypothetically tanked - all passed, good news for them, and especially for Citi, which failed the last one, and vowed not to do so again. More here, featuring a picture of former law professor/current Fed board member Dan Tarullo, who supervised the test. And if you're thinking of investing in banks, the Times has a chart of the percentage of money-like assets in the banks' total assets mix. If you are risk averse, you want to invest in Deutsche Bank or Discover. But I think leverage is the most powerful force in the world, so hello, Goldman Sachs and Morgan Stanley!
I'll outsource the content to Matt Levine's new email, but you just don't see briefs filed by financial businesses against their regulators like the one Powhatan Capital filed against FERC, abetted by one of Philadelphia's good law firms.
There are sections headed "Dr. Chen’s Trades Were Not 'Wash-like' Or 'Wash-type' -- Whatever The Heck That Means," "The Staff’s Stubborn Reliance On The Unpublished, Non-Precedential Amanat Case Is Just Lame," and "Uttering the Phrase 'Enron' Or 'Death Star' Does Not Magically Transform The Staff’s Investigation." It's like an angry trader's dream of what a legal brief might look like ("This is America"!)
It's really quite amusing - check it out.
While defendants are gearing up to make arguments against the constitutionality of the SEC's increasing inclination to use its ALJs, rather than the courts, to serve as the venue for fraud cases, it looks like it has already flipped that way for foreign corrupt practices cases. Mike Koehler did the counting:
More recently, the SEC has been keen on resolving corporate FCPA enforcement actions in the absence of any judicial scrutiny. As highlighted in this 2013 SEC Year in Review post, a notable statistic from 2013 is that 50% of SEC corporate enforcement actions were not subjected to one ounce of judicial scrutiny either because the action was resolved via a NPA or through an administrative order. In 2014, as highlighted in this prior year in review post, of the 7 corporate enforcement actions from 2014, 6 enforcement actions (86%) were administrative actions. In other words, there was no judicial scrutiny of 86% of SEC FCPA enforcement actions from 2014.
It is interesting to note that the SEC has used administrative actions to resolve 9 corporate enforcement actions since 2013 and in none of these actions have there been related SEC enforcement actions against company employees.
Maybe we are seeing an agency decision to prefer administrative adjudication to, you know, adjudicative adjudication.
Peter Henning has a nice overview of recent claims made against the SEC's growing inclination to take fraud cases before its handful of agency-judges (ALJs), instead of to court. Why should that be okay?
From a policy perspective, there's reason to worry. I did some litigation before an administrative tribunal, and it's not that different from in court litigation, with the exception of evidence admissability and objections. But it could be really quite different. Hearsay is in theory fine, there's no requirement that you be able to present evidence in person, and the judge works for the agency that is suing you. It's fair to say that defendants get less process from an ALJ than they would from a federal judge.
But not that much less. ALJs are required to hold hearings, permit the introduction of rebuttal evidence, the statute that governs them makes what they do ("formal adjudication" in the verbiage of administrative law) pretty similar to a trial.
That matters for the equities, as does the almost absolute discretion that agencies have to prosecute in the way they see fit. The SEC can drop claims, send scoldy letters, use ALJs, take you to court, or refer you to the criminal lawyers at DOJ with the recommendation that imprisonment could be sought. Because we wouldn't want judges second guessing the decisions to, say, emphasize insider trading prosecutions over accounting fraud claims, we leave those policy calls to the agency.
Which then begs the question: why now with the constitutional case against the ALJ, a thing that has existed since the end of WWII?
Well, the SEC hasn't used its ALJs for high profile cases very often, at least until recently. But the claims against the turn to administrative tribunals aren't getting a lot of love, and I predict that will continue to happen. Judge Lewis Kaplan, who isn't afraid to savage a government case alleging financial wrongdoing, concluded that he didn't have the power to judge whether an ALJ proceeding violated due process or equal protection standards, given that other, similar cases had been brought in court. The SEC recently ignored a declaratory relief case filed by an S&P executive when it brought an administrative complaint against her.
Some well-heeled defendants may have been emboldened to bring these cases by the Free Enterprise Fund decision in the Supreme Court, which constrained the number levels of tenured officials that could separate the president from policymakers. But administrative adjudication is simply too resource intensive and carefully done to be rendered illegal because of its insulation. The alternative would be to replace ALJs with political hacks, and no one wants that. So I'm not predicting a lot of luck for the defendants in these cases.
The government’s response to the financial crisis was dramatic, enormous, and unprecedented, and nothing about it has been overseen by the courts. In our federal system, the courts are supposed to put the policies of presidents and congresses to the test of judicial review, to evaluate decisions by the executive to sanction individuals for wrongdoing, and to resolve disputes between private parties. But during and after the financial crisis, there has been almost none of that sort of judicial review of government, few sanctions on the private sector for conduct during the crisis, especially criminal ones, for the courts to scrutinize, and a private dispute process that, while increasingly active, has resulted in settlements, rather than trials or verdicts. This Article tells the story of the marginal role of courts in the financial crisis, evaluates the costs of that role, and provides suggestions to ensure a real, if not all-encompassing, judicial role during the next economic emergency.
Do give it a download, and let me know what you think. And thanks in advance for supporting us around here - we do like downloads!
Yesterday, MetLife filed a complaint in the DDC protesting its designation as systemically important, which carries with it increased capital requirements and possibly burdensome oversight by the Fed. Most systemically important financial institutions (or SIFIs), are banks, used to burdesome capital requirements and oversight by the Fed. An insurance company is used to neither, hence the umbrage from MetLife.
The lawyer is Eugene Scalia, so the complaint is naturally well-written and thoughtful. I'm withholding judgment on the various statutory arguments posed, and on which it appears MetLife believes to have its best shot - they posit things like only financial companies can be designated as SIFIs, and financial companies must do 85% of their financial business in the US under the language of the statute, and MetLife, with its foreign insurance operations, does not do so. That sort of statutory flyspecking doesn't usually work in financial regulation, but maybe this time it's different.
But two of the firm's longer shots are worth considering. First, there is an effort to require the FSOC to do a cost benefit analysis in its SIFI designations, which it has steadfastly resisted so far. MetLife argues that the committee arbitrarily "did not address MetLife’s evidence of substantial market and company-specific costs, and did not even opine on whether designating MetLife was, on balance, for good or for ill." It is by no means clear that these considerations must be taken into account from the statute, but there are those who believe that some sort of weighing is something that every agency must do. This sort of argument worked when the DC Circuit had fewer Obama appointees on it.
MetLife is also arguing that it has been deprived of due process by the designation. It was "repeatedly was denied access to the full record on which FSOC’s action was based,"and anyway, "FSOC never identified the thresholds that result in SIFI designation or the manner in which the various statutory and regulatory factors regarding designation are balanced against one another in FSOC’s analysis," not least because of "the extraordinary design in the Dodd-Frank Act of FSOC itself, which identifies individual companies for designation, establishes the standards that govern the designation decision, and then sits in judgment of its own recommendations."
MetLife is right about the way that FSOC works, although the so-called "combination of functions" problems, whereby agencies both prosecute and adjudicate regulatory violations, has never been a big problem in administrative law. It especially has never been a problem in banking regulation, where the deal is that banks give up due process rights - they can be failed at any moment by the FDIC, based on an only somewhat clearly articulated CAMELS standard - in exchange for cheap, federal insured funding by small depositors, and the possibility of a bailout if things get really bad. MetLife doesn't get the cheap funding, but it does, as its SIFI designation suggests, get the benefit of being too big to fail, and therefore the likely recipient of a bailout. Should the fact that insurers only get a part of the benefit of the bargain of being a financial institution mean that they should get more process rights than banks? in some ways, that is what MetLife's constitutional claim posits.
The Times reports:
The billionaire investor, who managed to fend off a criminal insider trading investigation of himself, if not of his former hedge fund, is looking for a former prosecutor and several agents from the Federal Bureau of Investigation to join his new $10 billion investment firm, Point72 Asset Management, said several people briefed on the matter, who spoke on the condition of anonymity.
Look, one of the reasons to feel good about the revolving door is that it salts financial institutions with people who expect law compliance. So maybe that explains this development, and we should celebrate Cohen's search for g-men. Or maybe it is, as the Times reports, that he was heartened by the insider trading ruling of the Second Circuit requiring the trader to know both that he was trading on inside information and that the information was obtained in exchange for a benefit, and just wants to grow the enterprise on a number of different fronts.
I'm not sure he should be too heartened by that ruling. It only may free one of his convicted lieutenants, and certainly wouldn't do anything about Matthew Martoma, who both paid for and traded on information provided by a pharma insider.
One dodgy thing that is being included in the currently debated spending bill is a substantive provision repealing a much-hated-by-banks law requiring them to do most of their derivatives trading though an entity that is not covered by deposit insurance. It's a rule that sounds pretty logical - why subsidize derivatives trading with deposit insurance, and isn't it risky to do otherwise? And why do we have to address this in a government budget bill anyway?
But it is also one of uncertain policy origins. Blanche Lincoln thought the swaps pushout rule would resonate with voters when she pushed it, and maybe community banks, which don't do a ton of this stuff, would like to make life hard for the big banks that do. Elizabeth Warren is incensed that it might be repealed, so maybe her constituents would be for it. But the Fed doesn't think it does bank safety much good.
Here's Dave Weigel on the politics, which look good for the banks (Warren's concerns aside, Democrats aren't whipping for the pushout rule reversal to be defeated). Here's DealBook on the sausage-making (the statutory language was drafted by Citigroup, which has always seemed like the most tone-deaf bank to me, rather than the most politically puissant).
My view is that financial regulation, which is just about protecting banks from themselves/macroeconomic shocks, with a soupcon of rent-seeking, is a mixture of easy rules and hard ones. Activity restrictions, like the Volcker Rule, or anti-branching laws, are easy. Capital rules, at least the current ones, are hard, and require a team of examiners to look over the daily positions of the banks, and so on. Admati's capital rule recommendation - banks must hold 4 times more capital than they do now, and there will be no risk-weighting - is an effort to make that easy again.
And organizational rules - create a bank holding company, make this sub do this thing, and that sub do that thing - are also easy.
Note that currently, it's the left and community banks that like the easy rules, and it's the right and the big banks that prefer to do things the hard, sophisticated way. That doesn't mean that complex rules are weak ones - I can't judge the onerousness of our tax laws, but some of them are super-complicated responses to super-sophisticated behavior, and maybe that makes more sense than giving up and charging everyone a VAT. But that's the way I see financial regulation right now.
And yes, I don't know why part of Dodd-Frank should be repealed as a condition of passing a spending bill. But I admire the ability of the lobbyists to get in there and at it.
One last thing - it's risky to be the bank named as the drafter of a bill taking away some of your regulator's regulatory powers. We'll have to see if Citi starts paying a extra-large number of fines in the next year, or if it really did do this with the tacit approval of its supervisors.
The Basel committee enforces through peer pressure, rather than through resort to a formal dispute settlement process, and the peer pressure is increasingly institutionalized through IMF-like reviews of the implementation of Basel commitments. The US just had its review, and Basel just released the report.
The big problem with the US embrace of global rules has come through its treatment of securitizations. Perhaps most notably:
a number of divergences were identified that for some US core banks lead to materially lower securitisation RWA [risk-weighted assets, the stuff against which you have to hold capital] outcomes than the Basel standard. These differences are mainly related to the prohibition on the use of ratings in the US rules. Pursuant to the Dodd-Frank Act, the US rules cannot include provisions related to the Basel framework’s Ratings-Based Approach (RBA) for securitisations, so the rules provide alternative treatments.
The US is not Basel compliant because its regulators are explicitly not permitted to use a tool - credit ratings - that Basel requires. It looks like the committee may fix this not by forcing credit ratings down America's throat, but by coming up with some equivalence standard, which tells you that when Congress speaks clearly, global regulatory harmonizers must listen. Another admission of note:
In carrying out this review, the Committee's assessment team held discussions with senior officials and technical staff of the Federal Reserve Board, the Office of the Comptroller of the Currency, and the Federal Deposit Insurance Corporation. The team also met with a select group of US banks.
This meet with regulated industry thing is one of the features of peer regulatory review, and it presumably gives industry yet another opportunity to make a case for its preferred version of regulation. But then, it is also a feature of international regulation, where the cross-border parties may sometimes also play roles as representatives of the domestically regulated.
This not at all silly list reveals the following:
- #1 William Dudley – President and CEO, Federal Reserve Bank of New York
Category: Government and Regulatory
- #1 Preet Bharara – US Attorney, Southern District of New York
Category: Government and Regulatory
- #3 Sophie Delaunay – Executive Director, Doctors Without Borders
Category: Non-Governmental Organization
- #4 Anonymous Whistleblower – Whistleblower, Securities and Exchange Commission
Category: Whistleblowing and Media
- #5 Glenn Murphy – CEO and Chairman, Gap Inc.
Category: Business Leadership
- #6 Eric Holder – Attorney General (outgoing), United States Government
Category: Government and Regulatory
- #7 José Ugaz – Chair, Transparency International
Category: Non-Governmental Organization
- #8 Pope Francis – Pope, Catholic Church
Category: Thought Leadership
- #9 Ma Jun – Director, Institute of Public and Environmental Affairs (IPE)
Category: Design and Sustainability
- #10 Larry Merlo – President and CEO, CVS Health
Category: Business Leadership
- #11 Carmen Segarra – Former Regulator, Federal Reserve Bank of New York
Category: Whistleblowers and Media
Dudley is the regulator who has called for bankers to act more ethically. I guess Bharara stands for the proposition that insider trading is the most unethical kind of business conduct, to the exclusion of all other such forms. Anonymous Whistleblower at 4! It proves you can make lots of money by being ethical! And Carmen Segarra, the Fed examiner, rounding out the top 11 - it suggests that business ethics are in question, finance would appear not to be the answer. Via.
We write about the revolving door here, and elsewhere, and we're not as worried about it as some. So what to make of Goldman's hiring of Fed bank supervisors? The critical problem here is that one hire may have brought (or obtained) Fed information to his new job at Goldman. Since the bank supervisor relationship is supposed to be pretty confidential - why would a bank let you examine their books if you're going to talk about their positions to their competitors? - this is a big deal. And also because of the ethics rules that generally require you to stay off of matters you worked on in the government.
Here's what happened:
Rohit Bansal, the 29-year-old former New York Fed regulator, was one such hire. At the time he left the Fed, Mr. Bansal was the “central point of contact” for certain banks.
Seizing upon Mr. Bansal’s expertise, Goldman assigned him to the part of the investment bank that advises other financial institutions based in the United States. That assignment presented Mr. Bansal with an ethical quandary: He might have to advise some of the same banks he once regulated.
Before starting at Goldman, Mr. Bansal sought to clarify whether New York Fed policy prevented him from helping those banks, according to a person briefed on the matter. Initially, he presented Goldman with a notice from the New York Fed, which indicated that he might have to steer clear of certain assignments for one client, the midsize bank in New York. (While the person briefed on the matter provided the name of the bank, The Times decided to withhold the name because the bank was not aware of the leak at the time.)
The New York Fed’s guidance was apparently somewhat ambiguous. And Mr. Bansal later assured Goldman colleagues that he could work behind the scenes for that banking client, the person briefed on the matter said, so long as he did not interact with the bank’s employees.
Mr. Bansal’s lawyer, Sean Casey at Kobre & Kim, declined to comment.
And then Goldman found him using some data that had to come from the Fed. Some thoughts:
- Our former supervisor has himself a very fancy lawyer
- When enforcement officials go through the revolving door, there's little reason to believe they have been encouraged to go easy on the industry they plan to join. Why not keep that guy where he is, and hire away the tormentor? Bank supervision, which is more collaborative, could be different.
- But note that what former bureaucrats are selling is, partly, expertise - particularly, the expertise about what current bureaucrats will do. The question is whether there is anything wrong with paying for this sort of expertise.
Which means a redo of the argument. We'll outsource, via Corporate Counsel, to Cooley:
The D.C. Circuit court of Appeals has granted the petitions of the SEC and Amnesty International for panel rehearing (and the motion of Amnesty to file a supplemental brief) in connection with the conflict minerals case,National Association of Manufacturers, Inc. v. SEC. (The Court also ordered that the petitions filed for rehearing en banc be deferred pending disposition of the petitions for panel rehearing.)
[In prior litigation, the D.C. Circuit,] "specifically citing the NAM conflict minerals case, ... indicated that “[t]o the extent that other cases in this circuit may be read as holding to the contrary and limiting Zauderer to cases in which the government points to an interest in correcting deception, we now overrule them.”
Zauderer applies a lenient standard of review to requirements of disclosure of purely factual information. Looks good for the SEC.
Over at DealBook, I've got a take on MetLife's claim that it will be suing over its designation as a systemically important financial institution. A taste:
Congress gave the government 10 factors to take into account when making a too-big-to-fail designation. This sort of multiple-factor test all but requires regulators to balance values that have different degrees of quantifiability. Some can be counted, like the amount of leverage and off-balance sheet exposure. But others like “the nature, scope, size, scale, concentration, interconnectedness and mix of the activities of the company” have so many moving parts, some of them difficult to quantify, that expressing them mathematically may not be worth the effort. The government has also been given the leeway to consider “any other risk-related factors” that it deems appropriate, a standard that encourages judges to defer to regulators.
Do give it a look!