“Rakoff has a reputation for being something of a maverick; it would be different if someone who was viewed as much more conservative or more mainline did this,” said one attorney who has closely followed the judge’s career. “It’s hard to predict what kind of impact it will have, but it will certainly force other judges to think about what Judge Rakoff did.”
The judge’s primary objection to the SEC’s settlement with Citi was that the agreement was predicated on the bank neither admitting nor denying wrongdoing in costing their shareholders $700 million due to the company’s shaky bets on mortgage-backed securities. From the agency’s perspective, the language is necessary since it helps shield the company from future litigation. In return, the company agrees to pay a higher fine upfront. If the bank were forced to admit wrongdoing, it would have less incentive to settle, which would raise the prospect of squaring off against the SEC in court. But from the SEC’s perspective, the agency would be out-gunned at a trial against a major financial institution, and it would mean having less resource to police more instances of wrongdoing.
“This doesn’t seem like a sustainable equilibrium, where we are going to send these financial companies into litigation and we are going to bankrupt a certain percentage of them,” said Professor Pritchard. “Presumably, the Federal Reserve and the banking regulators would consider that to be an adverse development. You start bankrupting financial institutions to send them a message, that is going to be a very costly message.”
Even those who agreed with the message from the judge have been less than sanguine that the decision could at last sever the too-close-for-comfort links between the banks and those who are supposed to regulate them.
“This is not precedent setting. This is judge who is on a bit of a crusade,” said William Cohan, author of House of Cards: A Tale of Hubris and Wretched Excess on Wall Street. “I admire him for it, but it’s not changing anything in the long run. People on Wall Street aren’t looking at this. Their legal departments may be, but for them it’s just the cost of doing business.”
But at the very least, the fact that a sitting judge essentially told the SEC that it is derelict in the most central aspect of its job must be a little embarrassing, right?
“I don’t know if they are capable of embarrassment down there,” he said.
The hope, though, is that after being publicly admonished, the SEC will begin to concentrate its resources on bringing meaningful enforcement action, or at the very least cease claiming that it is incapable of doing the job it has been tasked with.
“One thing they can’t hide behind is a lack of manpower,” said Mr. Spitzer. “They have thousands of lawyers. They have more resources than anybody needs. We are now at a point where it would be very refreshing to have the chief of enforcement down at the SEC say that they will never accept ‘neither admit nor deny’ unless, say, the financial firms agree to free the top five people who were involved with the department that oversaw the wrongdoing.”
SEC insiders say that the agency is bracing for more judges following Mr. Rakoff’s approach. And now they have the added bonus of facing a long trial against the high-priced lawyers from Citi, something they had hoped to avoid.
“They feel tremendously embattled. They are getting attacked on all sides,” said one former high-ranking agency official. “They believe that they are the law-enforcement agency here and that this judge and other judges should give them the deference to decide what the enforcement should be.”
But now that one judge has stepped out and said that the judiciary should not be a rubber stamp, such deference is unlikely in the future as other judges will have to weigh their own decisions against Judge Rakoff’s.
“The SEC’s current pattern is like if they caught John Dillinger walking into a bank with a sawed-off shotgun and giving him a ticket for double parking,” said Professor Coffee, Mr. Rakoff’s teaching partner. “I don’t think the SEC would have dared settle this way if they had known that they were going to get Rakoff as the judge. He’s a prosecutor. You admit guilt, you do jail time. I think he feels that’s the way it should be.”
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