Dream of SEC Overhaul Fades Along With Crisis

Though it promised radical reforms, the Securities and Exchange Commission has failed to deliver
Wall Street Journal
MAY 7, 2009, 11:19 A.M. ET
Give the financial crisis credit for at least one good thing: it exposed the Securities and Exchange Commission.
From systemic risk to Bernie Madoff, the failure of the SEC is now an accepted truth on Wall Street. The commission not only whiffed on its duty to protect investors, it allowed the speculation-addicted culture of Wall Street to put the nation and its taxpayers at risk.
The SEC's failings were made so plain that almost everyone -- including its former chairman, Christopher Cox, and his successor, Mary Schapiro -- seemed resigned to radical reforms that would either eliminate the SEC, or more likely, make it an arm of a stronger institution such as the Federal Reserve or Treasury Department.
But now that the worst of the crisis appears to have passed, Americans are feeling less angry and more optimistic about their investments. Barring another collapse that sends banks tumbling, unemployment skyrocketing and 401(k) values even lower, the window for reform is closing fast.
As a result, the drumbeat for change at the SEC is growing fainter. The House Financial Services Committee is more occupied with credit card rates, Internet gambling and executive compensation than with remaking Wall Street's rules. Once promised radical structural changes, we are instead getting the kind of reform normally enacted by career bureaucrats such as Ms. Schapiro: None.
Lots of Talk, Little Action
President Obama's choice to lead the SEC has talked tough, but she has offered little in the way of substantial change. There is no overhaul of the commission's enforcement arm. There are no unconventional hires. Group-think and adherence to busywork is still the standard operating procedure, judging by the lack of new voices and new approaches employed by the commission.
Instead, Ms. Schapiro has embraced meetings in place of reform.
It's easy to see why she's chosen this route. Meetings make the people who call them seem important, but most of all, they create the illusion that action is being taken when nothing is happening at all.
The commission illustrated that point perfectly Tuesday when it hosted a roundtable on short-selling. No fewer than 18 experts were called to testify and discuss the controversial practice, but in the end, officials merely said they would take the experts' opinions into consideration. It's now been eight months since short-sellers allegedly drove down financial stocks; so far, no enduring market policy has emerged to ensure such a slide does not happen again.
In testimony, Ms. Schapiro has said that addressing short-selling is "a priority." She has also said she wants engage in "a deliberate and thoughtful process" of regulation. In reality, the SEC has wasted another day on a nonissue. Short-selling is not the problem, rumor-mongering is. And no one, certainly not the SEC, can stop gossip on the Street.
A Shift in Leadership
Ms. Schapiro's inaction underscores how the SEC's leadership has driven its descent into obsolescence.
The earliest commission chairmen were not former scions of Wall Street. Joseph Kennedy was the commission's first chairman, and though he had questionable business dealings, he was not a major player on Wall Street.
Mr. Kennedy got help from -- or was reined in by, depending on your view -- James Landis, a law professor, and Ferdinand Pecora, who prosecuted Wall Street fraud in the wake of the 1929 crash. Mr. Kennedy was succeeded by Mr. Landis, who was succeeded by William Douglas, a Yale Law School professor.
So began a loose tradition of appointing semi-outsiders with working knowledge of Wall Street. For a while, these appointees also shared another common trait: A willingness to prosecute the industry's biggest operators.
That tradition, however, died out with the appointments of William Donaldson, a former Wall Street CEO with deep ties to the industry, and Christopher Cox, a former White House counsel with a laissez-faire philosophy of enforcement. Not since Michael Milken in 1990 has a top brokerage executive been successfully prosecuted for wrongdoing.
Even the SEC's successes in recent decades reflect poorly on its ability to police Wall Street. This week the commission charged a hedge fund manager, a bond salesman and an investment banker for insider trading. Though commendable, these kinds of enforcement actions underscore the SEC's inability to hold top executives responsible for wrongdoing.
Just ask Harry Markopolos, the whistleblower who waged a decade-long, ultimately unsuccessful battle to persuade the SEC to prosecute Mr. Madoff. The commission was clearly reluctant to pester an established Wall Street force. However, the SEC also showed itself to be shockingly incompetent.
Consider Linda Chatman Thomsen's response to a recent congressional inquiry on the Madoff case. Ms. Thomsen, the SEC's enforcement director from 2005 to 2009, was asked why the SEC didn't respond to Mr. Markopolos' mountain of evidence against Mr. Madoff.
"If we knew that it was provable fraud, it (investigating) would be easy," she said. The statement suggests the SEC might have been skeptical had Mr. Madoff been brought to them wearing a ski mask, holding a gun and toting a sack of cash marked "client assets."
This is what we can expect when a regulatory body has become too enmeshed with the industry it monitors, according to John Kenneth Galbraith, the late economist.
"Regulatory bodies, like the people who guide them have a marked life cycle," Galbraith wrote. "In their youth they are vigorous, aggressive, evangelistic and even intolerant. Later they mellow, and in old age – in a matter of 10 or 15 years – they become, with some exceptions either an arm of the industry they are regulating or senile."
By his thesis, the commission is about 60 years past its expiration date. But when it comes to usefulness, the SEC is beyond spoiled. It's rancid.