OPINION: For a brief period following the accounting and conflict-of-interest scandals of 2001-02 the financial services industry faced a formidable opponent in the form of Elliot Spitzer, the self-styled sheriff of Wall Street.
Threatening to prosecute to a conclusion morally strong but legally weak cases, Spitzer calculated, correctly, that these would not go to trial because of the acute reputational risk.
Following a spectacular fall from grace, Spitzer has now reinvented himself as a television anchor. The travails facing JPMorgan have proved an exceptionally useful pulpit to promote his blend of moral outrage, personal interest and structural reform.
He urged US President Barack Obama to exercise much more voice than restraint, including the firing of the Attorney-General if indictments were not brought by the end of the week. Spitzer also called for Jamie Dimon’s resignation from the board of the Federal Reserve Bank of New York. The intervention echoes calls for structural reform by Elizabeth Warren, the former chairwoman of the Congressional Oversight Panel.
Warren has called for the reinstatement of the Glass-Steagall Act, the repeal of which created the too-big-to-manage reality afflicting the banking sector and its regulation.
That the failure to manage risk has now demonstrably been shown to extend to JPMorgan raises profoundly disturbing questions.
Effective prudential regulation focuses on taking remedial action that prevents a major banking collapse, if necessary by progressively unwinding an exposed position and then ensuring that appropriate limits are put in place to prevent its reoccurrence. Such a strategy is anathema in market conduct terms.
Indeed, the potential violation of securities law focuses on whether a fraud on the market occurred during the unwinding precisely because JPMorgan had described the initial rumours of its excessive exposure as a “tempest in a teapot”.
The very fact the US Department of Justice has mounted an investigation signals a strengthening of regulatory muscle. As with Spitzer, its strategy is to seek settlement agreements.
These have been significantly stronger than the civil cases launched by the Securities and Exchange Commission. These have included requirements to exit specific sectors of the marketplace, the imposition of an external monitor to police and validate internal reform procedures, and a concomitant raising of the bar on what constitutes an effective risk management system.
This does not discharge its obligation to act as a model litigant; it does, however, demonstrate that the cost and effectiveness of settlement is a question of litigation skill and brazen capability.
Professor Justin O’Brien is director of the Centre for Law, Markets and Regulation at UNSW.
This opinion piece first appeared in the Australian Financial Review