My recent column on High Frequency Trading talked about the President Clinton veto of a law that would have made it harder to initiate class action lawsuits and harder to prosecute individuals within corporations that effectively lied about their company’s financial condition. I was wrong about the year which I said was 2007. It was, in fact, the Private Securities Litigation Reform Act of 1995. When Congress overruled the President’s veto, it marked the start of a steady erosion of the Security Exchange Commission’s power, as well as that of the Justice Department and legal system in general, to resist the self-serving influence of corporate America and its accounting firm enablers. To his credit, Arthur Levitt the SEC Chairman at the time, made attempts to water down the bill to give corporations less power but was steamrolled by moneyed interests. His book is entitled, “Take on the Street ---What Wall Street and Corporate America Don’t Want You to Know.” The title alone sums up his sentiments at the time.
As for High Frequency Trading and what it may be costing all of us, the SEC was made aware of the potential problem in 2008 and began to collect the data they might need to do some analysis about three years later --- in 2011. It’s now 2014 and they are still clueless.
It gets worse. In last Sunday’s New York Times, Jesse Eisinger writes the story of the sole banking official who has been jailed for 30 months after participating in a cover-up of the sinking value of some bad mortgages. That’s it. No other people who played any part of the 2007-2008 financial crisis that cost Americans trillions of dollars in lost homes and retirement accounts have been convicted. None of the people who created the mortgages or sold them have gone to jail. Nor have any management “job creators” who raked in millions been forced to serve time. The story about our lone prisoner highlights the current ineffectiveness of the U.S. Department of Justice to tackle white collar crime. In part, that weakness can be traced back to the 1995 Litigation Reform Act that protected corporations and escaped the President’s veto.
So, does this mean that, as a country, we’re starting to look like Detroit? Anyone wanting to see what that might look like should read Charlie LeDuff’s new book on that city which, though totally non-fiction, reads like chapters of Cormac McCarthy’s novel, “The Road” --- the aftermath of social disintegration.
Into this quagmire, not surprisingly, step Warren Buffet and his partner, Charlie Munger. In a New York Times account by Andrew Ross Sorkin of this month’s “Woodstock for Capitalists” in Omaha, the Berkshire Hathaway founders addressed today’s weakness of corporate governance. But their antidote, coming from a company that has no corporate counsel or human resource department, is that employees act more responsibly when lawyers and human resource managers are not looking over their shoulders all day. When you’re forced to trust your managers, the theory goes, they will respond more responsibly and presumably do the right thing. The evidence suggests that at Berkshire Hathaway, with over 300,000 employees, the theory works.
The question is one of a trust-based system versus a compliance-based system --- and which one yields better results. Mr. Munger mentioned that some industries lend themselves more readily to the trust-based system. But the financial industry, he points out, has a long reputation for complexity and bad behavior … in a ”miasma of easy money.” Financial services should consider an experiment with the trust-based system because the compliance based approach isn't working. The caveat, however, is that the arm of the law should be unfettered and free to reach into the corporation to punish the specific individuals responsible for lying about their firm’s financial condition. That’s a form of stealing, after all.
Meanwhile, the rest of us are out here “alone with our money.” For our financial well-being, we’re stuck having to depend on a culture that, as a dinner guest recently pointed out, “has no real concern about sin anymore.” One arrow in our quiver that drives the industry nuts is the concept of index fund investments that generate comparatively little revenue into the machine. Until a true consumer protection maven like Elizabeth Warren gets elected president, that arrow may be our only alternative.