10/14/2010 06:37 pm ET | Updated May 25, 2011

Rattner's Case Just Another Chapter in a Frightening New Trend

Probably not the person the White House wanted to see in the news -- Steven Rattner, the individual once in charge of Obama's initiative to overhaul the auto industry, was reported to have agreed to a $5 million settlement and a partial ban on participating in the securities industry.

The story of Mr. Rattner is quite striking. Worth hundreds of millions of dollars, founder of the powerful Quandrangle Group and long-time industry insider, Mr. Rattner certainly had everything that one could have wished from a career in finance. Yet, these most recent charges are not the first time he has been caught pushing the boundaries of ethical behavior. After being promoted to the job of auto industry overseer, it was revealed that Rattner had been an investor in the hedge fund powerhouse Cerberus, which had significant stakes in Chrysler and GMAC.

At the same moment, the S.E.C. and New York State Attorney General Andrew Cuomo were investigating a case involving Rattner's alleged "pay to play" deals with the state's pension fund. Pension funds are massive organizations that require the services of highly skilled financial professionals in order to meet their annual goals. The boards that run the funds will often hire independent advisors to help management the fund's assets. Yet, the fairness of the selection process can be undermined in two ways, both of which are often referred to as "pay to play":

First, independent advisors looking to gain access to these funds may bribe the elected officials in order to skew the selection process. Second, these board members may require under-the-table contributions as a prerequisite for the advisors to work for the fund.

The recent rise in pay to play schemes has touched pension funds around the country, most famously CALPERS, the California behemoth that admitted to working closely with such insiders. They were forced to settle with prosecutors for a crippling $895 million in 2008 and recently announced that they were severing ties with a different private equity group, Pacific Corporate Group, after the group's recent settlement with Cuomo.

Things have not been pretty for the $125 billion New York pension fund, either. Alan G. Hevesi, the former state comptroller, pleaded guilty just last week for steering money to an organization that had contributed to his campaign. David Loglisci, the former chief investment officer, pleaded guilty last March on claims that he often conceded control of the fund to Mr. Hevesi's top political officers.

The problems for Mr. Rattner began in 2004 when, upon hearing that pay to play was common industry practice, he reached out to Mr. "Hank" Morris, Mr. Hevesi's top political advisor, and soon Quadrangle became the happy recipient of a cool $100 million from the pension fund. Afterwards, it was revealed that Rattner had been involved in the distribution of a film made by the brother of the fund's chief financial officer, a clear conflict of interest. When the movie allegations first arose, Rattner was accused and later acquitted following information supplied to prosecutors claiming that he was in no way involved in the movie's distribution. Soon after, however, information surfaced that contradicted these claims, and Rattner was brought back into court.

Yet, the consequences of this behavior are very marginal in the scheme of things. A $5 million fee for a man worth hundreds of millions is certainly not the message that the S.E.C. should be sending to others who engage in this elicit behavior. While securities fraud in the past has often been a game played with rich people's money, investment firms have been creating ever more elaborate schemes in the pursuit of squeezing profits out of the average individual (think the most recent mortgage crisis).

Playing with pension funds, however, is much more dangerous, and the recent rise in pay to play settlements should send a clear warning signal not only to the federal government, but to those putting their money in these organizations. The incentive for investment firms to enter the market is clear, as public pension plans alone hold approximately $2.9 trillion in assets. Yet, workers place their complete trust in these organizations to do what is right with their money. When pension funds are caught up in the scandals, it is not the embarrassment of the funds that should be making headline news, but rather the fact that they are playing with future security of millions of workers. Unlike the mortgage crisis, where many individuals bought outside their means and failed to read the fine print, pension funds become embroiled in conflict of interest scandals without ever consulting those from which they take money.