Finally, some good news on Wall Street accountability. A federal judge is rejecting the SEC's effort to let Citigroup's top executives off the hook for misleading their own shareholders about $40 billion in subprime debt.
If Citi executives did what the SEC says they did, then the company's top managers are guilty of both civil and criminal fraud. But regulators aren't even going after some of the executives, while letting others off with a penalty that amounts to a rounding error on their bonuses. The proposed settlement is a stunning and shameful declaration of deference to the nation's top financiers, a literal get-out-of-jail free card for bankers who not only wrecked the economy, but -- according to SEC allegations -- broke the law to do it.
In 2007, when investors all over the world were justifiably freaking out about subprime mortgages, Citi executives bragged about their relatively limited exposure to the crisis: Everything was going to be fine, because Citi had only $13 billion in subprime holdings! It was true -- Citi did have $13 billion in subprime mortgages. The trouble was, Citi also had about $40 billion more in subprime mortgage exposure included in mortgage-backed securities and other fancy financial instruments. And according to the SEC, top management at Citi knew about the extra $40 billion in subprime holdings (it's not like it got lost in the couch cushions), and went around parading the $13 billion figure anyway.
Lying to your shareholders about the most pressing business issue of the decade is one of the worst things a business executive can do. It's also a crime, one for which all of Citi's top officers can be implicated -- again, if the allegations are true -- thanks to the Sarbanes-Oxley Act, the landmark corporate reform law that Congress passed after the Enron and WorldCom scandals. That law required the top executives of every major corporation to personally sign-off on their company's accounting statements. If anything false is in there, or anything important is left out, then these managers are personally accountable, by law.
But after compiling their evidence, the SEC decided to let Citi's top brass off the hook. They aren't even pursuing a case against then-CEO Chuck Prince. The stiffest penalty is being handed out to then-Chief Financial Officer Gary Crittenden, who will pay a mere $100,000 to settle allegations that people can go to prison for. And worst of all, the SEC hasn't even recommended that prosecutors or the Justice Department pursue a criminal case against the Citi execs. Prosecutors do have the authority to go after frauds like this without the SEC's help, but in practice, that generally proves very difficult. Regulators are accustomed to going over bank balance sheets and reviewing corporate statements -- prosecutors aren't usually quite so specialized.
Fortunately, federal judge Ellen Segal Huvelle isn't quite convinced that the Citi settlement makes any sense. She's refusing to sign-off on the deal without further documentation -- an uncommon step in regulatory settlements. And, of course, the Citi settlement doesn't make any sense at all. Crittenden, for instance, took home $19.4 million in 2007 alone. The SEC's fine amounts to one-half of one percent of his income in the year he allegedly ripped off his own shareholders.
But the settlement actually gets worse. The SEC is also fining Citigroup itself $75 million. This fine is paid by Citi's shareholders. In many corporate abuses, shareholders should be punished -- if shareholders benefited from the scam, they should take the hit when the authorities show up. But this particular abuse was committed by Citi's executives against Citi's shareholders. The shareholders were lied to, and now the SEC wants shareholders to pay for being lied to.
This isn't the first time the SEC has done something this silly. When the agency went after Bank of America earlier this year for lying to its shareholders about billions of dollars in bailout bonuses, the SEC's strategy was to let the executives off the hook and fine shareholders for $33 million. It was crazy, and federal judge Jed Rakoff refused to approve the deal for months (Rakoff ultimately approved a revised settlement, but scolded the SEC for hurting shareholders instead of holding executives accountable).
When the SEC does get the right targets, it tends to go easy on them, at least, when the targets are major banks. After compiling a damning case against Goldman Sachs, the SEC let the firm go with a $550 million fine. Winning a court case would have sunk the company, but $550 million? As a regulator from another agency put it to me in conversation, "For Goldman, that's a Tuesday."
These types of decisions are political. Rank-and-file regulators build cases by digging through documents, but political appointees decide whether to settle with firms, and on what terms. During the savings and loan crisis, more than 1,100 bankers went to jail for fraud. But for some reason, the top brass at today's SEC seems to think that it's very important to bring these cases against companies, so long as the perpetrators get to walk away. Let's be clear. If the SEC actually believes in the charges it brought against Citi executives, it should be working with prosecutors to pursue a criminal case. In civil court, Judge Huvelle should be demanding much more substantive penalties than a rounding error on a bonus.
Laws and regulations are only as good as the regulators who enforce them. Sarbanes-Oxley was the government's entire response to Enron and WorldComm scandals -- if landmark corporate accountability laws simply do not apply to major banks, what hope is there for the Wall Street overhaul Congress just passed?