Staging “Macbeth” in Manhattan: enforcement in the aftermath of Libor and Standard Chartered
By Justin O’Brien, Thomson Reuters Accelus contributing author
LONDON/NEW YORK, Aug. 31 (Thomson Reuters Accelus) - Despite the lack of commentary from either the White House or federal executive agencies, the Standard Chartered investigation — and the manner in which it was handled — is certain to reignite the festering feud over how to regulate finance. Absent the physical bloodshed, the power struggle for control of banking regulation and how to change its culture finds remarkable parallels in Macbeth, the classic Shakespearean tale of political infighting. As with Banquo’s Ghost, the spectre of Eliot Spitzer and his battles with federal counterparts over the purpose of regulation looms large.
The conflict between state and federal authority has deep and complex roots. They trace back to the tenure of Spitzer as State Attorney General (SAG). How to resolve the conflicts were last, partially, adjudicated by the Supreme Court in 2009 in a case that owes its origins to Spitzer’s questionable use of executive authority (Cuomo v Clearing House Association L.L.C.). The Supreme Court then struck down attempts by the Office of the Comptroller of the Currency to preclude any state enforcement action against national banks. Simultaneously it upheld the federal agency’s sole “visitorial” or supervisory rights.
The ruling left unresolved three critical policy questions. First, would or could state-based authorities risk judicial questioning of whether the exercise of enforcement capacity provided by subpoena power amounted to a “fishing expedition” rather than a focused with cause investigation? As Justice Antonin Scalia warned in Clearing House, discovery limitations are designed to limit “unreasonable annoyance, expense, embarrassment, disadvantage, or other prejudice.”
Second, would the states limit resources to the prosecution of past violations of the law or seek to mould the substance of current and future corporate governance and risk management systems, a key innovation associated with Spitzer’s settlement strategies? Again, as Justice Scalia noted in the majority Supreme Court opinion, the state has authority as law enforcer, a formulation that limits capacity to effect regime change, which had famously underpinned Spitzer’s strategy in forcing the resignation of the chief executive at Marsh & MacLennan as a price of settlement in 2003.
Third, notwithstanding the position of New York as a global financial hub, would enforcement take into account the operations of international banks or the collateral consequences of attempting to hold them to account? The investigation and settlement with Standard Chartered provides partial answers to each. Its status as an international bank adds a further complication. From the perspective of the New York authorities, it did not fall within the precedent set by the Supreme Court in Clearing House. This provided an opportunity for New York to again question the policy settings of the Office of the Comptroller of the Currency. More fundamentally, it also re-opens a series of questions over authority, mandate, bureaucratic processes and use of discretion in financial services regulation at a time when the authority and legitimacy of the federal model have come under sustained criticism.
The publication of systemic anti-money laundering compliance failures at HSBC in a Senate report and its damning assessment of the OCC provided perfect cover for the fledgling New York Department of Financial Services, led by Governor Cuomo’s former chief of staff, Benjamin Lawsky. A lawyer with substantial experience prosecuting white-collar crime at state and federal level, Lawsky was appointed to the non-elected role of Superintendent of Financial Services to guide the department’s creation and steward its agenda, which, ostensibly, concentrated on consumer protection and reduction of the regulatory burden. The fact that its first major regulatory outcome is a reopening of the debate on how to embed restraint in global finance was as unexpected as it was inevitable given the failure of federal oversight.
In the Manhattan staging of the Scottish play, the hybrid roots of the DFS as a primarily consumer protection-based licensing rather than enforcement operation make it a perfect cast for the role of Malcolm, whose existence until the moment of execution was seen as unthreatening to Lord MacBeth and his allies. First raised in the 2011 State of the State Annual Address, the stated objective of merging the banking and insurance departments was to improve the efficiency and effectiveness of regulation.
A report issued to the governor as late as December 30, 2011, noted the importance of creating a modern unified structure governed by “regulators who are more accessible, flexible and responsive than their federal counterparts due to a greater understanding of their home markets.” There is a passing reference to the fact that “given its position as the world’s financial capital, it is essential that New York be among the leaders in creating modern, effective and balanced regulation.” There was no indication, however, that the new regulatory agency would seek oversight beyond the narrow confines of consumer protection.
It is precisely for this reason that the action taken against Standard Chartered caught both the policy and academic worlds as well as media so off guard. This included the advisors to Standard Chartered itself, which had voluntarily provided the information contained in a damning critique of its governance that summoned the bank to attend a meeting at which the Superintendent of Financial Services would determine whether or not to revoke its license to operate; the ultimate if rarely used from of industrial decapitation. As noted above, the publication of the Senate Sub-Committee on Investigations report into the OCC’s failure provided essential political cover for a strike that was executed with clinical precision.
Failure is not, however, limited to the Washington D.C-New York City corridor. A similar problem afflicts the nexus between practitioners and regulators within the City of London. The inability to curtail the manipulation of the London Interbank Offered Rate (Libor) has exposed similar failings. Crucially, it has opened a second line of attack from New York.
Following the Treasury Select Committee hearings in London, the State Attorney General issued subpoenas to the contributing banks with operations in New York to release non-public compliance information relating to the operation of Libor. Multiple interests are served by the leaking of the investigation. It can be used to infer internal jockeying for position within the state government, an agenda designed to raise concerns about New York’s re-emergent muscularity or force the banks under investigation to settle with the federal authorities. Since the initial leak, it has emerged that both Britain’s RBS and Italy’s UniCredit are now under investigation.
What is clear, however, is that the subpoena process has itself become a complex negotiation game. By deferring to court adjudication the New York attorney general risks accusations of frivolous if not capricious conduct. As noted above, a critical justification for the Supreme Court Clearing House compromise centered on judicial capacity to mediate mere “fishing exercises” by dismissing claims advanced without evidence. In so doing the Supreme Court placed the reputation of the SAG on the docket, curtailing what had been viewed as the extortionist impulses of Spitzer at the turn of the millennium.
The evidential base for just cause, however, has been strengthened by the investigation into the manipulation of Libor, which extends far beyond the territorial mandate of either state or federal government. The investigation saw Barclays admit to charges of manipulation and pledge ongoing cooperation. Crucially, unlike Standard Chartered, neither the implicated banks nor the federal regulators involved — in this case the Commodity and Futures Trading Commission and the Department of Justice — shared the information with the New York authorities.
Evidence aired at a parliamentary inquiry conducted in London by the Treasury Select Committee provides additional information to justify the launch of a formal investigation. It will be difficult for the banks involved to challenge the subpoena process giving New York once again the power to set the terms of settlement. The fate of Standard Chartered provides an indication that their interests (if not necessarily that of the public) may be served by submitting, immediately, to federal oversight.
It is far from clear, however, to what extent the muscularity is the first stage of an exercise to privilege substantive reform or a tired replaying of a derivative script? While the conflict has all of the ingredients of an epic Shakespearian play, it may also provide evidence of the classic Marxian political epigram that history repeats first time as tragedy, the second time as farce.
(This article was produced by the Compliance Complete service of Thomson Reuters Accelus. <a href=”http://accelus.thomsonreuters.com/solut ions/regulatory-intelligence/compliance- complete/” target=_new”>Compliance Complete</a> provides a single source for regulatory news, analysis, rules and developments, with global coverage of more than 230 regulators and exchanges.)
Professor Justin O’Brien is a specialist in the dynamics of financial regulation. He is the Director of the University of NSW’s Centre for Law, Markets and Regulation and an Australian Research Council Future Fellow.