The SEC Is Broken

The Securities and Exchange Commission has three primary mandates: to protect investors; to maintain fair, orderly and efficient markets; and to facilitate capital formation.

However, as the commission has demonstrated in recent years, especially since it took on the massive job of implementing the Dodd-Frank Wall Street Reform and Consumer Protection Act, it is a broken agency that is failing to do its job.

The reasons, as described by industry experts and former SEC officials, are varied, but they all revolve around politics—imposed from the outside by a Congress that is far more interested in the securities laws than it was a decade ago, but also by internal rules and traditions that keep the SEC from being an efficient regulator.

Personality and political clashes have always plagued the agency when trying to reach a consensus on rules. Thanks to the Bernie Madoff Ponzi scheme, the financial crisis and Congress’ reaction to the crisis with Dodd-Frank, lawmakers’ “far greater activism and deeper immersion” in matters that impact the agency has resulted in Congress now becoming a “major and continuous player” in SEC matters, said Steve Wallman, founder and CEO of Foliofn and a former SEC commissioner. Those developments, he said, directly impact the SEC’s agenda.

The SEC also continues to be stymied by a nearly 40-year-old law that prohibits a majority of the agency’s commissioners from collaborating on policy issues.

Unintended Consequences

That law, the Government in the Sunshine Act, took effect in 1976 and was part of a package of “well-intentioned” measures to shed more light on what’s taking place at government agencies, Wallman said. However, the law “does impede any kind of deliberative consensus making” among the SEC’s chair and the commissioners, said Wallman, who served as a commissioner from 1994 to 1997. The Sunshine Act “doesn’t allow for the formulation of rulemaking in a collaborative way,” Wallman said.

Why? Because under the Act, the SEC chairperson cannot “get all of the commissioners in a room together” to discuss rulemakings, added Bob Plaze, a partner with the law firm Stroock & Stroock & Lavan in Washington, who spent 30 years at the commission, including a stint as deputy director of the SEC’s Division of Investment Management. The Act states that three commissioners—a majority of the five-member commission—“can never get into a room together and talk business,” except to discuss an enforcement action, housekeeping or personnel issues.

Since the Sunshine Act passed, “commissioners have never been able to talk to each other and hammer out compromises [on rulemakings], except through staff,” Plaze said. “That really, really disables a regulatory agency from functioning to the optimal level.”

Wallman, who tried (unsuccessfully) during his time as a commissioner to have the Act amended, agreed that the inability of the chair and the four commissioners to discuss policy issues “contributes to bad rulemakings.” While the Sunshine Act is “generally a great statute and part of good government,” Wallman said, the Act should be updated to “work better than it does and to allow for more consultation within government.”

With the exception of single-administrator agencies like the U.S. Treasury and Justice Departments and the Environmental Protection Agency, for instance, all federal regulatory agencies like the SEC and the Commodity Futures Trading Commission are held to the Sunshine Act’s mandate that no more than two commissioners can meet to collaborate on policy decisions. The end result of this, however, in Wallman’s view, is “polarization and less thoughtful rulemakings.” The Act inhibits the agency’s ability to benefit from “a multi-headed commission.”

Plaze agreed that the SEC, where the commissioners are always equally constituted by Republicans and Democrats, with the chair traditionally coming from the party that holds the White House, would be better able to “achieve the objectives of the commission” if they were allowed to reach a consensus in “private” on regulatory matters.

Arthur Levitt

Arthur Levitt, who was the longest-serving SEC chairman, from 1993 to 2001, said that during his time at the commission, the Sunshine Act didn’t create what he views as significant problems because he was dealing with a “much less political and ideological” commission.

“It’s much more difficult running the agency today than when I was there,” Levitt told IA. “By and large during my years at the commission, the environment was collegial. We were a fairly close-knit group; it was almost a family environment. We tended to know what each other thought about a particular issue and our counsels worked together to iron out differences.”

However, since he left the SEC, Levitt said the commission has become more politicized and “commissioners tend to represent an ideology, rather than what may benefit investors or what may be good for the markets.” The commissioners “look upon every decision in terms of whether it coincides or clashes with their political ideology, whatever that might be.”

The growing trend over the years of appointing former Capitol Hill staff members to SEC commissioner posts has contributed to a politically charged agency. “The commission is made of up largely of former [Hill] staffers, rather than as in the past [when it consisted of] distinguished lawyers and accountants,” Levitt said. These commissioners “tend to carry with them the biases of the people they’ve worked for” on the Hill.

Congress Weighs In

Wallman said that it was difficult in the 1990s to get Congress involved in securities matters “even when the commission wanted them involved,” like with the National Securities Markets Improvement Act (NSMIA), “where congressional action was needed and eventually won; but it was an effort.” Since Enron, Sarbanes-Oxley and eventually Madoff, the financial crisis and the resulting Dodd-Frank Act, Congress exerted “greater involvement” in regulating Wall Street, and “the industry also became even more involved with Congress,” he said.

The “inevitable partisan perspectives in Congress have become more pervasive and more forceful. That has a significant impact on the SEC, its agenda and the way it works,” Wallman continued. However, Wallman maintains that the commissioners themselves have been “no more political or partisan” than they have been in the past. “I do not think it is [the commissioners] who have changed. I think the current group is an amazingly talented group and the commission is as good now as it has been.” Instead, Wallman said that what “has changed, very significantly, is the environment in which they are acting.”

Plaze agreed that the SEC has become a much more highly politicized agency over the past decade, which he said reflects the “larger disagreements” endemic to Washington.