In the years after the financial crisis nearly toppled the U.S. economy, few government officials were successful in holding Wall Street accountable.
That is changing.
The reckoning for Wall Street’s sins, while still in the early phases, may finally be at hand. And some analysts and officials point to three figures in New York and Washington who have been at the forefront of the effort: a prosecutor, a judge and a regulator.
There is no formal collaboration among the three — U.S. Attorney Preet Bharara in Manhattan, U.S. District Judge Jed S. Rakoff and Securities and Exchange Commission Chairman Mary Jo White. But their collective efforts have helped usher in a more aggressive era in prosecution and, some analysts say, may have even helped lay the legal groundwork for many of the government’s probes against megabanks such as JPMorgan Chase.
That firm, saddled with several federal investigations at once, is now trying to pay a record fine of at least $11 billion to settle most of its legal troubles with the Justice Department.
Ties exists among the three officials. They were all prosecutors originally. Two of them worked together in their previous jobs. And in interviews they speak highly of one another. Even Rakoff, who has routinely clashed with the SEC, holds White in high regard.
The three officials also have something else in common: They want companies to admit they did wrong.
Rakoff, 69, has used the bench to pressure federal agencies to extract such admissions. And through a broad interpretation of a federal statute, he helped enhance the powers of prosecutors by giving them more time to go after financial-era crimes, allowing them to impose bigger penalties and expanding whom they could subpoena.
Bharara, 44, has used Rakoff’s rulings to forge ahead with a major case against Bank of America for allegedly selling mortgage securities to investors that the firm knew were worthless. He also successfully prosecuted Deutsche Bank for a similar case of mortgage fraud and Bank of New York Mellon for overcharging clients for currency trading.
White, 66, who hired Bharara when she ran the Southern District office, is largely untested with only six months on the job at the SEC. But she has also vowed that her agency will extract admissions of wrongdoing from companies.
Financial industry officials and analysts say there is a downside to the government’s growing aggressiveness. An overreach in litigation could backfire and drive firms out of certain lines of business or disrupt the fragile economic recovery. It could also embroil the government in endless litigation.
“There’s a real danger here,” said Peter J. Wallison, a senior fellow at the American Enterprise Institute, a conservative think tank. “Every time a bank gets sued, it devotes a huge amount of time defending itself, instead of spending time on things it normally does to improve economic growth.”
The government, he said, is giving into public pressure to go after “what people believe were illegal actions,” but in most cases were simply bad business judgments.
Some consumer advocates note that despite the growing number of cases against Wall Street firms, it is unlikely that senior executives will face jail time or lifetime bans from financial activities. Others wonder whether the three officials will be able to sustain this pace.
Of course, Bharara, Rakoff and White are not alone in their pursuit of Wall Street crimes. Scores of other federal prosecutors, regulators and state attorneys general have spent years gathering evidence of malfeasance that is producing new cases.
But the three officials “are in the vanguard,” said Dennis Kelleher, chief executive of Better Markets, which advocates for financial reform. “The question is, is this going to be a passing fancy? Or are they going to begin a pattern that changes the way Wall Street does business?”
A major moment in Washington’s pursuit of financial-era crimes came last month in a case that Bharara had put before Rakoff.
In his mortgage fraud case against Bank of America, Bharara asked Rakoff whether he could apply a powerful 1980s-era law known as the Financial Institutions Reform, Recovery and Enforcement Act, commonly called FIRREA. The law has a low burden of proof, strong subpoena power and a 10-year statute of limitations, twice as long as the usual limit for financial fraud cases.
Rakoff said yes. The ruling allowed the case to move ahead against Bank of America, which is accused of selling Fannie Mae and Freddie Mac billions of dollars of toxic mortgages. The trial began this week.
It also gave more time to prosecutors, who were facing a five-year statute of limitations this year in a number of investigations.
The decision followed a similar ruling in April by federal judge Lewis Kaplan, who approved the government’s use of FIRREA to pursue the currency trading case against BNY Mellon.
Prosecutors in the Southern District of New York have in the past two years used FIRREA as the basis of lawsuits against Wells Fargo, BNY Mellon and Bank of America.
“The prosecutor’s role is to use every tool to hold individuals or institutions accountable,” Bharara said in an interview. “If there are victims, then you can get money back for them when possible. If there’s property or assets to be seized, they must be seized.”
The implications of the broad interpretation of the law were not lost on Wall Street. Banking attorneys said their clients are aware that the legal overhang from the financial crisis may now take even longer to end. And once those cases have run their course, the potential litigation that could derive from the savings-and-loan-era law may be substantial, said John F. Savarese, a partner at Wachtell, Lipton, Rosen & Katz.
“It’s too soon to tell what the larger impact will be, but in the near term, what you can see is this tsunami of litigation and investigations hitting the American banking system and driving up costs,” he said.
Tougher enforcement, however, could encourage banks to invest more in the development of better compliance and risk management systems, Savarese said.
“Among my clients,” he said, “I see a massive effort to reinforce the message of being super careful of what you market, design and sell. And that’s a good thing.”
H. Rodgin Cohen, a partner at Sullivan & Cromwell, said the government is considerably more aggressive than when FIRREA was first enacted.
“Enforcement activity is coming with more frequency, and the penalties being demanded are exponentially greater,” said Cohen, who represents some of the nation’s largest banks.
These days, he added, multiple agencies are filing cases against banks for the same violation, a practice that has dragged out litigation.
Consider JPMorgan, which is being investigated by nearly a dozen state, federal and international authorities for its $6.2 billion trading blunder, known as the London Whale. Since disclosing the trading losses last year, the legal headaches for the bank have mushroomed, with probes launched into a wide range of business practices.
That, in turn, has prompted the bank to negotiate the deal with the Justice Department to hand over at least $11 billion to settle several cases at once.
The London Whale case was notable because the SEC got JPMorgan to admit wrongdoing last week in its handling of the trading losses, a reflection of White’s demand that companies admit wrongdoing in certain civil settlements.
The new policy at the SEC is a departure from a long-standing practice at the agency. Before White came on board, Rakoff twice threatened to derail SEC settlements with banks because they neither admitted nor denied the government’s allegations.
“There has been a public hunger for ascertaining whether this unbelievable crisis is something that happened by accident or was the result of serious misjudgment or fraudulent actions,” Rakoff said in an interview. “There is a public interest in having the truth come out.”
White said her decision to press firms for admissions stemmed from her days as U.S. attorney.
“Public accountability is very important in enforcement, particularly if there is egregious misconduct,” White said in an interview. “We don’t want to lose the benefits of no admit, no deny settlements, but will push for admission where warranted.”
Getting firms to admit wrongdoing can be tricky. A statement acknowledging fault could open a company up to a flood of civil lawsuits. Companies may push for the case to go to trial rather than concede wrongdoing.
White said that’s fine with her. “The world needs to know that we will go to trial,” she said. “Being prepared to take a case to trial, when there is credible evidence, can be used as leverage. It sends a message.”
Following a similar approach in New York, Bharara’s office has obtained admissions in 22 civil cases, including settlements with Deutsche Bank and Citigroup, in the three years since establishing a civil fraud unit. The federal prosecutor said he wants Wall Street firms to have the equivalent of a rap sheet.
“There are too many industries where no one ever gets treated as a repeat offender because there was never any previous record of their bad conduct,” he said. “Part of the job is to just have the truth out there for people to judge whether an institution has learned anything from prior enforcement actions.”
The actions of federal regulators and prosecutors are starting to assuage concerns that the government is too lenient on Wall Street. There are some, however, who remain skeptical that policy changes will bring about the reckoning the public deserves.
“It can’t possibly,” said William K. Black, a law and economics professor at the University of Missouri in Kansas City. “By now there would have been thousands of criminal referrals in the pipeline and criminal cases.”
Bharara isn’t so quick to dismiss the possibility of his office filing criminal charges against banks.
“You never take anything off the table,” he said. “There are cases that get brought sometimes because circumstances change for a person, and they decide to come in and cooperate and bring in their files and notebooks.”