Judge Rakoff Blasts Breuer, Prosecution of Companies Rather than Individuals in Bar Speech

Absent sitting on the Supreme Court, it is difficult for a single judge to effect much change. Yet Jed Rakoff, in sending the SEC back to the woodshed in two separate cases over its failure to get factual admissions, meaning admissions of misconduct, on civil settlements of SEC cases, singlehandedly embarrassed the SEC and the Department of Justice into seeking these statements (for instance, numerous media reports indicate that the Administration wants that sort of confession as part of its pending settlement with JP Morgan).

Rakoff threw down another gauntlet in a New York Bar Association speech on Tuesday. I’m taking the liberty of quoting it at length because his rebuke is a breath of fresh air and roused the Department of Justice to issue a “we really are doing our job” response.

But if, by contrast, the Great Recession was in material part the product of intentional fraud, the failure to prosecute those responsible must be judged one of the more egregious failures of the criminal justice system in many years.

Rakoff then pointed to the fact that the FCIC and numerous government officials had discussed fraud in connection with the crisis and went further:

While officials of the Department of Justice have been more circumspect in describing the roots of the financial crisis than have the various commissions of inquiry and other government agencies, I have seen nothing to indicate their disagreement with the widespread conclusion that fraud at every level permeated the bubble in mortgage-backed securities.

He then goes through their litany of excuses (his word). Ooh, it’s hard to pin fraud on top executives in big complex companies! Poppycock, says Rakoff:

Who, for example, were generating the so-called “suspicious activity” reports of mortgage fraud that, as mentioned, increased so hugely in the years leading up to the crisis? Why, the banks themselves. A top level banker, one might argue, confronted with increasing evidence from his own and other banks that mortgage fraud was increasing, might have inquired as to why his bank’s mortgage-based securities continued to receive triple-A ratings? And if, despite these and other reports of suspicious activity, the executive failed to make such inquiries, might it be because he did not want to know what such inquiries would reveal?

This, of course, is what is known in the law as “willful blindness” or “conscious disregard.” It is a well-established basis on which federal prosecutors have asked juries to infer intent, in cases involving complexities, such as accounting treatments, at least as esoteric as those involved in the events leading up to the financial crisis. And while some federal courts have occasionally expressed qualifications about the use of the willful blindness approach to prove intent, the Supreme Court has consistently approved it.

The second, “weaker” excuse came out of Lanny Breuer’s mouth in his notorious Frontline interview: that the investors in mortgage-backed securities were sophisticated; it would be hard to prove they relied on ratings and fraudulent misrepresentation. Rakoff basically says that Breuer is a crappy lawyer:

Actually, given the fact that these securities were bought and sold at lightning speed, it is by no means obvious that even a sophisticated counterparty would have detected the problems with the arcane, convoluted mortgage-backed derivatives they were being asked to purchase. But there is a more fundamental problem with the above-quoted statement from the former head of the Criminal Division, which is that it totally misstates the law. In actuality, in a criminal fraud case the Government is never required to prove reliance, ever. The reason, of course, is that would give a crooked seller a license to lie whenever he was dealing with a sophisticated counterparty. The law, however, says that society is harmed when a seller purposely lies about a material fact, even if the immediate purchaser does not rely on that particular fact, because such misrepresentations create problems for the market as a whole.

The third excuse is that prosecution might hurt the economy. Rakoff indicated his discomfort with the “too big to jail” idea, but used that to lambaste the notion of prosecuting institutions as opposed to individuals. No institution would perish if an executive were prosecuted.

Rakoff carefully and pointedly says he’s not accusing prosecutors of revolving-door corruptions and that prosecutors maximize their value in the post-government service market by collecting scalps. Whether of not he actually believes that to be true, he has to say that or risk never hearing a big securities case ever again, in that both defendants and regulators could ask to have cases assigned to other judges based on the notion that Rakoff had said that prosecutors were soft of big corporate crime because they were currying favor with prospective future employers. Notice, by contrast, the cautionary example of Judge Shira Scheindlin, who had a ruling opposing New York City’s stop and frisk rules overturned because she violated the code of conduct for Federal judges by showing partiality.

But he point out other reasons why no one could be bothered to go after the conduct that wrecked the economy. The best US Attorney’s office, the Southern District of New York, was busy on the Rajaratnam case. Any smart prosecutor would ride that horse, which was ready to go, rather than take on the slog of a case that was years away from being files. So basically, with Congress starving the SEC of budget and making it capable only of handing out parking tickets in the form of insider trading cases, SDNY staffers were incentivized to go after the comparatively easy cases the SEC threw over the transom rather than pursue far more important crisis-related cases. Rakoff argues the other reason for the government’s reticence to prosecute is that it would embarrass government officials and expose policy failings.

And Rakoff described why prosecuting companies, rather than targeting individuals, produces lame outcomes:

But if your priority is prosecuting the company, a different scenario takes place. Early in the investigation, you invite in counsel to the company and explain to him or her why you suspect fraud. He or she responds by assuring you that the company wants to cooperate and do the right thing, and to that end the company has hired a former Assistant U.S. Attorney, now a partner at a respected law firm, to do an internal investigation. The company’s counsel asks you to defer your investigation until the company’s own internal investigation is completed, on the condition that the company will share its results with you. In order to save time and resources, you agree. Six months later the company’s counsel returns, with a detailed report showing that mistakes were made but that the company is now intent on correcting them. You and the company then agree that the company will enter into a deferred prosecution agreement that couples some immediate fines with the imposition of expensive but internal prophylactic measures. For all practical purposes the case is now over. You are happy because you believe that you have helped prevent future crimes; the company is happy because it has avoided a devastating indictment; and perhaps the happiest of all are the executives, or former executives, who actually committed the underlying misconduct, for they are left untouched.

I suggest that this is not the best way to proceed. Although it is supposedly justified in terms of preventing future crimes, I suggest that the future deterrent value of successfully prosecuting individuals far outweighs the prophylactic benefits of imposing internal compliance measures that are often little more than window-dressing. Just going after the company is also both technically and morally suspect. It is technically suspect because, under the law, you should not indict or threaten to indict a company unless you can prove beyond a reasonable doubt that some managerial agent of the company committed the alleged crime; and if you can prove that, why not indict the manager? And from a moral standpoint, punishing a company and its many innocent employees and shareholders for the crimes committed by some unprosecuted individuals seems contrary to elementary notions of moral responsibility.

On the one hand, it’s good to see Rakoff again rattling cages. On the other, it’s disheartening that the comparatively restrained remarks of a Federal judge serve as bold talk. It’s yet another reminder of how candid discussion of fraud and criminal conduct in the crisis has been successfully mislabled by a lapdog media as naive or ill informed.

If you are a Rakoff fan, he’s moderating a panel at Columbia Law School on Friday whose members include Neil Barofsky and John Coffee. I’m told it’s open to the public.

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  1. LucyLulu

    There have always been crooked politicians and bankers. But this is the most disheartening part of the financial crisis. Those we rely on to dispense justice are no more dependable than the crooks and politicians. The Judge Rakoff’s are way too few and far between.

    Do you think he’s next on the list to be nominated for a seat on the DC Appellate Court? Nah, didn’t think so. Not that he, or anybody else, would come up for a vote for at least another three years.

    Thanks for sharing about the panel on Friday. Hopefully it will air on one of the C-Spans.

    1. Yves Smith Post author

      When I was on a panel he moderated (I got to be an honorary lawyer!!!) he made a remark afterwards how his rulings had precluded him from “promotion” (he had an amusing quote from his wife on that that I can’t recall). He also sounded as if he didn’t regret it. He said lower court cases are much more interesting. He was 69 then, which means 70 or 71 now, and looks terrific.

  2. DakotabornKansan

    Give ’em hell, Judge Rakoff!!!

    The principle [IMHO] that Judge Rakoff has been serving:

    “The people of this state do not yield their sovereignty to the agencies that serve them. The people, in delegating authority, do not give their public servants the right to decide what is good for the people to know and what is not good for them to know. The people insist on remaining informed so that they may maintain control over the instruments that they have created. This chapter shall be liberally construed and its exemptions narrowly construed to promote this public policy and to assure that the public interest will be fully protected. In the event of conflict between the provisions of this chapter and any other act, the provisions of this chapter shall govern.” – Washington State statute about the public’s right to public records


    Judge Rakoff, rejecting a proposed $285 million settlement between the SEC and Citigroup related to the sale of mortgage securities, said he didn’t have the facts in front of him to approve the $285 million settlement, which centered on a $1 billion collateralize debt obligation the bank created in 2007.

    Two crucial paragraphs from Judge Rakoff’s ruling:

    “An application of judicial power that does not rest on facts is worse than mindless, it is inherently dangerous. The injunctive power of the judiciary is not a free-roving remedy to be invoked at the whim of a regulatory agency, even with the consent of the regulated. If its deployment does not rest on facts — cold, hard, solid facts, established either by admissions of by trials — it serves no lawful or moral purpose and is simply an engine of oppression.

    Finally, in any case like this that touches on the transparency of financial markets whose gyrations have so depressed our economy and debilitated our lives, there is an overriding public interest in knowing the truth. In much of the world, propaganda reigns, and truth is confined to secretive, fearful whispers. Even in our nation, apologists for suppressing or obscuring the truth may always be found. But the S.E.C., of all agencies, has a duty, inherent in its statutory mission, to see that the truth emerges; and if it fails to do so, this Court must not, in the name of deference or convenience, grant judicial enforcement to the agency’s contrivances.”

    The SEC retorted that Judge Rakoff had created ”a new and unprecedented standard” by requiring parties in SEC settlements to admit wrongdoing, which would result in more court fights, taxing the SEC’s resources.

    [The eyes are useless when the mind is blind – a nation of laws that are randomly enforced by the DOJ and SEC.]

    The U.S. Court of Appeals for the Second Circuit temporarily suspended Judge Jed Rakoff’s ruling:

    “The district court believed it was a bad policy, which disserved the public interest, for the S.E.C. to allow Citigroup to settle on terms that did not establish its liability. It is not, however, the proper function of federal courts to dictate policy to executive administrative agencies.”

    In response, the brief filed in the Second Circuit stated that it had misread Judge Rakoff’s ruling. Judge Rakoff had not asked for proof or an admission of Citigroup’s liability. He only wanted to see some of the SEC’s evidence before rendering a decision on the proposed SEC and Citigroup settlement.

    “The motions panel repeatedly described the district court’s ruling as one that disapproved the proposed consent judgment on the ground that Citigroup’s liability had not been admitted or proved. As noted above, however, the district court’s actual holding repeatedly referred to its inability to determine whether the consent judgment met the well-established standards because it had not been provided with any evidentiary facts on which to make that determination.

    The district court’s opinion never held that such evidence had to establish the defendant’s liability, but only that mere allegations in a complaint could not substitute for an evidentiary or factual submission, however modest, in order to determine whether the proposed consent judgment was fair, adequate, reasonable, and in the public interest. The motions panel also stated incorrectly that ‘the substantial evidentiary record amassed by the SEC over its lengthy investigation was available to the court.’ In fact, the SEC never offered any of its putatively substantial evidentiary record to the district court. Nor were the parties in agreement as to what that record showed in any respect.”

    [Judge Rakoff doesn’t give them hell, he just does the right thing and they think it is hell.]

  3. Aaron Layman

    Two important pieces of news out this week explain why nothing will be done to prosecute these elite white collar criminals. Instead, the Administration’s proposed solution will be to keep throwing money at them. In other words, the fraud and looting will continue until confidence is restored or the masses revolt.

    Jack Lew says the quality of the “recovery” is leading the developed world. WTF!

    Janet Yellen promises more of the same. Yeah, let’s keep throwing money at them. Surely that will work.

  4. Dryly 41

    We used to have the fundamental principle that no man was above the law be he president or be he pauper. What happened to that.

    1. K Ackermann

      I’m very sorry to say that fundamental principle you speak of has always been a myth. If you get the chance, read Howard Zinn’s A People’s History of the United States.

  5. from Mexico

    It’s as if there are two Americas.

    One is for the supranational jet set, the other for everyday Americans.

    One enthralls at the latest auction records being set at Sothebys, the other subsides under the spiraling cost of food and healthcare.

    One is free of labor, the other a slave to labor.

    One is a libertarian’s paradise, the other a burgeoning police state.

    If one thinks there’s anything new about this, they’re mistaken. It all harkens back to 16th-century Mexico, when the Spaniards established their Two Republics, one for the conquering Spanish and the other for the vanquished indigenous populations. The two were kept separate politically, economically, and socially along racial lines. If there is a new twist to this story, it is that in the 21st century the two republics are no longer kept separate so much along racial lines, but along class lines.

    1. AbyNormal

      your not alone shaking your head

      “An old joke has an Oxford professor meeting an American former graduate student and asking him what he’s working on these days. ‘My thesis is on the survival of the class system in the United States.’ ‘Oh really, that’s interesting: one didn’t think there was a class system in the United States.’ ‘Nobody does. That’s how it survives.”
      Hitchens, Hitch-22: A Memoir

  6. seabos84

    “They look upon fraud as a greater crime than theft, and therefore seldom fail to punish it with death; for they allege, that care and vigilance, with a very common understanding, may preserve a man’s goods from thieves, but honesty has no defence against superior cunning; and, since it is necessary that there should be a perpetual intercourse of buying and selling, and dealing upon credit, where fraud is permitted and connived at, or has no law to punish it, the honest dealer is always undone, and the knave gets the advantage.”
    those darn lilliputians

    1. AbyNormal

      War crimes are serious violations of the rules of customary and treaty law concerning **international humanitarian law that have become accepted as criminal offenses for which there is individual responsibility**.[15]

      On July 1, 2002, the International Criminal Court, a treaty-based court located in The Hague, came into being for the prosecution of war crimes committed on or after that date. Several nations, most notably the United States, China, Russia, and Israel, have criticized the court. The United States still participates as an observer. Article 12 of the Rome Statute provides jurisdiction over the citizens of non-contracting states in the event that they are accused of committing crimes in the territory of one of the state parties.[11]

      However the court only has jurisdiction over these crimes where they are “part of a plan or policy or as part of a large-scale commission of such crimes”.[12] (but of course)

      “…some men aren’t looking for anything logical, like money. They can’t be bought, bullied, reasoned, or negotiated with. Some men just want to watch the world burn.”
      Michael Caine

      1. tyler

        Thanks, AbyNormal.

        Bane: “We take Gotham from the corrupt. The rich. The oppressors of generations, who have kept you down with myths of opportunity. And we give it back to you: the people. Gotham is yours–none shall interfere. Do as you please. But start by storming Blackgate [prison] and freeing the oppressed.

        “Step forward, those who would serve, for an army will be raised. The powerful will be ripped from their decadent nests, and cast out into the cold world that we know and endure. Courts will be convened. Spoils will be enjoyed. Blood will be shed. The police will survive, as they learn to serve true justice. This great city–it will endure. Gotham will survive.”

      2. from Mexico

        AbyNormal said:

        “…some men aren’t looking for anything logical, like money. They can’t be bought, bullied, reasoned, or negotiated with. Some men just want to watch the world burn.”
        Michael Caine

        That’s a pretty good description of the typical neocon — Cheney, Rumsfeld, Bush II — or any crusader who thinks they can remake the world to fit their ideal. It’s the actions of men like these who inspired Eric Hoffer to intone:

        Every era has a currency that buys souls. In some the currency is pride, in others it is hope, in still others it is a holy cause. There are of course times when hard cash will buy souls, and the remarkable thing is that such times are marked by civility, tolerance, and the smooth working of everyday life.

        1. from Mexico

          I should qualify that a bit.

          Hoffer believed mass movements can be good or bad, wholesome or destructive, but they all “generate in their adherents a readiness to die and a proclivity for united action; all of them, irrespective of the doctrine they preach and the program they project, breed fanaticism, enthusiasm, fervent hope, hatred and intolerance…all of them demand blind faith and singlehearted allegiance.”

          Unfortunately, neoconservatism falls squarely in the “bad” and “destructive” categories.

  7. Banger

    It’s always nice to be reminded how organized crime came into the heart of American life and pulled of the greatest fraud this country has ever seen. It is not a matter of business acting badly but of mobsters seizing City Hall.

    We also should not forget that both of the major political parties are involved in this fraud in particular the POTUS. The so-called left side of the political spectrum which claims to be looking out for the lot of everyman continued to support this PR President and still do to this day. That’s the most stunning part of this whole thing.

  8. washunate

    Awesome speech and writeup.

    Hoocoodanode that undermining rule of law harms the economy? Must be some sort of teabagger conspiracy. Thank goodness the Democratic Party is working feverishly to restore justice and equality.

  9. John Mc

    There is much here to take in and appreciate. Two specific issues arise for me.

    First, Rakoff speaks to crimes that hide in plain site like: “willful blindness” or “conscious disregard”. Bill Black writes about this pattern of behavior as insane for any legitimate bank who is in the business of making high-quality loans in his fraud recipe. No honest CEO would allow themselves to disregard the risks to the company, systems. However, most CEO’s are there for short time and are incented to growth exponentially without regard for how.

    Not only is it telling as to what executives hid in performing fraud, but what they did not do in the normal course of performing fiduiciary functions. I think one could make a persuasive argument that separating commerical and investment banks in this way (reinstating Glass-Steagall) would help the public hold executives’ focus on tasks at hand.

    Second, I really love the “explicit” recognition that the CEO is not the company (and vice versa). As a result, Rakoff is able to distinguish between the need to prosecute executives as a central deterrent and fundamental lesson of how to avoid future crises. This highlights the need to distinguish between pronoun use of WE. Who is we?

    1) Does We = CEO and Board of Directors
    2) Does We = All Executives
    3) Does We = All employees
    4) Does We = Shareholders

    Kitty Calavita and Henry Pontell describe this confusion in their 1994 paper “The State and White-Collar Crime: Saving the Savings and Loans” how the company is both “a weapon and a victim” of corporate crime (using Wheeler and Rothman’s work, 1982).

    Loved this article and Rakoff’s commitment/sacrifices to speak truth to power!

    1. hunkerdown

      Need to distinguish?! Are you kidding? The fallacy of composition (or, as orators might call it, “ethos”) is exactly the point on which the bulk of political rhetoric pivots!

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