A conversation with the former New York governor about his new book, Government's Place in the Market
For decades, the New York Attorney General's office gave Wall Street a free pass. In unspoken deference to the financial industry's power, prestige, and influence, state regulators left Wall Street to the SEC—even though Manhattan's financial giants reside within the state Attorney General's jurisdiction.
On April 8th, 2002, New York's then-AG Eliot Spitzer shattered precedent by bringing a fraud case against Merrill Lynch. Calling for broad reform throughout the financial services industry, he alleged that the broker fostered dangerous conflicts of interest and intentionally misled its investors for profit. In the Merrill suit, and subsequent cases, the Spitzer administration invoked a forgotten 1921 state statute called the Martin Act, which gives the Attorney General wide latitude to regulate and prosecute consumer fraud cases. By late 2002, when 60 Minutes ran a laudatory profile that dubbed Spitzer "The Sheriff of Wall Street," a star had been born.
As everyone knows, Spitzer's fortunes have changed since then. His political future is, at best, uncertain. But his regulatory career will continue to serve him well: The practices he decried during his tenure—subprime loans, predatory lending, conflicts of interest—are the same misdeeds that sparked 2008's financial meltdown.
In a new book, Government's Place in the Market, Spitzer returns to the full-bore Goliath-toppling mode that made him famous. Part of the Boston Review Books series of monographs published by MIT Press, the short, urgent volume is Spitzer's Common Sense. Regulation, he argues, is not the enemy of the market—in fact, he claims government enforcement is crucial to industry and commerce. Without stern enforcement, profit models make unethical and anti-competitive practices inevitable; in Spitzer's view, strong government standards protect the common good, preserve competition, and help keep the market stable, dynamic, and solvent.
Eliot Spitzer called me from his office at CNN's newsroom in New York, where his cable talk show, In the Arena, is broadcast. We discussed the central themes of his book, his prescience regarding Wall Street malfeasance, and the ongoing regulatory challenges in today's marketplace.
Your book argues that government and markets should not be placed in diametric opposition. Instead, you say, government has a key place in healthy market systems. Why do markets need government regulation to succeed?
In the absence of rulemaking and enforcement by government, private actors ultimately will not abide by rules and behavior that generate the fair and open competition that is the essence of capitalism. Capitalism, like a contest played on a football field, only works if certain behavioral patterns are observed and the private actors who participate in the marketplace do not, in and of themselves, enforce those rules. In the absence of enforcement, behavior descends to a lowest common denominator that is simply unacceptable and, in the long run, very counterproductive to society. To a certain extent, the cataclysm of 2008 is evidence of that fact.
But most free market economists argue that the market has the power to regulate itself. Why, in your view, is this not the case?
This claim shows the underlying flaw in their intellectual and practical understanding of the world. Intellectually, I do explain in the book why they're wrong and I think necessary at this point in time to say, "Hey guys, take a look at where you're going to get us." The intellectual purity of their argument belies the practical consequences of applying their theory to the real world.
Alan Greenspan's blind acquiescence to pseudo-libertarian theory created havoc and harm, the likes of which we hadn't seen in 60 or 70 years. The fact that people continue to subscribe to that theory surprises me, given how counterfactual it is. The simple reality is that entities like Goldman Sachs or Lehman Bros have failed to either regulate themselves or abide by fundamental rules of ethics. This should be sufficient to persuade people that you need enforcers in the marketplace to impose certain simple rules of transparency and integrity.
When Goldman decided in December of '06 to take a very significant short position in the mortgage market, understanding—as they did—that things were going to collapse, did they, in any way, shape, or form, pick up a phone to a regulator, the Fed, the treasury, the OCC? Did they say, "You know what? There's a societal problem here. There's an overhang, and we have to deal with it"? Did they pick up the phone to their colleagues in the marketplace and say, "Hey guys, we're responsible for regulating ourselves in this political environment—that's what we asked for and now we have to do it." No, they did not speak up. They simply figured out how to make money on the deal. And then they had to be bailed out with our tax dollars. It's one of the most grotesque violations of public-spiritedness that I've ever seen. And I think Goldman deserves all the condemnation it's now getting.
Some bankers and business owners, when faced with deregulation, cite their belief in a government that doesn't interfere with the free market. But don't many of these same entities enjoy substantial benefits from government intervention—Coca-Cola benefits from government subsidy of corn, for example, or Goldman Sachs benefits from bailout money? Why does this double-talk persist?
This is one of the most cynical plays out there. Either they are ignorant and have no idea what the market really is, which is the case for some of them—or, they're cynically playing to the public's desire to create the marketplace that they've described. They ask the public to put confidence in this mythical marketplace where you don't need rules—until of course they need a bailout, and then they beg and plead for, or demand, dollars. So the hypocrisy of this knows no bounds and the cynicism also knows no bounds.
Whose job was it, in your view, to prevent the financial calamity that came to a head in 2008?
The regulators who are being paid to stop the sort of behavior that metastasized into the crisis. Having said that, investment banks had created an intellectual environment where libertarianism had become the flavor of the decade—or the flavor of several decades, going back to President Reagan as the leading politician that embraced this line of thought. It became the ideological framework within which we operated for quite some period of time.
The investment banks helped create it, they politically lobbied for it, they pushed back on Capitol Hill, and elsewhere, against any flex of regulatory muscles. They came down very hard on those who did try to enforce regulatory rules. All this leads to their shared culpability. So there are multiple parties—but regulators, who at first issue have the responsibility to stop the behavior, should have done much more.
As Attorney General of New York, you brought suits against firms like Merrill Lynch for engaging in predatory lending practices, and against AIG for fraud. Some would argue you built your reputation on not being afraid to pursue white-collar crime cases. Why are these types of suits so rarely seen, why are convictions and regulatory overhaul so elusive, when there's broad public support?