Why Eliot Spitzer Still Thinks He's Right

A conversation with the former New York governor about his new book, Government's Place in the Market

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Reuters/Brendan McDermid

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?

Well, here's the bizarre thing. You're right, now the public looks kindly on those actions. But when I began to bring those cases, people thought I was crazy. There was enormous pushback within the world of politics, where people thought I was cutting my throat politically—these are important institutions politically, socially, in terms of the economy in many areas, certainly in New York City. It was rattling the cage before it was obvious to most people that we had a problem.

But, then and now, these are very hard cases—they're not two-witness ID cases where you get two people to point say "he did it" and you're done. It's not a whodunit. It's a much more complicated task of explaining very difficult transactions, proving intentions and states of mind that are often very subtle and subject to contrary evidence. So nobody should underestimate the difficulty in these cases. Bottom line is, more cases should be brought. I hope more cases will be brought.


The MIT Press

So the attitude you encountered among prosecutors was, "Leave these guys alone and let them do their work?"

Many prosecutors had bought into the ideological perspective that prosecuting these cases was injurious to the marketplace. And that, I think, is a fundamentally wrong perspective. But it was what was there for quite some period of time.

Aren't prosecutions difficult, also, because high-level financial practices are arcane, esoteric, and complex? How can we police industries that require specialized knowledge which outsiders don't fully understand?

I'm not sure I agree with your premise. I think that the vocabulary is arcane. But the underlying impropriety is very simple. People get what conflicts of interest are. People get that telling the public to buy mortgage-back security at the same time you're betting against it, creates a tension that's undeniably wrong. The underlying concepts that have to be proven here are as simple as the concepts underlying fraud cases that have been the bread and butter for prosecutors for decades—even if the particular vocabulary on Wall Street is marginally different. Prosecutors should explain these practices in a straightforward way, and that's what good lawyers know how to do.

Your book reports that, in 2004, you stated subprime loans "are foisted on borrowers who have no realistic ability to repay them and who face the loss of their hard-won home equity when the inevitable default and foreclosure occurs." In what context did you say this?

That was an article in The New Republic, and that was the one sentence where [co-author Andrew] Celli and I really fulminated. The essay was an effort to create a larger intellectual framework for what we were doing [in the Attorney General's office]—the first sort of dim explanation of what became a slightly more complete discussion of what government should be doing in the marketplace. One of the lines of argument was that there are certain core values the government needs to protect: we don't allow child labor, for instance, not because child labor is inefficient—though it is—but because it's wrong, and government needs to enforce it. Another value we argued for is fairness, in terms of discrimination. And another was subprime debt. We had brought a number of subprime cases and there was enormous opposition to them. But we said, "This is what government has got to do."

If you were able to put your finger on the problem in 2004...why was there so much surprise in 2008?

That's a good question—I have no idea. We worked to try to pursue a lot of these subprime lending cases and the FCC and the banks shut us down. That was the case up in the Supreme Court, we didn't end up winning until either 2008 or 2009, I can't remember which—I was out of office by then. There was significant opposition. I don't know what I can tell you—there was just huge conceptual opposition to what we were trying to do.

In your book, you suggest that Wall Street knew the government would bail them out; they knew that the taxpayer troughs would hedge their risky bets. Why is this a fair assertion?

I think you can look at the evidence and say it was all very predictable. When the leaders of the major banks showed up and said cataclysm will result of you don't write us a check, the check was written. There wasn't even much of a negotiation. And let's be very clear: the check had to be written—the question was what were the terms that were attached to it? Not one of us says you should let Goldman, Citi, and Meryl go bankrupt. That would have been a cataclysm—we can't even imagine what might have happened. But there should have been some serious negotiation about what the terms of the bailout would be, who would have to accept responsibility, and what the new financial structure would look like.

What do you make of the fact that the government is urging for deep cuts to social programs, when just two years ago, we gave trillions of dollars to banks? Or when we've recently extended Bush-era tax cuts that predominately help the wealthy?

The Bush tax cuts were wrong when enacted. Those at the upper end of our income strata can and should pay more to support a government that is right now being starved. Does that mean that we shouldn't be reforming Medicare, Medicaid, and Social Security? Of course not. These are not either/or alternatives. We've got to change the structure of our entitlement system. We should fundamentally reform our tax code—those who are at the top can afford to pay a few extra percentage points in order to help pay for the sorts of investments we need to make.

The cuts these days are being required because of unwise tax decisions and misguided priorities. And also the presumption that since we turned on the spigot for Wall Street, and now we've turned it off for education, infrastructure, and environmental protection. Those are unfortunate decisions.

Do you think, considering the crises, we've seen that the no-holds-barred libertarian model of economic policy is going to fall out of fashion?

You know, I would have thought that three years ago. But—kind of remarkably—it seems still to be holding on with great strength. If you look at the Republican side of the House of Representatives, they are voting to repeal critical pieces of Dodd/Frank, et cetera. So clearly, the lesson that I thought would be learned has not been learned.