Interview With Jeff Connaughton, Celebrated Author of The Payoff: Why Wall Street Always Wins
Whistleblower Insider asks Jeff Connaughton about his views on the current state of government enforcement of the financial markets and what needs to be done to improve it. He will be featured in the PBS Frontline special, The Untouchables, at 10 PM tonight, which “investigates why the U.S. Department of Justice has failed to act on credible evidence that Wall Street knowingly packaged and sold toxic mortgage loans to investors, loans that brought the U.S. and world economies to the brink of collapse.”
In a 2010 panel discussion at the NY Federal Reserve, you said that federal agencies were not capable of doing their job to police fraud and manipulation in the financial markets. What are your thoughts on the SEC and CFTC today?
There are still huge gaps in surveillance and monitoring. The SEC has proposed a consolidated audit trail, but they are far behind in being able to track data in a timely way. After the flash crash of 2010, it took armies of SEC and CFTC staff three months to recreate trading activity for one twenty-minute period. Three months to painstakingly recreate the trading activity. What does that say about the ability of our oversight agencies to conduct monitoring of the market in real time? The SEC farms surveillance and monitoring out to FINRA (the Financial Industry Regulatory Authority), and FINRA admitted it was still operating in a multi-second environment, when trades now take place in micro-seconds. As I say in the book, it’s like FINRA is using a brownie camera to take a picture of a passing bullet train. The short answer is that the consolidated audit trail needs to be done soon and needs to be done well. The way it is now, we could have market manipulation going on with no ability to detect or police market abuse.
When did it become clear that the agencies’ monitoring capabilities were falling behind the fast pace of the financial industry?
A real watershed moment was when trading became so high speed, so lightening fast, that the consolidated quote became stale and irrelevant. That was a moment regulators should have responded to protect the integrity of the consolidated quote. Instead, high frequency traders began buying data feeds from each exchange and trading venue, and the exchanges began to cater those data feeds and order types to their high frequency trade customers, as they competed amongst themselves for volume. That created an unlevel playing field for average investors.
Do you believe that the hefty fines the government has imposed, like the recent $8.5 billion mortgage settlement with the banks, serve as an adequate deterrent to future financial wrongdoing?
There is virtually no deterrence of individuals breaking the criminal laws on Wall Street. There is almost no fear at the individual level that someone will go to jail. Not long after the financial crisis, the Department of Justice pretty much lateraled all of the enforcement to the SEC to bring civil cases, and for the most part the SEC has settled a series of civil cases with the major banks for comparatively paltry fines. These fines, of course, are being paid by the current shareholders and, to me and many other observers, that’s only a semblance of accountability under law. But at least the SEC can point to some kind of track record. The DoJ has been very passive. The DoJ has admitted it won’t indict a too-big-to-fail bank that has committed serious fraud because of collateral consequences. It’s inappropriate for DoJ leaders to rationalize not prosecuting too-big-to-fail banks as infeasible because there are a variety of non-legal factors involved, such as the impact on the innocent employees or the reverberations for the financial industry. Those non-legal factors should not come in to play. More to the point, it’s a straw man argument. Individuals need to be targeted – the highest ranking officials who had actual knowledge that the violations were occurring – because if people break the law, they should be investigated and prosecuted. The bank will go on. Either target the individuals or say that the too-big-to-fail banks need to be broken up so that they’re not so powerful that the Justice Department quakes at the thought of going after them.
Do you think that we will see criminal enforcement of financial fraud in Obama’s second term?
This is not like the fourth quarter of a football game and we have to catch up. What this should always have been about and what it should be about now is if individuals knowingly committed serious criminal fraud, they should be prosecuted. I don’t think that happened in the first term. In the Senate Judiciary Committee, Senator Kaufman conducted two oversight hearings of financial fraud prosecutions, so I was an eye-witness to the passivity of the Justice Department. There is now some indication that they’re slowly gearing up. The LIBOR investigation may be an indication of that.
What are your views on the new Consumer Financial Protection Bureau?
Of course I am pleased it was created. I think it was one of the more meaningful parts of Dodd-Frank. I think that it is going to take time to build a regulatory core that is effective. I do think it’s important, but it needs to be cultivated.
Do you believe whistleblowers have a role in the government enforcement scheme?
Yes, absolutely. Whistleblowers need to step forward for the appropriate agencies to have any chance to make these cases. They need eyes on the inside. They need testimony. They need witnesses.
There are also resource issues. These cases are incredibly complex. And the government has not devoted the right amount of resources or made it a high enough priority. Whistleblowers can help by providing much-needed insider information that might take the regulatory agencies months or years to piece together.
During your time with Senator Kaufman, you fought hard for the Brown-Kaufman Amendment which would put limits on banks’ total holdings and liabilities. What is the likelihood that Congress will pass some version of this legislation?
I can’t say this is going to pass soon or not, but think about how the issue has stayed alive. You had Sandy Weill last summer saying we have to break up the banks. This guy was the architect of Citigroup. You had Federal Reserve Governor Daniel Tarullo saying we need a provision that caps non-deposit liabilities for the largest banks, which is what Brown-Kaufman would have done. The Dallas and New York Fed presidents, among others, have given speeches saying we still have a problem with the organic growth and advantageous funding of too-big-to-fail banks. The Washington Post editorialized after Tarullo’s speech and endorsed what essentially was the Brown-Kaufman Amendment. I thought to myself, where were you when we needed you? But this issue is still alive. I don’t think it’s going away. The momentum for it is real. It’s going to take time for a critical mass to be reached. I think Senators Brown and Kaufman will be validated on this.
Do you miss Washington?
No. It was time for me to leave. I do miss my friends. And I miss working on the Hill and with a young staff who are bright and eager. But I am finding that there are ways for me to use my expertise locally and get involved in one or two good causes. That is what I want to be doing now. I felt like the best public service I could do when I left Washington was to write The Payoff and try to lay the Washington culture of money and power, as I had experienced it over 23 years, bare for people to sort through and learn at a more detailed level. I have seen how the system worked from all sides.
As a friend said about me, I got to the top of my career and when I looked around, I didn’t like the view. I just know too well how much money from powerful interests is sloshing around in that town, creating powerful incentives to stay in the good graces of the financial/party establishment. When I saw that the system was not responding to a devastating financial crisis the way I believed that it clearly ought to respond, it made me suspicious that everything I knew about money and power was at the root of the problem.
About Jeff Connaughton
Jeff Connaughton holds an MBA with honors from the University of Chicago and a JD from Stanford Law School. He worked for four years as an investment banker before joining Joe Biden’s presidential campaign as Deputy National Finance Director and thereafter became his Special Assistant when Biden chaired the Senate Judiciary Committee. Connaughton clerked for Chief Judge Abner Mikva of the United States Court of Appeals for the DC Circuit, and then followed Mikva as his Special Assistant when Mikva was appointed Counsel to President Bill Clinton. In 2000, along with Jack Quinn and Ed Gillespie, Connaughton founded Quinn Gillespie & Associates, one of DC’s premier lobbying firms. In 2009, he left lobbying to take a position as chief of staff to Senator Ted Kaufman, working closely with Kaufman (who chaired two oversight hearings on financial fraud prosecution and co-authored the Brown-Kaufman Amendment, which would have broken up too-big-to-fail banks) before retiring from politics in 2011.
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