Outgoing Senator Arlen Specter (D-PA) offered an amendment to the Senate financial reform bill to restore third party liability. The amendment would have negated the Supreme Court’s decisions in Stoneridge and Central Bank of Denver, in which the Court ruled that civil liability for securities fraud did not extend to entities that aided and abetted the fraud. In Stoneridge, the Court found that a cable set-top box vendor that had actively assisted a cable company in falsely boosting its balance sheet was not liable to investors in the cable company for civil damages. When the fraud became public, the share price of the cable company fell significantly, costing shareholders that had bought the stock without knowledge of the deception.
Senator Specter had introduced a bill into the Senate to restore the earlier understanding of the law, which was that every party that participated in the fraud was liable. The bill apparently went nowhere, and he and eleven co-sponsors proposed an amendment to the recent Senate financial reform bill to the same effect. Specter withdrew the amendment on May 20, 2010.
This appears to mean that financial reform will rely almost entirely on regulatory enforcement. The SEC and the CFTC have been given expanded enforcement powers. Regulations have been extended to the ratings agencies as well. And some effort to bring derivatives under scrutiny has been incorporated in the pending legislation. But we know from recent experience that the SEC lacks the capacity to monitor a vast, complicated financial world. In fact, the SEC cannot even figure out what caused the stock market to plunge 1000 points in an hour, an event that leads one to suspect manipulation.
The upshot is predictable: within a short time, regulatory capture, new ways of evading oversight and control, and so forth will ensure the game continues as before. As noted above, preventing injured investors (which would include pension funds) from recovering damages due to fraud means that fraud has become an accepted business practice. Regulations cannot provide the tools needed to police the entire financial sector. With Specter gone from the Senate, there might be no advocate of restoring third party liability. End of story, until the next Enron arises, aided and abetted by brokers, insurance agents, investment banks, accounting firms and all the rest, to rob the public of billions.