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Closing the Revolving Door

Bruce Carton | August 13, 2013

On Jan. 9, 2013, Robert Khuzami, then-director of the Division of Enforcement at the Securities and Exchange Commission, announced that he would soon be departing the agency. Khuzami had served as director for four years and Mary Schapiro, the SEC chairman who had appointed Khuzami, had already left the agency herself.

One month later, Khuzami walked out of the SEC for the last time as director and, at age 56 and with a family to provide for, joined the ranks of the unemployed.

Given his résumé, Khuzami was probably not sweating unemployment all that much. He had previously served as a federal prosecutor for 11 years with the U.S. attorney's office for the Southern District of New York, including three years as chief of its Securities and Commodities Fraud Task Force. Following that decade of public service, Khuzami worked for more than six years as a senior lawyer for Deutsche Bank until he accepted Schapiro's offer in early 2009 to join the SEC as her enforcement chief.

Khuzami's tenure as the SEC's top enforcement lawyer was, of course, the most high-profile item on his résumé. And although Khuzami (like all Enforcement directors) was second-guessed for various decisions during his term there, he was publicly credited by one of the SEC's harshest critics—U.S. District Court Judge Jed Rakoff—for doing a “terrific job.”  Most importantly, according to Rakoff, Khuzami “restored a sense of pride and purpose to the SEC Enforcement Division, and we are all the better for it.”

Khuzami's services were in high demand, and several law firms and corporations made him strong offers to join their organizations. On July 23, the law firm Kirkland & Ellis announced that Khuzami would be joining it as a partner. Instantly and predictably, the “revolving door” headlines began to fly, all blaring some variation of “SEC Revolving Door Leads to $5 Million Payday for Former Chief Enforcer.”

Bloomberg columnist William Cohan called the hiring “appalling—yet hardly surprising” and the “latest example of the corrupt relationship between money and power in the United States.” The influential Wall Street blog “Zero Hedge” asserted that anyone with a “semi-working frontal lobe” could see that the possibility of a top SEC official returning to the private sector “is precisely the reason why the SEC will never truly prosecute those responsible for Wall Street's criminal ways; after all, who will dare to bite the hand that might one day feed them?” And so on.

The idea that top lawyers from Wall Street or law firms should not accept leadership positions at the SEC, or that top SEC lawyers should not be permitted to leave the agency and engage in defense work in the private sector, hurts all parties.

I believe that I have a semi-working frontal lobe, yet I continue to disagree with the revolving door critics for many reasons. The most consistent argument made by critics of the revolving door seems to be that because SEC officials are keeping one eye out for their next job in the private sector, they are unwilling to enforce securities laws aggressively.

As summarized by Professor David Zaring in a paper debunking that criticism, the revolving door is “essentially a bribe, paid through the prospect of lucrative future employment. The quid pro quo for the bribe is the promise to regulate lightly, or not at all.” This argument continues to arise regularly despite experience, common sense, and multiple academic studies all indicating that SEC officials who are interested in someday entering the private sector are incentivized to exert more enforcement effort, not less, to showcase their expertise and build a record of accomplishment.

Two academic papers in the last 12 months provide empirical evidence that the revolving door does not operate the way that these critics assume. In August 2012, a paper titled, “Does the Revolving Door Affect the SEC's Enforcement Outcomes?” looked at this issue and concluded that the intensity of SEC enforcement efforts was indeed affected when an SEC lawyer later left to join a law firm—“inconsistent with popular concerns,” however, it turned out that enforcement was actually more aggressive when an SEC lawyer later left to join certain types of law firms.

More recently, Zaring's March 2013 paper (“Against Being Against the Revolving Door”) out of the Wharton School of the University of Pennsylvania examined the job histories of elite federal prosecutors in the Southern District of New York and found no evidence of “those who leave doing the bidding of those they regulate while in public service.”

In addition, the unspoken premise of the “bribe argument” is that each SEC official who moves on to the private sector (and thereby collects his or her supposed pay-off) is corrupt. While this premise may appeal to some cynics, where is the evidence for such an extreme allegation? Interestingly, Khuzami himself took aim at this “disturbingly cynical and misguided view of public service” in a guest post submitted to Reuters in 2012. Khuzami wrote that in his opinion, no enforcement staff member would:

… risk reputation and career and even jail by undermining an investigation for a possible future job prospect. Any enforcement staff member who would consider such a betrayal would be so lacking in respect and credibility as to be of no value to future employers. Nor would they get hired; to put it bluntly, would you hire someone so dishonest, so without principle, and held in low esteem by former colleagues (which they would have to be to consider such an act of deceit) to represent you in matters of importance?

Khuzami added that he had personally seen no evidence of such a betrayal in his years at the SEC or at the SDNY.

The absence of any support for the idea that SEC attorneys who go “out” the revolving door are corrupt doesn't seem to deter critics. And this cynicism is applied equally, it appears, to attorneys from Wall Street banks or law firms who are willing to move the other way through the revolving door into public service. Even Mary Jo White, whose integrity and prior record as U.S. attorney are beyond question, was greeted with skepticism by critics who doubted whether she would aggressively police Wall Street as SEC chair after a decade as a private lawyer representing Wall Street firms.

Finally, as a practical matter, the idea that top lawyers from Wall Street or law firms should not accept leadership positions at the SEC, or that top SEC lawyers should not be permitted to leave the agency and engage in defense work in the private sector, hurts all parties. It clearly would harm someone like Khuzami, who capped off two decades of refining his skills in the securities enforcement area by serving as the SEC's director of enforcement. After completing four years of public service with the SEC and deciding to leave the government, should Khuzami now somehow be foreclosed from accepting an offer to continue practicing in his field in the private sector?

Such a policy would also be quite harmful to the SEC, which would not be able to attract top talent if it became a “Hotel California”-type of employer (where “you can check out any time you like, but you can never leave”). Instead, the SEC's pool of candidates would be limited to those people who are interested in working for the government for the entire careers, or people at the tail end of their professional careers who do not mind surrendering whatever private-sector options they might have had after public service. The SEC would also be worse off, not better, if it could not bring in people with a broad range of outside, high-level experience such as Mary Jo White because they worked at some point in their careers on the “other side of the fence.”