One would think that, as the old saying goes, to put this question is to answer it. A powerful policy of the securities laws is to protect investors against fraud. It is utterly bizarre to argue that SEC personnel could be acting in accordance with the policy of the securities laws, rather than against such policy, by conducting themselves with such fantastic negligence that thousands or maybe even tens of thousands of people were defrauded out of their money instead of the fraud readily being caught and stopped by investigatory methods so simple that they are highly conventional -- methods such as (among many others) contacting counterparties to see if transactions had in fact occurred, contacting the Depository Trust Company to find out what securities Madoff held in his account there, contacting the NASD to see what trades he had engaged in, and determining (as various large funds did), whether there were enough options to cover his alleged strategy. It is correlatively and equally bizarre to say that SEC personnel had discretion to negligently fail to take even the most conventional investigatory steps and to thereby negligently thwart the deep seated securities law policy of stopping fraud.
Yet this bizarre claim is precisely what the government -- lacking anything else to say, I suppose -- is saying in the Madoff case. To be sure, it dresses up the claim in abstractions, such as saying that it has discretion on what to investigate and how deeply, etc. But at bottom it is saying (i) that it is free to be as negligent as it wishes, yet to remain immune from liability under the Federal Tort Claims Act even though the Act waives immunity for negligence, because (ii) everything it does ipso facto constitutes carrying out the policy of the securities laws and is a matter of discretion. As I shall come back to later in discussing the Katrina case, the government's claim would destroy the FTCA's waiver of immunity for negligence because, as the judge opined of the Corps of Engineers' argument in the Katrina case, the government's argument turns every single agency decision into one of policy-laden discretion no matter how negligent, no matter how contrary to established principles, and no matter how destructive to how many people whom the government is supposed to protect.
I find it an amazing thing that the judge in the California case against the SEC accepted the government's argument and dismissed the case, though he gave the plaintiffs permission to refile a complaint -- which says something, though I'm not sure what. The judge, as near as I can determine in various ways, seems to have a bad reputation for various reasons, but he is not thought stupid as far as I can tell. And he recognized that the SEC had acted with the most amazing incompetence. But he was angry at the plaintiffs, whom he thought (a) had done very insufficient work, and (b) had not presented any mandatory procedures or rules that SEC personnel had been obliged to but did not follow. (The lawyers who previously brought a much better known, still undecided, case in New York based on the SEC's actions also were angry at the California plaintiffs. In papers which the New Yorkers subsequently filed they accused the California plaintiffs of simply plagiarizing their complaint and of violating California court rules (as the California court had said), and also accused the SEC of underhanded conduct in not telling them of the California litigation while insisting on a so-called rocket docket (i.e., extremely quick) California decision which it could then present to the New York court.)
When the California plaintiffs filed their complaint, they said that SEC personnel had told them of an SEC manual, called "The SEC Policies, Procedures and Administrative Regulations," which was not public. Their idea regarding the non public manual seems to be that it may contain rules and policies which SEC personnel were required to but did not follow in the Madoff case. The SEC personnel, in other words, did not have discretion not to take investigative steps which they did not in fact take and which would have led to uncovering Madoff if they had been taken in accordance with the manual. Because the employees lacked discretion not to take such steps required by the manual, the SEC's negligent actions are not immunized under the FTCA.
That, as I say, is the theory. If I remember correctly, the whole issue regarding mandatory investigatory steps came to the fore when the New York lawyers initially brought their case. My memory is that they did so relatively early in the game and, in response to the smart alecks who had immediately opined that you can't sue the SEC, had replied that you can sue it if it had violated its own policies, and that they were going to seek access to its policies and manuals (which, I gather, they have not yet received -- which in itself can be considered suspicious). The questions of mandatory policies that SEC personnel may have violated then assumed, and still assumes, large importance, as illustrated by the California decision and proceedings.
It would be very nice, of course, if plaintiffs in New York, in California and in possible future cases were to receive discovery and to thereby learn that internal SEC manuals required steps that were not taken and that would have revealed Madoff's fraud had they been taken. But personally I think that the possibility of such policies has been way, way overemphasized. To me the existence of such policies, of such steps required by a manual, seems irrelevant. For even if there are no such policies or steps mandatorily required in some manual, still it cannot be the case that the SEC -- which was created to protect investors against fraud and on which Congress expected and desired investors to depend -- is free to be phenomenally negligent in a way that enables the longest and biggest fraud in history to continue unimpeded for years on end. There can be no statutory policy in favor of this, nor any agency discretion to do it. All to the contrary.
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