Commentary: It's State Attorneys General vs. Corporate America

Are they white knights or loose cannons?

A few months ago, New York Attorney General Eliot Spitzer suddenly rode up on a white horse and established himself as America's most visible defender of the small investor. Although his office's small Investor Protection & Securities Bureau has historically focused on a grab bag of fringe issues such as franchise fraud and broker registration, Spitzer brazenly challenged the very institutional foundation of Wall Street. Armed with incendiary evidence that Merrill Lynch & Co. (MER ) stock analysts had misled retail consumers to please the firm's investment bankers, he launched a broad investigation into whether these activities should be separated. Spitzer's arrival was welcomed on Main Street and forced the Securities & Exchange Commission, tone-deaf to investor anger, to belatedly follow suit.

Then, a mere six weeks after he announced the probe, Spitzer settled with Merrill. Although he had initially vowed to set in motion big structural changes in the securities industry, the AG accepted a package of marginal reforms that probably won't do much to fix the conflict of interest between analysts and investment bankers. Also abandoned were any plans to bring criminal charges, unseal documents that might have revealed if the rot at Merrill spread beyond its Internet group, and compensate defrauded shareholders. Instead, nearly all of the $100 million settlement will go into the treasuries of the 50 states. After all the initial excitement, the quick deal was a letdown.

That's a common experience with the attorneys general. With their ears close to the ground, the states' top cops are great at sparking issues--think tobacco or privacy rights--that are stalled in Washington. Yet, at the same time, there is something unsavory about the way they operate. All too often, the AGs hop onto already crowded populist bandwagons, engage in grandstanding rather than sober analysis, then stage dramatic press conferences to announce what amounts to puny settlements.

So are the attorneys general a blessing or a curse? It's a critical issue, because the AGs are playing an ever wider regulatory role. Indeed, they're sometimes referred to as the fourth branch of government. Taking on everything from merger review to predatory lending to drug pricing, the attorneys general can sometimes seem like the SEC, Justice Dept., Federal Trade Commission, Food & Drug Administration, and National Highway Traffic Safety Administration wrapped into one (table).

As such, they're driving companies crazy. Chief executives argue that there's no need for such specialized federal agencies to be backed up by a redundant layer of politically motivated generalists. Some of Corporate America's complaints are valid. But by and large, companies are getting what they deserve. After all, they have been served up a string of scandals that have angered the public--and have used checkbook politics to block Washington from doing anything about it. This has shaken people's faith in the ability of the federal government to punish executive wrongdoers, clean up markets, and protect consumers.

That, as much as any other factor, is what is creating an opening for Spitzer and like-minded law enforcers such as California's Bill Lockyer and Connecticut's Richard Blumenthal. The weaknesses of Washington's bureaucracy are the AGs' strengths. For one thing, the attorneys general's broad jurisdiction makes them much less prone to the well-documented phenomenon of "regulatory capture" by special interests. And the fact that more than 80% of the AGs are elected means that the they are usually quite responsive to the public's mood. "The whole idea of federalism is that the state is entitled to protect its citizens when the federal government isn't doing a good job," says Erwin Chemerinsky, constitutional scholar at the University of Southern California.

So long as citizens feel betrayed by Washington, they are likely to welcome attorney general activism, encouraging Spitzer & Co. to branch out into new areas. Already, the AGs have ventured far beyond their historic role. Initially, their main purpose was to serve, essentially, as in-house counsel for state officials--providing them with, among other things, legal opinions and court counsel. That duty still occupies the majority of AG staffers. But in the 1970s, the AGs started to dabble in consumer protection, civil rights, and environmental enforcement.

Their profile rose even higher in the 1980s, when liberal attorneys general grew frustrated by the Reagan Administration's abandonment of antitrust law. For the first time, they began teaming up on a regular basis to launch lawsuits. Multistate litigation cut the AGs' costs, broadened their reach, and ultimately brought them a new level of public exposure during the landmark tobacco case of the 1990s.

In response to these multistate suits, many companies have tried to get judges to rule that the attorneys general are exceeding their powers. These efforts have almost always failed. Although the precise authority and duties of the AGs vary from state to state, courts have generally agreed that they may, as one federal jurist put it, "exercise all such authority as the public interest requires." Meaning, they can do nearly anything Congress has not specifically preempted--a short list of prohibitions that includes areas such as interstate trucking and airline passenger rights. "Most of the criticism of the attorneys general on constitutional grounds is just masked policy disagreement," says Harvard Law School constitutional law professor Laurence Tribe.

As a result, Corporate America will increasingly be facing a daunting foe. Many general counsels will tell you that no opponent is scarier than a pack of attorneys general--not plaintiffs' lawyers, not federal agencies, not Congress. Unlike tort lawyers, the AGs can bring criminal charges, summon the media at a moment's notice, and count on immediate credibility with jurors. Plus, they can't be bought off with mere money. Unlike Congress or the federal agencies, they are not burdened by slow deliberative processes--and can impose much bigger costs on corporate opponents. Many companies targeted by multistate litigation complain that they have to hire a separate law firm in each state capital. "The difference between getting a letter from a plaintiffs' attorney and getting a C.I.D. [civil investigative demand] from an AG is the difference between matches and a hand grenade," says Washington (D.C.) attorney Andy Miller, a former Virginia attorney general who specializes in defending companies against his former brethren.

For companies, then, the big danger is that the AGs will abuse their clout. As elected officials, the attorneys general measure their success first and foremost in the court of public opinion--not necessarily in courts of law. They can win by filing a suit that is popular with constituents, even if it doesn't have a snowball's chance with a judge. And that's potentially dangerous. The very purpose of the rule of law is to protect the unpopular from the mob. "Every attorney general wants to go somewhere--to the governor's office or the Senate," says former Virginia Attorney General Richard Cullen, who is now in private practice. "Favorable publicity is their currency."

Some legally speculative, but politically popular, lawsuits have already been launched, including cases filed by New York against handgun makers, by Connecticut vs. health-maintenance organizations, and by Rhode Island against lead-paint manufacturers. "I don't think there will ever be suits against McDonald's or Burger King for making people fat," says Washington (D.C.) tort lawyer Victor Schwartz. "They are too popular. [The AGs] have to find industries that people dislike."

And there are plenty of other risks. States may erect new regulations that conflict with federal rules. Moreover, inexperienced AG staffers may reach into areas that go well beyond their expertise. The lack of sophistication is one reason that U.S. District Judge Richard Posner has recommended that they get out of antitrust enforcement altogether. "Since becoming a judge 20 years ago, I have been struck by the poor quality of the briefs and arguments of most though not all of the lawyers in the offices of the states attorneys general," Posner writes in his recently published book, Antitrust Law. "[A] state attorney general's office is not able to scale up to anything like the level of specialization and professionalism of the Justice Department."

The idea of novice AG staffers diving into more and more companies' affairs may be a scary prospect. But as far as the general public is concerned, it is less frightening than relying on Washington. The new attorney general activism is likely to thrive until Corporate America cleans up its act--or the federal government starts forcing it do so on a more consistent basis.

By Mike France

With Dan Carney in Washington and Heather Timmons in New York

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