The SEC's Kangaroo Courts

Don't judge me.

Photographer: MARCEL MOCHET/AFP/Getty Images

The U.S. Securities and Exchange Commission wants to show it can be trusted with a potent weapon: the ability to act as prosecutor, judge and jury in its pursuit of financial miscreants. The real question is why it should have such power in the first place.

In the U.S., the judicial branch doesn't have a monopoly on dispensing justice. Myriad regulatory agencies, including the SEC, have their own in-house proceedings. Originally, these were designed to handle misconduct involving people who chose to enter the regulators' remit -- say, by registering as brokers or investment advisers. Punishments were mostly limited to disciplinary measures, such as revoking registrations. The idea was to handle routine business more quickly and efficiently than federal courts.

Over the past few decades, though, the SEC's powers have expanded immensely. The Dodd-Frank Act of 2010 gave the agency's judges authority to impose large monetary penalties on anyone who violated federal securities laws -- not just on regulated people and companies. The SEC no longer had to go to federal civil court to pursue many securities-fraud and insider-trading cases. A janitor who passed on a stock tip could end up being tried and fined hundreds of thousands of dollars without ever setting foot in a real court.

That's a problem. The SEC's proceedings differ from federal civil trials in important ways. The agency hires, pays and shares offices with the administrative judges. The defense has no access to a jury trial, little time to prepare its case, and no power to get its own pretrial depositions from witnesses. Appeals go to the same SEC commissioners who approved the filing of charges in the first place -- and then to federal courts that tend to defer to the SEC's judgment.

Not surprisingly, an initial push by the SEC to send more cases to its administrative judges provoked a backlash. Defendants have challenged the system's constitutionality. Legal experts are concerned that it will usurp the federal judiciary's role of construing and elaborating the law. To its credit, the SEC has pulled back in recent months and offered some changes for public debate. Among other things, the agency proposes giving the defense more time to prepare and the ability to obtain depositions from as many as five witnesses.

That isn't enough -- but it's hard to see what would be, without defeating the purpose. If the SEC had to give defendants most of the rights they enjoy in federal court, it would no longer be able to deal with cases quickly.

There's another way. If the SEC's administrative proceedings are equitable, as the agency insists they are, both sides should prefer their speed in cases that don’t require the fuller examination of a federal court. So why not let defendants -- at least, those not regulated by the SEC -- choose the system in which their cases will be heard? If the SEC won’t allow it, Congress can. Such an option needn't increase miscreants' chances of escaping justice, and it would give the SEC an added incentive to keep its process fair.

Some have likened the SEC's quasi-judicial system to a kangaroo court. Even if it isn't, it has the potential to become one. It should be restrained before it does too much damage.

To contact the senior editor responsible for Bloomberg View’s editorials: David Shipley at davidshipley@bloomberg.net.