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Friday, March 14, 2008

Big Brother Really Is Watching

I've been reading the news about soon-to-be-ex-New York Governor Eliot Spitzer with mixed feelings. Yes, mixed. On the one hand, there is something satisfying in seeing an insufferably self-righteous, politically ambitious, ham-handed, and ethically challenged former prosecutor lose his grip on power because he did what he used to prosecute other people for doing. On the other hand, he was caught in a victimless crime because the ludicrously named Patriot Act requires banks to inform the IRS when their depositors engage in suspicious, that is, unusual, financial activity.

Big Brother lives.

Spitzer made his name as an organized-crime-busting New York City prosecutor and as the state's attorney general. During his two terms as AG he doggedly pursued Wall Street firms using a New York law, the 1921 Martin Act, that Daniel Gross of Slate says gives extraordinary powers and discretion to an attorney general fighting financial fraud. He used it to the hilt. I don't know if all Spitzer's targets were deserving of investigation, but his tactics were objectionable in any circumstances. Under Anglo-American law, the government is to regard people as innocent until proven guilty beyond a reasonable doubt. That means a prosecutor is supposed to charge an alleged wrongdoer with specific violations of the law, then present evidence of those violations to a jury. Only then may the state take retribution.

Spitzer must have found that procedure too arduous. As Gross put it in 2004, Spitzer isn't a scalp-taker, as Rudy Giuliani was when he was a prosecutor. Spitzer doesn't like taking cases to trial. Instead, he has devised a more powerful tactic: He exploits the threat of stock declines and business losses to force industries to change.

Why go to trial and take a chance on an unpredictable jury when you can bend a firm to your will by threatening to destroy it with bad publicity instead? Recent cases have demonstrated that bad press about a pending investigation, in the absence of a court conviction, can ruin a business. 

Gross writes, Spitzer viewed his targets not as criminals who needed to be jailed but as professionals (and firms) with assets, careers, and reputations to protect. So he didn't simply indict. He issued press releases. First, in 2002, he pursued Merrill Lynch's investment banking and research practices. When Spitzer published a press release detailing 'a shocking betrayal of trust by one of Wall Street's most trusted names,' Merrill Lynch lost $5 billion in market value in a few days and quickly settled. Getting the rest of the investment banking world to go along was then a relatively easy matter.

A prosecutor only has to do this once to find potential targets eager to enter into settlements. [T]he threat of Spitzer isn't jail time; it's a tanking stock. The very announcement of a Spitzer investigation is an excuse to sell and an invitation for shareholder lawsuits and proxy campaigns, Gross writes.

Perhaps justice was done in Spitzer's cases, but how would we know? His white-hot political ambition (which reportedly included the presidency) gives us grounds for uncertainty. He, of course, is not unique. Throughout the country, ambitious attorneys general, U.S. attorneys, and local prosecutors wield terrifying powers that can make draconian plea bargains attractive even to the innocent. Giuliani (whom the country has been spared, luckily) persuaded Michael Milken to accept a plea bargain by threatening to indict his brother and mother.

The term reign of terror comes to mind. (For more on Giuliani's persecution of Milken, see Daniel Fischel's Payback.)

Prosecutors, then, are among the most dangerous people in the land. When Spitzer went after Richard Grasso, former head of the New York Stock Exchange, over a lucrative deferred-compensation package, Spitzer aides spread malicious personal gossip to reporters, including an allegation that Mr. Grasso was having an affair with his secretary, according to Charles Gasparino in King of the Club. Gasparino also reported that Spitzer's staff questioned Grasso about the alleged affair and his alleged fathering of an out-of-wedlock child. This kind of thing is most likely routine.

And, of course, Spitzer also made headlines by cracking down on prostitution rings, never failing to condemn such operations with righteous indignation.

Which brings us to his downfall.


Vices Are Not Crimes


First, vices are not crimes, or shouldn't be so regarded. (Hat tip: Lysander Spooner.) Laws against consensual transactions create victimless crimes. That much-misunderstood term does not mean that people participating in those transactions, or their families, don't experience some kind of distress or that the providers of the outlawed services wouldn't prefer to be doing something else. People cause distress to others in all sorts of ways. Should those activities be outlawed? (For a typical straw-man argument on this point, see this.) All that victimless means is that physical force is not integral to the transaction, as it is to assault, robbery, and murder. Prostitution at gunpoint is obviously not victimless and is properly treated as a crime. Making prostitution per se illegal doesn't eliminate it, but rather turns it over to the underworld, where violence is the preferred means of conflict resolution. What has been gained?

Since victimless crimes have no wronged party in the sense that real crimes do, no one has an interest in reporting the transactions to the police. This creates a problem for law enforcement. If the police want to find the perpetrators, they has to use methods that carry a huge potential for corruption and violations of liberty: stings (entrapment), undercover operations, reliance on untrustworthy and self-serving informants, and surveillance.

It's this last method that snared Spitzer — and it should worry us all. Did you know your bank is under orders to report any unusual activity you might engage in to the government?

In 1999 the government's Federal Deposit Insurance Corporation announced the Know Your Customer (KYC) program, which would have required banks to report any unusual depositor activity to the authorities. Thousands of people protested the invasion of financial privacy and the program was canceled.

That was the story the public was told. In fact, 88 percent of banks already had KYC programs in place, thanks to strong encouragement from the Federal Reserve System. Moreover, in 1999 Declan McCullagh reported:

Under current rules, banks and credit unions — about 19,000 in all — must inform FinCEN [Financial Crimes Enforcement Network] of all transactions $5,000 and above that have no apparent lawful purpose or are not the sort in which the particular customer would normally be expected to engage.

Any currency transaction above $3,000 requires that a customer's name and home address be recorded and kept for five years. So must deposit slips or equivalent records for all transactions involving more than $100.

If banks and credit unions don't comply, they can be investigated and fined. But there's a bigger incentive for them not to protest: When they submit the forms, they're immune from liability. They're also not permitted to tell customers their transactions have been reported as suspicious….

What would the now-abandoned rules have done? Not much more. The biggest changes would have been formalizing existing practices and requiring banks to identify the source of customers' funds.

These kinds of regulations are justified in the name of the war on drugs. (It's a war on people actually.) But drug transactions per se are victimless. Thus (updating Randolph Bourne) war on victimless crimes is the health of the state.

At any rate, the public display over canceling Know Your Customer was a sham. Moreover, when the Patriot Act was written, the program was included. The Patriot Act (pdf), of course, is that kitchen-sink law that was thrown together and passed by Congress in the wee small hours of the morning before most members had a chance to read it. It contains a wide array of police-state measures that federal law-enforcement agencies had long wanted but couldn't obtain — until after Sept. 11, 2001.


Suspicious Financial Transactions


Eliot Spitzer's patronage with a prostitution ring was uncovered after his bank reported suspicious withdrawals. As the New York Times stated, [I]n the Hauppauge [Long Island] offices of the Internal Revenue Service, investigators conducting a routine examination of suspicious financial transactions reported to them by banks found several unusual movements of cash involving the governor of New York, several officials said.

Spitzer appeared to be trying to conceal the source, destination or purpose of the movement of thousands of dollars in cash. At first investigators thought they were on to bribery or other political corruption. Only later did they discover the purpose was to procure the services of a prostitute.

The government's case was sealed with the help of wiretaps and the reading of cell-phone text messages.

One need not have sympathy for Spitzer to find this ominous. A wealthy man, he was handling his own money, and investigators had no independent evidence that a crime was being committed. The cash transfers might have indicated criminal activity, but do we want the government to have whatever power it takes to detect crimes? If so, there's so much more that it could do besides monitor bank withdrawals.

Yes, Spitzer lived by the sword and now his sky's-the-limit political career has died by the sword. Good riddance. But considering how he was caught and what he was caught at, perhaps only muted celebrations are appropriate.

  • Sheldon Richman is the former editor of The Freeman and a contributor to The Concise Encyclopedia of Economics. He is the author of Separating School and State: How to Liberate America's Families and thousands of articles.