Structural issues at the underfunded SEC

The New York Times is reporting this morning that the U.S. Securities and Exchange Commission (the SEC) has caught the attention of the Government Accounting Office each of the last seven years for faulty financial reporting.  This report happens at a time when the SEC is seeking to substantially increase its budget and petitioning Congress to do so.

From the outside this looks very ironic at first glance.  After all, the SEC is charged with examining the accurate financial reporting of U.S. publicly traded businesses, yet its own auditor questions its accounting.  Yet, it’s my feeling that at second glance it simply demonstrates exactly what I, and the Commission, have been saying for a long time: the SEC is massively underfunded.

How can I say this?

As I first pointed out over two years ago, the SEC’s budget is less than Bernie Madoff’s annual management fee was back-in-the-day.  Meanwhile the Commission is routinely criticized for not having uncovered his malfeasance.  But the SEC has thousands more businesses to examine, not just the singular Madoff case.

So my question to you is: would you rather have the SEC spend their extremely limited, and spread very thin, resources on catching baddies like Madoff, or on precisely getting their books right?  Yes I know in a perfect world you would want them to do both, but that takes money.

This is not to excuse the SEC of their responsibility to report their numbers accurately.  I want their books to be right, too.  But the GAO also reports that the SEC has fixed their reporting every time an issue has been raised.  What that means is that there is not an intent to mislead.  Instead, isn’t it much more likely that they are just chronically overwhelmed and forced to cut corners in order to fulfill their charter?

Now consider the fact that the SEC has a gigantic unfunded mandate in the form of the implementation of the new Dodd-Frank financial industry and regulatory overhaul bill.  As I have written about many times, this overhaul is absolutely necessary to provide a regulatory framework for the proper functioning of the financial markets of the United States.

Given that there are always a few businesses and investment firms that don’t believe in ethical stewardship of shareholders’ monies, we need a consistent and powerful set of laws in place.  Yet, let’s be honest, without proper enforcement those laws are doomed to be emasculated by corporate wrongdoers.  Coupling bite with bark in the financial industry’s watchdog requires money.

For example, the single day’s worth of trading for May 6, 2010’s stock market flash crash took the SEC three months to process.  Why?  Was it lazy SEC employees?  No. Was it mismanagement of the crisis?  No.  It was because the SEC’s primitive computing system was so overwhelmed that it took three months to crunch all of the data!

In fact, a Congressional investigation revealed that SEC employees frequently resort to using printed material, calculators and pencils in order to do some of their work.  C’mon, do you think that the hedge funds on Wall Street who sometimes earn billions of dollars a year are using printed material, calculators and pencils to do their jobs?  No way.

Let me ask you another question: do you like the idea of investing your money in either a business or in some other kind of investment, like a mutual fund, and knowing that your hard-earned money has a potent watchdog protecting it?

One final point.  I have friends who grouse that airline pilots make too much money.  They have seen programs where a random passenger with a radio connection to a control tower can be talked through a landing.  As a retort I ask, do you want the low-bid pilot landing your plane in a ice storm?  Do you want the low-bid financial regulator overlooking the world’s most dynamic, complex and fast-moving financial markets?  Do you want a low-bid financial regulator as the back stop on your nation’s gross domestic product?

Jason