Richardson investigation tied to possible antitrust case against municipal securities dealers

NY Times:

The federal investigation that prompted Gov. Bill Richardson of New Mexico to withdraw his nomination as commerce secretary offers a rare glimpse into a long-simmering investigation of possible bid-rigging, tax evasion and other wrongdoing throughout the municipal bond business.

Three federal agencies and a loose consortium of state attorneys general have for several years been gathering evidence of what appears to be collusion among the banks and other companies that have helped state and local governments take approximately $400 billion worth of municipal notes and bonds to market each year.

E-mail messages, taped phone conversations and other court documents suggest that companies did not engage in open competition for this lucrative business, but secretly divided it among themselves, imposing layers of excess cost on local governments, violating the federal rules for tax-exempt bonds and making questionable payments and campaign contributions to local officials who could steer them business. In some cases, they created exotic financial structures that blew up.

People with knowledge of the evidence say investigators are not just looking at a few bad apples, but also at the way an entire market has operated for years.

“It’s rare to sell a Senate seat, but it’s not rare to sell a bond deal,” said Charles Anderson, who retired as manager of tax-exempt bond field operations for the Internal Revenue Service in 2007. “Pay-to-play in the municipal bond market is epidemic.”

Michael D. Hausfeld, an antitrust lawyer in Washington, who is representing some of the cities, counties and states entangled in the federal dragnet, called it “one of the longest-running, most economically pervasive antitrust conspiracies ever to be uncovered in the U.S.” Many of these municipalities say they did nothing wrong and were duped by financial firms, which they are suing.

The possibility of a vast web of collusion would be sobering in any case, but the issue is of particular concern now, as Congress and the incoming Obama administration prepare a big fiscal stimulus package that may spawn infrastructure projects carried out and financed at the state and local level. States and cities issue bonds to raise money to pay for things like schools and road construction, and are supposed to follow strict rules on how the proceeds are handled for investors to receive a tax exemption on the interest.

Mr. Anderson estimated that as much as $4 billion a year was vanishing into the system, based on the volume of problems he saw before retirement.

Christopher Cox, the chairman of the Securities and Exchange Commission, has said oversight of the municipal bond markets is inadequate, and has urged Congress to take steps to protect both investors and taxpayers. Congress has not taken up the initiative.

The S.E.C. and the Justice Department declined to discuss the details or status of their investigations, including in New Mexico, where work on municipal bonds is part of a federal grand jury investigation. Officials at the I.R.S. said they were giving the matter high priority and had challenged the tax-exempt status of municipal bonds in a number of places but declined to describe individual cases.

Christopher Taylor, who retired in 2007 as executive director of the Municipal Securities Rulemaking Board, said the evidence amassed so far included tape-recorded phone calls, in which the independent specialists who are supposed to help local governments pick their bankers could be heard telling bankers: “We want you to bid on this deal, but you’re not going to get it — you’re going to get the next one. We want you to submit a sloppy bid.”

Unsuspecting governments then accepted the recommended bids, and paid too much, he said. Mr. Taylor also cited evidence of banks being paid in cities where they did no work at all, apparently to reward them for throwing the business to their rivals.

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I got what was believed to be the first criminal conviction in the US of a municipal securities salesman. It was back in the 1070s. Shortly after that the Municipal Securities Rulemaking Board was established. I later worked in the business and never saw anything like the bid rigging conduct described here. It is clearly unethical and I believe it to be a fraudulent business practice that should lead to anyone who is involved being barred from the business.

It appears that the regulators are amassing what I used to call a "Death Star" case. By that I mean one that is so massive it will be unmanageable if they try it as one case. The wiser course is to divide it up into several separate cases with narrow fact circumstances to prove. If the conspiracy as as big as alleged it will come out in the trials anyway. Separating the cases will also probably lead to some helpful plea bargains.

The key to these kinds of cases is keeping them simple by narrowly crafting the allegations in such a way that they are factually inarguable. If they go the other way with a big humongous cases with multiple allegations of wrongdoing, the defense gets to nit pick aspects of the case and confuse the jury giving the defendants a better opportunity of getting off. The government has made similar mistakes in some of the terroist finance cases.

These cases may also involve some pay to play activites that are pretty close to extortion. If that is the case it could lead to a huge shakeup in the business.