The Divide: American Injustice in the Age of the Wealth Gap

by Matt Taibbi

  A key reason had to do with personnel. A crucial consequence of disasters like the Arthur Andersen and KPMG cases from the Bush years is that politicians more and more became sensitive to the idea that high-level corporate prosecutions can result in serious vote-losing public relations consequences, if they’re bungled in spectacular enough fashion. Thus as the years passed, politicians more and more often appointed people who were essentially other politicians to jobs traditionally occupied by hard-core career-prosecutor types.

  The transformation would be similar to the one that had gone on in the media in the 1990s and 2000s, when the press went from being the home of middle-class ascetic cranks who hated everyone and dressed like overcaffeinated Jesuits (always with food stains on their ties) to being a destination profession for young Ivy Leaguers who saw a journalism career as a gateway to high society.

  The same process was now about to transform the federal law enforcement system, thanks in large part to new president Obama, who ushered in a herd of Ivy Leaguers and high-powered corporate defense lawyers to be his top crime-fighting officials. This new crowd of bookish lawyers was headlined by the Columbia University/Covington & Burling duo of Holder as attorney general and Lanny Breuer as head of Justice’s Criminal Division, essentially the top crime-fighting job in the country.

  This new crew, derided as “tourists” by two different ex–DOJ officials I spoke with, attacked their posts with the attitudes of corporate lawyers, stressing risk avoidance above all and insisting that senior-level officials have their fingers in the smallest of pies. Reports began to surface of senior DOJ officials micromanaging the cases of regional prosecutors from afar and instilling a general terror of screwing up among the ranks, leading to a general unwillingness to bring cases that had any chance of losing.

  A few early episodes set the tone for the new administration. One involved a horrible tragedy that scarred the department for years.

  The episode grew out of the trial of former Alaska senator Ted Stevens, who was accused of accepting more than $250,000 in gifts. Essentially Stevens, like every bent government official in every third-world country that ever existed, had induced private interests to build him a boffo house, getting the Alaska-based pipeline company, the VECO corporation, to build him a “splendid” retirement “chalet.” Federal prosecutors went after Stevens and eventually convicted him on seven felony corruption counts in what was perceived as a big win-win inside the Obama White House, being as it was a victory in a major corruption case and a crushing blow to a long-loathed Republican Party stooge who for years had been an exacting gatekeeper to federal contracting largesse—Stevens had chaired the Senate Appropriations Committee for more than half a decade.

  But even as the Stevens case was all but finished, it went sideways, and Obama administration officials had to wake up to the garish spectacle of the gnomish Stevens grinning and waving to the cameras, a free man, arms around his wife and children, and celebrating the new administration’s incompetence in the pages of The New York Times.

  Here’s what happened. In the early 2000s, Senator Stevens had reportedly sent the CEO of VECO, Bill Allen, a formal letter asking for a bill for any goods and services his company had provided to Stevens in the construction and remodeling of the “chalet.”

  But in court, Allen—the state’s chief cooperating witness—had testified that after receiving the letter, he had had a conversation with an emissary of Stevens named Bob Persons, who told him to ignore the senator’s letter, because Stevens was just “covering his ass” in asking for the bills. This key testimony had been among the reasons Stevens got convicted.

  But it later came out that there existed a series of FBI agents’ notes, called 302 forms, showing that agents at one point had talked to Allen, and Allen had reportedly said he didn’t remember that conversation with Persons.

  This is pretty much the definition of exculpatory material. Had Stevens’s lawyers known about these notes, they would have been able to argue in court that the “covering his ass” conversation never happened. Whether the jury would have bought that story is another question, but the defense would have been able to argue it.

  Six Justice officials, who became known as the Stevens Six, would eventually become subjects of an investigation for prosecutorial misconduct. On April 7, 2009, just months into the Obama presidency, the judge in the case, one Emmet Sullivan, wrathfully dismissed the charges against Stevens in what the Times described as a “lacerating” fourteen-minute speech. The judge, furious about a “troubling tendency” of prosecutors to stretch the boundaries of ethics in pursuit of a conviction, appointed a Washington lawyer named Henry F. Schuelke III to investigate the case.

  The so-called Schuelke report would not come out for three more years, but when it did surface, it contained a startling tale. Obama’s new appointees had inserted a young prosecutor named Brenda Morris as lead prosecutor in the Stevens case days before trial, infuriating the rank-and-file prosecutors in Alaska who had run the case since its inception.

  Morris, Schuelke said, had reportedly provided the new administration with direct access to the case, developing a “direct reporting relationship” with then–acting attorney general Matt Friedrich and his senior deputy Rita Glavin, who was brought in by President Obama to run the Criminal Division during the transition period of his administration. Glavin, a career Justice official, was a favorite of the new administration and moved up after Obama’s election until Holder’s Covington & Burling buddy Breuer could secure the job full time.

  In any case, Morris reportedly developed a relationship with Glavin and Friedrich during the Stevens case that cut a few links out of the usual chain of command, allowing the new administration to bypass line prosecutors and officials like Bill Welch, who ran the Public Integrity Section nominally in charge of the case. The Schuelke report ultimately pointed the finger squarely at the higher-ups and concluded that in their zeal to convict the Republican stooge Stevens, the new crew had botched the case. As Schuelke wrote:

  During a meeting with Mr. Friedrich, Ms. Glavin and Mr. Welch, Ms. Morris recommended, without prior consultation with Mr. Welch, that FBI 302s of witness interviews not be disclosed as Jencks Act (18 U.S.C. § 3500) material, a position contrary to Mr. Welch’s preferred practice. Mr. Friedrich and Ms. Glavin endorsed Ms. Morris’s recommendation and 302s were not disclosed to the defense until a week before trial.… In other words, the specially picked lead attorney who had been airlifted into the Stevens trial days before it began proposed not turning over the exculpatory notes, and the acting Attorney General and Acting Head of the Criminal Division agreed with the decision.

  But Friedrich, Glavin, and Morris were not the officials who ultimately incurred the wrath of the Obama administration. Instead, not long after he arrived on the job, an enraged Lanny Breuer, furious about the bad press, went after other members of the Stevens Six like Ed Sullivan and Nicholas Marsh, both of whom were transferred to outback jobs in the Office of International Affairs.

  “Siberia” is how one DOJ official put it.

  Then in September 2010, in an incident that rocked the Justice Department, Marsh committed suicide ahead of the release of the Schuelke report. Marsh’s attorney Robert Luskin, who insisted his client would have been exonerated, said Marsh had been grieving because he believed the report would prevent him from continuing to work as a prosecutor.

  Curiously, Lanny Breuer issued the public statement on behalf of the department. “Our deepest sympathies go out to Nick and his family,” he said.

  In a fateful irony, the Schuelke report ultimately came to no conclusion about Marsh, putting most of the weight on two lower-level Justice employees, despite concluding that senior officials had endorsed the plan not to turn over the 302s.

  This episode would cast a pall over the entire Justice Department for years to come. Career Justice officials came away from the incident not only worried that the higher-ups would meddle in the day-to-day prosecution of cases, b
ut terrified that their bosses would not support them in the trenches. Things got so bad after this incident, and the similarly dispiriting decision not to retry Senator Stevens, that Holder himself, in a move that one former DOJ official described as going over “like a fart in church,” made a tour of all the bigwigs in the Justice Department and personally promised that he would have their backs in the future.

  In any case, shortly after the Stevens case went sideways, Breuer announced a plan to revamp the Justice Department’s Criminal Division’s Fraud Section, whose chief failing seems to have been that it had been created during the Bush administration. In fact, the Fraud Section had been productive during the Bush years, expanding its footprint in several areas that had been overlooked, from securities fraud to violations of the Foreign Corrupt Practices Act to corporate accounting cases from the Enron era. Health care fraud prosecutions had gone from basically nil—fraudsters stole from Medicare wantonly in the 1990s—to thriving, reportedly saving more than $7 billion.

  But Breuer didn’t want the program to continue in its current form. He told reporters in August 2009 that he was looking for a “superstar” or a “rock star” lawyer to lead “cases of extraordinary importance” in the Fraud Section.

  Meanwhile, most of the players who had actually pushed white-collar cases to trial in the pre-Obama years were quietly phased out. Kirk Ogrosky, who had run the health care fraud division, left in April 2010. Deputy Chief Mark Mendelsohn, who had run Foreign Corrupt Practices Act cases, left that same year. Another deputy chief, Paul Pelletier, called the “heart and soul” of the Fraud Section by reporters at the DOJ watchdog site Main Justice, left in 2011. Fraud chief Steve Tyrrell left in early 2011 as well.

  The “rock star” Breuer eventually hired to run the Fraud Section was Denis McInerney of the white-shoe defense firm Davis Polk, whose main claim to fame was—get this—defending Arthur Andersen in its obstruction-of-justice case. McInerney hadn’t prosecuted a case in over fifteen years at the time of his hire. His headline experience as a prosecutor had been a racketeering trial against the head of an eye-care products company.

  Eventually, the Criminal Division’s Fraud Section would be entirely deemphasized in favor of a shiny new Obama-created institution called the Financial Fraud Enforcement Task Force, which was created around the same time that McInerney was hired.

  Morale at the Justice Department plummeted after that, thanks to a series of strange decisions. For one thing, Holder decided not to retry Stevens, continuing a pattern of backing off big cases after setbacks. In another key case, Angelo Mozilo, the erstwhile head of Countrywide Financial and the living, spray-tanned symbol of corruption in the subprime markets, was quietly informed by the DOJ that he was not a target for criminal prosecution just four months after he settled with the SEC in a civil case for the relatively paltry sum of $67.5 million, much of which was paid by an insurance policy. Mozilo had earned nearly half a billion dollars pumping America full of fraudulent mortgages. The SEC had already released emails from Mozilo in which he denigrated his own subprime snake oil. “In all my years in the business, I have never seen a more toxic product,” he wrote in one message. Mozilo was the perfect symbol of the mortgage scandal, and it was a bizarre decision to say the least for the government to let him know he was off the hook before the statute of limitations expired on his possible crimes.

  The government similarly decided not to press forward with cases against a number of other prominent financial fraud targets. In early 2010 the DOJ decided to end the investigation of AIG Financial Products chief Joe Cassano, the patient zero of the financial crisis, whose half-trillion-dollar portfolio of unsecured credit default swaps imploded in 2008, forcing the government to bail out AIG and sending the world economy into a tailspin. Cases involving Ponzi scheme artists Bernie Madoff and Allen Stanford were restricted to a few defendants apiece, while banks and other institutions that aided their frauds got off clean. It would be years before the Obama administration would begin again to look at the role played in the Madoff scandal by JPMorgan Chase, Madoff’s banker.

  Meanwhile, after the first trial of baseball great Roger Clemens ended in a mistrial, the government pushed forward, keeping dozens of agents and lawyers on the case and deciding ultimately to retry the arch-villain, accused of lying about taking steroids. Ironically, Clemens had originally been represented by, of all people, Breuer, and some speculated that Lanny had decided to take a second whack at Clemens so as to avoid accusations of favoritism. Incredibly, the DOJ still ultimately lost the Clemens case, and it was the way they lost it that was most distressing. “There were two pieces of evidence in that case, the needle and the trainer, and it still took them ten weeks to put on the trial,” groans one former federal prosecutor. “And they lost. That’s the kind of thing that makes you hesitate before you try a credit-default-swaps case.”

  The key thing, the one thing that almost every current and former federal prosecutor who lived through this period talks about, is that in the early years of the Obama administration, a huge premium was placed on not losing. Breuer and Holder acted like the corporate stewards they were and gravitated toward a bottom-line strategy of prosecution. They became attracted to a cost-benefit-analysis vision of law enforcement, where the key questions weren’t Who did what? and What the hell should we do about it? but Will we win? and How badly will the press screw us if we lose?

  That, in turn, led to more and more resolutions arrived at under the Collateral Consequences theory, where not only did guilty companies not have to suffer the collateral risks of prosecution, but the Department of Justice itself avoided its own form of collateral damage in the form of bad press and political fallout.

  Accepting high fines and/or deferred prosecutions with limited admissions of wrongdoing up front, instead of risking long battles with high-priced lawyers who could deal the department black eyes, seemed like a win-win.

  The only problem was that the Justice officials who were employing this new doctrine, like a lot of overeducated people, were all just narrow-minded enough and just lacking enough in self-awareness to not quite see the consequences of the new math they were employing.

  They thought they were employing an economy-saving doctrine of situational leniency, but they somehow failed to understand that by coming up with a calculus to determine who was big enough and important enough to command jurisprudential mercy, they were simultaneously making a calculation about who was small enough and unimportant enough not to qualify.

  So it wasn’t just about avoiding prosecutions of firms whose collapse could disrupt the world economy or cost lots of jobs and votes. It was also about avoiding prosecutions that could be politically embarrassing, costly in manpower and resources, or just plain difficult.

  “Prosecutors have to be fighters,” explains one former DOJ official. “You’re gonna lose sometimes. But they never wanted to lose, ever.”

  The problem was, this failure of prosecutorial backbone took place during an epic crime wave. On the street, the incidence of crime had been falling almost everywhere. But in America’s boardrooms, it was a different story. It was a very bad time for prosecutors to suddenly become afraid of the courtroom.

  By Barack Obama’s second term, it was clear to most rational observers of the financial sector that the crash of four years before hadn’t been some kind of accidental market screw-up—not a “thousand-year flood,” as some pundits first called it. Instead, it had been a widespread crisis of institutional policy. And a core part of this policy, it turned out, was crime.

  Not mere technical violations, mind you, not just a thumb on a scale here and there, but crime, real crime, the kind of thing people once went to jail for. Specifically, this was a massive criminal fraud scheme, something akin to a giant counterfeiting operation, in which banks mass-produced extremely risky, low-quality subprime mortgages and with lightning-quick efficiency sold them off to institutional sucker-investors as highly rated AAA bonds. The hot potato game targ
eted unions, pension funds, and government-backed mortgage companies like Fannie Mae on the secondary market.

  It was a modern take on the Rumpelstiltskin fairy tale. Big banks took great masses of straw (i.e., the risky home loans of the poor, undocumented, and unemployed) and spun it, factory style, into gold (i.e., AAA-rated securities). They used a technique called securitization that allowed banks and mortgage lenders to take vast pools of home loans belonging to underemployed janitors and immigrants and magically convert them into investments that were ostensibly as safe as Microsoft corporate bonds or the sovereign debt of Luxembourg, but more lucrative than either.

  The sudden introduction of these magic mortgage bonds into the marketplace pushed most every major institutional investor in the world to suddenly become consumed with the desire to lend money to American home borrowers, even if they didn’t know to whom exactly they were lending or how exactly these borrowers were qualifying for their home loans.

  As a result of this lunatic process, houses in middle- and lower-income neighborhoods from Fresno to the Jersey Shore became jammed full of new home borrowers, millions and millions of them, who in many cases were not equal to the task of making their monthly payments. The situation was tenable so long as housing prices kept rising and these teeming new populations of home borrowers could keep their heads above water, selling or refinancing their way out of trouble if need be. But the instant the arrow began tilting downward, this rapidly expanding death-balloon of phony real estate value inevitably had to—and did—explode.

  In other words, it was a Ponzi scheme, no different than the Bernie Madoff caper, only executed on an exponentially huger scale. The scheme depended upon the ability of a nexus of large financial companies to factory-produce and sell these magic home loans fast enough, and in big enough numbers, to continually keep more money coming in than going out.

  Once the bubble burst, lawsuits were filed everywhere and whistle-blowers emerged by the dozen, showing, in graphic documentary detail, how nearly every major financial company in America had chosen to participate in this enormous fraud. It was the very definition of systemic corruption, but curiously, despite what looked like mountains of evidence, almost nobody with any connection to the crisis was even threatened with criminal prosecution.