Episode Transcript
Speaker 0 00:00:00 Hello everyone. This is Tom Fox back for another episode, and I'm thrilled today to have back with me, my good friend, McKell Ryder Gordon, managing director at affiliated monitors. Today. We're going to take things a little bit different direction because we're going to explore conflicts of interest and not conflicts of interest, um, that you train on, um, at work, not conflicts of interest, where you're looking at sign in sheets for vendors coming to take out your supply chain folks. But we're going to tear some conflicts of interest from that, literally from the headlines, I'm going to ask Kyle to analyze them and see how we can use those as teachable moments. So Macau with that incredibly long-winded introduction. Welcome.
Speaker 1 00:00:43 Oh, thanks Tom. And you know, I always love chatting with you, so I'm delighted to be back. Yeah. Some recent news stories. Definitely. They're instructive, not only on the concept of conflicts of interest, integrity of organizations and how trusts in any institution, public private, how easily at one, and lost with respect to how that entity treats the actual and I'd say even potential the appearance of conflicts of interest. So stories that have, um, risen to the headlines, uh, hard to hard to miss some of these federal reserve, the departure of several federal reserve bank officials for their failure to disclose financial trading activity during their 10 years, uh, you know, when they had access to market information and events, knowledge of fed bank actions, that's not looking good. Similarly, heads of two Eurozone central banks, they apparently benefited from European central bank actions. They had advanced knowledge of, and maybe the, the, the elephant in the room, Supreme court justice, Clarence Thomas under scrutiny for his wife's business that is earned fees from groups, filing Amicus briefs in cases brought before SCOTUS and then several members of the U S Congress have been identified as having failed to disclose benefits from stock transactions that they undertook whilst in office.
Speaker 0 00:02:12 Miguel, could we take perhaps a step back? And if I could ask you what, in your opinion is a conflict of interest, how, if any, does it differ from self-dealing or perhaps even nepotism? Is it a purely ethical problem or are there situations where a conflict of interest could actually rise to the level of illegal conduct?
Speaker 1 00:02:34 Yeah. Great question. Well, let's start with the OECD definition, right? They, they acknowledge COIs conflicts of interest are both straightforward and complex. In principle, a COI is easy to define in the public sector. A conflict of interest arises when a public official has private capacity interests, which could improperly influence the performance, their official duties and responsibilities. So a COI therefore is a conflict between that officials personal interests from which they could gain. And it's not necessarily financial and their duty as a civil servant. So in general, the appearance of a COI is also to be avoided because really that's to minimize the risk to the organization, reputation, not to mention trust in the official, uh, the officials, uh, capacity as, as an elected official or appointed official, uh, in terms of integrity, perceived COIs, um, can, can really be harmful to trust in public decision-making.
Speaker 1 00:03:41 Uh, and managers should really consider perception when they decide on specific cases. I know that the fundamental idea here is where there is in fact, an unacceptable possibility of a conflict between a public officials interests as a private citizen, that's their private capacity interest, right? And their duty as a public or civil servant, their official duty, uh, anytime a COI can be said to exist an end. And you know, this is, this definition has been applied to test a range of situations and COIs. Aren't just, um, aren't a problem just in public settings with public officials, as you know, Tom they're, they're prevalent in private settings and really can occur whenever an individual's professional responsibilities diverged from their personal interests or when they are at odds with their professional responsibilities. So think about a doctor that is paid by a pharmaceutical company who then tends to heavily prescribe that particular company's drugs or drug or financial advisor who earns fees from promoting certain funds or stocks, uh, that they're also encouraging their clients to invest in impartiality is lost when personal gain is connected to professional duties.
Speaker 1 00:05:05 So an ethical terms, failure to disclose COIs to patients, clients, stakeholders, the public, they infringe on moral rights, such as the right to be told the truth. And they undermine distributive justice that is equitably distributing benefits and burdens. And it means someone is benefiting at the expense of another, which is, I think most of us will agree unethical and CYS negatively impact the common good. And that's that example, right? When that appointed or elected official fails to disclose COI, which in turn erodes community trust. So bottom line COIs impact institutional integrity and trust are an it's undermined that the basic definition here assumes that a reasonable person knowing the relevant facts would conclude that the professional or the officials private capacity interest could improperly influence that professional or officials conduct or decision-making. So part of that influence peddling nepotism empire building, they're all related to COIs. The trust erosion arises from a breach of the entrusted responsibility, not to misuse her or his official position in order to obtain an improper private capacity advantage. And that includes advantages, not just for themselves, but, uh, family members, friends, even other entities.
Speaker 0 00:06:38 So Macau, have you seen, uh, some examples across other industries beyond those you, uh, noted from, um, the recent news stories of light?
Speaker 1 00:06:49 Oh yeah. There, there are entire industries that continued to suffer from culture, uh, that I either allows you eyes or haven't fully been able to create the stringent prohibitions. So I mean, you, you know, this medical profession is one of them, right. And I remember a number of years ago, I wrote for a book on corruption, how despite sunshine laws that is mandatory disclosure little has really changed because after reporting, there is no prohibition or recourse against COIs in that profession. And Tom, you know, I know, you know, this COIs, the SNL crisis in 19 in the seventies, right? Those of you old enough to remember, and I'm not including you, Tom here, spring chicken, right? No, in no small part due to COIs, I don't know. I I'd be interested in your thought on this, but some might argue, you know, the deregulation of telecom industry helped produce the environment in which the world com scandal, uh, occurred. And that also had elements of COIs. I mean, I I'd say financial consulting, public auditing legal sectors are all still trying to catch up on understanding the need for outright prohibitions on COIs by professionals. You know, w there've been some efforts to address, uh, these with particular, uh, you know, laws and regulations. I'm thinking sec, abolishing fixed, commissioned, et cetera, but really not to the extent we might expect.
Speaker 0 00:08:22 Well, Kyle, there are a couple of areas, uh, where I have noted COIs raises their ugly head that I typically haven't seen or have given me even more pause to consider the Nvidia Snus that they can for tendon. And the first one I would raise to you as BlackRock. Uh, what did you see in that matter?
Speaker 1 00:08:44 Oh yeah, well, this one's a really instructive, um, case. And, and that's because in this instance, this was the first time the sec charged a senior compliance officer of a company that was Bartholomew Battista. And this was back in like 2015 with violation of rule 38, a one for failing to report a material compliance matter. And in this case in a BlackRock ended up paying 12 million to resolve civil charges. And it was because one of its units failed to disclose a conflict of interest created by one of its top portfolio managers. So the greater story was, uh, Dan rice, who was at BlackRock overseeing it to energy funds with simultaneously running his family's oil and natural gas company, rice energy, um, and then rice energy partnered with a coal company that later became one of the largest holdings of the fund rice oversaw for BlackRock.
Speaker 1 00:09:49 Ah, you know, sec said rice had personally invested some 50 million in rice energy then forms this JV with the coal company and the largest holding in the BlackRock energy and resources portfolio now worth 1.7 billion. So what was interesting about that in sec enforcement was that BlackRock knew and approved of Rice's activities, but then withheld the information from BlackRock's clients and from the board. And then the second factor was at Battista. The compliance officer made the decision not to report rice as violations of BlackRock's internal private investment policy as a material compliance issue to BlackRock's board of directors, you know, and at the end of the settlement, you know, SCC said, look, you BlackRock failed to adopt and implement meaningful policies and procedures are around prohibitions of outside activities of employees and your own compliance officer was complicit in this, you know, that that's, um, I think fairly instructive right there.
Speaker 0 00:11:01 And this next one, uh, I will have to say on a personal level, uh, really troubled me the most, uh, of all the or organizations and of all the regulatory bodies we have in the United States. This is the one that I've probably looked up to the most over the years and it's the federal reserve. And we saw some incredibly, either insensitive idiotic or very blatant conflicts of interest here. But, uh, maybe I'm a little bit too emotional on this point. My Kyle, so it's good. If you could tell us what you saw on the conflict of interest with the federal reserve,
Speaker 1 00:11:37 Uh, I will attempt to be a more dispassionate about this, but I I'm right there with you. Um, you know, for those, those listeners who, who missed this story, it, it really started back in October of 2021, when was revealed that Dallas fed president Robert Kaplan and Boston fed president Eric Rosengren had bought and sold stocks and real estate linked assets in 2020, just as the central bank was engaged in an extensive rescue of financial markets, right due to COVID. So ultimately Kaplan arose, grew and had to resign. And weeks later, after, after the resignation, you know, fed chair, Jerome Powell announced tough new prohibitions, right? Setting out major overhaul of conflict of interest rules. Um, but I think much of the public was left asking why were those prohibitions there from the beginning? Uh, essentially you fed reserve a telling us taxpayers that your bank presidents have been for decades in a position to financially profit from trades made on information that is denied to the rest of us.
Speaker 1 00:12:47 So whilst the fed has said, policymakers now, and senior staff now will be prohibited from active trading, active trading, and will only be able to purchase diversified investment vehicles, like say mutual funds. I don't know that that has done much to restore confidence in the Fed's independence. And, you know, really the situation was made much worse. Uh, when fed reserve vice-chair Richard Clara admitted, he had failed to fully disclose his financial transactions. Um, again, dating back to 20, in this case, 2020, February, 2020, he had moved between one and 5 million out of a bond fund into a stock fund. And he did this on February 27th, 2021 day prior to Powell signaling the central bank might move to cushion the economy again, when the pandemic hit the us and Clara had couched these trades as merely rebalancing his portfolio, but then subsequently issued a correction in his annual financial disclosure that basically told us all, Hey, this guys was actively trading only three days prior to that big stock sale.
Speaker 1 00:14:01 This wasn't a rebalancing. So then his story was, he told the office of government ethics, oh, was an inadvertent error, you know, so, so he has, um, he was forced to resign in January of this year. And I understood the inspector general of the fed is investigating trading activity now of other top fed reserve officials. So again, more questions than any sort of trust building efforts occurring here. Uh, the restrictions central, you know, with the staff and policymakers now having to give 45 days advanced notice, they've got to obtain prior approval from internal ethics staff for all purchases and sales and, and they're supposed to hold on all investments. I don't know that that goes nearly far enough now, um, to restore confidence.
Speaker 0 00:14:52 Uh, you mentioned the courts and here, I want to throw a huge shout out to the wall street journal who did a yeoman's job in analyzing, uh, stock trades of federal judges and did some great reporting that we see in the journal, but, uh, leaving the Supreme court aside for a moment, what did you see in the district and appellate courts that gave pause around the issue of conflict of interest?
Speaker 1 00:15:20 Well, as you mentioned, wall street journal, right? That expo's a 685 federal court cases between 2010 and 2018 heard by some hundred and 31 judges where the judges with their family members held stock in one of the companies involved in the case before them. And, and I think here again, this is instructive on, you know, like what not to do. So journal contacted them and maybe a little less than half 56 at the 131 judges after they were contacted by, um, the journal instructed their staff. Hey, go tell people in these lawsuits, some 329 different lawsuits that gee, I should have recused myself as the judge and, and the administrative office at the U S court said, oh, well, you know, we're always looking for ways to improve nonetheless, you know, real damage to the public's faith. There is not, it's not easily undone. And, and to put this in context, uh, section 1 44 of the U S federal rules of civil procedure last amended in 1974.
Speaker 1 00:16:28 So it's not like this is a surprise, um, surprise rule here, mandating that all federal judges must recuse or disqualify themselves from cases where any of a lengthy list of circumstances are present, including if the judge knows that they themselves as an individual or as a fiduciary or their spouse, or even their minor child has a financial interest in the subject matter in controversy or in the party to the proceeding or any other interests that would substantially affect the outcome of the proceeding AAO. And prior to that case, law settle back in 1927, prohibiting judges holding a pecuniary interests and even criminal cases from hearing those cases prior to 1974, without amendment to the rules of civil procedure, SCOTUS had ruled in a 1972 case, uh, ward V village or Monro Monroeville, that's it, that us constitution requires a neutral and detached judge preside over judicial proceedings free of legal or financial interests in the company involved.
Speaker 1 00:17:42 So when you look at the journal, followed up with these, with these judges, and this is where it gets instructive on like, you know, like, uh, uh, the importance of how an organization or an individual response to these allegations to conflicts of interest. And this is really instructive and not wait, like what not to do. Some judges told the journal reporters that the error was their staff's fault. Like, you know, that's right. Blame your subordinates, never a good move for leaders. Some other judges blamed the technology. It's the computer's fault. Yeah. Th th they actually said, oh, well, our COI software just didn't match things up due to some misspellings or minor differences in how the company was titled, oh, naughty technology, darn that down to computer. And then worst of all, I think we're about a third of the judges who responded that, okay, it was all right, that it was okay that they listened to the case, that they heard the case in which they were conflicted because wait for this, the stock in the company, their stock in the company had lost money.
Speaker 1 00:19:03 So like you were going to discuss the conflict if you'd made money, if you profited, you know, and this makes me think about if there was a recent study published by the academy of management perspectives about the attitudes of professionals and, and they re they didn't necessarily look exclusively at judges. They, you know, they looked at lawyers, doctors, judges, accountants, and so on, and their understanding or lack of their own biases, right? The research showed that the greater a manager sense of professionalism, the more likely that person was to accept a briber gift. And the more high-minded professionals like judges, the more susceptible they were to unconscious bias toward gift givers, because they were convinced they were immune to such favors in many of the professionals that were surveyed, believed that they could effectively self regulate against conflicts of interest. In fact, those were, who were in the practice of law were shown to be particularly tone deaf to their own susceptibility, to being influenced or recognizing their own biases.
Speaker 0 00:20:17 Well, Cal we've been saving the big one for last, and I say big one as a pro, still practicing lawyer and someone who avidly follows the Supreme court, but we have one, literally one on the Supreme court. So could you walk us through what the conflict of interest is and, um, practice, uh, we will, we'll save a potential resolution for the next question, but w what do we at least have right now, the Supreme court in the context of a conflict of interest?
Speaker 1 00:20:46 Yeah. So if the federal reserve has you personally worked up, um, this one with the Supreme court, um, this is the one I would have to tamp down my, um, my outrage. So this, this stems from a series of articles by investigative reporter with the new Yorker Jane Meyer and she on earth recently, it was a litany of potential conflicts of interest relating to justice, Clarence Thomas, because of Thomas' wife, Ginny Thomas's involvement with numerous, uh, groups. And you could call them extremist in some instances, and put that in context, Ginni Thomas has a spouse belief that, you know, Democrats are out to kill people. She's claimed fluoridation in the water was somehow poisoning people's minds. It's a long list, but that is not the core concern. It's that Jenny Thomas runs an active lobbying firm that has ties to many of these groups that have an interest in cases that may actually come before the court, or are currently on the court's docket.
Speaker 1 00:21:55 So for instance, the court agreed to consider whether race conscious admissions programs at Harvard and the university of North Carolina are lawful raising the prospect that there could be a rollback of affirmative action in higher education. Well, Jenny Thomas is on the advisory board of a group called the national association of scholars, which is a conservative group that filed an Abacus brief in the Harvard case. Another case the court heard on the so-called Muslim ban Ginni Thomas' firm worked for a group that filed an Amicus brief in that case lobbying in favor of the ban. And there, there are numerous other examples. And what's important here is that it's really elevated, um, a little known fact up to public scrutiny so much so that some legal scholars believe the very integrity of SCOTUS is being undermined by, by this revelation. And that is that the propriety of the conduct of Supreme court justice. It's regulated almost entirely by each justice individually. So unlike the lower us courts, SCOTUS doesn't have a formal conflict of interest policy or code that specifically prohibit conflict of interest. It's kind of extraordinary as not really a fact that many people I think were either aware of, or at least they haven't given thought to the potential repercussions that a lack of a formal COI policy and SCOTUS that prohibits conflicts of interest, or even the appearance of them. Uh, you know, it may seem patently obvious, but clearly it wasn't.
Speaker 0 00:23:33 And, you know, uh, the reason I'm not as excised on this matter is I was in the federal reserve is I learned about the Supreme court's complete abrogation of conflict of interest amongst itself, back when I was in law school. So, uh, I've always known that they self-regulated, but in their CALS, their case self-regulation means no regulation. And it's literally up to the individual justice even to make a decision on recusal, uh, let alone have something that would rise to the con a conflict of interest, and I'm afraid, uh, the courts continued, uh, adhered to that position is going to put them in a very difficult political and reputational position, uh, because they seem to have no interest in changing that, or at least even putting a formal policy in place. So, um, I guess I was resigned to this one a long time ago, and that's the only reason I'm not as excised as use my,
Speaker 1 00:24:35 Well, you know, I'll put this in context for our listeners just a little bit, you know, for other courts in the U S there are rules and principles governing judicial ethics, right? And they come from our constitutional guarantees of due process, statutory provisions, custom tradition, and rules adopted by the judiciary for its own governance. And those basic rules are found in the American bar association code of judicial conduct. Uh, and the code, the code requires it very clear about judges recusing themselves from any cases in which they've been personally involved, they have a financial interest or where their impartiality might be reasonably questioned, but, you know, the Supreme court is not subject to that code as, as you note. So here is Thomas hearing cases where clients of his wife were falling in filing Amicus briefs. Um, and this was not hitherto disclosed. So in other words, Ms.
Speaker 1 00:25:33 Tom, Mrs. Thomas can take clients, not have to publicly disclose who they are. They can pay her an undisclosed undisclosed sum of money. Uh, basically anybody who wants to give money to a Supreme court justice could pay their spouse as a client, and the public would know about it. Uh, and Ms. Thomas had, seems, has been paid hundreds of thousands of dollars by individuals in groups with interests in front of the court. And some of those, uh, clients have taken very specific positions on cases that are currently in front of her husband. And none of this was disclosed in justice, Thomas's financial disclosure, but, you know, the Supreme court is subject to the ethics in government act. Um, just like all the other branches of government. And that act requires that Supreme court justices disclose some things about their financial interests, uh, and to do so publicly. Uh, but the actual rules are interpreted by the administrative offices of the court, right? Again, that's back to your point. They self-regulate, they elect to disclose what they see fit. And historically the justices have disclosed a fair amount quite a bit about at least their stocks in their respective portfolios.
Speaker 0 00:26:49 Well, I wanted to maybe, um, in our podcast today by asking, uh, are there some, maybe overarching lessons, key themes, uh, or, uh, really some specific lessons set up, not that a compliance practitioner would need for himself, but in communicating, uh, conflicts of interest, or is it just really, almost the depth and breadth of what you and I have talked about, show that they can pop up anywhere and people need to be always vigilant, uh, about conflicts of interest in their day to day, uh, dealings for their organizations going forward.
Speaker 1 00:27:30 Yeah. And, and, um, I would say both monitoring and my proactive assessments, um, in my work, I, you know, I, unfortunately I come across organizations that frequently don't have formal, uh, COI policies. And when I'm performing these, I, you know, I'm, I'm a little, I guess, a little surprised and yet I'm not because it's so common, uh, at best there may be a generic statement saying, Hey, don't engage in COIs, but then they don't define it. So employees, executives, and board members start to test the boundaries, uh, because the policy doesn't clearly articulate where the line is and the organization hasn't directed guardrails to detect and prevent these from occurring. You know, I, I frequently find myself helping them, uh, organizations, drafts, COI policies and procedures and walk them through the types of tests they can perform to help make that determination. Is it a COI?
Speaker 1 00:28:28 I know organizations need, need to sit down and, and, and, and bring in ethics experts if they aren't certain how to approach it and clearly articulate prohibited activities. Uh, and what constitutes a COI. You know, if an entity only asked for disclosure they've potentially reduced responsibility for any adverse outcomes, right? Both as an organization, and even for the individual reporting, you F more over for certain professions, uh, disclosing to the client or patient, uh, often is done under circumstances where there's little reasonable choice left to the recipient party to walk away or refuse the service, uh, that in fact, the recipient of such information, not even, may not even really be in a position to fully understand what that disclosure truly represents. So organizations need mechanisms that will allow employees, executives, even board members to bring potential COIs or where there could be an appearance of a COI and put it through an independent review before they undertake the activities.
Speaker 1 00:29:38 Not after the fact, not whether disclosing after the fact that it exists, they need to Institute, you know, formal reporting procedures and to ensure the right people, compliance, ethics officers legal are actually reviewing submissions in a timely manner and responding organizations need to regularly train on the many permutations of COIs that can develop a specific to their sector, their industry, particular operational circumstances. And to constantly reiterate that COIs are not tolerated, that they're unethical, that they can undermine confidence internally and externally to the, or in the organization. No COIs can create some of the worst reputational damage back to our Supreme court example. And, you know, I didn't even get into some of the cases, um, you know, that that SCOTUS has, uh, ruled on that that should govern their own behavior. Uh, you know, we didn't even, we didn't even talk about, um, you know, Rehnquist, uh, refusing to recuse himself, or remember justice, Abe, Fortas, um, exposed back in the sixties and being forced to resign. I mean, we didn't even get into some of that, uh, that history, but, you know, it comes down really, uh, not to disclosure, but to prohibition from the outset. Uh, many professionals are fine with disclosure when that's the extent of it, knowing few, if any, pay attention to them. But more importantly, that there are no real repercussions tell people to assure personal benefits and suddenly, um, they take it a lot more seriously
Speaker 0 00:31:17 McCowen. Fortunately, we are near the end of our time for this episode, but I was wondering if our audience wanted any more information on yourself or some of the topics we've talked about, uh, or your work at affiliated monitors, who would be the best place for them to go,
Speaker 1 00:31:32 I'd say, straight to our website, affiliated monitors.com.
Speaker 0 00:31:37 Well, I, I hate to suggest that we start yet another podcast, but I'm thinking we need something along the lines of torn from the headlines.
Speaker 1 00:31:44 I agree. There's so much, I've got stacks of things
Speaker 0 00:31:50 I wanted to thank you again for taking the time to visit me. This has been a ton of fun, and I look forward to continuing this conversation.
Speaker 1 00:31:57 Thanks, Tom. It's always a pleasure to talk to you.
