SEC Wants to Eliminate Safeguards Against Political Corruption — Why Now?

As the midterm elections approach, Americans are expressing deep concern about government corruption and its impact on their lives, with a record share saying it is widespread. Yet against that backdrop, the Securities and Exchange Commission is proposing to eliminate its longstanding “pay-to-play” rule for investment advisers seeking to manage government funds, including public pensions.

The rule restricts investment advisers from using political contributions, certain third-party solicitors, or coordinated fundraising to influence who wins contracts to manage public retirement funds — exactly the sort of safeguard Americans want to see strengthened. The SEC is instead moving in the opposite direction.

The SEC’s timing could not be worse. Two October polls, from Fox News and CNBC, ranked corruption ahead of several major economic concerns, including inflation and gas prices. An earlier Brennan Center survey found that 92 percent of registered voters considered corruption in politics and government a big problem, including more than nine in ten in every major U.S. region.

All these signs point to a moment when government should be looking to strengthen safeguards against political favoritism, not dismantle them. It is hard to think of a better example of that than the stewardship of public employee retirement funds.

State and local pension systems serve more than 37 million participants, including millions of teachers, firefighters, police officers, and other public servants. When political influence shapes the selection of investment managers, these funds could pay higher fees or receive inferior investment services, potentially jeopardizing beneficiaries’ retirement security and leaving taxpayers on the hook for shortfalls — risks the SEC itself recognizes. And unlike ordinary investors, most pension beneficiaries cannot simply move their retirement assets to another plan when they suspect favoritism.

This sort of political favoritism is not hypothetical. In 2009, the SEC charged a senior New York pension official and a political adviser with steering lucrative investment contracts to firms willing to pay politically connected insiders. According to the SEC, firms that refused to make those payments were denied business. The case was among several scandals the agency cited when it adopted protections against such corruption in 2010.

The SEC’s pay-to-play rule seeks to prevent this type of costly favoritism. Under the rule, if an investment firm or certain of its employees contributes to an official who can influence whether the firm is selected to manage public pension funds, the firm generally cannot receive compensation for advising the government entity responsible for those funds for two years. The rule also restricts investment firms and certain employees from paying outside parties to solicit government business on their behalf and prohibits them from soliciting or coordinating political contributions to relevant officials or payments to political parties in jurisdictions where the firms advise or seek to advise government entities.

The SEC now claims these protections are unnecessary, arguing that pensioners and taxpayers are already protected by other state and federal laws and investment firms’ own compliance programs. That is a stark change from the SEC’s earlier assessment.

Further, when it adopted the rule, the SEC said that pay-to-play arrangements are difficult to uncover and prove. Political contributions can appear legitimate even when intended to influence investment decisions, making it difficult for regulators to prove violations of the Investment Advisers Act’s broad antifraud provisions. These challenges underscored the need for safeguards designed to prevent such arrangements before they occur.

The SEC further expressly rejected relying on firms to police themselves, recognizing that executives who benefited from securing government business might be responsible for enforcing their own firms’ compliance policies.

The agency also points to its whistleblower program and greater transparency surrounding public pension investments. Those measures may help expose wrongdoing, but they do not solve the fundamental problem: proving that political favoritism, rather than merit, determined who received an investment contract.

Astonishingly, the SEC even falls back on the fact that it has not brought any big pay-to-play antifraud enforcement actions since the rule took effect to suggest that safeguards are unnecessary. This is a classic example of “throwing away your umbrella in a rainstorm because you are not getting wet.” Indeed, even the SEC acknowledges that the rule itself may have deterred misconduct.

Perhaps the most sympathetic reasons cited by the SEC for its proposed actions are concerns about compliance burdens, political participation, and disproportionate consequences for minor or inadvertent violations. But targeted changes could address those problems without dismantling the rule’s preventive framework.

Americans have a right to expect that officials entrusted with public retirement savings will select investment managers on merit, not political contributions. Preserving existing safeguards is the bare minimum. Much more is needed to stamp out political corruption, including broader reforms that will require congressional action. But we shouldn’t move backwards by scrapping protections that already exist.