Were We Wrong to Support the STOCK Act?


In the State of the Union address on Jan. 24, 2012, President Barack Obama urged Congress to "send me a bill that bans insider trading by members of Congress; I will sign it tomorrow." It took a bit longer than "tomorrow." But after passing by near-unanimous vote in the U.S. Senate on March 22, the president signed the STOCK Act into law on April 4. This event set several wheels in motion:

First and foremost, the STOCK Act clarified that members of Congress are not exempt from federal laws forbidding insider trading -- a question that, believe it or not, had been in some dispute.

The STOCK Act required members of Congress, their staffs, and their close relatives to report stock trades within 45 days of making them, and further required that their public financial disclosure reports be made available online in searchable electronic databases.

This being an election year, other provisions pandering to... er, protecting the voters, were also added at the last minute by our elected demagogues... er, I mean representatives: rules extending the law's purview to senior government officials as well as members of Congress; rules requiring members and government officials to publish the terms of their mortgages; a ban on senior executives at Fannie Mae and Freddie Mac getting paid bonuses; and of course the famous "Pelosi Provision" forbidding members from getting preferred access to hot IPOs -- inspired by former House Speaker Nancy Pelosi's profiting from the Visa IPO a few years back.

But still, the key rules were these:

  • Rule No. 1: No insider trading by members of Congress.

  • Rule No. 2: Public disclosure of trades on the Internet so that voters could make sure that members of Congress were following Rule No. 1.

Those were the two key things we asked for when The Motley Fool urged passing the STOCK Act last year. So as long as these made it in, any junk the politicos tossed on afterward is beside the point, right?

Unfortunately, no. Not right.
Turns out, in Congress' rush to pass the act before voters got a chance to punish them for not passing it, "mistakes were made." Most notably, as CNN pointed out earlier this month, the version of the STOCK Act that passed in the House of Representatives (the one that then went to the Senate for approval and passage into law), shifted some language around from the original Senate bill. The details are arcane, but here's the upshot:

The law as passed technically does not require family members of senators and representatives to disclose their stock trades. And going with the letter of the law, the House Ethics Committee says it will not require U.S. representatives' family members to disclose their stock trades.

Oops is right. Remember, the whole intent of the STOCK Act was to end insider trading by members of Congress, a practice that one academic study showed to have given members a 6-percentage-point-per-year profit advantage over the S&P 500 for 16 straight years. Forbidding trading by members of Congress, but permitting their husbands, wives, and kids to trade for them, kind of defeats the purpose of the law.

Meanwhile, on the other side of D.C.
A second objection to the STOCK Act has in recent days been raised by government employees, including some that The Washington Post describes as "heavy hitters." Former Homeland Security Secretary Michael Chertoff, former CIA Director Michael Hayden, former U.S. Attorney General Michael Mukasey -- and many more.

These worthies have joined with employees of the Congressional Research Service, the International Federation of Professional and Technical Engineers, the Senior Executives Association, and others to criticize rules making their finances public, too. Their objection: Requirements contained on Office of Government Ethics Form 278 (which will be Internet-searchable under the STOCK Act), that they disclose details not only of their investments and stock trades, but also details of their bank savings accounts and even "liabilities over $10,000 owed to any one creditor" are wholly unnecessary to prevent illegal insider trading, while at the same time jeopardizing "the privacy and integrity afforded by the Ethics in Government Act system."

These employees worry that publishing this information will make it easier for identity thieves to impersonate them, attract "frivolous lawsuits" from people looking for deep-pocketed targets, and contribute to workplace conflicts when underlings find out how rich their boss is.

These worries alone, the law's critics say, are enough to hinder "recruitment and retention of career executives." But even worse, veteran members of the U.S. diplomatic and intelligence corps point out that publishing senior officials' financial statements will assist foreign governments in "building a data base on [U.S. government] employees" and will also be perused by foreign intelligence services looking for potential agents to recruit. "Ah, I see you owe MasterCard $100,000, Comrade, and your investments in Groupon and Zynga did not work out so well. Deliver to us schematics for the Pentagon's flux capacitor technology, and we will make all your problems go away."

In short, a law that aimed to prevent corruption in government could actually be used to encourage it.

Foolish final thought
That's a scary thought. Taken alongside the typo that threatens to invalidate the whole purpose of the STOCK Act by permitting congressional relatives to trade on inside information, one could argue that this law was not terribly well thought out. One could say it was rushed to judgment, before Congress had a chance to think it all through -- a victim of the most important piece of legislation ever to come out of Washington, D.C.: the law of unintended consequences.

One could argue this, except for the fact we've been asking Congress to fix this problem since at least 2006, when Reps. Brian Baird of Washington and Louise Slaughter of New York first introduced the legislation -- to zero interest from their colleagues. Or since 2004, when professor Alan Ziobrowski of Georgia State University first published the study proving that insider trading was going on in Congress.

Eight years later, the STOCK Act may be "good enough for government work," but we can still make it better.

The article Were We Wrong to Support the STOCK Act? originally appeared on Fool.com.

Fool contributor Rich Smith does not own (or short) shares of any company named above, but The Motley Fool owns shares of MasterCard and Motley Fool newsletter services have recommended buying shares of Visa. The Motley Fool has a disclosure policy.Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.

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