Thank you, Chairman Schapiro.
Instances of “pay to play” have tarnished the market for the provision of investment advisory services to government entities. A principal concern is that pay-to-play arrangements can distort competition in this market. Pay to play can skew the process by which states and municipalities choose advisers, as advisers who make political contributions to certain government officials gain an improper advantage over advisers who refuse to “pay” in this way. When advisers are selected for reasons other than the quality of their investment advice and the fees they charge, pay to play harms beneficiaries of public pension plans.
Accordingly, I support the rule amendments before us today. I especially welcome a notable modification from the proposal that better tailors the final rule — namely, instead of banning third-party solicitation outright, the final rule allows an investment adviser to use a third party to solicit government advisory business so long as the third party is registered as a broker-dealer or investment investor and subject to pay-to-play restrictions. This change should permit intermediaries to engage in legitimate activities that allow advisers to compete more effectively, that expand the choices available to public pension plans, and that facilitate capital formation.
In a different respect, however, the final rule is not as tailored as it could be. The Commission is adopting a rule that bars an investment adviser from providing advice to a government entity for compensation for two years after the adviser or one of its covered associates makes certain political contributions. The adopting release explains that the two-year time out rule, by design, is prophylactic, “prohibit[ing] acts that are not themselves fraudulent.” The rule intentionally casts a wide net, ensnaring, for example, inadvertent violations, such as political contributions that run counter to an adviser’s own policies and procedures and that the adviser does not condone and quickly remedies.
The rule does build in automatic exceptions for certain de minimis contributions and certain returned contributions. Otherwise, when it comes to relief from the two-year time out for inadvertent violations, an adviser must seek an exemption from the Commission. The exemptive process, then, serves as the primary means for moderating the rule’s impact. Although the pay-to-play prohibition is intended to be broad in the first instance, its reach can be refined through exemptions that are granted after-the-fact in appropriate circumstances. Or, as the release puts it, an exemption can help “avoid consequences disproportionate to the violation” without compromising the goals motivating the rule when the two-year time out “is unnecessary to achieve the rule’s intended purpose.”
The release further recognizes that applications for an exemptive order “will be time-sensitive” and states that such applications will be considered “expeditiously.” Both the adviser and its government client benefit when an exemptive application is handled expeditiously. The adviser may not be in a position to continue providing advisory services to its government client if it must do so without compensation. And the government client, acting in the best interests of pension plan beneficiaries, may prefer to continue engaging the adviser instead of seeking investment advice from another party.
Against this backdrop, let me conclude with this: The rule’s exemptive process needs to be meaningful. A meaningful exemptive process will help ensure that the pay-to-play prohibition, as applied in practice, strikes appropriate balances that advance the interests of advisers, their government clients, and public pension plan beneficiaries alike.
As always, I join my colleagues in thanking the many members of the staff – particularly those from the Division of Investment Management and the Office of the General Counsel – who have contributed to this rulemaking. I appreciate your efforts.