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NASD rules preempt state ethics rules for arbitrators
May 23, 2005 by Ross Runkel at LawMemo

The California Supreme Court says the National Association of Securities Dealers (NASD) rules preempt California's "Ethics Standards For Neutral Arbitrators in Contractual Arbitration," and all of the California ethics rules are preempted. Jevne v. Superior Court (California 05/23/2005).

This case was between a brokerage and a customer, and will have an impact on employee-employer arbitrations conducted by the NASD.

California and the NASD both have rules requiring disclosures by neutral arbitrators, and California's are more extensive and complex. Both California and the NASD have rules under which arbitrators can be disqualified.

The NASD rules were specifically approved by the Securities Exchange Commission, which gave them the force of federal law and ultimately the power of the federal government to preempt state law.

The court identified four types of possible preemption: (1) where the federal statute expressly preempts (not here), (2) where the federal statute occupies a whole field of law (not here), (3) where it is actually impossible to comply with both federal and state law requirements (not here), and (4) where the state law could prevent or impair accomplishment of the purposes and objectives of the federal law (Bingo, that's it).

The logic: NASD is regulated by the Securities Exchange Commission (SEC), which is created by the Securities Exchange Act (SEA). SEA's objectives: fair dealing and investor protection. All NASD rules are reviewed and approved by the SEC, so they have the force of law. SEC's opinion is that California's rules have three negative effects on NASD arbitrations: (1) increased administrative costs, (2) reduction of the number of available arbitrators (because many are unwilling to comply), and (3) reduction of nationwide uniformity of NASD arbitrations.

Other California ethics rules could not be severed, said the court, so the whole works was preempted.

My view: We got the same result from the 9th Circuit in Credit Suisse v. Grunwald (9th Cir 03/01/2005), although the reasoning was a little different. [See blog]

Now the question is whether there is any possibility that the outcome will be different for employment arbitrations conducted by NASD. It seems the outcome would be the same.

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