Bill Black: Our
System Is So Flawed That Fraud Is Mathematically Guaranteed
“The
most devastating fraud is when you have a legitimate entity and the person who
controls it uses it as a weapon to defraud others.”
Submitted by Tyler Durden on
05/25/2013
“When
plunder becomes a way of life for a group of men in a society, over the course
of time they create for themselves a legal system that authorizes it and a
moral code that glorifies it."
-
Frederic Bastiat, Classical French political economist
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Fraud
A deceitful
practice. Fraud consists of a misrepresentation of a material fact that is
relied upon by another party to his or her detriment. There is no
requirement that the misrepresentation be intentional. The thing misrepresented
must be a fact; it is very difficult to prove fraud when one fails to fulfill
his or her obligations but had good intentions in the beginning.
There are three
types of fraud:
1. Intentional
fraud. Punitive damages may be assessed for this type of fraud.
2. Negligent
fraud. As when one makes a statement recklessly but without any intention to
deceive, and someone relies on that statement and is injured when it turns out
to be false. One example would be a real estate agent telling a buyer that all
appliances are new when, in reality, the agent didn't know but thought they
looked new. Depending on the degree of recklessness involved, this type of
fraud may or may not support punitive damages.
3. Innocent
fraud. As when one takes steps to confirm facts but is perhaps mistaken or
given mistaken information, and then relays that information to someone else
who relied on it and was injured.
The Statute of
Frauds is a rule that says certain contracts must be in writing, including
contracts having to do with real estate. It has nothing to do with fraud, per
se, except to protect against possible fraud by requiring a writing.
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Bill Black is a
former bank regulator who played a central role in prosecuting the corruption
responsible for the S&L crisis of the late 1980s. He is one of America's
top experts on financial fraud. And he laments that the US has descended into a
type of crony capitalism that makes continued fraud a virtual certainty - while
increasingly neutering the safeguards intended to prevent and punish such
abuse.
In this
extensive interview, Bill explains why financial fraud is the most damaging
type of fraud and also the hardest to prosecute. He also details how, through
crony capitalism, it has become much more prevalent in our markets and
political system.
A warning:
there's much revealed in this interview to make your blood boil. For example:
the Office of Thrift Supervision. In the aftermath of the S&L crisis, this
office brought 3,000 administration enforcements actions (a.k.a. lawsuits)
against identified perpetrators. In a number of cases, they clawed back the
funds and profits that the convicted parties had fraudulently obtained.
Flash forward to
the 2008 credit crisis, in which just the related household sector losses alone
were over 70x greater than those seen during the entire S&L debacle.
So
how many criminal referrals did the same agency, the Office of Thrift
Supervision, make?
Zero.
Similar dismal
action was taken by such other financial regulators as the Office of the
Comptroller of the Currency, the Federal reserve and the FDIC.
Where is the
accountability?, you may be asking. Or perhaps, how did we allow things to get
this bad?
Fraud is both a
civil wrong and a crime and it's when I get you to trust me and then I betray
your trust in order to steal from you. As a result, there’s no more effective
acid against trust than fraud and, in particular, elite fraud, which causes
people to no longer trust folks, economies break down, families break down,
political systems break down and such if you don’t have that kind of trust. So
that’s what fraud is.
But what
my work focuses on is: what kind of frauds are the most devastating? And it
turns out that the most kind of problems that we’re seeing, systemic problems
and such, arise when we have, what we call in criminology, control fraud.
And control fraud simply means when you have a seemingly legitimate entity and
the person who controls it uses it as a weapon to defraud others. And so in the
financial sphere the weapon of choice is accounting and the losses from
these kinds of control frauds exceed the financial losses from all other forms
of property crime combined.
So for
example, in the current crisis, as with the prior ones, if you’re a lender
there’s an easy recipe for maximizing fake accounting income. And it goes like
this. You need four ingredients:
1.
grow
like crazy
2.
by
making really, really crappy loans but at a premium yield (yield just means
'interest rate')
3.
while
employing extreme leverage, and
4.
while
setting aside only the most trivial reserves or allowances for the inevitable
losses this kind of behavior produces.
George Akerlof
and Paul Romer wrote the classic article in economics about this in 1993. And
their title really says it all in terms of the dynamic: Looting the
Economic Underworld of Bankruptcy for Profit.
The idea is you
have a seemingly legitimate entity, the person at the top is looting it. They loot it by destroying it but they walk away wealthy.
Of course, in the modern era we don’t necessarily, we may bail out
the entity. So it may not even fail in that sense.
But here’s
what Akerlof and Romer also said that was so critical as an understanding. They
said these four steps, these four ingredients: it's just math. It is – and I’m
quoting them now “a sure thing.” So you’re mathematically guaranteed if
you do these four things to report, not just substantial income, but record
levels of income.
Bill Black interview Part 1:
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William K. Black
From
Wikipedia, the free encyclopedia
William Kurt Black (born September 6, 1951)
is an American lawyer, academic, author, and a former bank regulator.[1]
Black's expertise is in white-collar crime, public
finance, regulation, and other topics in law and economics. He developed
the concept of "control fraud", in which a business or national
executive uses the entity he or she controls as a "weapon" to commit
fraud. Black was a central figure in exposing Congressional corruption during
the Savings and Loan Crisis. He took the notes
during the Keating Five meeting that were later published in the
press, and brought the event to national attention and a congressional
investigation.
