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FAIR PLAY ON WALL STREET.
Felix Salmon examines the SEC's failure to uncover Madoff's Ponzi scheme even when they were explicitly investigating whether Madoff was operating a Ponzi scheme and concludes, "investors simply cannot rely on regulators to protect them. Either there's an explicit government guarantee, like the one on bank and brokerage accounts, or you're basically on your own." That seems correct.
I'm not sure investors were really expecting that the government would protect them from being suckered into Ponzi schemes, but they did presume certain rules of the road: Traders understood financial instruments, the financial sector understood the assets it was heavily invested in, and the incentives were such that relatively few would assume too much risk and almost none would try and defraud. They didn't think, in other words, that they needed much protection.
Madoff's scheme was large, but he's still only a single trader. Outright fraud hasn't been too much of a problem. The other assumptions, however, proved more dangerously incorrect.
COMMENTS (5)
So then why bother to bar people who commit securities-related offenses from the industry? Just publish their defalcations and no one will invest with them.
Posted by: paul | January 5, 2009 1:16 PM
Outright fraud in mortgage-backed securities was a huge problem through the whole chain from initiating the mortgage down through fraudulently selling the securities.
The foundation of Angelo Mozilo's Countrywide was fraud and malfeasance. Ditto for WaMu and Wachovia (nee Golden West). See the monolines and rating agencies.
There's a whole narrative being put out there by conservatives about how this was just a mania driven by irrational impulses, which "have always been with us" -- like the poor. It's crap.
GD II is the aftermath of a huge smash and grab.
Posted by: Bruce Wilder | January 5, 2009 1:44 PM
A lot of what's gone on in the Finance sector seems to boil down to the fact that people who are constantly referred to as "The smartest guys in the room" basically turned out to be total fucking idiots when they weren't criminals.
Posted by: TW Andrews | January 5, 2009 1:54 PM
I'd say on a small scale you're correct Ezra. If I give someone a couple thousand dollars who promises to pay me 8% returns forever and doesn't really tell me how he's doing it, then caveat emptor.
If someone has been generating 8% returns for decades and his lack of transparency is typical of his industry, one should be able to assume he's above board.
Government absolutely has a responsibility to protect its citizens from these kinds of predators. Though it has to do so with transparency, as punishment after the fact is woefully inadequate.
Allowing free market forces to operate is patently absurd when the markets are structured so that they aren't free. Hedge funds 'walls of secrecy' are the most obvious example of this.
Posted by: mark r | January 5, 2009 2:55 PM
"I'm not sure investors were really expecting that the government would protect them from being suckered into Ponzi schemes...."
Oh. My. God. What could possibly have led Ezra to believe this? One can argue that investors SHOULD NOT HAVE expected such; but given that one of the explicit responsibilities of the SEC is to uncover fraud by investment firms, the presumption should be that a significant percentage of investors did indeed expect such until some clear-cut empirical evidence shows otherwise.
Posted by: SB | January 6, 2009 8:09 AM