Private-Public Linkages

Another Ponzi scheme has allegedly been uncovered now, led by the Texas Financier R. A. Stanford, who may have swindled about 50,000 investors out of US $8 billion, or so.  The Feds have raided his house of cards but were having a hard time finding him. 

At US $50 billion, Madoff may have stood out because of the sheer magnitude of his scam.  But obviously he is not alone in large Ponzi schemes, not even within the US.  As global financial conditions have continued to deteriorate, the nakedness of those emperors without clothes is starkly exposed. 

But like the case of Madoff, this case also raises questions about whether ‘the SEC was asleep at the switch’ in this case as well.  Evidently allegations of fraud (and possible drug money laundering) have been made against Stanford over the past decade.  Yet the SEC took belated action very recently only after two former employees filed a lawsuit in civil court.

Forbes Magazine invited me to write an article on corruption.  Among others, I argue that the US financial crisis is a major and overdue wake-up call to the dormant anticorruption field, which for too long has focused on conventional second-order issues (here the article).   I also suggest that some humility could help: for a change, lessons from an emerging economy could be useful to the current situation in the US.  We know that the experience of Sweden in addressing their past financial crisis  offers some insights. 

But it is also important to draw on the lessons from other countries.  Let us focus on Chile, another country in the Americas (the era of equating the US with America should be over anyway).  I am getting questions about the parallels and insights from Chile for the US crisis.  Let me bring up a few points here, with some more detail than in Forbes.

The financial crisis exposes emperors with no clothes.  Witness Madoff.  But naked truths are not only emerging for those dealings with obscure financial instruments.  Dramatic exposure in the corporate business sector is also taking place. 

Last month we discussed the corruption scandal surrounding Siemens, the multinational giant, which has agreed to pay billions in fines and fees.  With the holiday came a short truce.  New Year had not even taken place and we are hit by the enormity of the Satyam’s corporate fraud, labelled as India's Enron.

Bribery and fraud by business corporations is not new, of course.  And in fact the Siemens bribery case is a longstanding one, preceding the financial crisis.  Corporate fraud and corruption are not unique to developing or to industrialized countries, obviously.  They can take place anywhere.  They do.

The magnitude and timing proximity between the Siemens and Satyam corporate scandals may tempt some to rush and generalize, lumping such corporate scandals together as belonging to the same kilt.  That would be unfortunate.  There is a fundamental difference between those two cases.  It relates to “Ponzinomics.”  While Satyam shows clear features of a Ponzi scheme, the Siemens case doesn’t.  This difference matters.

Mushrooming analysis of the determinants of the financial crisis are all over the web.  They range from simplistic and blanket accusations of the ‘greed’ of the market capitalism to the arcane technical explanation of a misguided regulatory covenant on the other. And the spectrum is crowded, including the misstep by Treasury Secretary Paulson in letting Lehman fail that fateful weekend.

When all is said and done, some consensus may emerge about which particular combination of a few fundamental factors, coupled with recent policy and oversight failure, were culprits. I am not weighing in now on what the precise ingredients of such debacle were.  Instead, I want to focus on one factor that has often been kept under wraps:  the regulatory and policy capture by vested interests.  This has been years in the making.  And we have been researching and measuring the notion of capture for a decade, and providing some general warning. A frank and open debate about this issue, grounded on sound analytics and data, is overdue.