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Tuesday, May 31, 2011

Government and Corporation meet in Fraud

Plunder authorized, glorified
Editing by Carolyn Bennett

University of Missouri law, ethics and economics Professor William K. Black spoke about government/corporate fraud in an interview broadcast Monday on KPFA’s “Letters and Politics.” His ideas were compelling so I went in search of further of his thoughts on the financial crisis and its roots in the 1980s Savings and Loan scandal. What I found, again, is a depressingly entrenched and corrupt line of administrations and congresses.

Savings and Loan era

Recalling the 1980s Savings and Loan scandal, William Black writes that Richard (Dick) Pratt’s cover up strategy is what made the Savings and Loan (S&L) fiasco so expensive to resolve.

U.S. President Ronald Reagan in 1981 had appointed academic finance expert Richard Pratt to head the Federal Home Loan Bank Board (Bank Board).  In that position, Black says, Pratt “gimmicked the accounting rules, cut the number of examiners, and de-supervised the industry, thus allowing saving and loans to hide real losses and create fictional income.” Pratt “championed the entry of  ‘entrepreneurs,’ primarily real estate developers with intense conflicts of interest.”

Executive and Legislative branches of government as well as mass media “treated Pratt’s fictional ‘resolutions’ and claims of brilliance as real.” 
Allowing Savings and Loans “to hide real losses and create fictional income, deregulating, de-supervising, closing none of the control frauds (which were growing in assets at an annual rate of 50 percent), and making virtually no criminal referrals (which meant there were no prosecutions) — Richard Pratt created an intensely criminogenic environment, welcoming hundreds of control frauds into that industry
The National Commission on Financial Institution Reform, Recovery and Enforcement report in 1993 found ‘fraud invariably present.’  “The report explained how deregulation, de-supervision, the lack of prosecutions, the accounting scams that hid real losses and created fictional income, the manipulation of professional compensation for appraisers and outside auditors by the fraudulent savings and loan executives [had produced] a … dynamic, in which bad ethics drove out good ethics of the professions.

“Perverse incentives caused by modern executive compensation, moreover, allowed CEOs to create guaranteed, record (though fictional) profits and to become wealthy by looting ‘their’ Savings and Loans.

Current banking era Thirty years on

Professor William Black continues, “For reasons only [U.S. Treasury Secretary Timothy Franz Geithner, National Economic Council Director Lawrence Henry Summers, and [President Barack] Obama can know, they [the Obama administration has chosen] to adopt [Reagan’s] Richard Pratt’s disastrous and dishonest anti-regulatory strategy and to parrot his dishonest claims of brilliance and success.”

At the behest of the Chamber of Commerce, the American Bankers Association (ABA), and Chairman Bernanke, Congress “successfully (and shamefully) wrested from the Financial Accounting Standards Board a change in the accounting rules — so that banks no longer had to recognize losses on their toxic mortgage paper appropriately until they sold the assets.

“Covering up the losses had three real (carefully unstated) purposes:

1.     Permitting evasions of the Prompt Corrective Action (PCA) law enacted by Congress in 1991;
2.     Allowing the banks to remove themselves from the strictures of the TARP program even if they are, in reality, insolvent; and
3.     Allowing insolvent and impaired banks to pay their senior executives huge bonuses based on the  (fictional) income that results when a bank does not recognize its losses.

“Each of these purposes,” he says, “is unprincipled and indefensible; but taken together, they are also dangerous…

“The administration and its odd bedfellows, the Chamber of Commerce and the American Bankers Association, have maximized the perverse incentives that will drive future fraud epidemics, bubbles, and severe recessions.” All told, “the administration’s banking policies” have thus achieved … terrible economics, terrible ethics, and terrible politics.”

Corporate and government conspire in fraud

“The most common reason that firms can cheat with impunity,” Professor William Black wrote in a Benzinga article in April, “is that their CEOs are cronies of powerful politicians.  

The defining characteristics of crony capitalism are that the cronies receive subsidies, favors, and immunity from normal rules and laws. 

The cronies dominate the big corporations and provide reciprocal benefits to controlling politicians.

Managerial incompetence and wealth flourishes under crony capitalism.

Merit and efficiency suffer, income inequality surges, and class and who one knows [who not what you know] become the primary determinants of economic and political success and power. The elites become pervasively corrupt.

Crony capitalism is the antithesis of “free enterprise.” The best way to destroy free enterprise is to allow CEOs to commit control fraud with impunity because that maximizes the perverse Gresham's dynamic.

Quoting the 19th century French economist Frederic Bastiat, Black sums up: “‘When plunder becomes a way of life for a group of men living together in society, they create for themselves in the course of time a legal system that authorizes [plunder] and a moral code that glorifies it.’”

Sources and notes

William Black was interviewed May 30, 2011, on Letters and Politics, KPFA-Berkeley: As Congress faces such burning issues as healthcare, global warming and the wars in Afghanistan and Iraq. Pacifica's Mitch Jeserich hosts “Letters and Politics” a look at national politics from a progressive perspective. http://www.kpfa.org/archive/id/70193

“The Powell Memorandum's 40th Anniversary: Impunity for Control Fraud” (William K. Black, Benzinga Columnist), April 25, 2011, http://www.benzinga.com/be-your-own-boss/11/04/1029309/the-powell-memorandums-40th-anniversary-impunity-for-control-fraud

“If Obama Thinks the Response to the S&L Debacle Failed, Why Is He Adopting It?”  (William Black, November 1, 2010, Tweet,   http://my.firedoglake.com/williamblack/2010/11/01/if-obama-thinks-the-response-to-the-sl-debacle-failed-why-is-he-adopting-it/

Frederic Bastiat
Claude-Frédéric Bastiat (b. 1801, Mugron, near Bayonne, France; d. 1850, Rome, Papal States [Italy] French economist, best known for his journalistic writing in favor of free trade and the economics of Adam Smith.[Britannica note]

War hero John Sidney McCain III (Senator, Arizona) became embroiled in the most spectacular case to arise out of the savings and loan scandals of the 1980s, as a result of his connections with Charles Keating Jr., the head of the Lincoln Savings and Loan Association of Irvine, California, who had engaged in fraud. Although cleared by the Senate in 1991 of illegalities in his dealings on Keating's behalf, McCain received a mild rebuke for exercising ‘poor judgment.’ [Britannica note]

William K. Black
Professor William K. Black, author of The Best Way to Rob a Bank is to Own One (2005), “developed the concept of ‘control fraud’ – frauds in which the CEO or head of state uses the entity as a ‘weapon.’ Control frauds cause greater financial losses than all other forms of property crime combined and kill and maim thousands.” He has helped the World Bank develop anti-corruption initiatives and served as an expert for OFHEO in its enforcement action against Fannie Mae’s former senior management.  

Black is Associate Professor of Economics and Law at the University of Missouri-Kansas City School of Law (UMKC) where he teaches “White-Collar Crime, Public Finance, Antitrust, Law and Economics (all joint, multidisciplinary classes for economics and law students), and Latin American Development (co-taught with Professor Grieco, UMKC – History).”

He was the Executive Director of the Institute for Fraud Prevention from (2005-2007); taught previously at the LBJ School of Public Affairs at the University of Texas-Austin and at Santa Clara University, where he was also distinguished scholar in residence for insurance law and visiting scholar at the Markkula Center for Applied Ethics.

Black was litigation director of the U.S. Federal Home Loan Bank Board, deputy director of the FSLIC, SVP and General Counsel of the Federal Home Loan Bank of San Francisco, and Senior Deputy Chief Counsel, Office of Thrift Supervision. He was deputy director of the National Commission on Financial Institution Reform, Recovery and Enforcement. He holds undergraduate and graduate degrees from the University of Michigan, University of Michigan Law School, and University of California-Irvine.   http://law2.umkc.edu/faculty/black.htm

“The Emergency Economic Stabilization Act was legislation passed by the U.S. Congress and signed into law by U.S. President George W. Bush (October 3, 2008). “It was designed to prevent the collapse of the U.S. financial system during the subprime mortgage crisis, a severe contraction of liquidity in credit markets worldwide brought about by widespread losses in the subprime mortgage sector.

“The Emergency Economic Stabilization Act (EESA) sought to restore liquidity to credit markets by authorizing the secretary of the treasury to purchase up to $700 billion in mortgage-backed securities and other troubled assets from the country’s banks, as well as any other financial instrument the secretary deemed necessary ‘to promote financial market stability.’

“The act also included provisions to minimize foreclosures on federally owned mortgages, to recover possible future losses on the government’s mortgage investments, to prevent windfalls for executives of banks that benefit from the act, and to monitor the investments of the Treasury Department through reports to Congress and a specially created oversight board.

“The EESA authorized the treasury secretary to establish a Troubled Asset Relief Program (TARP) to protect the ability of consumers and businesses to secure credit.…” Britannica note


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