Cheat, Pray, Love compliments via The New Yorker. It does feel like every week we’re hearing about another Ponzi Scheme or scandal. Two more were uncovered this weekend by the Feds. I for one want all of this dirty laundry out in the open so we can move forward, however this process may take far longer than anybody originally thought. Greed and corruption are deep rooted in this country but there’s nothing like a period of retraction to flush all the weasels out.
Madoff is just the latest in a long line of fraudsters who took advantage of investor euphoria. Time and again, as asset markets have become frothier, fraud has flourished. During England’s South Sea Bubble, in 1720, a host of bogus joint-stock companies arose, including one that described its enterprise as “nitvender,” or the selling of nothing. The boom of the nineteen-twenties featured men like Arthur Montgomery, who ran a Ponzi scheme promising investors four-hundred-per-cent returns in sixty days, and the Match King, Ivar Kreuger, who sustained match monopolies all over the world with forged bonds and doctored books. More recently, the stock-market bubble of the late nineties gave rise to enormous frauds at companies like Enron and WorldCom.
Fraud is a boom-time crime because it feeds on the faith of investors, and during bubbles that faith is overflowing. So while robbing a bank seems to be a demand-driven crime, robbing bank shareholders is all about supply. In the classic work on investor hysteria, “Manias, Panics, and Crashes,” the economist Charles Kindleberger wrote that during bubbles “the supply of corruption increases . . . much like the supply of credit.” This is more than a simple analogy: corruption and credit are stoked by the same forces. Cheap money engenders a surfeit of trust, and vice versa. (The word “credit” comes from the Latin for “believe.”) The same overconfidence that leads investors and lenders to underestimate the risks of legitimate investments also leads them to underestimate the likelihood of fraud. In Madoff’s case, for instance, his propensity for delivering inexplicably consistent returns month after month should have been a warning sign to his investors. But in the past few years besotted investors were willing to believe lots of foolish things—like the idea that housing prices would just keep going up.