(By Sri Ramamoorti) In two previous posts<\/a>, colleague Vic Hartman addresses the $1.365 billion settlement between the federal government and Standard & Poor\u2019s Financial Services LLC (S&P) and the miasma from which it emerged. He presents the tacit and possibly subconscious widespread collusion involved in a situation where all the players he described could dismiss individual and collective risks and focus on their incentives to incur those risks. The problems were systemic, of a scope that Vic suggests could be covered by the term, \u201cBad Farmer\u2019s Market (a dimension enveloping and including Bad Apple, Bad Bushel, and Bad Crop).\u201d<\/p>\n

I want to expand that dimension even more. For ease of understanding the dynamics and interplay, Vic kept it simple. Here are additional complicating components that made a bad Market even worse:<\/p>\n

\u00b7 Congress-passed laws such as the Community Reinvestment Act (CRA), forcing banks to sell sub-prime mortgages to those who could ill-afford them—low income, high-default risk customers;<\/p>\n

\u00b7 Auction Rate Securities, that served to prop up the market (and their later collapse);<\/p>\n

\u00b7 Insurance companies (such as AIG), which \u201cinsured\u201d the securities issues through Credit Default Swaps, to be on the hook for a whopping $450 billion in notional value and needing a $182 billion bailout;<\/p>\n

\u00b7 Regulators, including the SEC, that were hamstrung and discouraged by the prevailing mood of de-regulation and rolling back important Great Depression-era laws such as Glass-Steagall to create irreconcilable conflicts of interest;<\/p>\n

\u00b7 Investment banks such as Goldman, Merrill, Lehman, and Bear Stearns, all heavily invested in the subprime mortgages as a significant segment of their portfolios (other major banks were also at this trough);<\/p>\n

\u00b7 Hedge Funds, adding fuel to the fire.<\/p>\n

This was a crazy Market indeed, and one that basked in the sunshine. Clearly, the rewards outweighed any risks in the view of these players. As Joe Koletar points out, in some cases it may be ineptitude, but more often it is unethically reward-focused. Here, it seems that the rewards dazzled the whole ecosystem into dismissing the risks as minimal. Citigroup\u2019s Board of Directors was famously ignorant of some of their arcane financial products, such as \u201cCDO-Squared.\u201d CEO Charles Prince captured the moment when he said, \u201cAs long as the music is playing, you\u2019ve got to get up and dance!\u201d New Century, Countrywide Financial, Washington Mutual, Bank of America, JP MorganChase, Wells Fargo, they all got up and danced as the Market prospered, ignoring the reality that sometime soon, the music would end. Some may have been \u201ctoo big to fail,\u201d but that assumption too would be put to the test.<\/p>\n

In the end, the risk was mostly unseen but systemic in scope. And it illustrates the need for someone to connect the dots between and among the actions of bad actors in the marketplace. One possibility would be the formation of a \u201cFinancial Stability Council\u201d to connect those dots and judge the resulting image.<\/p>\n

We do have marketplace referees, such as auditors, raters, and regulators. But how do we keep the public guardians (acting as referees) honest and effective in their role? Two Nobel laureates, George Akerlof and Robert Shiller, wrote, \u201cThe public, and the regulators who were supposed to act on their behalf\u2026failed to understand a fact of life that is totally obvious to everyone who has played a serious team sport: There have to be rules and there has to be a referee who enforces them—and a good and conscientious (italics added) referee at that. Otherwise, there will be random cheating\u2026.and dangerous and aggressive play, so that many people will get hurt and the game will cease to reward good play.\u201d<\/p>\n

S&P was obviously less than \u201cgood and conscientious\u201d in its ratings performance as it got up and danced with the other farmhands. I humbly proffer one Freudian insight, with Daven\u2019s expert critique: \u201cIf it is those who love us who can hurt us the most, does it not follow that it is those we trust to protect us (such as auditors, raters, regulators, even the police) can hurt us the most when they violate or betray our trust?\u201d And then, when this happens, what do we do about such malignant golden apples?
\n
\nJoin us for more insights into behavioral forensics (behind fraud and similar white collar crimes) from the authors of <\/span>ABCs of Behavioral Forensics<\/span><\/span> (Wiley, 2013): Sri Ramamoorti, Ph. D., Daven Morrison, M.D., and Joe Koletar, D.P.A., along with Vic Hartman, J.D.\u00a0 These distinguished experts come from the disciplines of psychology, medicine, accounting, law, and law enforcement to explain and prevent fraud.\u00a0 Because we are inspired to bring to light and address the fraud problems in today’s headlines, we encourage our readers to come back and revisit us regularly at BringingFreudtoFraud.com. <\/span><\/span><\/em><\/em><\/p>\n","protected":false},"excerpt":{"rendered":"

(By Sri Ramamoorti) In two previous posts, colleague Vic Hartman addresses the $1.365 billion settlement between the federal government and Standard & Poor\u2019s Financial Services LLC (S&P) and the miasma from which it emerged. He presents the tacit and possibly subconscious widespread collusion involved in a situation where all the players he described could dismiss […]<\/p>\n","protected":false},"author":3,"featured_media":0,"comment_status":"open","ping_status":"open","sticky":false,"template":"","format":"standard","meta":{"footnotes":""},"categories":[1],"tags":[],"class_list":["post-309","post","type-post","status-publish","format-standard","hentry","category-audit"],"_links":{"self":[{"href":"https:\/\/bringingfreudtofraud.com\/index.php?rest_route=\/wp\/v2\/posts\/309","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/bringingfreudtofraud.com\/index.php?rest_route=\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/bringingfreudtofraud.com\/index.php?rest_route=\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/bringingfreudtofraud.com\/index.php?rest_route=\/wp\/v2\/users\/3"}],"replies":[{"embeddable":true,"href":"https:\/\/bringingfreudtofraud.com\/index.php?rest_route=%2Fwp%2Fv2%2Fcomments&post=309"}],"version-history":[{"count":5,"href":"https:\/\/bringingfreudtofraud.com\/index.php?rest_route=\/wp\/v2\/posts\/309\/revisions"}],"predecessor-version":[{"id":323,"href":"https:\/\/bringingfreudtofraud.com\/index.php?rest_route=\/wp\/v2\/posts\/309\/revisions\/323"}],"wp:attachment":[{"href":"https:\/\/bringingfreudtofraud.com\/index.php?rest_route=%2Fwp%2Fv2%2Fmedia&parent=309"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/bringingfreudtofraud.com\/index.php?rest_route=%2Fwp%2Fv2%2Fcategories&post=309"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/bringingfreudtofraud.com\/index.php?rest_route=%2Fwp%2Fv2%2Ftags&post=309"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}