Finance’s Greatest Innovation: “Don’t Prosecute Us’

Banks Take the Economy Hostage
Prosecutors are considering bringing criminal charges against two overseas banks for charges ranging from perjury and fraud to laundering money.
Bloomberg, May 2, 2014



Prosecutors are considering bringing criminal charges against two overseas banks for charges ranging from perjury and fraud to laundering money. As detailed yesterday by a trio of Bloomberg News reporters, the key takeaway from the banking community was reflected in the headline: “Criminal Charges Against Banks Risk Sparking Crisis.”

The reaction has been swift. “Don’t’ play with matches” exhorted Sanford C. Bernstein banking analyst Brad Hintz. Former Federal Reserve lawyer Gil Schwartz warned “The mere threat of requiring a hearing could cause customers to lose confidence in the institution and could cause a run on the bank.” U.S. Attorney Preet Bharara recounted the picture bankers painted if prosecutions occurred: “Oceans will rise; nuclear winter will be upon us; and the world as we know it will end.”

These quotes reflect a shift in both psychology and game theory, post-financial crisis. It used to be thought that fear of indictment, personal disgrace and threat of jail would keep bankers from engaging in illegal activities. But the extraordinary intervention of the U.S. government and Federal Reserve changed the dynamics of prosecution.

In 2009, the recovery was fragile, and besides, we had just sunk all that cash into bailing out the banks. Busting those who committed financial crimes would risk undoing all of that. Prosecute our clients, said the bankers’ lawyers, and you risk destabilizing a fragile financial system. Put a systemically important financial institution in your cross hairs, and you put the entire global economy at risk.

The Bush and Obama administrations bought this line of reasoning.

This argument should never have carried the day. The job of a prosecutor is to prosecute, not to make economic forecasts. Convincing various governmental departments not to do their jobs was a masterful act of salesmanship, one that undercut fundamental principles of rule of law.

It isn’t the role of the Justice Department, the Securities and Exchange Commission, or the U.S. attorney’s office to make assessments based on the forecasts of economists doing the bidding of their paymasters. In case you haven’t noticed, the practitioners of the dismal science have a dismal record at predicting the future. They can’t even tell you what just happened, so why should anyone believe they know what the future holds? For those charged with enforcing the law, it was an epic abdication of responsibility– and just because some economist frightened you.

Ignoring fraud, perjury and other felonies was a colossal error of judgment. Jesse Eisinger details the history of the rise of corporate impunity. It is a thorough explanatory article that delves into the many institutional forces that led to this sorry state. It is a must read for anyone interested in knowing how and why this prosecutorial failure came about.

As we noted last month, “The greatest innovation of the financial sector is not the ATM machine or interest-bearing checking accounts or securitization: It was convincing the powers that be that prosecuting them for their actual crimes would (once again) bring the economy to the edge of the abyss.”

It is long past time for this attitude to change. Testing the waters with a few foreign banks or banks that are not too big to fail is a modest start. But I am not holding my breath waiting for TBTF prosecutions anytime soon. The statute of limitations is ticking and will soon place many of those responsible beyond reach. Justice denied makes it more likely we will be subjected to a future financial crisis.




I originally published this at Bloomberg, May 2, 2014. All of my Bloomberg columns can be found here and here


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