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Why No Prosecutions

posted by Adam Levitin

The NYTimes had a very good editorial today bemoaning, with resignation, that there will not be any serious prosecutions of senior bank executives or institutions for the financial crisis.  The biggest fish to be caught was Lee Farkas. Who? That's the point. There have been prosecutions of some truly small fry fringe players and some settlements that are insignificant from institutional points of view (even $500 million, the SEC's record settlement with Goldman over Abacus was a yawn for Goldman), but that's it.  

The NYT editorial incorrectly states that the relevant statute of limitations have expired.  The usual statutes of limitations have or will shortly expire, but not those under FIRREA (for frauds that affect federally insured banks), which are 10-years long. So there is still theoretically the possibility of prosecutions (and remember that Mozilo's deal, for example, was with the SEC, not with the states...). But don't count on it happening.

My prediction is that when the history of the Obama Administration is written, there will be some positive things to say about it, but also two particular blots on its escutcheon.  First, the failure to act decisively to help homeowners avoid foreclosure, and second, the failure to hold anyone accountable for the financial crisis. These two failures are intimately tied, of course. Both are explained by the "Obama administration’s emphasis on protecting the banks from any perceived threat to their post-bailout recovery." 

The logic here is that financial stability and economic recovery are more important than rule of law. There's an argument to be made that law has to give way to basic economic needs.  I, however, would reject the choice as false. Instead, the best way to restore confidence in markets is to show that there is rule of law.  The best route to economic recovery was through rule of law, not away from it. (Yes, I realize there are those who would argue that the GM/Chrysler bankruptcies and cramdown aren't rule of law, but rule of law can include flexible systems like bankruptcy, rather than just rigid rules.)

The Administration, however, determined that it wasn't going to rock the boat via prosecutions, even though there is no person in the banking system who is so indispensible to economic stability as to merit immunity from prosecution, and as the experience of 2008-2009 shows, recapitalizing institutions isn't rocket science. In any case, the Administration's policy has produced the worst of all worlds, where we have neither justice nor economic recovery. This is our new stagflation. Call it injusticession.  


Which crimes have been committed ?

It's a long list, but start with securities fraud, bank fraud, insurance fraud, and tax fraud, and go from there. There's likely a RICO case as well. And Vik Pandit seems to have violated SoX.

Mortgages Notes have not been treated correctly under the UCC, as similar to checks. As a result, major banks, from their servicing arms, have been collecting mortgage payments with no legal basis to do so. Is this not fraud?

I have been a Realtor for 27 years and have never seen such distain for the law as is being demonstrated by Wall Street bankks.

This has been Glenn Greenwald's meme for some time.
And he wrote a book about it, which is insightful.

It is not particular to Obama, but is becoming a mindset amongst a certain portion of Western culture.

Taibbi and Spitzer have discussed it as well.


You assume that there is a prosecutable responsible for the financial crisis.
That is a huge leap of unfounded statement.
Nine tenths of the crisis was produced by the high leverage policy sanctioned politically: Cheap mortgages for the people, plus income taxes promoting indebtednes.

At the same time, there were some misdeeds by bankers and hedge-funders. Not a lot more than on any other period. Blame them, but not for the crisis.

Blaming some hypothetical criminal bankers is tantamount to exonerating politics. Childish, and dangerous as it prevents learning for the future.

Which category listed (securities fraud, bank fraud, insurance fraud, RICO case, SoX violations) actually had anything to do with causing the financial crisis ?

And please be specific. "Bank fraud", for example, is so vague as to be almost meaningless.

Agree with the other commenters. This post has a false premise: that people committed crimes. It also commits the black box fallacy that one learns about in intro poli sci courses of treating the government is a single unit that acts with a single purpose. There is tremendous career incentive for a Justice Department prosecutor to find a banker or executive to prosecute. That they haven't - or that the main cases to go to trial have not resulted in convictions - supports the inference that the premised crimes aren't there. Even some civil cases have failed.

One can read a blog post or editorial about this every day. Usually they come from non-lawyers so perhaps can be excused for not grasping how complex deals are structured, how much legal oversight there is in a large financial institution, or how Constitutional standards, burdens of proof and other evidentiary rules operate to make prosecution of capably defended individuals difficult. But it's sad to see a law professor put out something with so little analytic rigor about a legal subject. In its vagueness, this kind of post shares the "guilt by oocupation" tactic that McCarthy employed when alleging that there were X Communists in the State Department. And I suspect the author has no more evidence than McCarthy had.

Here come the apologists... I guess it's to be expected. Let's address them one by one.

Ricardo. Ricardo argues that 9/10s of the crisis was from overleverage and government policy, and that focusing on the 1/10th is to excuse the 9/10s. I don't know how one comes up with such a measurement, but it isn't an either-or situation, and even if there was only 1/10 criminal behavior, that should be prosecuted. One of the lessons from the 1980s and Internet bubble is that boom markets hide fraud, as rising tides lift all boat, and Bill Black's work has shown how the control fraud phenomenon operates. Saying that there was criminal behavior isn't to exonerate the politics of leverage. It's to blame the politics that prevents accountability. As far as the government policy bit--surely the tax code, which has favored home mortgage debt since 1986, isn't the cause of the bubble, while the cheap mortgages line seems to be pointing to low rates and the GSEs, neither of which were directly responsible for the bubble.

Fergus. Fergus asks about specifics and causation (and shouldn't be swept under the apologist label, but one comment for all it will be). What behavior was specifically fraudulent? Here's one broad category: rampant sales of MBS where the securitizers knew that the loans they were securitizing did not conform to the representations made to investors, ranging from the underwriting characteristics to the documentation quality. There's ample material there for securities fraud there, mail fraud, and wire fraud.

OK, let's lay out the causation: Bank securitizes mortgages with fraudulent underwriting (of mortgages and MBS) that makes the MBS look safer than they really are. Investors therefore underprice risk. The result is that there is more underpriced mortgage credit available, which fuels the bubble. And as prices are rising, it's easy to ignore problems, as the rising tide is lifting all boats. And as prices rises, LTVs look better, so more credit is made available. Bubble bursts shortly after the number of homeowners stops expanding at end of 2006. Because of housing's tie-in with the macroeconomy through consumer balance sheets, financial institution collateral, and construction sectors, everything collapses.

mt. My old friend mt never seems to like my posts, but really comes out blazing here. mt goes so far as to accuse me of McCarthyism. A blog post like this isn't an indictment; it's not the format for laying out evidence of crimes. I've personally seen plenty of non-public documents that lead me to believe that there are lots of prosecutable offenses, and the government has certainly prosecuted folks for less, but anyone who accuses me of McCarthyism isn't going to take my word for it. The premise that people committed crimes is based on the public and non-public evidence I've seen, and also tracks with the Senate Permanent Subcommittee on Investigation's referral to DOJ.

mt then argues that there are career incentives for prosecuting these crimes. Not in the DOJ today. If the policy formulated in the White House is "don't rock the boat," the federal prosecutor who goes lone wolf is not looking at career advancement. The government isn't a single entity, but the federal executive branch follows the policy set by the White House. Some of the state AGs arguably had better incentives to prosecute, and they started to (e.g., Masto), even though they lack the resources to handle these cases on any scale. Why they stopped is a more complicated issue. As far as some civil cases failing, that says more about the problems in our civil litigation system (PSLRA, Twombly/Iqbal, etc.) than anything else. Some have also succeeded in getting settlements, however.

Let's go through the rest of mt's claims. He says I don't understand:

(1) how complex deals are structured. I've got a resume full of work that begs to differ, and don't need to say much more on this. Point out an error in my work, and we can discuss.

(2) how much legal oversight there is in a large financial institution. Here mt misunderstands the argument. This isn't a fraud done by a rogue like Jerome Kerviel (which itself disproves his assert), but a fraud that is undertaken by an entire part of an institution. (Put another way, this fraud is more like Madoff than like Kerviel, in the sense that it is part and parcel of the operation, not an exception.) Look at Abacus--the statements allegedly made by Fab Toure to ACA were plain and simple fraud if true, and seem to have been done with the blessing of his superiors. Similarly, there's plenty of evidence in public documents in MBS litigation showing that loans were sold to investors labeled as "full doc" when the sellers knew that they weren't. If mt's point is that the OCC and Fed are watching, then I've got a bridge in Brooklyn to sell him.

(3) Constitutional standards, burdens of proof, and other evidentiary rules that oeprate to make prosecution of capably defended individuals difficult. Two word response: Rudy Guiliani. mt doesn't seem familiar with the way criminal prosecutions of financial crimes can proceed. All that wonderful formal legal stuff goes out the window. Dan Fischel's written an entire book (Payback), about the Milken prosecution, and while I don't agree with a lot of his analysis, there is no getting around the fact that when the Feds want to go for the jugular, nothing is going to stop them. The threat of jail time and asset freezes can bring about a guilty plea even in a weak case. This isn't to condone prosecutorial overbearing, but to note it's reality.

Bottom line is that some folks are never going to believe that there was any intentional wrong-doing. They have priors that convince them that whatever went wrong was due to the government or to the mysterious forces of the market, but that individuals couldn't also have played a role through deliberate wrong-doing. Their response to everything is "mere anecdote" or "no analytical rigor." We must, by definition, live in the best of all possible worlds, because we will deny all other possible worlds, and therefore there is no reason to reform anything. I suspect that not even convictions would change the mind of such know-nothings, but I have zero doubt that a motivated, resourced prosecutor with authority could line up a string of major criminal cases--and convictions--here.

Dear Bank Apologists:

Spend some time reading/watching Bill Black.




If you want to actually understand the fraud and how it leads to crises, it takes some sophistication and willingness to digest it. If you just want to stick to talking points, you will never understand it. Just do us a favor and stop pretending that you have any of it figured out. Either you get the mountain of fraud, or you don't have any interest in getting it.


Two words.
You want a crime. There it is.
How many false affirmations are now a matter of public record?

Here we go right back around with the same apologies as last October: http://www.creditslips.org/creditslips/2011/10/the-sweep-it-under-the-rug-housing-plan.html. I commented there, just as I had commented earlier (http://realestatespot.blogspot.com/2011/07/as-if-we-needed-any-more-evidence.html) about adhering to the Gospel of Roger Lowenstein, so I'll stick to the current thread.

Having personally been lied to by not one but two VP-AGCs for a too-big-to-fail over the handling of clients' commercial lines of credit, I can tell you that a great deal has been hidden behind curtains that no one is pulling back. Having been a prosecutor, I can say that the specifics several comments are asking for are case-by-case; the other comments are simply pointing to items investigators ought to be looking for but apparently aren't. As for the hay federal prosecutors can supposedly make prosecuting banks, the real hay the white-collar attorneys want to make is to walk through the revolving door into the industry they're presently expected to oversee.

So far the only prosecutions have been of attendant lords; the Prince Hamlets remain secure on their thrones. Let's take just one case in point: the Goldman Sachs collusive CDO with John Paulson (that I commented on at the time, http://realestatespot.blogspot.com/2010/04/of-gold-sacks-and-garbage.html) in which GS issued a CDO hand picked by Paulson for him to bet against. If mere mortals had pulled that, there would have been perp walks. But it was GS, and 2 1/2 years have passed with nothing but crickets.

I almost forgot. The fraud is a matter of public record. Go check out your local property registry. It will take less than 3 minutes to find a FACIALLY fraudulent assignment. It's not forgery. It uttering a false instrument. there are thousand if not tens of thousands of these in every county in the nation.

Since when was it a crime to bait and switch? What??? Always?!?

Adam, please don't misrepresent my argument.
I am all for punishing crime. For crime.
I wrote "blame them" clearly.

You affirm that financial crime was more widespread on boom times. There is no data to back that. There are numerous historic examples of fraud prospering during non-boom eras.

Now if you blame financial criminals for the economic crisis, you ARE protecting the actual responsibilities from exposure.

Mortgage criminals abused a demagogic Fannie-Freddie orgy implemented by politicians with wide popular support.

If a pickpocket steals during the panic caused by fire, jail him for stealing, don't blame him for the fire. Or you are protecting the arsonist.

By the way, GM alone has destroyed more public funds than the whole of the banking sector.

Have there been any prosecutions for the crash of the car industry?

Let's get serious. The entire prosecutorial intelligence is aggressively doing their job focusing on Ohio. Prosecuting an Amish man for cutting hair, a crime they say is punishable by life in prison!!!

I don't know if a crime was committed or not. But I don't want to live in a society where prosecutions happen because "everybody" agrees that somebody must be held personally and criminally responsible for whatever bad happens. If we start prosecuting people because the public demands it, we are in trouble as a society.

You refer to "rampant sales of MBS where the securitizers knew that the loans they were
securitizing did not conform to the representations made to investors, ranging from the underwriting characteristics to the documentation quality. There's ample material there for securities fraud there, mail fraud, and wire fraud."

Well, the result in the trial of Tannin & Cioffi would appear to undermine that view. Also, I wonder how many such investors successfully sued securitisers for civil remedies.

@Dana Shetterley
"It will take less than 3 minutes to find a FACIALLY fraudulent assignment. It's not forgery. It is uttering a false instrument."

I live a few thousand miles away. Can you provide a link to what you are talking about ? Who is being defrauded of what by whom ?

Tannin and Cioffi weren't being accused of selling MBS that didn't conform to underwriting standards. They told investors everything was hunky dory even as they believed that the market was collapsing and were pulling their own money from the fund they managed. And Tannin and Cioffi's actions weren't contributing to the bubble--they just delayed their investors retreat from MBS exposure.

As far as investor suits for civil remedies, we have the Citi CDO settlement for $590 this past week. We have the proposed $8.5 billion Countrywide/BoA/BONY settlement, as crappy as it is. Those ain't nothing, and other litigation is in progress.

You suggest that the failure to prosecute bankers is a decision taken in The White House on grounds of expediency rather than principle.

Can you link me to any reliable persuasive material for that ?

In your reply to mt's comments, you say with apparent relish:

"All that wonderful formal legal stuff goes out the window. Dan Fischel's written an entire book (Payback), about the Milken prosecution, and while I don't agree with a lot of his analysis, there is no getting around the fact that when the Feds want to go for the jugular, nothing is going to stop them. The threat of jail time and asset freezes can bring about a guilty plea even in a weak case."

I regard such sentiments as inconsistent with respect for the Rule of Law.

You go on to say, of course:

"This isn't to condone prosecutorial overbearing, but to note it's reality."

I regret to say that the whole tone of your contribution seems to me to be one of wistful longing for more instances of just such abuse of prosecutorial power, in pursuit of a theory of criminality which has not yet convinced me, four years down the road.

You may believe that I have "priors". I am not sure that I *do* have relevant ones, but there are priors on both sides of these debates.

Thank you for your reply re Tannin & Cioffi. Their trial of course showed that they had *not* "told investors everything was hunky dory even as they believed that the market was collapsing and were pulling their own money from the fund they managed."

Regarding investor suits, I will research the instances you cite, but one definite and one possible after four years is hardly very persuasive of widespread systemic wrongdoing of the kind alleged.

The Tannin & Cioffi criminal trial shows the government has no intention of engaging in serious prosecutions. It went after two guys who had the perfect defense: They couldn't have defrauded anybody because they had no idea where the money should have been invested. Their alternatives were "stay the course" and "move from this crater to that crater." That isn't much of a fraud case (For investors suing them for negligence or breach of fiduciary duty, though....). If the prosecutors were playing contract bridge, that case was leading low to dummy's void suit. Trick lost.

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