Ethics Newsline®

Fighting Ponzi with Ponzi?

Jan 5th, 2009 • Posted in: Commentary

by Rushworth M. Kidder

He sat on charitable boards and gave to university endowments. His company was sought out by investors and touted in business circles. True, there had been suspicions, but an investigation by the U.S. Securities and Exchange Commission (SEC) several years ago came to nothing. But last fall after federal agents got wind of fraudulent activities through an insider confession, his firm collapsed in what authorities called a giant Ponzi scheme. He’s now been indicted and remains under arrest for a scam that ran undetected for more than a decade and lost billions of dollars from hedge funds, nonprofits, religious organizations, and individuals.

It’s the story of Bernie Madoff, the disgraced New York investment broker arrested last month, right? Well, yes and no. In fact, the paragraph above exactly describes a situation that surfaced several months earlier in Minnesota. It concerned a high-flying Twin Cities entrepreneur named Tom Petters, who claimed to be selling electronic goods to big-box stores, using phony invoices to get loans and attract investors. In a scary parallel to the Madoff story, Petters was arrested in October after one of his top executives turned herself in to federal authorities and began secretly recording the conversations that led to his indictment.

What’s scary about the parallel is that, compared to Madoff’s $50 billion loss, Petters’ $3.5 billion loss invites us to use the word mere to describe it — so jaded have we become in the current atmosphere of massive scandals, bailouts, and stimulus packages. What’s scary is that we never seem to learn, from scam to scam, that they all have one thing in common: con artists who exploit the human lust for beating the system and getting rich quick. What’s scary is that these swindlers come in so many flavors — slick and charismatic, like Petters, as well as aloof and mysterious, like Madoff — that they’re hard to spot. What’s scary is that federal regulators in each case didn’t know what was happening — and still wouldn’t had high-level insiders not blown the whistle. What’s scary is that while Ponzi schemes aren’t new (taking their name from Charles Ponzi, who ran a notorious pyramid scheme in Boston that collapsed in 1920), they are now so leveraged by new technologies that Ponzi himself couldn’t have imagined their speed, scale, and reach. And what’s scary is that if scams like these can range all the way from Wall Street bankers to Main Street retailers, how many other scams are still out there, unexposed and unchecked?

Fortunately, we’re taking steps as a nation to address these issues. On the legal side, the SEC, understaffed and ashamed, is tightening its processes, as are other regulatory agencies. And despite our complaints about the superficiality of the news media, we still encourage and reward the kind of serious investigative journalism that the Boston Post used in 1920 to blow the lid off Ponzi’s original scheme and call in the cops.

On the ethics side, too, we’re understanding more about the moral courage required when insiders who suspect wrongdoing decide to come forward, and we’re beginning to make that process easier. We’re developing ways to distinguish mere values chatter from real values-based action, aware that Petters’ public recitation of his company’s business values (innovation, agility, execution, humility, and caring) notably lacked the ethical values of honesty, responsibility, respect, and fairness that, if lived, might have kept him out of trouble.

What’s more, we’re increasingly sensitized to the need to build ethics into the entire fabric of our culture. In a single week in mid-December, for example:

Former Hewlett-Packard CEO Carly Fiorina, writing in the Wall Street Journal on December 12, noted that “never have common sense, good judgment, and ethics mattered more.”
Tom Friedman, in his December 17 New York Times column, opined that “we don’t just need a financial bailout; we need an ethical bailout. We need to re-establish the core balance between our markets, ethics, and regulations.”
The next day, president-elect Barack Obama, at a press conference announcing his nominee for head of the SEC, noted that “there needs to be a shift in ethics on Wall Street” and that “everybody from CEOs to shareholders to investors are going to have to be asking themselves not only is this profitable, not only whether this will boost my bonus, but is it right?”

That’s all good news. But beneath it the scariest question still lurks: Are we at risk of becoming a nation of Ponzis? Are we building today’s bailouts and stimulus packages to guarantee a working economy tomorrow — or are we, like Ponzi, paying current dividends out of our children’s capital? Are we renewing our physical infrastructure to facilitate stronger economic activity in the future — or are we, like Ponzi, taxing new investors to pay for old excesses? Are we capable of building a self-sustaining, steady-state economy — or are we, like Ponzi, shackled to a requirement for constant growth as the only way to keep our system afloat?

In a world so hammered by broken trust, what we most need is the moral radar that distinguishes the honest broker from the con. Among our most useful tools may be a caveat of inexplicable wealth — an instinct, intuition, or hunch that sends up warning signals whenever things look too good to be true, and a willingness to act on that caveat no matter how dazzling the promises. There may be no quick fixes — not from brokers, not from politicians, not from regulators — but just quiet, steady rethinking, realigning, and reinvesting. In the end, we can’t fight Ponzi with Ponzi.