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EXTEND & PRETEND: It's Either RICO Act or Control Fraud


Founding Member
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Sr Site Supporter
Mar 25, 2010
EXTEND & PRETEND: It's Either RICO Act or Control Fraud

* by Gordon T. Long
* May 31, 2010

We are entering the Age of Rage.

It is presently most visible in Europe, where austerity programs that could shred a half century of social entitlement growth are met with violent street demonstrations. It is seen in the U.S. at Tea Party rallies, furious that the very fabric our capitalist system is based on is being destroyed and discarded. Unfortunately these demonstrations of rage are focusing on the effects and not the cause. The cause is a systemic plague of financial control fraud.

Americans watched CEOs being arrested on the nightly news during the S&L Crisis in the early ’90s. They were placated as they heard the details of over 1000 indictments of the perpetrators of fraud. In the aftermath of the tech bubble implosion ten years later, injured investors once again watched the most senior executives at Enron, WorldCom, Tyco, Qwest and others being led off in handcuffs and disgrace. Retirees with decimated retirement plans felt that some level of restitution had been made when 25-year sentences were meted out to these formerly high-flying felons.

Now, nearly two years after the greatest financial malfeasance in history and ten years after the last public example of financial crime, the public hasn’t seen a single CEO sentenced to hard time for the financial meltdown. Instead, the public is infuriated by politically crafted theater in congressional hearings that go nowhere, watered-down legislation replete with even richer lobbyist-authored loopholes, and only occasionally sees small headlines of quiet settlements with insulting token payments. Were there no crimes committed? No laws broken?

The public is forced to accept that we have enforcement agencies not enforcing, regulators not regulating, and legislators not equipped to legislate properly in our modern fast-moving financial world. The public is left with the gnawing concern of whether it is incompetence or something much deeper, and more sinister. Confidence and trust in government and our politicians continue to worsen from already pathetic levels.

The taxpayer, while standing in long unemployment lines, reads of financial institutions that made mind-numbing profits and paid huge executive bonuses suddenly becoming insolvent and needing taxpayer bailouts. Then as their unemployment benefits near exhaustion, they read of the banks’ profits soaring again. These are the foundations of the new age of public rage.

We have much more than a crisis of integrity. We have fraud that is so pervasive that it is now unknowingly institutionalized into our business and political culture. Like a cancer, if it’s not detected early, it will be too late to fight. We need to fully understand and prosecute the tenets of fraud before it is too late.

Fraud is the act of creating trust then betraying it. I believe the vast majority of people would agree this term accurately describes the financial crisis. So why are there no indictments? Is the fraud of liar’s loans, NINJA (No Income, No Job, No Assets) loans, false housing appraisals, false AAA credit ratings and false contingent liability reporting so hard to prove? Not really. It takes an indictment and that’s often a much too political process.

Some would argue it was not intentional and therefore isn’t a felony, but more a matter of civil damages. Again, wrong.

What emerged from the S&P debacle was the concept of control fraud. At the core of financial control fraud is the notion that a CEO would deliberately use the S&L as a camouflage to make bad loans, thereby gutting the underwriting process while knowing full well that the loans would statistically fail over the long run. By doing this, money is made in the initial stages, exactly in the fashion of a Bernie Madoff Ponzi scheme. Profits are declared and rich bonuses are paid. Stocks soar and rich stock options are executed. Then when the inevitable day arrives as the defaults emerge, the CEO takes the company into bankruptcy with no claw-back provisions, or an even newer and richer approach—the CEO seeks government bailouts to replace the pillaged balance sheet.

Corporate Control Fraud might be viewed as having four characteristics:

1. Deliberately making bad loans or investments.
2. Exceptionally high growth (because improperly accounted profits are being booked today).
3. The use of extraordinary leverage to maximize profits while profits are artificially available.
4. False representation of actuarial appropriate loss reserves.

Sound eerily familiar?

The S&L debacle prompted the Prompt Corrective Action (PCA) Law (US Code: Title 12,1831o). William K. Black, author of "The Best Way to Rob a Bank Is to Own One: How Corporate Executives and Politicians Looted the S&L Industry" (2005), argues that this law is being broken through the misrepresentation of bank asset positions. Additionally, because the PCA Law is not being enforced, the felony of accounting control fraud is being committed.

Control fraud theory, developed during the S&L debacle, explained that the person controlling the S&L (typically the CEO) posed a unique risk because he could use it as a weapon. It explained how a CEO optimized "his" S&L to loot creditors and shareholders.

The weapon of choice was accounting fraud. The company is the perpetrator and a victim. Control frauds are optimal looters because the CEO has four unique advantages. He uses his ability to hire and fire to suborn internal and external controls and make them allies. Control frauds consistently get "clean" opinions for financial statements that show record profitability when the company is insolvent and unprofitable. CEOs choose top-tier auditors. Their reputation helps deceive creditors and shareholders.

Only the CEO can optimize the company for fraud. He has it invest in assets with no clear market value. Rapid growth (as in a Ponzi scheme) extends the fraud and increases the "take." S&Ls optimized accounting fraud by loaning to uncreditworthy and criminal borrowers (who promised to pay the highest rates and fees because they did not intend to repay, but the promise sufficed for the auditors to permit booking the profits). The CEO extends the fraud through "sales" of the troubled assets to "straws" that transmute losses into profits. Accounting fraud produced guaranteed record profits—and losses.

CEOs have the unique ability to convert company assets into personal funds through normal corporate mechanisms. Accounting fraud causes stock prices to rise. The CEO sells shares and profits. The successful CEO receives raises, bonuses, perks, and options and gains in status and reputation. Audacious CEOs use political contributions to influence the external environment to aid fraud by fending off the regulators. Charitable contributions aid the firm’s legitimacy and the CEO’s status. S&L CEOs were able to loot the assets of large, rapidly growing organizations for many years. They used accounting fraud to mimic legitimate firms, and the markets did not spot the fraud. The steps that maximized their accounting profits maximized their losses, which dwarfed all other forms of property crimes combined.1

Secretaries Paulson and Geithner subverted the PCA law by allowing failed banks to engage in massive accounting fraud (which also means they are engaged in securities fraud). Treasury is telling the world that resolving the failed banks will require roughly $2 trillion dollars. That has to mean that the failed banks are insolvent by roughly $2 trillion. The failed banks, however, are reporting that they are not simply solvent, but "well capitalized." The regulators flout PCA by permitting this massive accounting and securities fraud. (By countenancing this fraud they make it extremely difficult to ever prosecute it.)

Heads of sovereign governments and their empowered representatives also fall within this type of fraud. People in authority, who are charged with a fiduciary and judiciary responsibility, are taking positions that enrich or politically benefit themselves at the expense of the innocent. This is fraud. We ask "Where are they when we most need them?", but we should be asking, "Who will bring them to justice?"

If you think this is not widespread, how do you rationalize the recent report in the Financial Times (3/2/10) that Goldman Sachs never had a trading day loss in April, yet its clients in eight out of ten cases lost money. The Financial Times reports "The trading operations of Goldman Sachs and JPMorgan Chase made money every single business day in the first quarter. Morgan Stanley reported trading profits on a mere 93% of the first quarter trading days. This defies any sort of logic in freely trading markets, unless the markets are controlled and the game fixed. These are better odds than owning a casino.

Gresham's Law describes how "bad money drives out good." Expanding on that idea, what Black calls "A Gresham's Dynamic" operates similarly, when cheaters profit and "the dishonest drive out the honest." 2

Under RICO, belonging to an enterprise that commits any two of 35 crimes—27 federal crimes and 8 state crimes—within a 10-year period can be charged with racketeering. Racketeering includes any act of bribery (lobbying?), counterfeiting (naked shorting?), theft, embezzlement, fraud, obstruction of justice, money laundering, embezzlement of union funds (talk to the SEIU about Interest Rate Swaps), bankruptcy fraud or securities fraud (where to begin?), and acts of terrorism (high frequency ‘flash crash’ trading?).

In addition, the racketeer must forfeit all ill-gotten gains and interest in any business gained through a pattern of "racketeering activity." RICO also permits a private individual harmed by the actions of such an enterprise to file a civil suit; if successful, the individual can collect treble damages.

You don’t need a Philadelphia lawyer to tell you that "when the glove fits you can’t acquit!" - A little old-fashioned common sense is all that is required.

The Age of Rage during the French Revolution cost people their heads when the angry masses called for justice. Political and bureaucratic heads also will roll if justice is not soon administered. As Marie Antoinette learned, it may be much worse than merely the loss of an elected position with all its trappings.

1 "The Control Fraud Theory," Bizcovering, 08/30/08
2 "Why Elite Frauds Cause Recurrent, Intensifying Economic, Political and Moral Crises," Dr. William Black, University of Missouri-Kansas City, 2/18/10

Mr. Long is a former senior group executive with IBM & Motorola, a principle in a high tech public start-up and founder of a private venture capital fund.

Views are as of May 31, 2010 and are subject to change based on market conditions and other factors. These views should not be construed as a recommendation for any specific security.

Federated Equity Management Company of Pennsylvania



Silver Member
Silver Miner
Apr 2, 2010
This is a very good article.

Gresham's Law describes how "bad money drives out good." Expanding on that idea, what Black calls "A Gresham's Dynamic" operates similarly, when cheaters profit and "the dishonest drive out the honest.

To compete, these companies are inventing new ways to defraud the gullible public. Since laws are not able to change corporate behavior, we need better ways to make them


Joined GIM in 2005
Gold Chaser
Site Supporter
Mar 31, 2010
Metro Detroit area
To compete, these companies are inventing new ways to defraud the gullible public. Since laws are not able to change corporate behavior, we need better ways to make them
Might I suggest tar and feathering...



Site Mgr
Sr Site Supporter
Mar 28, 2010
Planet Earth
All this economic melt down just 'happened' like the sun just rises every morning...

at least that's what they want us to believe...

With a church on every corner "Get what you can while you can." is the philosophy,
the 'religion' of the nation.


If coffee is gold, I own Fort Knox
Midas Member
Mar 31, 2010
Might I suggest tar and feathering...
Tar is an oil-based product, so we'll have to import it from Saudi Arabia first. :biggrin: