The Fraud Free Financial Crisis

Gretchen Morgenson and Louise Story have a great piece in The New York Times about the curious fact that the greatest financial collapse in many decades has produced no prosecutions of any leading figures anywhere.

They run through a lot of the nuance issues here. White collar criminal cases are very difficult to prosecute for a whole variety of reasons. And the very lax regulation that contributed to the crisis also made it difficult to prosecute, due to poor documentation. I might add that conservative hegemony in the federal judiciary makes the outlook dimmer. But as they say right up at the beginning of the piece, the key sentiment underlying the whole thing is that the Obama administration felt it was important to restabilize the global financial system. That meant, at the margin, shying away from anxiety-producing fraud prosecutions. And faced with a logistically difficult task, that kind of pressure at the margin seems to have made a huge difference. There simply was no appetite for the kind of intensive work that would have been necessary.

I’m not as persuaded as, say, Jamie Galbraith is that the failure to do this is a key causal element in our economic problems. Indeed, I’d say that if you look at the situation literally, Tim Geithner’s judgment was probably correct. But psychology and politics matter. I think I’ve said this before, but I think the country would be in a better place if the passage of TARP has been immediately followed by Nancy Pelosi punching a bank CEO in the face on live television then letting everyone who voted “yes” give him a nice hard kick while he writhed in agony on the House floor. That would have been a useful way of distinguishing between banks and bank executives. Instead, the country rapidly developed bailout backlash. But that didn’t make policymakers stop trying to ensure the health of the financial system. It meant a shift away from a strategy of recapitalization through public investments to a strategy of recapitalization through profits. Of the two ways of helping banks, the latter is dramatically friendlier to bankers but it’s also easier to hide. And that, in turn, really has hurt our economy.

This whole episode continues, in my view, to be under-discussed and under-analyzed. There was a need to actually lance the psychic boils in order to make it possible to conduct recapitalization on the necessary scale. Fraud prosecutions could have worked, but even a good smack in the face would have helped.