J. Ponzi Morgan

morgan_madoffIt’s bad enough that for years JPMorgan Chase failed to alert federal authorities about the suspicious transactions being conducted by its customer Madoff Securities in what would later be revealed as a massive Ponzi scheme.

What’s equally damning in the criminal case the bank just resolved with federal prosecutors is that at times JPM seemed to want to get in on Madoff’s action.

The Statement of Facts to which JPM stipulated tells an interesting story about how, beginning in 2006, the bank began investing substantial sums (initially $343 million) of its own money in Madoff feeder funds in addition to issuing derivates tied to those funds and selling them to investors. In 2007 this business seemed so appealing that JPM’s London branch sought to write more than $1 billion in Madoff-linked derivatives.

This move had to be approved by the bank’s chief risk officer, who in 2007 nixed the plan after being told by a colleague that there is a “well-known cloud over the head of Madoff and that his returns are speculated to be part of a Ponzi scheme.” While he was unwilling to risk $1.3 billion under such circumstances, the officer did allow the Madoff exposure to remain up to $250 million.

The JPM London trading desk subsequently became more uneasy about Madoff Securities. It pulled out of the Madoff feeder funds, and in 2008 it filed a report with UK regulators expressing concerns that Madoff’s returns were probably “too good to be true.” JPM failed to do the same in the United States, and that turned out to be an expensive oversight.

JPM’s messy history with Madoff illustrates an interesting point about the relationship between individual white-collar crime and collective corporate crime. There’s long been a tendency to see corruption for self-enrichment (such as embezzlement) as being separate from misconduct by groups of people to enrich corporations (for example, price-fixing conspiracies).

In the case of Madoff and JPM, the two were closely connected. Madoff, who was working through his firm but was essentially running a one-man Ponzi operation, created conditions that were exploited (up to a point) by JPM to enhance the profits of the bank’s derivatives business. Even when that opportunity was deemed too risky by JPM, the bank failed to warn U.S. regulators and went on doing profitable banking business with Madoff.

In other words, the individual fraud being committed by Madoff was a source of profit for JPM, which in a sense became his co-conspirator.

The distinction between individual crime and corporate misbehavior is also a matter of perennial debate when it comes to punishment. Business apologists like to claim that corporations cannot really commit crimes and that only individuals should be prosecuted, knowing full well that such cases are much harder to prove.

What’s needed is a more aggressive approach toward the prosecution of both corporations and the higher-level executives responsible for their misconduct.

The JPM-Madoff case shows the limitations of the current system. No individuals were charged, and the bank was able to take advantage of the kind of deferred prosecution agreement that the Justice Department uses in almost every corporate case. Neither JPM nor the stock market seems to be fazed by the $2.6 billion payout. In fact, this is just the latest in a series of large settlements that JPM has made with prosecutors. Just two months ago, it agreed to pay $13 billion to resolve a variety of federal and state charges relating to the sale of toxic mortgage-backed securities.

Madoff himself was not able to buy his way out of a criminal conviction and prison time (150 years of it). There was a broad consensus that he deserved every penalty that could be imposed, to ensure that he could never defraud again.

We’re still waiting for a system of punishment that provides that kind of definitive treatment for rogue corporations such as J. Ponzi Morgan.

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