Business Finance

How insiders rob banks and cause economic crises

rob bank

(Business Finance) Economic crises are often seen as par for the course, but when insiders’ greed exacerbates problems, you have a collapse on your hands.

rob bank

Do you know how to rob a bank?

If not, you should. No, I am not talking about wearing a ski mask and walking in demanding money; I am referring to corruption of the banking system by insiders and fraud activity. William Black explains the key points of his book, “The Best Way to Rob a Bank is to Own One,” via a TEDX presentation.

The last financial crisis cost eleven trillion dollars, as well as 10 million jobs. Black addresses the epidemics of control fraud: the fraud that takes place when a person in control, typically a CEO, of a seemingly legitimate entity, uses the company as a weapon to defraud. Reducing and eliminating control fraud, according to Black, is the most important element to address in order to prevent repeated financial crisis.

He presents a 4-part recipe for accounting control fraud which is a “sure thing” to insure fraud will take place: grow like crazy, making or buying crappy loans at a premium interest rate; employing extreme leverage (debt); and providing only trivial loss reserves. The four-part recipe mathematically guarantees the following three things will happen: record bank profits, CEO will be made wealthy, and farther down the road, the bank will suffer catastrophic losses. The prime example: the 1984 savings and loan debacle.

How the fraud was so widespread

Appraisal fraud and liar’s loans drove the massive amounts of fraudulent activity. Appraisal fraud was characterized by an inflated value of a home being used as security for loans. By 2000, honest appraisers were begging the government to do something about the fraud because honest appraisers were being blacklisted by loan companies for refusing to inflate the value of homes. The industry responded by increasing liar’s loans by 500 percent, which created even more problems. 40 percent of all American loans were liar’s loans: 90 percent of all no-document loans were fraudulent and 90 percent of appraisals were fraudulently inflated at the insistence of the banks.

How can this be prevented? Black proposes a three-step solution: shrink, or break up, the “too big to fail” banks; reform executive compensation (so bad ethics do not coerce good ethics out of the marketplace), and reform the “three D’s” (deregulation, desupervision, and de facto decriminalization).

What does this mean for you? Perhaps nothing more than possessing the knowledge that fraudulent activity happens. Every system keeps its own best interests at the core, sometimes, to the point of corruption. Any system, particularly one that involves money, is going to be at risk for fraudulent activity. Be aware of the system, but not afraid of it, and always keep an eye on your money.

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