Bear's Lair: Retribution -- who and how?

By MARTIN HUTCHINSON, UPI Business and Economics Editor  |  June 17, 2002 at 7:09 PM
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WASHINGTON, June 17 (UPI) -- The Arthur Andersen verdict is the first major act of retribution for the excesses of the 90s; one of the "Big 5" accounting firms appears to have been forced out of business. It, of course, raises the question: If the guillotine is to be applied to the perpetrators of the '90s bubble, then whose heads should roll, and what form should the retribution take?

Andersen, of course, was not entirely an innocent party. David Duncan, the Houston partner, may be thought to have been too intimately tied up with Enron's bizarre corporate culture to resist pressure in the company's last days; he can perhaps be forgiven for operating the shredder at full blast when the nation's seventh-largest company imploded in only a few weeks. However, Nancy Temple, the lawyer directing the shredding, was at Andersen's head office in Chicago, 1,000 miles from Enron. Followers of the "Dilbert" comic strip will recognize her technique; the e-mail to Houston "reminding" the office of Andersen's deliberately ambiguous policy on document shredding, which could be construed as an instruction not to shred, but was in fact an instruction to speed the process. The jury seems to have focused on another Temple e-mail to Duncan, recommending that he delete references to Andersen's advice to Enron that a proposed news release was misleading. This e-mail was presumably based on the assumption -- now proved false -- that if Enron top management could be kept out of jail, lawsuits against Andersen and against Temple herself would also be unlikely to succeed.

Whether the verdict stands up on appeal, Andersen appears to be history. In this way, 1,750 partners and 26,000 other U.S. employees have lost or will lose their jobs, and the attempt led by former Fed Chairman Paul Volcker to rescue the company will have been in vain. Since, with a few exceptions like Temple, Andersen's non-Enron employees had nothing to do with the company's accounting policies, and effectively no power to modify them or even to monitor them, this can be termed very rough justice indeed. In practice, there seems little evidence that Andersen was not carrying out its audit functions in a very similar way, and with very similar controls, compared with the other "Big Five" -- now Big Four -- accounting firms. Presumably even the most vengeful former dot-com shareholder does not want the other major accounting firms, too, to be put out of business, thus leaving the United States without an auditing profession.

So the question must arise: If the American public wants vengeance for the follies of the '90s, on whom should the vengeance be wreaked, and how serious should it be?

There is a precedent here, and it is not a happy one. After the 1929 crash, and the 1932 election of Franklin Roosevelt, there was a more or less unanimous agreement that it had all been Wall Street's fault (a contention not validated by modern economists, and certainly not by those who bought stocks all the way up the much larger boom of the 1990s.) The chairman of Citibank (then the National City Bank), Charles E. Mitchell, was imprisoned as, more justifiably, was the president of the New York Stock Exchange, Richard Whitney. The big New York banks were split forcibly between commercial and investment banking, which left the underwriting of stocks and bonds to tiny and pathetically undercapitalized partnerships -- Merrill Lynch, the largest brokerage firm in the United States in the 1930s as now, lost money over that decade, and was only bailed out by Charles Merrill's mother's trust fund.

Industrialists also suffered, although they were less vilified by the media and Congress. Samuel Insull, owner of a perfectly legitimate but over-leveraged Chicago-based utilities empire, was hounded around Europe and prosecuted for fraud, only to have the case thrown out. Ivar Kreuger, who put together the Swedish Match empire, was forced to suicide in 1932; his company was later bought by Marcus Wallenberg, of the banking family, and continues successful to this day.

On the other hand, the van Sweringens, Cleveland-based real estate and mass transit tycoons, were forced close to bankruptcy but not to prison; they died in 1935 and 1936 without facing criminal prosecution.

Politicians were largely exempt. The exception was Andrew Mellon, Treasury secretary throughout the 1920s, who was bitterly harassed throughout the last years of his life, by unmerited IRS investigations -- the fact that he had been an immensely successful industrialist (Alcoa, Gulf Oil and the Mellon bank) appeared to add fuel to the flames of the Roosevelt administration's hatred for him. On the other hand, Mellon's successor, Ogden Mills, far more responsible, along with President Hoover, for the depths of the Depression, by putting up income taxes sharply and neglecting to keep control of government spending, remained a critic of the New Deal but was not harassed by it.

Reed Smoot and Willis C. Hawley, authors of the infamous 1930 Smoot-Hawley tariff, also remained immune from harassment (though they were defeated for re-election) -- each lived another 11 years in honorable retirement, and Smoot became one of the 12 elders of the Mormon Church.

The result of this concentration on Wall Street was of course a collapse in U.S. capital markets. This, together with anti-growth economic policies throughout the 1930s, produced a depression that was far deeper in the United States than elsewhere, in spite of the entrepreneurial spirit, low taxation, low international debt and enormous size of the U.S. economy. It therefore matters who gets blamed for financial collapses, and how severe their penalties are, because severe and widespread penalties can kill the goose that lays the golden eggs of economic growth.

This time around, the accountants seem first in line for retribution, which is to a large extent fair given how great a part phony accounting played in the bubble. Stock option grants, which do not get reflected in the income statement, in particular are a scandal which shows no signs of being brought to an end, and frankly, if we have to bankrupt all five of the major accountants in order to terminate this gross abuse of shareholder rights, I would be prepared to do so. Of course, the top management lobby will squeal; their gravy train is threatened. But the activities of companies like Cisco, which paid out $8 billion in stock options in its fiscal year 2000, compared with $2.5 billion in reported profits (themselves inflated) exceeds in scale anything that Insull, Kreuger or the van Sweringens perpetrated, yet was perfectly legal.

Wall Street is always a popular target for harassment, yet I do not see this time around more than modest success for the harassers (which include, this time around, the class-action lawyers). Of course, if the stock market drops substantially further, as I expect, the picture may change. However, share prices of the most speculative companies, in the Nasdaq index, are already down more than 90 percent from their peak, with the index itself down close to 70 percent. If Wall Street continues to escape imprisonment for the losses that investors have already made on Nasdaq, I think it unlikely that it will suffer greatly for the losses ahead on the blue-chip companies in the Dow Index, where underwriting practices were presumably somewhat more sober.

It would be nice if politicians didn't get off scot-free this time. For one thing, a system in which businessmen go to jail when things go wrong, whereas politicians don't, is one where the most entrepreneurial and capable people will be attracted to politics, not business. This is unhealthy for the economy as a whole. Much better is the South Korean system, where Daewoo founder and apparently embezzler Kim Woo-chong is still at large, while South Korean presidential office holders descend regularly at their term's end into scandal and in several cases imprisonment.

In this case, political retribution could be brought to Sen. Joseph Lieberman, D-Conn., who killed the attempt to account properly for stock options in 1995, to President George W. Bush, who set off a further round of protectionism that will impoverish the world going forward, and to former President Bill Clinton, who encouraged a culture where truth was superfluous. Clinton also derailed the cause of world trade liberalization at Seattle in 1999, when the continuing economic boom made progress in liberalization far more likely than in the more straitened circumstances of today.

Trial lawyers too have much to answer for, inexorably raising the costs and risks of doing business, to their own enrichment, and thereby making economic recovery in the years ahead far more difficult. The tobacco settlement, for example, which has enriched the trial bar and caused an explosion of derivative cases, has also been damaging in providing one-off financial benefits to state governments at the top of a boom, thus causing them to raise spending far above what can comfortably be financed going forward.

Figures of popular culture could also usefully pay some penalty -- shows such as "Sex and the City" that glorify consumption, and credit-card companies, that send "pre-approved" offers of additional credit facilities to "the most vulnerable in society" -- consumers as a whole! Above all, one could look for retribution against those fomenting the explosion of gambling opportunities. These have not only produced a pernicious "get-rich-quick" mentality, but have condemned a substantial percentage of the poorer citizens to addiction and dependency, removing from them any hope of financial solvency in the foreseeable future. The blight is widespread; National Review, supposedly a bastion of conservatism, had twin articles in this week's issue, the one blasting cloning, the other extolling the libertarian right to video poker in states that forbid it. Since, on mature thought, cloning has the potential, if handled carefully, to improve the human condition, whereas, video poker can only degrade it, one must assume that National Review too has been deeply infected with the moral degradation of the '90s.

There is however one figure, above all, who could usefully be pilloried, one icon of the U.S. economy whose downfall would bring home a useful, indeed invaluable lesson, that state meddling with monetary policy is inevitably de-stabilizing compared with a self-regulating system such as the gold standard. Milton Friedman pointed out in 1960 that the Federal Reserve did much to cause the Great Depression, by over-inflating money in the 1920s and over-restricting it in the 1930s. This time, the inflationary mistake has been repeated. In his urge to remain popular, Fed Chairman Alan Greenspan omitted to apply the brakes at an early stage in the late '90s bubble. Instead he chose to make optimistic and largely unwarranted statements about how productivity had revolutionized the U.S. economic system, so that incessant inflation of the M3 money supply, at 10 percent per annum year after year, had no effect on the economy, and thus "irrational exuberance" in the stock market was in fact warranted. Since January 2001, Greenspan has pumped up the money supply still further, causing a needless prolongation of the unproductive early stages of the downturn.

When the revolution comes, let's spare the moderately innocent Wall Street bankers, and the somewhat less innocent politicians. Spare even the trial lawyers, the talk show hosts, and the accountants. Instead, if an example must be made, let us blame the single man most responsible for the excesses.

"Greenspan a la guillotine! A bas le Federal Reserve Board!"

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