Madoff's Fraud Is the Icing on the Economic Dung Cake

The holiday season is a time of symbols -- jolly old bearded men, snowmen, and reindeer. But this year it's hard for me to think about festive images because so many of the faces I see in the media remind me of the economic crisis. Greedy CEOs looking for handouts, grandstanding politicians, failed regulators, and unemployed factory workers fighting for severance from companies that shut their doors without warning, replace visions of sugarplums that danced in my head during happier holiday seasons.

The latest addition to the economic rogues' gallery, Bernard Madoff, is the guy I'll remember as the holiday poster child for 2008. As everyone now knows, Bernie "made off" with billions of dollars via a Ponzi scheme. I know I'll remember him much longer than the other people I see daily in the financial news (Hank Paulson, Big 3 automaker CEOs, prominent senators, and such) because A) he ripped off charitable organizations at a time when charitable giving is desperately needed and B) he's a stellar example of the SEC's failure to protect investors.

While there's plenty of blame to go around in failure to detect Madoff's scheme (where were the auditors?), it's hard not to lay most of it at the SEC's door. Even Chairman Christopher Cox has expressed concern over the agency's regulation of Madoff's investment firm. According to a Wall Street Journal report, Cox said that the agency was aware of red flags at the firm but didn't take them seriously enough. Now, the SEC will review its past oversight activities and explore whether those activities were compromised by a romantic relationship between an SEC examiner and Madoff's niece, a compliance lawyer at Madoff's securities firm.

Ponzi schemes, named after the first perpetrator of this particular brand of fraud, have been around for decades. On the surface, they're pretty simple: pay early investors with money from later investors. Financial pundits, however, are saying that Madoff's scheme was very complex. But there are some common signs that a good forensic accountant should be able to recognize without too much trouble. For example, when an investment manager wants complete control of someone's money, it should raise the hair on the back of the examiner's neck, precipitating a full-blown investigation -- and when the investment managers' returns are way too consistently positive over a long period of time, as Madoff's were, regulators should hear a loud alarm bell.

Unfortunately for the endowments, charities, trusts, and individuals scammed by Madoff, that didn't happen. Let's all hope that there are some New Year's resolutions at the SEC after Obama's new commissioner enters the picture.