Introduction
The world fell into a state of shock when news headlines reported that the respectable head of Bernard L. Madoff Investment Securities LLC, Mr. Bernard Madoff had confessed to operating a Ponzi scheme. The weight of the ethical issues that the news portended require deep analysis to identify the moral lapses that may have contributed to what some describe as the largest Ponzi scheme in human history. According to Schiller (2010), “A Ponzi scheme is a fraudulent investment operation that pays returns to separate investors from their own money or is paid by subsequent investors, rather than from any actual profit earned” (p. 35). Estimates of the amount of money lost range from twelve to twenty billion dollars. The entire debacle arose from Madoff’s failure to adhere to simple ethical rules regarding honest business. He was not honest. This paper examines the role, motive, and consequences of Bernard Madoff’s Ponzi scheme because of an ethical lapse.
Overview of the Scandal
Bernard Madoff was born in 1938 in the city of New York. His father was a plumber turned stockbroker. This may explain Madoff’s interest in the stock market. Madoff was the grandson of Jewish immigrants from Europe. He earned a B. A. in
political science from Hofstra College. Madoff used money he made from working as a lifeguard and sprinkler installer to open his stock brokerage firm at the age of twenty-two. His initial investment received support from his father-in-law through a loan and refereeing of clients to him. His relatively small company used technological advances in computing to disseminate its quotes to compete favorably with the members of the New York Stock Exchange. The system they developed grew to be the NASDAQ.
Through his company, Madoff systematically executed plans that would wind up as the largest Ponzi scheme in history. Explained simply, Madoff generated trust in clients by projecting the image of a reliable securities broker and used their money to pay off claims from earlier clients. His role was to ensure always that he received more deposits than settlement claims. His system would work just fine for many years since he was also involved in legitimate trading in the New York Stock Exchange until it became unmanageable. At this point, the scheme would collapse. This collapse came about in 2008 when he confessed to operating a Ponzi scheme. Levisohn (2008) reported that “the alleged offenses only came to light because he could no longer raise the money to keep his scheme going”.
Madoff had made certain ethical choices early in his career. He stated of his investment management career as a penny stockbroker. These stocks are more difficult to monitor since they involve very small values of shares. It is easy to perpetrate fraud using them. Also, by designing a business system where he declared whatever returns he wanted for any specific account, he compromised his ethical standards and from then on it was only a matter of time before the whole empire tumbled down.
The Environment Context for the Fraud
The environment that Madoff worked in required a lot of trusts. His father-in-law loaned ten times more money compared to his investment in his new company as startup capital and trusted Madoff to repay the sum. He went ahead to recommend clients to Madoff to get the business going. Over time, Madoff built a steady reputation as a securities trader who always assured return on investment and paid out interest and bonuses to his clients. Peck (2010) reports that “he was well known and respected in the securities industry” (p. 5). Regulators did not find any problems with Madoff’s business because of his well-planned business system. One person saw through Madoff’s Scheme. Henry Markopolos raised issues with the number of Madoff’s returns.
They seemed too impressive. He described them as impossible to achieve legally and mathematically. There was also the concern that the establishment was excessively large in terms of capitalization for credible auditing by an audit firm of only three auditors. Nevertheless, the authorities never found any evidence of the fraud until Madoff himself confessed to operating a Ponzi scheme. This was at the onset of the global financial meltdown. Madoff must have realized that his scheme was no longer tenable. Investors on the other hand had plenty of confidence in Madoff. He had a very solid reputation as a long-established broker and investment fund manager for anyone to question his credentials. Some of the institutional investors had put all their endowment funds with Madoff. This shows just how difficult moral choices get when people trust you to the extent that the facade you present as your character becomes delusional.
The motivation for the Fraud
Investigations into Madoff’s actions leave lots of speculation as to what his motive was for perpetuating such a large-scale scandal. What complicates it further is the fact that those that knew Madoff personally describe him as “honest, generous, and bighearted” (Yanke, 2010). Possibly, Madoff’s motivation was greed. This may explain why he let the scheme get to such staggering proportions to the eventual financial ruin of many charities, individuals, universities, and companies, without taking any action to avert the eventual collapse. However, this view is difficult to sustain since Madoff was not charging management fees, which would have legally increased his profits. Besides, in the securities division of Madoffs Company, according to Ferrell, Fraedrich, and Farrell (2009) “profits were not based on fraud” (p. 406).
Madoff may have started to establish a normal investment management fund while promising big returns, which became untenable over time. He may have been under the impression that he could recover the initial losses in futures trading but this never happened. His realization that he could not do anything about it may explain his eventual revelation to his sons that it was all a huge fraud. Another theory to explain Madoff’s actions would be a psychological desire for appreciation from others. As Mendonca and Kanungo (2006) contend, “morally good actions bring fulfillment and morally evil actions bring non-fulfillment” (p.18). After initial success with his fledgling company, he took the high-risk route of investing funds for guaranteed returns to his clients. This made him popular and well respected. He donated to charities and universities and even had a foundation under his name. The jury is still out on Madoff’s real motivation to pull off the biggest financial fraud of modern times.
Consequences of Madoff’s Actions
Yanke (2010) notes that “there was a point early on where Madoff could have admitted to clients that he did not realize the investment returns he had promised and dealt with the consequences”. He let that point pass and now there is a raft of after-effects that still reverberate to date right across the global economy. Gordon (2009) stated that Madoff’s scheme “destroyed thousands of people’s life savings, wrecked charities, and gave the financial system another big jolt”. There were proposals to ensure that there was a change in the regulations mechanism so that complaints and reports get better attention. This lacked in the Madoff case, which went on for ten more years after the lodging of the first complaint by Markopolos.
Other consequences of the fraud include huge financial losses to investors and other institutions that had decided to invest with Madoff. The list of names of affected parties is long and winding and includes very reputable firms right across the globe, with banks, universities, hedge funds, and charities as part of the victims. Madoff sat on several Boards of institutions. His family members also worked with various organizations. They resigned their positions as soon as the scheme became public. All the affected institutions suffered a blow to their reputations. The entire Madoff family continues to suffer for the role of Madoff in the lives of other people. Ansari (2010) reports that Stephanie Madoff, wife to Madoff’s son Mark, “wants her name and the name of her two children, changed”. Tragically, Mark committed suicide several months later with investigations against him for his role in the scheme still ongoing. On the overall economy, Madoff’s scheme sent shockwaves across the investment and securities markets, leading to a great loss of confidence in the financial system. Considering the scheme’s exposure came when the world was dealing with the global economic meltdown, the effects of the largest Ponzi scheme on the world economy may be too large to accurately measure.
The story of Bernard Madoff reads like a fictional thriller hot off the press. It is amazing the amount of damage a moral lapse of judgment can bring. One man who may have suffered manageable consequences if he had made different ethical choices sits incarcerated for 150 years, the maximum allowed by law. The long sentence will do nothing to repair the damage his unethical actions have caused. It is clear from Madoff’s case that there are real consequences to lapses in ethical behavior, and sadly, they affect many more people beyond the perpetrators. As Henn (2009) puts it, “the fate of an organization affects more than the owner of the business” (p. 14). It may serve to quell the desire for justice by those who share the view of Odom (2010) who stated, “Madoff knew that he was doing wrong” (45-46).
Reference list
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