"distrust of traditional lending institutions such as commercial banks led some borrowers to seek out brokers from their own communities whom they felt they could trust. But these brokers were operating under high-powered incentives to inflate rates and fees and guide borrowers towards subprime products even when they were eligible for cheaper alternatives. The trust that was placed in the brokers allowed them greater flexibility to respond to these incentives and left borrowers worse off than the would have been if they had been more suspicious or better aware of the incentive structures in place.
"Viewed in this manner, the subprime saga has some broader implications. From the point of view of a company operating in multiple local markets with a diverse customer base, the strategy of giving local employees or contractors the discretion to adjust prices can be very profitable. This is especially so if these employees appear trustworthy to their customers, but are not in fact deserving of such trust. As Groucho Marx is reputed to have said: 'The secret of life is honesty and fair-dealing. If you can fake that you've got it made.' For products involving frequent repeat purchases by the same customer, reputation effects and competition can limit the degree of price discrimination. But the purchase of a home is an infrequent transaction for most people, and the complexity of the loan product precludes easy comparison with alternatives on offer. Trust then becomes a key determinant of pricing and transaction volume, especially when strong and hidden incentives for the betrayal of trust are in place.
"Betrayal also leads to the erosion of trust over time. It could be argued that trust is one of our most valuable public goods, substantially lowering the costs of transacting. In the complete absence of trust, the resources that would need to be devoted to monitoring would be prohibitive and many organizations and markets would simply not exist. Trust also comes naturally to most of us, based on simple cues such as those revealed in Reid's interviews. High-powered incentives to secure and then betray such trust are therefore costly not just to the immediate victim, but also to the community at large. This may be one of the less visible consequences of the subprime crisis."

I'm dubious. When I deposit my money in the bank, I (in effect) take a very small position in every loan it makes. _I_ lack the time and resources to evaluate investment opportunities, and the transaction costs of diversification are prohibitive for me, but not for the bank. Similarly in normal times the bank really doesn't have to turn over the cash to all but a very small fraction of deposits. This is not fraud; it is averaging.
Of course this sort of averaging is not that complicated and so lots of firms can do it, which drives down the profits, so banks have a huge incentive to come up with complicated things that no one else can do, which probably does contribute to fraud. But I don't think the _whole_ of finance is based on fraud.

"For the kind of profession where a practitioner is handling money or valuables for not-necessarily-sophisticated customers, like bail-bondsmen, insurance brokers, real estate brokers or even the auctioneers he mentions, there's a huge potential for fraud that realistically can't be addressed by generic law enforcement, even if the money that's now spent on licensing were redirected to prosecutors. ..."

Unintended consequences of hubristic social engineering by ideologues (with finance degrees), vol. CCXIV.

"Take Household Finance in the early 2000s. Their aggressive lending practices where people would learn after the fact that they were mislead to how much their total monthly payments were ... led to successful settlements in Colorado, Georgia as well as a $484 million in fines joint settlement with a group of attorney generals, the largest consumer fraud settlement in U.S. history. ... That’s a lot of money, until you divide it among the amount of households that were ripped off. Even after legal fees, its hard to image it wasn’t a profitable experience. So Household Finance has to pay the largest consumer fraud fines in history. I bet you think that the investment community and elite financial institutions wouldn’t look twice at it. ... One month later Household was acquired by HSBC, the London financial giant, for $16.4 billion.... Instead of driving out fraud, the market realized, correctly, that there is a ton of money in consumer fraud, and it rewards it handsomely. "

It says something that a man who was taking these insane risks, and engaging in massive deceptions to take these risks, is admitted even by the prosecutors to have NOT personally profited from it (beyond the usual bonuses, presumably), but rather left all the money with the organization. Now THAT is social control.

Understatement of the week (at least): "If the preservation of its reputation for serving the interests of its clients was a major organizational goal for Goldman, then something clearly went terribly wrong."

It is good to hang a banker from the lamp-posts in lower Manhattan from time to time, to encourage the others.

Ahhh, the unquestionable reliability of numbers!

With hand-labeled categories.

"My understanding of statistics is limited": no shit. Tagged "to teach" as an example of a generic, content-free way of deriding any statistical analysis whatsoever whose conclusions one dislikes.

This really looks very bad. (And: a journal refusing to share referee reports with someone listed on the MS. as an author? WTF?)

Oh yes, an oldie-but-goodie: how to make $800k as a stock-tout in high school. Whatever became of young Mr. Lebed?

Published version, via JSTOR. (The discussants seem clueless.)

in which Citibank gets taken for $27 million.

Ooopsy. (Pres. Cohon's letter to CMU about this sounded genuinely angry.) But - $80k collectible teddy bears?

The confession of his own fraud is interesting. The core proposal (underneath the failure to write clearly) is that selectively prosecuting frauds after they happen is less effective than a regulatory compliance regime that makes fraud hard to commit in the first place. This is fair enough, but (as Tanta used to say), there is no way to actually verify the claims in mortgage applications & c. _quickly_. Requiring it would lead to massive changes in an industry which has rebuilt itself around speedy securitization. This may or may not be a bad thing.

I don't know that the magnitude of derivatives matters so much as he makes out, if only because so many of them have bets going the other way that the net effect is much smaller. (But uncertainty about what that net position is, on the other hand...)

Was I the only one who read this and then thought "I can't wait to see what Tanta has to say about this?"

Aptly described by Kevin Drum as a structured-finance apparatchik performing self-criticism. But interesting, especially for the CPDO story.

This should be a case study in an industrial organization class on how to screw consumers (and, in the long run, yourself). Remind me never to buy a car on credit.

Go read, if you haven't already.

"That a lot of the people succeeding in business are sort of frauds (needless to say, other people get rich by inventing stuff that turns out to be incredibly lucrative and that’s a whole different sort of thing) doesn’t detract from the fact that the most successful among them are good at being frauds and that most people couldn’t do nearly as well."

For the academic version of this argument (as it applies to CEOs), read Rakesh Khurana's _Searching for a Corporate Savior_.

It's a wonder the WSJ editorial page doesn't explode from sheer cognitive dissonance.

Aaron explains one reason why we don't, in fact, have a better press corps: the threat of being sued for things like "breach of loyalty" [!]

I am not sure if "daisy chain of deals" is quite the best phrase, in this context...

More on mark-to-market valuation of liabilities. A "lack of analytic transparency", indeed!

Financial firms claiming to values their _obligations_ at market prices? Since when has this been happening, and who did they bribe/blow/kill to get it allowed?

"If you make a 'liar loan,' the Judge is saying here, then you cannot claim you were harmed by relying on lies."

"Although some skeptical researcher labels them as 'bullshit', there's probably something more, from a psychological point of view, justifying their strong appeal." Or: _The Da Vinci Code_ as the "Tlon, Uqbar, Orbis Tertius" we deserve.

Possible data mining teaching material - what if the data is all, or in large part, lies? If users deliberately game the classifier?

Life imitates _Homicide_.

I love the smell of bilking struggling school districts; it is the smell of alpha.

Holy fuck.

"The masterminds were developers Mark Alan Abrams, 46, who had a previous $2-million civil fraud judgment against him, and Charles Elliott Fitzgerald, 47, a bigamist who fled the country in 2003 and was later arrested in Samoa"

How to look like a financial genius with 60% probability by doing nothing. Too much set-up, perhaps, to really be a good exam problem in a general intro-to-prob class, but tempting.

Just how screwy have mortgages become?

Malcolm Gladwell rips art "profiling"

Insurance fraud is not supposed to be fraud by the insurance _companies_.

Some measurements of an on-line marketplace (IRC channel) relating to electronic crimes, with SVMs to label "semantic" features

Makes an incredible contrast with the Shannen Rossmiller story ("Behind Enmy Lines with a Suburban Counterterrorist")