Bernie Madoff and the Crisis: The Public Trial of Capitalism

Stanford University Press

Stanford, California

©2017 by the Board of Trustees of the Leland Stanford Junior University.

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Library of Congress Cataloging-in-Publication Data

Names: Eren, Colleen P., author.

Title: Bernie Madoff and the crisis : the public trial of capitalism / Colleen P. Eren.

Description: Stanford, California : Stanford University Press, 2017. | Includes bibliographical references and index.

Identifiers: LCCN 2016055521 (print) | LCCN 2016057613 (ebook) | ISBN 9780804795586 (cloth : alk. paper) | ISBN 9781503602724 (pbk. : alk. paper) | ISBN 9781503603066 (electronic)

Subjects: LCSH: Madoff, Bernard L.—In mass media. | Global Financial Crisis, 2008–2009—Press coverage—United States. | Global Financial Crisis, 2008–2009—Press coverage—Great Britain. | Capitalism—Press coverage—United States. | Capitalism—Press coverage—Great Britain. | Commercial crimes—Press coverage—United States. | Commercial crimes—Press coverage—Great Britain.

Classification: LCC HV6692.M33 E74 2017 (print) | LCC HV6692.M33 (ebook) | DDC 364.16/8092—dc23

LC record available at https://lccn.loc.gov/2016055521

Typeset by Classic Typography in 11/15 Minion Pro

BERNIE MADOFF AND THE CRISIS

THE PUBLIC TRIAL OF CAPITALISM

COLLEEN P. EREN

STANFORD BUSINESS BOOKS

An Imprint of Stanford University Press

Stanford, California

CONTENTS

Acknowledgments

1. A Crisis in Search of a Villain

2. Out of the Business Section, Into the Front Pages

3. Sleeping Watchdogs: Blaming the Regulators

4. It’s How You’re Rich That Matters: Narratives of the Haves, Have Nots, and Have Lots

5. Boil Him in Oil: Cracking Down on Wall Street through Madoff

6. The More Things Change, the More They Remain the Same?

Appendix: Interviewees

Notes

Index

ACKNOWLEDGMENTS

The loneliness of the long-distance runner is perhaps only matched by the loneliness of the first-time author. I am grateful to all those who joined me in some capacity on the journey.

Deep thanks go to my mentor and friend, Lynn Chancer. She has helped cultivate this project through many long and lovely conversations over coffee in Park Slope, and has been an unwavering source of support and belief in me. Thanks also to Michael Jacobson from the CUNY Institute of State and Local Governance, for offering his thoughts and critiques on an early rendition. I am saddened that Jock Young passed before the publication of this book, but am honored he was able to make his imprint on it, and grateful for his liberating insistence that I should have some fun with it.

Criminologist Michael Levi’s extensive work on white-collar crime and media has helped inspire and inform my own. I am grateful he was able to offer his comments and invaluable suggestions as a peer reviewer for this work. Many thanks also are due to my anonymous reviewer for her recommendations, particularly for changes to the first and last chapters.

I am truly appreciative to each of my interviewees, including John Nester of the Securities and Exchange Commission, Bernie Madoff, playwright Deb Margolin, and the dozens of UK and US journalists, editors, and photographers from Barron’s, the Daily Mail, Daily Mirror, Daily News, Financial Times, Guardian, Independent, New York Times, New York Post, London Times, and Washington Post. In spite of often being on deadline, they shared their thoughts and experiences with me and strongly encouraged me to pursue this work. They have convinced me that journalists are at heart sociologists—but with better time-management skills. This book would not have been possible without their participation. Special thanks to Diana Henriques of the New York Times who shared willingly of her knowledge, reflections, and passion for the topic.

Deep gratitude to the editorial staff at Stanford University Press, particularly my marvelous editor, Margo Beth Fleming, for her enthusiasm, confidence, vision, and guidance through an unfamiliar process.

Thanks too to my colleagues at the City University of New York, especially to Dave Hill for his generous comments and suggestions during the revision process. And to Camila Gelpi-Acosta, John Chaney, Cory Feldman, Jill Kehoe, and Jennifer Wynn for their friendship and for fighting the good fight in bringing a critical criminological perspective to our students.

Endless appreciation is owed to my mother, Patricia Duggan Eren. Anything I will ever accomplish academically or otherwise can trace its origin to time spent reading The Adventures of Stanley Cane and Henry’s Awful Mistake together. To my sister Meg, equally willing to perform Much Ado about Nothing or jump out of a plane with me through the years. It breaks my heart that my father, Mehmet Eren, will not share in this moment. But his influence, and that of my grandparents Larry and Ronny, on my life transcends all boundaries.

And to Elias Hernandez. You really are always that wonderful, and this book is for you.

1

A CRISIS IN SEARCH OF A VILLAIN

As you are aware my crime had nothing to do with causing the Financial Crisis. It was however a direct reflection of the culture of Wall Street and the banking system and hedge funds. It was easy to put a face on the Crisis, which was mine.

—Bernie Madoff, personal interview

BERNARD L. MADOFF’S ARREST at the close of 2008 could not have come at a more darkly poetic moment, nor played out on a more dramatic stage. With the year drawing to an end, the United States economy was reeling. In fewer than two years, previously unimaginable financial upheavals had plunged the country into the worst recession since the Great Depression, with a global ripple effect. Starting in late 2006, a deluge of foreclosures on homes purchased with risky subprime mortgages and adjustable rate mortgages, which had proliferated in the 2000s when they were peddled to the less-than-creditworthy, led to a catastrophic domino effect. Housing prices plummeted, and fear spread. Clogging the books of major institutions, and derived from the toxic subprime mortgages, were complex financial products such as collateralized debt obligations (CDOs), synthetic CDOs, and credit default swaps (CDS), now worthless financial kryptonite. By March 2008, revered investment bank Bear Stearns had been bailed out of a liquidity crisis and subsequently acquired for a fraction of its previous worth by J.P. Morgan with the full backing of the Federal Reserve. Faced with the uncertainty of how much exposure to these assets other institutions had, creditors began to pull back on lending. In July, the government-sponsored entities Fannie Mae and Freddie Mac, pivotal players in the housing finance system, together guaranteeing 70 percent of new home loans,¹ were staggering under the weight of losses incurred by the subprime crisis. By September, Lehman Brothers, with its storied 158-year existence, filed for the largest bankruptcy in history. Credit markets became even more cautious, with repercussions for all firms that needed to borrow in order to conduct their daily business.

There was little respite from catastrophic collapses. A week after the fall of Lehman, the international insurance behemoth American International Group (AIG) also teetered on life support, with the Federal Reserve coming to the rescue—and yet another multibillion-dollar bailout. And on October 3, President George W. Bush signed the largest bailout package in history with bipartisan support. At an initially approved cost of $700 billion, reduced after the Dodd-Frank Act to $475 billion, the Emergency Economic Stabilization Act of 2008 created the Troubled Asset Relief Fund (TARP), which was intended to help stabilize the U.S. financial system, restart economic growth, and prevent avoidable foreclosures.² The act used the bulk of its resources to ensure the resuscitation of those institutions deemed too big to fail.³

It was a long year of gargantuan saves and casualties at the institutional level. But the collective impact on millions of individuals in the United States and Europe was staggering. The United States lost 3.6 million jobs in 2008, the largest decrease since recording began in 1940.⁴ Unemployment soared and reached its highest level in fourteen years; historical records were set for the number of young people unemployed (ages 16–24).⁵

Evidence mounted that the causes of the crisis could be discerned at least partially in the illegal or unethical actions of those in the mortgage-lending industry and recklessness throughout the financial sector, not to mention grotesque negligence by regulators and ratings agencies like Moody’s or Standard & Poor’s. Blame had not fallen on discrete targets: despite the magnitude of the crisis and its close connection with financial and policy choices, no individuals were being charged with wrongdoing. Then, on December 11, 2008, amid fear, anger, and fatigue, the same factors which had brought Lehman, Bear, and AIG to their knees also brought down the most costly and longest-running Ponzi scheme in history.

Former NASDAQ chairman and Wall Street financier Bernard Madoff’s investment management firm, run out of the Lipstick Building in Manhattan, had its own liquidity crisis—his investors’ requests to withdraw funds had multiplied, and soon exceeded a billion dollars. Despite its long run of seeming credibility, a decades-old charade could not be maintained. The capital to keep it going simply did not exist when panicked clients asked Madoff to pay out their redemptions en masse. Bernie Madoff confessed to his brother, Peter, on December 9, and then to his adult sons, Andrew and Mark, on December 10, 2008.⁶ Within twenty-four hours, he was at the center of an international media frenzy.

The Madoff Case in Brief

What had led the then seventy-year-old Madoff to that moment?⁷ He didn’t need to resort to crime to be successful, Erin Arvedlund writes in Too Good to Be True: The Rise and Fall of Bernie Madoff.⁸ Indeed, without the final chapter of the exposure of his fraud, Madoff’s life would have appeared to be a classic Horatio Alger story, one that would have been emblematic of the American Dream. He grew up in a middle-class family in Laurelton, Queens, attending the local PS 156 and then Far Rockaway High School, where he met his future wife, Ruth Alpern. In 1960, after a previous failed attempt at obtaining a degree from Brooklyn Law, he graduated from Long Island’s Hofstra University⁹ with a bachelor’s in political science; he would later joke it was the Wrong or the Other ‘H’ University. That same year, with savings he had accumulated through jobs such as lifeguarding and a $50,000 loan from his father-in-law, he founded his brokerage business, Bernard L. Madoff Investment Securities (BLMIS). Although Bernie led a relatively unremarkable life prior to the creation of his firm, he soon distinguished himself as a talented, charismatic businessman and even a pioneer in automated trading, which was to make him very rich.

Madoff was primarily engaged in the over-the-counter (OTC) market, first dealing with penny stocks—low-cost stocks that are not listed in major exchange markets like the New York Stock Exchange. Unlike many of his counterparts operating in an antiquated world of manual trades, Madoff and his chief compliance officer and brother, Peter Madoff, recognized the business advantage to be had through technology; automated trading via computers helped him boast turnaround times that outdid his competition, still mired in paper. His was one of the first firms to join the National Association of Securities Dealers Automated Quotations (NASDAQ) system, where he later served as chairman for three years in the early 1990s. His willingness to embrace and promote innovation in trading technology proved highly lucrative when, starting in the 1970s, changes in the rules allowed for his firm and others like it to trade more expensive and prestigious blue chip stocks.¹⁰ Encroaching on territory previously occupied by the big exchanges, he created a third market and his business thrived. BLMIS handled 5 percent of all trading on the New York Stock Exchange in the 1980s.¹¹ At one point, he was also the largest market maker on the NASDAQ and the sixth-largest market maker for Standard & Poor’s 500 stocks, with the firm boasting $300 million in assets.¹² Madoff’s rise to prominence was remarkable. He was lionized in magazines like Forbes and Financial World for his tech-savvy trading practices and commanding salary. He was a darling of regulators, helping them with advice on how to break up market monopolies, and was asked to serve on a Securities and Exchange Commission (SEC) advisory committee on stock market trading rules.¹³

Yet this account of Bernard L. Madoff Investment Securities carried with it a dark parallel tale. Around the same time as his market-making firm was founded in the 1960s, Bernie began a side business of investing money for his father-in-law Saul Alpern’s friends and clients at the Alpern & Heller accounting firm, as well as for family members.¹⁴ Madoff carefully cultivated affinity networks in the high societies of New York City and Palm Beach, particularly within the Jewish community to which he had easy access. His success at providing these clients with a stream of steady, profitable, but generally not outlandish returns¹⁵ soon earned him a widening reputation as a Wall Street wizard, able to navigate market volatility where others could not. As word spread through elite communities, a snowball effect ensued, gathering momentum.

Beginning in the early 1990s, wealthy fund managers in the United States and in international settings channeled millions—and even billions—of their clients’ money to Madoff. Notable examples of this group include Walter Noel and Jeffrey Tucker (of Fairfield Greenwich Group), Ezra Merkin (a New York philanthropist and money manager at Ascot Partners), and René-Thierry Magon de la Villehuchet (of Access International Advisors). In return, these managers of feeder funds would receive millions in fees, creating a perverse incentive for them to keep bringing victims to Madoff’s side business. The funds pooled the wealth of charities such as the now defunct JEHT Foundation and Elie Wiesel Foundation for Humanity, universities such as New York University and Yeshiva, retirement accounts, and individual investors. Some of the victims were completely unaware of or misled as to the nature of their investments, or had never even heard of Bernie Madoff. Together with billions in investments from major banks around the globe (HSBC, BNP Paribas, and Grupo Santander to name a few), this money became the lifeblood of his colossal Ponzi scheme.

Madoff claimed that he was employing a sophisticated investment strategy—the split strike conversion strategy—with his clients’ money through the investment advisory arm of his firm. His clients were told their funds would be invested in a basket of common stocks within Standard & Poor’s 100 index, while hedging these investments with options to mitigate risk. He said he would opportunistically time those purchases and intermittently be out of the market, and would then place his client funds in government-issued securities like Treasury bills.¹⁶ The clients would receive in the mail official-looking monthly statements showing the trade confirmations and investments, as well as 1099s at the end of the year—all indicating the supposed legitimacy of the transactions. Some clients even received time-stamped trade confirmations on individual stock and bond transactions.¹⁷ They would earn consistent returns on these investments, 10–17 percent a year for the average client—not the type of return that would raise suspicions¹⁸ (although consistent returns in spite of economic downturns raised suspicions for some).

Of course, this was all a ruse. The securities were never bought or sold. Rather, his clients’ funds were simply deposited into a bank account at Chase Manhattan. (From 1986 to 2008, Madoff’s Chase 703 account would receive $150 billion in transfers and deposits, and maintained a balance between three and five billion dollars.¹⁹) When a client wished to take money out of their account, the funds would therefore come from this pool of other clients’ funds. As with all Ponzi schemes, Madoff’s swindle required growing numbers of investors with enough cash to allow him to honor redemptions quickly and not arouse suspicions. While estimates of the losses vary, the Ponzi has been estimated to have defrauded clients of well over $10 billion²⁰ in actual losses, up to $50 billion if fictitious losses are included, ensnaring tens of thousands of victims (over 56,000 individuals from 119 countries had filed claims by 2014).²¹

There is still uncertainty as to when Madoff’s investment business became a Ponzi scheme—and indeed, if the business ever was legitimate. Journalist Brian Ross, in his book The Madoff Chronicles, claims to have spoken to sources close to Madoff who insist the investment business was never legitimate.²² When federal prosecutors indicted five of his employees at BLMIS in October 2012, they alleged the scam began at least in the early 1970s.²³ By Madoff’s own testimony, it began in the early 1990s, following the onset of the recession [of the late 1980s] and the Gulf War.²⁴ Whatever the truth, questions about the legitimacy of Madoff’s returns were raised long before the FBI raided his Upper East Side penthouse. In fact, the Securities and Exchange Commission’s investigation into why it failed to uncover Bernard Madoff’s Ponzi scheme revealed that red flags had begun to appear as early as 1992. Erin Arvedlund, a journalist for Barron’s, wrote Don’t Ask Don’t Tell: Bernie Madoff Is So Secretive, He Even Asks His Investors to Keep Mum, which raised doubts about his secretive investment practices and preternaturally consistent returns. While suggestive, Arvedlund never explicitly used the term Ponzi in her article. But others did. The whistleblower and certified fraud examiner Harry Markopolos gave the Securities and Exchange Commission multiple detailed warnings about Madoff from 2000 to 2008. All went ignored. Only an economic event of the order of the financial crisis and his own sons’ tip-off was able to topple Madoff’s scheme.

Bernie Madoff faced eleven criminal charges in federal court in the Southern District of New York, including securities fraud, mail fraud, wire fraud, investment adviser fraud, international money laundering, money laundering, perjury, false statements, false filing with the SEC, and theft from an employee benefit plan. Not implicating any of his family members or employees, he insisted that he acted alone (although future court cases would prove otherwise, when his brother and aides received sentences for their involvement), and on June 29, 2009, he was given the maximum sentence possible: 150 years in federal prison.

Though questions still remain and the drama continues to unfold years after his arrest, the detailed history of Madoff’s Ponzi and its aftermath have already been well documented by journalists Diana Henriques in Wizard of Lies: Bernie Madoff and the Death of Trust and Erin Arvedlund in Too Good to Be True: The Rise and Fall of Bernie Madoff, among other personal accounts by the whistleblower Harry Markopolos (No One Would Listen), by a claimed mistress (Madoff’s Other Secret), by the victims (The Club No One Wanted to Join), and even by daughter-in-law Stephanie Madoff Mack (The End of Normal). It is not the purpose of this book to replicate their efforts. Neither is it my intent to add further documentation to the descriptions of the causal chain of events that led to the Great Recession or its aftermath. There are over three hundred books as of this writing that attempt to explain the financial crisis of 2007–9. Bernie Madoff and the Crisis instead turns the mirror away from these events themselves, and focuses on social reactions in the United States and the United Kingdom to the Madoff Ponzi as revealed through the dominant media narratives. Accordingly, the discourses²⁵ surrounding the Madoff case are treated as artifacts which impart cultural and sociological insights. Through these narratives, we can investigate the symbolic meaning and latent function of this high-profile case, its immediate historical relevance within the context of economic crisis, its staying power in the years thereafter, and its importance as a touchstone in the broader context of post-1970 neoliberalism.²⁶

Crisis, Meet Madoff

As a sociologist, my intellectual fascination with this case began when I found a short article on perceptions of Madoff’s punishment featured in the July/August 2009 issue of Psychology Today. As I casually flipped through the glossy magazine, a graphic of Bernie Madoff’s head ghoulishly served up on a platter caught my eye.

Clipping from Psychology Today.

SOURCE: Psychology Today, July/August 2009.

In March 2009, New York Magazine also released its cover story by Steve Fishman, Bernie Madoff, Monster with the photoshopped image of Madoff grinning sinisterly as the Batman villain the Joker. Although the Ponzi had untold deleterious effects—the loss of lifetime savings, the wiping out of college and retirement funds, the shuttering of philanthropies like the JEHT foundation, and the resultant suicides of the French aristocrat and investor René-Thierry Magon de la Villehuchet and British investor William Foxton—Madoff’s crime was not a violent crime, the typical focal point for collective anger. It was financial. And this made it stand out to me and many others.

Bernie Madoff, Monster. By Darrow for New York Magazine.

SOURCE: New York Magazine, 2009. Reprinted with permission.

The explosion of interest in and anger leveled at Bernie Madoff and his crime has been extraordinary. From the time of his arrest and sentencing to 150 years in prison, to his incarceration in Butner Federal Correctional, to the tragic deaths of his two sons (Mark committed suicide in 2010 on the second anniversary of his father’s arrest, and Andrew succumbed to lymphoma in 2014), the Madoff name and legacy have been an almost perpetual source of public fascination. While the most intimate details of his personal life and consumption patterns were made publically available—the yacht named Bull, the share in a private jet, the homes in Montauk and Palm Beach, an alleged affair with a former Haddasah CFO—punitive, angry discourses raged in US and international media. Myriad creative and sadistic punishments were suggested. The lifelong cleaning of latrines was suggested by noted Madoff victim, retributionist, and professor of law at New York University, Robert Blecker. Nobel Peace Prize winner Elie Wiesel, also a Madoff victim, proposed solitary confinement wherein Madoff would be forced to look at photos of his victims day and night. The case provided a lightning rod as the question of how to punish those who were responsible, not only for the Ponzi scheme but also for the financial crisis and its widespread devastation, became a matter of public speculation and the focus of populist anger. The virulence of these discourses during a time of general struggle, the sustained fascination by the public well after he had been sent to prison, the case’s international resonance, and the extent to which it became integrated into popular culture drew me to it and inspired the research questions that are the foundation of this book:

How and why did the Madoff case, more than any other financial crime in the twentieth or twenty-first century, become a cultural touchstone? What role did it play during a historical moment marked by financial crisis and economic recession? How did the backdrop provided by the financial crisis play into the case? What narratives, themes, symbols, and discourses emerged? Why do they matter? What lessons