The financial crisis and the haphazard pursuit of financial crime
| Published date | 04 January 2011 |
| DOI | https://doi.org/10.1108/13590791111098771 |
| Date | 04 January 2011 |
| Pages | 7-31 |
| Author | Roman Tomasic |
| Subject Matter | Accounting & finance |
The financial crisis and the
haphazard pursuit of financial
crime
Roman Tomasic
Durham Law School, Durham University, Durham, UK
Abstract
Purpose – The financial crisis has been something of a turning point in the regulatory response to
financial crime around the world. The failure of light-handed regulation and risk assessment by both
industry and regulators made the operation of financial regulatory agencies almost untenable, often
leading to calls for their replacement by more effective agencies. The purpose of this paper is to assess
the nature of this regulatory challenge.
Design/methodology/approach – The paper discusses some of the case studies that have emerged
from the dark side of regulatory and enforcement policies in recent times.
Findings – A culture of minimal regulation of financial markets meant that many undesirable
practices (such as insider trading, foreign corrupt practices, tax avoidance, money laundering and
other frauds) were able to avoid detection until public outrage led to regulatory and prosecutorial
agencies being prompted into action following the collapse of financial markets.
Research limitations/implications – More detailed studies of particular institutions will be
necessary; this will become possible as the current financial crisis subsides.
Originality/value – This paper explores some of the factors behind this state of affairs and makes
policy recommendation in regard to the need for more effective internal controls and monitoring
measures within the modern financial corporation.
Keywords Crimes, Bribery,Economic conditions, Corporategovernance
Paper type Research paper
1. Introduction
The global financial crisis has revealed massive financial frauds and misconduct that
have long been a part of out markets but have been submerged by the euphoria that has
dominated these markets. One aphorism that has been used to explain this phenomenon
in financial markets: “You only find out who is swimming naked when the tide goes
out” (The New York Times, 2007)[1]. White collar and corporate crimes have long been
part of markets and are among the most difficult crimes for the legal system to deal
with, let alone control (Gobert and Punch, 2003; Orland, 1995; Simpson and Gibbs, 2007;
Levi, 1987; Tomasic, 2000, 2005). This is especially so where these crimes are of
enormous proportions or involve some of the most powerful individuals or corporations
in a society. Their seeming invulnerability to regulation is enhanced in boom times and
this is further buttressed by powerful political forces supporting corporate risk taking.
These political forces have served to muzzle or curtail the activities of enforcement
agencies either directly, through the lack of adequate resources, or indirectly, by
promoting ideologies which legitimise the minimal role of government in markets and a
preference for industry self-regulation. The Treasury Committee of the UK House of
Commons recently highlighted the effect of political ideologies in limiting the actions of
regulatory agencies which might seek to interfere in markets. As it noted:
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Financial crime
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Journal of Financial Crime
Vol. 18 No. 1, 2011
pp. 7-31
qEmerald Group Publishing Limited
1359-0790
DOI 10.1108/13590791111098771
Lord Turner [the FSA Chairman] argued that such a regulatory philosophy was rooted within
a political philosophy where the pressure was on the FSA not to scrutinise more closely the
business models of the firm. Indeed, Lord Turner pointed out that the FSA had been criticised
prior to the financial crisis for being too “heavy and intrusive” and was under pressure to
become even more “light touch”. This political philosophy, Lord Turner said, was “expressed
in speeches on both sides of the House of Commons.” (House of Commons, Treasury
Committee, 2009, p. 11).
Regulatory agencies which challenged such a prevailing political orthodoxy were
therefore in danger of being attacked from all quarters. This was confirmed by the
Governor of the Bank of England, who emphasised the weaknesses of regulators when
he told the Treasury Committee:
Any bank that had been threatened by a regulator because it was taking excessive risks
would have had PR machines out in full force, Westminster and the Government would have
been lobbied, it would have been a lonely job being a regulator (House of Commons, Treasury
Committee, 2009, p. 12).
This political pressure may also be facilitated by governments which have been
competing with each other to create business-friendly financial centres such as
London[2] and New York.
In so far as corporate conduct is concerned, it has proved to be very difficult to
criminalise catastrophic failures, such as those that have lead to the nationalisation of a
number of British banks. The savings and loans crisis of the 1980s in the USA saw much
unlawful risk taking and looting by bank executives (Calavita and Pontell, 1990, 1991),
but few criminal actions; although many banks were closed down. The 1990s actually
saw a contraction in the use of criminal law for white-collar crimes (Simpson, 2002, p. 16).
The occasional “rogue” trader, such as Nick Leeson in the collapse of Barings, was
successfully prosecuted. This poor history of enforcement is not surprising given the
limited effectiveness of criminal sanctions in this area.
Criminal sanctions applicable to corporate financial misconduct have therefore not
been well developed, let alone widely used, in regard to financial failures, despite the
amounts that may have been lost or misused by such corporate controllers. This is
something of a paradox when we contrast, for example, the prison sentences handed
down to bank robbers, such as Ronald Biggs. However, the reality is that corporate
criminal law does not work effectively in financial contexts, and may well amount to
counterproductive regulation (Grabosky, 1995). Not surprisingly, the limits of law in
dealing with large corporate entities, such as banks, have long been known (Stone, 1975,
p. 93; Braithwaite, 1982; Moore, 1987; Tomasic, 1994). Research also suggests that senior
corporate managers simply do not see themselves being at risk of criminal action, eve n if
there are potential legal rules that they may have breached[3]. This is accentuated when
one sees the close relationship that has emerged in recent times in the UK between
government and the City of London and the appointment of senior bankers and business
leaders to lead the policy formulation process[4]. Sometimes, leaders of UK financial
institutions may even become government leaders[5] and senior regulators[6]; a practice
that has also not been uncommon in the USA[7].
It has also been difficult in the UK to treat corporate misconduct as being in violation
of non-criminal legal rules, such as the fiduciary duties of directors (Tomasic, 2009,
pp. 5-9). In this context, the pursuit of corporate misconduct through formal legal means
is largely a theoretical question, leading many to argue that there has been a failure
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