Ponzi Scheme in China: $7.6 Billion Lost

A recent article in The Economist elaborates on a massive Ponzi scheme that recently collapsed in China and caused 900,000 investors to lose about $7.6 billion.

Ponzi schemes are not new in China. In fact, China’s current lack of regulation in the peer-to-peer lending industry has created an environment ripe for fraud. This article points out how the lack of government regulation can lead to an economic environment where investors find it nearly impossible to distinguish between fraud schemes and legitimate businesses. We can also learn a few additional things from this Ponzi scheme that might help investors identify when something really is too good to be true.

Reporting Fraud: An Uphill Battle, Especially in China

We often hope to see the people committing fraud receiving punishment. Unfortunately, this is not always the case. A recent New York Times article by Floyd Norris reports that Kun Huang spent two years in a Chinese prison – not because he committed fraud, but because he detected it. The consequences for reporting fraud are not generally quite as severe as they were for Mr. Huang, but they do often include ridicule and other challenges for many whistleblowers. While reporting fraud is an uphill battle, especially in China, it is definitely one that is worth fighting.

International Auditing

Finding fraud in any company can be very hard.  The most egregious financial statement frauds are often the result of a coordinated effort by multiple individuals, who design the fraud in a way that will allow it to go undetected by standard audit procedures.  Even nonstandard audit procedures can fail to detect a well designed, strategic fraud.  Combine that with international audit clients operating in emerging economies, and you have a recipe for disaster.  This is creating problems for auditors in China, as highlighted by the WSJ: