Stimulus funds and fraud

I tell the students in my fraud examination course at BYU that where there is money, there is fraud and where there is a lot of money, there is a lot of fraud. This WSJ editorial makes this point in regard to the federal stimulus funds:

The Obama administration—and state and local governments—should brace themselves for fraud on an Olympic scale as hundreds of billions of taxpayer dollars continue to pour into job creation efforts.

Where there are government handouts, fraud, waste and abuse are rarely far behind. The sheer scale of the first and expected second stimulus packages combined with the multitiered distribution channel—from Washington to the states to community agencies to contractors and finally to workers—are simply irresistible catnip to con men and thieves.

The editorial goes on to recommend that a small percentage of the funds should be set aside to prevent fraud and abuse. Unless funds are given to support the accounting for and the prevention of fraud in these funds, a large chunk will go to undeserving fraud perpetrators. It's already happening. For example,

A tenfold increase in funding for an obscure federal program that installs insulation in homes has state attorneys general quietly admitting there is little hope of keeping track of the money.

Earlier this week, U.S. Attorney General, Eric Holder, announced the creation of a task force to fight fraud. The task force will include numerous government agencies from the SEC to the FBI, HUD and everything in between. Holder recognizes the potential for fraud in the stimulus funds as he announced that one of the four purposes of this task force is to focus on:

Recovery Act and rescue fraud —including the theft of federal stimulus funds and the illegal use of taxpayer dollars intended to shore up our financial institutions

However, a task force may be too little too late if they don't put some controls in place quickly! The goal is not to create jobs (see this post) but to use the funds for the purpose they were intended. Unfortunately, as Aaron pointed out yesterday, when money is used to do good, there are scammers who are trying to take it for selfish pursuits.

New Stimulus idea: Promote fraud to create jobs!

This is the idea that a delegate from Russia seemed to espouse as he commented in a meeting yesterday.

I was asked by the Marriott School to speak to a small group of delegates from Russia who were interested in understanding fraud and corruption. As we talked about the effects of fraud and corruption on an economy, one of the delegates (a lawyer) kept smiling and commenting that unethical business conduct leads to job creation!

It's true that when people are unethical in business, you need to increase controls including people and systems to monitor, prevent and detect the conduct. However, this does not lead to economic gain overall. After several explanations of how corruption creates friction in an economy, I was amazed that he persisted in this thought. He continued to smile and espouse this job creation from unethical business conduct over and over again even though we tried to explain how corruption can cripple an economy.

I tried to explain how corruption in an economy has crippled many third world countries such as Haiti. I've been to Haiti and seen people who are willing to work hard for $3 a day but who can't find work because viable businesses can't survive there because the costs of bribes and corruption are so extreme. As a result 90% of the people are out of work.

The argument of this lawyer is about like saying we ought to promote violent crime so we can create more jobs for police officers, builders of jails, jail keepers, emergency room workers and so on!

I've tried to imagine what our economy would be like if people had a high standard of ethics. If people followed the golden rule to treat others how you want to be treated, the economy would be very different. I must agree with the Russian lawyer that many people would find their jobs were not in demand. This includes police officers, auditors, fraud examiners, virus detection software programmers, alarm system companies, lawyers, etc. The list goes on and on. Unfortunately, I think the future is only getting brighter for careers in these areas.

I believe that the drain on the economy from all the economic effort needed to protect us from being exploited and hurt by one another is tremendous. I also believe that the drain is getting bigger with time. I can only imagine that a high standard of living could be accomplished for all with much less work if we didn't need to spend so much energy protecting ourselves from one another.

Yes, it's true that unethical business conduct leads to job creation. In fact, it also leads to a lower standard of living for every economic input. So, if we now have to work 50 or 60 hours a week to have a reasonable standard of living, I believe the same standard of living would probably require about 10 hours a week of working in a society that lives the golden rule. If corruption increases, either we will need to work more or our standard of living will decrease in order to support all the jobs needed to protect ourselves from the corruption.

That's not the stimulus package I want to see!

The tip of the iceberg...

Anyone want to guess what percentage of the stimulus funds will be taken by fraudsters? Nobody knows for sure. However, what we do know are a few axioms of frauds. First, wherever there is money there is fraud. Second, wherever there is government money there is more fraud! In the end, the stimulus spending will stimulate the economy for auditors, fraud investigators and attorneys on both sides of the courtroom. Read this recent NY Times article to learn about the tip of the iceberg in stimulus fraud.

"Like bees to honey"

While much of the debate over our government's stimulus efforts has focused on the economic rationale for such programs and the resulting moral hazard, the discussion of the fraud opportunities created by the stimulus programs has been seemingly non-existent.

From the Boston Globe:

FBI director Robert Mueller says the government's stimulus package, including the Troubled Asset Relief Program, has "the potential to be the next wave" of cases the agency investigates.

"These funds are inherently vulnerable to bribery, fraud, conflicts of interest, and collusion," he said yesterday at the Economic Club of New York. "There is an old adage: Where there is money to be made, fraud is not far behind, like bees to honey." With trillions of dollars at stake, "even a small percentage of fraud would result in substantial, substantial taxpayer losses," he said.

Neil Barofsky, Special Inspector General for TARP has already launched over a dozen investigations into possible misuses of bailout funds. In addition, he said the following regarding the oversight of TARP (source):

Inadequate oversight and insufficient information about what companies are doing with the money leaves the program open to fraud, including "conflicts of interest facing fund managers, collusion between participants and vulnerabilities to money laundering,"

I almost wonder if some lawmaker, discussing oversight of the federal stimulus programs, said, "You know, I hear that Bernie Madoff has a great auditor," followed by, "I wonder if they are accepting new clients?"

As a footnote, anyone interested in getting a piece of the action should check out this EZ-CASH bailout application.