Crash: On Stock Fraud, Adam Smith, and Regulation
Penetrating article in this week's New Yorker detailing the rise and fall of boiler room stock frauds.Rather than pointing the finger at the over-zealous stockbrokers, the article speaks about financiers like Alan Wolfson who jump from one specious deal to the next.
It is these big guys who raise awareness about companies with zero assets or potential profit, pitching them to the investment community at large so they can pump up the stock's price before they dump their escalating shares.
In some cases, even the stockbrokers are being duped.
Hoaxes like these are an inherent part of Wall Street, and of the capitalistic game at large, where the goal is to win money, typically at another sucker's expense.
Alan Wolfson had to keep moving. He was what’s called a stock promoter—someone who takes shares in a worthless company, inflates their price by means of chicanery and hype, and then dumps them before the price collapses. For example, he made Freedom Surf’s stock octuple in two months by directing a broker to jack up the price with false bids. And he and his son used a front company in Laos as part of a scheme to persuade foreign investors that companies like Stem Genetics and NCI Holdings were the next big thing. Never mind that Stem Genetics had no laboratory and no scientists, and that NCIH’s only office was a mailbox.So what is the solution, the article wonders?
Regulation.
Scandals may tend to provoke a regulatory overreaction, and some of the agency’s recent edicts and actions (like its quest to regulate hedge funds) have seemed a bit too fussy. Businesses need to be free to take risks; it shouldn’t be a felony to be wrong. But investors also need some assurance that companies’ financial statements and forecasts bear some resemblance to reality.It all boils down to the lessons Adam Smith pondered over long ago: To what extent should regulatory giants - like the government - intrude on business affairs.
The notion of free enterprise is adamantly against it.
The Wealth of Nations argues that free markets, while appearing chaotic, are guided towards a state of equilibrium by a so-called "invisible hand." If a product shortage occurs, for instance, its price rises, creating incentive for its remedy.
The shortage disappears.
Competition could also lower the price of whatever product or service was in demand so that a "natural price" could be sustained.
Ultimately, Smith's greatest contribution to Economics was the idea, then radical but now widely-accepted, that competition in the free market benefits society as a whole even while humans are deep-down the most selfish animal extant.
However, Smith was writing a long time ago, pre-Enron and Worldcom.
Things have changed.
Trust is just a five letter word, a rhetorical artifice slowly crumbling to the ground.
Without regulation, the article concludes, "corruption tars the good ones along with the bad and potentially steers billions of dollars to empty enterprises."
You need regulation -- otherwise, the American Economy drives sans seatbelt, speeding towards its inexorable crash.
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