The biggest swindle of all

January 27, 2009

Bernie Madoff's $50 billion fraud had a lot in common with the everyday workings of capitalism, says Alan Maass.

THEY LINED up to give him their money because he always delivered. Big European banks, assorted hedge funds, super-rich philanthropists, sports moguls--they all flocked to Bernie Madoff's investment firm because he produced stellar returns, year in and year out.

Turns out that Bernie Madoff was making money the old-fashioned way: fraud.

In December, Madoff was arrested by the FBI (after his two sons squealed on him) for ripping off investors to the tune of $50 billion or so--one of the biggest heists in the history of the financial world.

Madoff was operating one of the oldest cons in the book--a pyramid scheme. The super-profits his investors were so in love with were the result of Madoff taking money that came in from new investors, and using it to pay off obligations to previous ones.

It was a big financial shell game, but as long as the money kept flowing in from new marks--and there were plenty of those, thanks to the small regiment of clients who raved about how much they were raking in--and no one got a look at the books, Madoff was toasted as an investment genius.

Bernie Madoff swindled investors out of billions before he was discovered
Bernie Madoff swindled investors out of billions before he was discovered

And richly rewarded, too. Madoff owns homes in Florida, France and Long Island, not to mention a yacht docked on the French Rivera and a posh Manhattan apartment, where he's currently "confined" under house arrest.

No one blew the whistle on Madoff. Not the authorities, who had no clue that anything was wrong until Madoff's sons ratted him out. Not the investors who competed to become clients. As long as he delivered 15 percent annual returns year after year, none of them asked too many questions.

And now the loot has vanished--as much as $50 billion worth. Which is more, by a good sum, than the U.S. government spent last year on its food stamp program that helps more than 30 million Americans.

ALL THE financial commentators are demanding to know how such a thing could have happened. Far fewer ask the more interesting question that New York Times columnist Paul Krugman did: "How different, really, is Mr. Madoff's tale from the story of the investment industry as a whole?"

During the 1990s and 2000s, Wall Street witnessed an explosion of high-stakes gambling on immensely complicated financial markets, far removed from the goods-and-services-producing "real economy."

The alphabet soup of investment possibilities--mortgage-backed securities, collateralized debt obligations, credit default swaps, structured investment vehicles, etc.--made the whole system ever-more vulnerable to the effects of a few bad gambles, but no one asked too many questions because the money was so good.

The biggest banks and firms scrambled to get in on the game. Giant investors had a bottomless appetite for new securities. Government regulators had no clue, nor any power to do anything if they ever got one.

And as long as the money kept rolling in--generated by the bubble in real-estate values and the booming mortgage lending industry--the size of the payoffs and the ensuing bets kept going up, and the biggest players became unimaginably wealthy.

But when the bubble burst, the whole Wall Street casino, staked with borrowed money, went bust.

"So how different is what Wall Street in general did from the Madoff affair?" Krugman wrote. "Well, Mr. Madoff allegedly skipped a few steps, simply stealing his clients' money rather than collecting big fees while exposing investors to risks they didn't understand. And while Mr. Madoff was apparently a self-conscious fraud, many people on Wall Street believed their own hype. Still, the end result was the same (except for the house arrest): the money managers got rich; the investors saw their money disappear."

There are a couple other differences worth noting, too.

In the case of Wall Street's pyramid scheme, no one's going to jail, because it was all perfectly legal. And instead of losing all their money, like Madoff's rich investors, the perpetrators on Wall Street--Citigroup, Goldman Sachs and the rest--are too big to fail without causing a financial Armageddon. So they get a bailout, courtesy of U.S. taxpayers, who are now on the hook for the disaster the bankers caused.

It's impossible to regard the financial world's binge as anything other than robbery--the theft of incomprehensible sums of money that could have been devoted to meeting society's needs the world over.

THE GAMBLING on Wall Street might seem far removed the workings of the rest of the economy, where actual goods and services are produced in factories and offices. But there is a parallel: Another perfectly legal robbery--less spectacular, but actually more lucrative--that takes place literally billions of times every day around the world.

The theft is built into the structure of the system itself. Under capitalism, a small class of people own and control what Karl Marx called the "means of production"--the factories and offices, the land, the machinery and means of transportation, and everything else needed to make useful products.

But these owners don't make anything themselves. They hire much larger numbers of people to do the actual work of producing or providing different goods or services. Without the labor of the many, the oil would remain in the ground, the vehicles wouldn't be built, the patients wouldn't be treated--and the wealth of the few wouldn't exist.

For their labor, workers are supposed to get a "fair day's wage for a fair day's work." But there's nothing fair about it. Even workers who are paid relatively well don't get the full value of what they produce. Usually, it's much less, because employers have all the advantages in keeping labor costs in check--above all, because they aren't responsible to the people they hire, and are perfectly within their rights to replace them with someone who will work for less.

Meanwhile, the employers get to keep what's left over after they've covered wages and other costs of production. According to the economics textbooks, this profit is a just reward for the "risk" they take in making an investment. But there's no check on how big profits can get.

So for a company that manages a 10 percent profit each year after paying all its expenses--not an especially high rate of return, at least when the economy isn't in a recession--its owners make back the full value of their investment in 10 years.

If they were really being rewarded for "risking" their money, the profits ought to stop at this point, when the capitalists have been fully paid back. But, in fact, the owners are twice as well off after 10 years--they still own their original investment, and they have the profits they've accumulated.

Are the workers they employ twice as well off at the end of 10 years? Not by a long shot. Lately, U.S. workers have been losing ground in wages and benefits, compared to the cost of living.

Looking at the workings of the system over time like this helps uncover a reality that isn't immediately apparent otherwise. The wealth of the small class of people at the top of society--not only the money in their bank accounts, but the factories and land and other assets they possess--aren't the result of anything they necessarily contributed, but of the fact that they own. Their riches are, in reality, labor usurped from the much larger group of people who work.

When a Bernie Madoff is exposed, there's always a hue and cry in the media and from political leaders about the immorality of ill-gotten riches. But this obscures the bigger crime at the heart of the system. Capitalism is built around organized theft--the theft of a portion of the value of what workers produce by the people who employ them.

A just society would root out this robbery and all the social ills that flow from it. Under socialism, no ruling class would have the power to command the labor of others--and every person in it could contribute to the priority of meeting the needs of the whole of society.

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