Financial Regulation

What the Madoff Series Left Out

A Netflix documentary series blames the SEC for missing the Ponzi scheme and then calls for giving the SEC more power.


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A recent Netflix documentary series called Madoff: The Monster of Wall Street by Emmy Award–winning filmmaker Joe Berlinger tells the story of the largest Ponzi scheme in history.

Besides the infamous character mentioned in its title, the series' other villain is the Securities and Exchange Commission (SEC), which received complaints about Bernie Madoff starting in the early 1990s, and yet, it not only failed to catch him but helped enable his fraud. During one investigation, all SEC investigators had to do was check an account number to verify trades had actually occurred, which they hadn't, of course, because all of Madoff's trades were fake.

The Netflix series acknowledges that the SEC was complicit in Madoff's scam and that he could have been caught if one investigator assigned to the case had done about 30 minutes of checking. But then it also blames deregulation and free market capitalism for making the fraud possible. The first episode sets the stage with a speech by Ronald Reagan.

"That's our economic program for the next four years; we're going to turn the bull loose," the episode shows Reagan saying on the floor of the New York Stock Exchange in 1985.

In episode 3, journalist Diana Henriques makes the connection explicit.

"Resources that had been in New York City, on Wall Street's doorstep, devoted to white-collar crime, to fraud, were being steered away [from Wall Street]," says Henriques of the George W. Bush administration era during which Madoff's operation reached its peak. "For the SEC, this was an exacerbation of an existing problem, as a result of a deregulatory campaign that began with the election of Ronald Reagan in 1980."

And yet, nothing in the series leads the viewer to the conclusion that the SEC needed a bigger budget to catch Madoff. In fact, outsiders were sounding the alarm without access to government funding or regulatory muscle. In 2001, Barron's journalist Erin Arvedlund reported that many Wall Street investors were suspicious that Madoff was engaged in foul play.

And the SEC received its first complaint that Madoff was running "an unregistered investment company" "offering '100%' safe investments" in 1992. In 1999, a derivatives expert named Harry Markopolos, who worked at a competing firm, started to alert the SEC that Madoff's investment returns were virtually impossible. In 2005, Markopolos sent the agency an infamous 25-page memo explaining why "The World's Largest Hedge Fund is a Fraud." The SEC opened an investigation in 2006, and then closed it the following year because the "uncovered violations" were "remedied" and "those violations were not so serious as to warrant an enforcement action."

So how is this tale of epic failure on the part of a government agency the fault of deregulation?

Instead of making lazy allusions to the evils of free market capitalism, to better understand the lessons of the Madoff saga, director Joe Berlinger should have consulted the work of the free market economist George Stigler, who won the Nobel Prize in part for his work on "regulatory capture."

In a 1971 paper, "The Theory of Economic Regulation," Stigler argues that while many people believe that "regulation is instituted primarily for the protection and benefit of the public," in fact, it mainly serves the purposes of the largest companies being regulated, which form a symbiotic relationship with their regulatory overseers.

"My thesis is that the industry body in the long run must act by and for the industry," said Stigler in a 1971 speech before the American Enterprise Institute. "The political realities of life dictate that the regulatory bodies become affiliated with and help in what it believes to be the necessary conditions for the survival of its industry."

Stigler's essay focuses mainly on how regulators help existing companies by protecting them from competition, but his theory can also be used to better understand the SEC's failure to catch Madoff. In a 1972 essay, Stigler writes that "the regulating agency must eventually become the agency of the regulated industry…. each needs the other." That's because the career lawyers at the SEC making the decisions have much more to gain personally from having a positive relationship with big industry players than antagonizing them.

This also pertains to the case of Sam Bankman-Fried, who was close with politicians and regulators and actively lobbied for regulation of the crypto industry in a bid to elbow out competitors right up to the moment that his crypto exchange FTX collapsed under the weight of its own alleged fraud.

The cozy relationship between industry and regulators helps explain why the SEC continually missed what was right in front of them in the Madoff case.

Madoff even spread the rumor that he was being considered as a future chairman of the SEC, and the series notes that internal emails revealed SEC bosses joking with the young agents investigating Madoff that maybe they could become his aides when he takes over the agency one day.

Can this all be pinned on Ronald Reagan, deregulation, and the free market?

"One guy led you to this pile of dung that is Bernie Madoff, stuck your nose in it, and you couldn't figure it out!" a Congress member screams at SEC officials during a hearing at one point in the series.

The documentary also makes a strong case that the SEC didn't just fail to catch Madoff; investors were emboldened by the agency's investigation and failure to find serious violations.

"The fact that the SEC found no evidence of wrongdoing was to me putting a stamp of approval on Madoff," says one man who handed Madoff almost all the proceeds from the sale of his small business.

It's a commonly held view "that regulation is instituted primarily for the protection and benefit of the public at large or some large subclass of the public," Stigler writes. But that view is not the reality. SEC investigators didn't want to be overly combative with Madoff because they thought doing so could hurt their careers. Regulation, as Stigler argues, exists largely to serve the interests of the most powerful players being regulated.

The illusion of competent regulation gave investors a false sense of security that drove them to make colossal mistakes. Is the answer really more regulation?

What if Harry Markopolos' warnings hadn't been filtered through the SEC? The average person might be better equipped to spot a con man than we give him credit for. But the myth that regulators are primarily motivated to protect the interests of the public causes many to suspend their better judgment.

"The individual consumer, if he is not hampered, is in general capable of a large measure of self-defense against fraud, mishaps, bad luck, and the like," said Stigler in his 1971 speech. "Not all consumers are intellectually competent and well-informed, but most consumers know how to build up defenses against the many vicissitudes that lie in real life. And it is primarily because we have socially so often hampered these effects that we have injured the consumer."

The big takeaway from Madoff: The Monster of Wall Street is that regulators unwittingly facilitated his fraud, just as they may have done with Sam Bankman-Fried and his alleged con. As you watch the Netflix series, think about whether we should really be giving these regulators more time or power. Are they helping us or themselves?

Produced by Zach Weissmueller. Edited by Danielle Thompson. Additional graphics by Lex Villena. 

Photo Credits: Tom Williams/CQ Roll Call/Newscom; Bill Clark/CQ Roll Call/Newscom;  joe Marino/ABACAUSA/Newscom; CD1/Mandatory Credit : Carrie Devorah / WENN/Newscom; Keystone Pictures USA/ZUMAPRESS/Newscom; Graeme Sloan/Sipa USA/Newscom; Bryan Smith/ZUMApress/Newscom; CD1/Mandatory Credit : Carrie Devorah / WENN/Newscom; J.B Nicholas / Splash News/Newscom; Lev Radin/ZUMAPRESS/Newscom

Music Credits: "Clockwork" by Borden Lulu via Artlist; "The Dark (GOOD Remix)—Instrumental Version" by WEARTHEGOOD via Artlist; "Identify" by Or Chausha via Artlist; "Time Machine" by Twin Signals via Artlist; "Abstract Emotion" by Stefano Mastronardi via Artlist; "The City of Hope" by Bortex via Artlist; "Cartagena Pt. 4" by James Forest via Artlist