Elise Amyx recently published an interesting post about the Dodd-Frank Wall Street Reform and Consumer Protection Act, focusing on financial regulation. Another interesting look at regulation concerns the “Ponzi scheme” that Bernard Madoff was apprehended for three years ago.

The tale begins in 2000 when Harry Markopolos, a chartered financial analyst and certified fraud examiner, submitted information to the Security and Exchange Commission’s Director of Enforcement, Grant Ward, that there were signs that Madoff was operating a fraudulent fund. However, no action was taken by the SEC until 2008, when the damage from Madoff’s fraud was already done.

For eight years, the SEC, among other government financial regulators and private news sources, refused to audit Madoff’s fund for fraud, even though, to many financial experts, it appeared obvious something illicit was occurring.

Markopolos stated, “The biggest, most glaring tip-off that this had to a fraud was that Madoff only reported 3 down months out of 87 months, whereas the S&P 500 was down 28 months during that time period. No money manager is only down 3.4% of the time. That would be equivalent to a Major League Baseball player batting .966 and no one suspecting this player was cheating” (page 9).

In addition to the SEC, Markopolos tried to alert the Wall Street Journal to Madoff’s scheme: “ … there were several points in time when he [Wall Street Journal senior investigative reporter John Wilke] was getting ready to book air travel to start the story and then would get called off at the last minute. I never determined if the senior editors at the WSJ failed to authorize this investigation” (16).

The Wall Street Journal recently published a piece considering Markopolos and had this to say about his character: “Critics say he’s self-righteous and a little bit crazy. In his book, No One Would Listen, Mr. Markopolos describes how he armed himself should he ever meet Mr. Madoff face-to-face. He fortified his home for what he thought was the very real possibility the SEC would send a team to suppress evidence that it knew about Mr. Madoff through Mr. Markopolos’ efforts to expose him.” So, perhaps the WSJ simply thought Markopolos was exaggerating and creating a scandal where there wasn’t one.

However, Markopolos stated in his testimony that he was disgusted that “neither the WSJ nor the SEC were inclined to even pick up a phone and dial any of the leads I had provided to them” (17).

Markopolos rightly stated, in his testimony, that this “was an abject failure by the regulatory agencies we entrust as our watchdog” to take action and investigate Madoff (1).

Even more disturbing to Markopolos was that “dozens of highly knowledgeable men and women also knew that Madoff was a fraud and walked away silently, saying and doing nothing,” (24) demonstrating that, like Amyx stated, a government cannot legislate into existence morality or values (like honesty!) for citizens.

In his testimony, Markopolos added, “We can ask ourselves would the result have been different if those others had raised their voices, and what does that say about self-regulated markets?” (25)

If personal morality and self-regulation fail, which underpin the free market, and government regulation fails, what can be done?

One obvious flaw is the United States has too many regulators and too many laws, yet not much effective regulation. It seems a strange statement, but Markopolos said as much in his testimony to Congress: “Our nation has too many financial regulators. The separation and lack of connection munication between them leaves too many gaping holes for financial predators to engage in ‘regulator arbitrage’ and exploit these regulatory gaps where no one regulator is the monitor” (29).

Criminals, like Madoff, can easily shift between regulators and regulatory jurisdictions, and avoid punishment for years, eroding faith that markets are self-correcting and self-regulatory and that individuals or the government are capable of, if called upon, preventing financial crime.

As much as over-regulation seems to be the problem, Markopolos never made the case that all regulation or oversight was unnecessary. Indeed, he recognizes that a clear, but limited amount is beneficial to keep white-collar criminals, like Madoff, at bay.

In Markopolos’ opinion, “The goal needs to be bine regulatory functions into as few a number as possible to prevent regulatory arbitrage, mand and control, ensure unity of effort, eliminate expensive duplication of effort, and minimize the number of regulators to which American businesses have to answer” (30).

This reduction in size and condensing of regulation would not only eliminate wasteful, duplicative government spending, it would make current financial law easier to understand and enforce. Hopefully, this streamlining would also reduce egregious legislative overreach, like the 2,253 page Dodd-Frank bill Amyx detailed.

In the case of Bernard Madoff, self-regulation in the financial industry did not work, but neither did centralized, federal regulation. What is needed is a responsible synthesis of personal morality and government oversight.

Christians should remember, in the words of Paul in 2 Corinthians 5:10, that, “We must all appear before the judgment seat of Christ; that every one may receive the things done in his body, according to that he has done, whether it be good or bad.”

Those who ignored/aided Madoff should remember this and be reminded that, in order for society and markets to function, individuals are responsible to a higher power for protecting one another and the helpless, such as all those who lost their life savings due to Madoff’s crime, from harm.

On the regulatory side, instead of an “alphabet soup” of regulators and excessive, market-infringing regulation, a single (or perhaps a few) regulators(s) could enforce a limited amount of financial regulation to prevent fraud.

Hopefully, this would satisfy the market as there would be less regulators and regulation involved, allowing for maximum creativity and innovation in the market, while, at the same time, satisfying the socially concerned that enough is being done to prevent large-scale exploiters like Madoff from harming millions of people. Personal morality and responsibility, coupled with consistent, limited, fair oversight, would, as Proverbs 2:9 states, allow markets and businesspeople to “… understand what is right, just, and fair, and…find the right way to go.”