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Trust, Greed And Ponzi Schemes

Published: August 8, 2016

The role of social networks in white-collar crime gets a close look from Criminology, Criminal Justice and Emergency Management’s Rebecca Nash.

The expert in white-collar crime asks the question, “How do social networks affect the decision to invest in a Ponzi scheme?” She recently had a publication accepted in the Canadian Journal of Criminal Justice and Criminology that studied a Canadian Ponzi scheme.

“Social networks do more than inform,” said Nash, a member of the university since 2013. “They influence decisions we make about our lives every day. There is a body of research that reveals that in certain instances, the more deviant peers that are in one’s network, the more likely they may engage in deviant behavior as well.”

Trust in financial decision-making via social network analysis is fundamental to her research.

“We tend to trust our friends and family,” she said. “We trust them more and we end up feeling betrayed by them. I want to learn more about how trust affects others. People like Bernie Madoff knew people would conduct due diligence so he created documents that looked like the real thing.”

For most people, Nash believes, information about financial schemes arrives via friends and family.

“Remember the good friend who bought an iPhone when they first came out? When that friend or family member, an early adopter, tells you that they really like this new innovation, because you trust this person, you may get one as well and then tell your friends about it who then tell their friends about it. It’s called diffusion of innovations,” she said. “That is what happened in the Eron Mortgage fraud, a Canadian Ponzi scheme I studied. But the trust did not just come from friends and family. It came from the people who ran Eron Mortgage due to trust from their professional credentials. One of the more interesting things we found out about social networks was that even the mortgage brokers who were supposed to make sure their clients did not get involved in a Ponzi scheme were duped as well and ended up spreading the word to others about the investing in the fraud.”

Nash argues that many Americans are unaware of the risk to them from white-collar crime. “There is barely any quantitative literature on the harm done to victims of white-collar crime,” she explained. “That includes physical harm, financial harm, emotional harm, harm to a marriage and harm to friends and family. (They may invest all their savings which otherwise would have gone to their kids). Fraud victims often believe falling for the scheme was their fault because they didn’t conduct due diligence, instead, they invested based on their trusting relations.”

Nash explained that a Ponzi scheme is a form of fraud in which belief in the success of a nonexistent enterprise is fostered by the payment of quick returns to the first investors from money invested by later investors. “High rates of return ought to be a red flag for possible fraud,” she said. “Perpetrators of Ponzi schemes receive money from new investors, with which they ‘repay’ old investors so that it appears they are receiving their investment returns. For a Ponzi scheme to be successful, there has to be a continuous influx of new investors but eventually that pool will run out.”

Nash’s social network research focused on “degree centrality” or the number of ties a person has within a network.

“Some people in that network will know more people than others. Others will know only one or two,” she said. “We found that, the more people you know, the more harm there was to friend and family relationships. Again, it comes down to trust. You feel especially betrayed because the trust was in family and friends.”

Charles Ponzi
Charles Ponzi

Victim rage burns even hotter when the betrayal comes from members of a common faith. “One of Bernie Madoff’s worst betrayals was the defrauding of his friends in the Jewish community,” she said. “It is called homophily or the tendency of individuals to associate and bond with similar others. He also betrayed huge companies and philanthropies within this community. He used many forms of trust to betray a lot of people.”

Nash earned her B.S. from Cal State L.A., her M.S. from CSULB and her Ph.D. in criminology from Simon Frasier University.

White-collar crime is a global issue. It is everywhere there is money to be had and people to take advantage of.

“What puzzles me,” she said, “is that all perpetrators of Ponzi schemes should know that their schemes will eventually collapse. My research reveals that no one comes out ahead of the Ponzi game and many of the fraudsters ended up getting prison sentences and large fines.”

There are ways for investors to protect themselves from the Bernie Madoffs of this world. There is so much information available online and individuals can visit the Securities and Exchange Commission website to get many questions answered.

“From there,” she said, “you branch out. Type in a company name and see what you get. Check the Better Business Bureau to see if there have been any complaints. It is not difficult to discover little red warning flags.”

Nash’s research has diminished her willingness to blindly trust. “I study the bad things people do,” she said. “I double-check and look over my shoulder per se.”

Nash offers a warning to American consumers–don’t trust blindly. “Conduct your due diligence. Research shows it helps,” she said. “It reduces the loss that comes from involvement in fraud. If you’re an investor, check out the property yourself. Get on the internet and find documentation. See how long a company has been around. Be more cautious.”