White collar criminals have had a rough couple of weeks, with judges ignoring important facts like Danielle Chiesi's insider trading being caused by a deep need to stop her boss from "belittling her understanding of the financial numbers" and Donald Longueuil's only insider trading on the job, never in his personal life. But there's finally some good news today, as a federal appeals court reversed five convictions for a reinsurance fraud at AIG. Unlike in Chiesi's and Longueuil's cases, the court today looked at the bigger picture and understood that you can't blame a few small-time book-cookers for all of the terrible things at AIG.
Also, no one connected with AIG in any way is going to jail any time soon.
This is actually a pretty old case: in late 2000 and early 2001, AIG worked out a deal with Warren Buffett's Gen Re to bolster AIG's loss reserves by a finite reinsurance contract that prosecutors are pretty sure was a scam. In particular, prosecutors argued, and a jury agreed, that there was no genuine reinsurance and no risk of loss in the transaction, so AIG improperly accounted for it to boost its loss reserves and make Wall Street analysts happy.
Prosecutors figured this out in 2005, and naturally leaked their suspicions, because prosecutors love it when shareholders lose money. Or as the court put it, "News articles about the investigations trickled out for several months, while AIG’s stock price declined steadily." AIG eventually restated its earnings, and ultimately four Gen Re executives (including CEO Ronald Ferguson) and one AIG executive (not CEO Hank Greenberg, who initiated the deal but was an unindicted co-conspirator) were convicted of various flavors of securities fraud for the reinsurance deal.
Today the Second Circuit appeals court reversed their convictions and ordered a new trial, not because it thought the main government witness was lying (though it did!), but because prosecutors showed the jury a chart showing that AIG's stock price declined 12% when the reinsurance fraud was revealed. Which, lest jurors thought it was no big deal, prosecutors put in human terms at the trial:
[B]ehind every share of [AIG] stock is a living and breathing person who plunked down his or her hard-earned money and bought a share of stock, maybe [to] put it in their retirement accounts, maybe to put it in their kids’ college funds, or maybe to make a little extra money for the family.
But the appeals court didn't want to think about the orphans who scraped together their paper route earnings to buy one share of AIG stock to build a better life, and focused instead on the fact that this reinsurance thing wasn't exactly the only bad news ever to come out of AIG in its history:
The charts suggested that this transaction caused AIG’s shares to plummet 12% during the relevant time period, which is without foundation, and (given the role of AIG in the financial panic) prejudicially cast the defendants as
causing an economic downturn that has affected every family in America.
Indeed. Not helpful for the defendants was being prosecuted in February 2008 - they were convicted just two weeks after AIG announced accounting weaknesses at derivatives unit AIG-FP that led to further stock price declines and generally increased awareness that there was a lot wrong at AIG.
We're not holding our breath for a lot more prosecutions to come out of the financial crisis. But we're glad to see a court looking critically at prosecutors' attempts to blame the entire decline in AIG's stock price on one set of accounting decisions. With a whole lot of people continuing to try to portion out blame for the financial crisis in prison terms, the assumption that every drop in stock prices is caused by fraud sometimes goes unquestioned. AIG may well have been more or less a ball of fraud and incompetence for much of the time leading up to the financial crisis, but that doesn't mean that these defendants should be blamed for all of it.
There was also some bad news for white collar criminals, though, as the same appeals court upheld a 15-year sentence for a discredited doctor who moved to the Philippines to run a website called "www.liver4you.org" where he sold livers and kidneys online to Americans for $65,000 to $130,000. Can you guess whether paying him $130,000 for a new liver over the internet was a good idea? Nah, it wasn't.
U.S. v. Feldman [pdf]