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"Houston, We Have Our Scapegoats"

So far this financial crisis has been marked by an unsatisfying search for a scapegoat or villain. So far Congress and the press have tried to pin the “villain” label on Wall Street investment banks, credit-ratings agencies, mortgage brokers, and Alan Greenspan.

All of these are logical candidates, but up to this point the villain label has not stuck to any of these. Wall Street investment banks (including large banks such as Citi) put together the bad mortgage-backed securities, but they held onto big chunks of the securities. As a result, either they have gone out of business when the securities turned bad(Bear, Lehman, Merrill), absorbed huge losses (Citi), or been forced to turn themselves into commercial banks (Goldman, Morgan). That suggests they were mostly guilty of stupidity and greed, rather than any systematic attempt to rook buyers.

The same thing goes for the credit ratings agencies—it’s hard to say that they conspired with the Wall Street banks to pawn off bad paper, when the banks themselves held onto the same paper in sufficient quantities to drag them under.(Conflict of interest alert: Both S&P and BusinessWeek are part of McGraw-Hill). And the mortgage bankers were guilty of plenty of fraud—but everyone knew they were doing immense amounts of legal no-doc loans. Despite being completely out in the open, these are blowing up in large quantity. Finally, Alan Greenspan’s low interest policies may have helped set the stage for the crisis—but many of the bad loans were made well after Greenspan and Bernanke started raising rates.

In many ways, the financial crisis is like a natural disaster. So big, so overwhelming, that virtually no one (including myself) anticipated its magnitude, even well after it started.

But the horrendous Bernard Madoff affair—which could result in losses of up to $50 billion—is much more understandable, and yield a much more satisfying set of scapegoats: The evil financial adviser, and the funds who invested with him. The fact is, there seems to be plenty of people who suspected that there was something wrong with Madoff’s operation, and steered their clients away from him. And then there were other investment operations who simply didn’t do enough due diligence. This did not require rocket science, or predicting the unpredictable—it just required a check on his accountants.

Of course, Madoff and the funds who invested with him were not directly responsible for the housing bubble or the financial crisis.

But remember: The poster child scapegoats for the tech bust were not the people running the firms or the venture capitalists who financed. Instead, we remember Worldcom and Enron—a natural gas company, for heaven’s sake—as the corrupt companies.

The same thing is going to happen this time. The unrequited blood lust of Congress and the press is going to fall on Madoff, the funds who placed their money with him, and more broadly, the whole hedge fund industry. Houston, we have our scapegoats.

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