Wells Fargo scandal

[Malthus]

I saw the securities suit on the case reports today. Surprised it took so long for the plaintiffs lawyers to file

Probably delayed by plaintiff-side lawyers fighting over who got a piece of this. 

[Baron von Schtinkenbutt]

Wells Fargo fired 5,300 workers for improper sales push. The executive in charge is retiring with $125 million.
By Renae Merle September 13 at 8:28 AM
Washington Post

The Consumer Financial Protection Bureau noted that the $100 million it will collect as part of the deal was the agency's  "largest penalty" ever. The head of Office of the Comptroller of the Currency, a banking regulator, said its $35 million penalty would "demonstrate that such practices will not be tolerated and banks will be held responsible." "This is a major victory for consumers," said Los Angeles City Attorney Mike Feuer, touting the $50 million the city extracted from the bank.

But the fines being levied against Wells Fargo pale in comparison to the bank's yearly profit -- more than $20 billion in 2015.

Meant to discuss this a couple weeks ago.

These statements are implying that penalties should be based on who the offender is rather than what the offender did.  The punishment is supposed to fit the crime, not the criminal.  I don't think Wells Fargo's annual profit has any relevance to how their actions should be prosecuted.

[Malthus]

Wells Fargo fired 5,300 workers for improper sales push. The executive in charge is retiring with $125 million.
By Renae Merle September 13 at 8:28 AM
Washington Post

The Consumer Financial Protection Bureau noted that the $100 million it will collect as part of the deal was the agency's  "largest penalty" ever. The head of Office of the Comptroller of the Currency, a banking regulator, said its $35 million penalty would "demonstrate that such practices will not be tolerated and banks will be held responsible." "This is a major victory for consumers," said Los Angeles City Attorney Mike Feuer, touting the $50 million the city extracted from the bank.

But the fines being levied against Wells Fargo pale in comparison to the bank's yearly profit -- more than $20 billion in 2015.

Meant to discuss this a couple weeks ago.

These statements are implying that penalties should be based on who the offender is rather than what the offender did.  The punishment is supposed to fit the crime, not the criminal.  I don't think Wells Fargo's annual profit has any relevance to how their actions should be prosecuted.

There is actually a good deal of argument to be had over this very point.

For corporate fines, there is a concern that if the penalty is simply a set amount - so many $ per violation - the violators will simply see it as a cost of doing business. So one school of thought is that a penalty has to be high enough to catch management's attention.

Another is that the penalty should be based on the amount necessary to rationally deter the violation. If the % chance of being caught times the penalty (plus the reputational damages) is less than the profit to be made from the violation, then it makes sense to commit the violation; so make the penalty at least one dollar more.

That assumes that companies are fully rational actors though.   

[Baron von Schtinkenbutt]

There is actually a good deal of argument to be had over this very point.

For corporate fines, there is a concern that if the penalty is simply a set amount - so many $ per violation - the violators will simply see it as a cost of doing business. So one school of thought is that a penalty has to be high enough to catch management's attention.

Another is that the penalty should be based on the amount necessary to rationally deter the violation. If the % chance of being caught times the penalty (plus the reputational damages) is less than the profit to be made from the violation, then it makes sense to commit the violation; so make the penalty at least one dollar more.

That assumes that companies are fully rational actors though.

Those are good points.  I think the issue comes down to actual damage done, though.  It matters how much gain a corporation got, or stood to get, from the violations, not what their annual revenues are.  If a company is going to make or save $5m from doing something wrong, but risks a $20m penalty for getting caught, they aren't going to take the risk of getting caught.  It doesn't matter of their annual revenues are $10m or $10b; if the costs outweigh the gains they won't do it.

That's part of the issue with this particular case.  By all accounts Wells Fargo didn't really make much off this scheme, certainly nowhere near the $135m they have had to pay so far.  It was the low and mid level employees who did.  It was a classic example of misaligned objectives.  These employees were doing something illegal to get ahead in the corporate political game that was contrary to the long-term interests of the company.

[Malthus]

There is actually a good deal of argument to be had over this very point.

For corporate fines, there is a concern that if the penalty is simply a set amount - so many $ per violation - the violators will simply see it as a cost of doing business. So one school of thought is that a penalty has to be high enough to catch management's attention.

Another is that the penalty should be based on the amount necessary to rationally deter the violation. If the % chance of being caught times the penalty (plus the reputational damages) is less than the profit to be made from the violation, then it makes sense to commit the violation; so make the penalty at least one dollar more.

That assumes that companies are fully rational actors though.

Those are good points.  I think the issue comes down to actual damage done, though.  It matters how much gain a corporation got, or stood to get, from the violations, not what their annual revenues are.  If a company is going to make or save $5m from doing something wrong, but risks a $20m penalty for getting caught, they aren't going to take the risk of getting caught.  It doesn't matter of their annual revenues are $10m or $10b; if the costs outweigh the gains they won't do it.

That's part of the issue with this particular case.  By all accounts Wells Fargo didn't really make much off this scheme, certainly nowhere near the $135m they have had to pay so far.  It was the low and mid level employees who did.  It was a classic example of misaligned objectives.  These employees were doing something illegal to get ahead in the corporate political game that was contrary to the long-term interests of the company.

In this case, from what I understand management created a perverse incentive scheme that basically required its employees to commit fraud to keep their jobs, then blamed and fired the employees when massive fraud came to light. If the relevant criterion were 'how much the company stood to gain from the violation', the amount would be comparatively trivial, leading to a comparatively trivial fine; which, from the POV of enforcement, is an argument against using that method to determine the amount of the fine, as the company would not be deterred by a piffling fine from creating perverse incentives in the future.

I guess the counter-argument (from the first school of thought I mentioned) would be that the fine has to be enough to attract the attention of management, and enough to ensure that it keeps their attention so that they think twice about doing something similar again.

To determine that amount, it makes sense to look at how big the company is. If it was a small business, a million-dollar fine would be a huge incentive. A gigantic business wouldn't even notice that, though. 

[CountDeMoney]

Bet they'd notice a firing squad.  So would their friends.

[Malthus]

Bet they'd notice a firing squad.  So would their friends.

I like regulation CdM-style. 

[Admiral Yi]

In this case, from what I understand management created a perverse incentive scheme that basically required its employees to commit fraud to keep their jobs

"The phony accounts earned the bank unwarranted fees and allowed Wells Fargo employees to boost their sales figures and make more money. "

I think they were doing it to earn bonuses.

[Malthus]

In this case, from what I understand management created a perverse incentive scheme that basically required its employees to commit fraud to keep their jobs

"The phony accounts earned the bank unwarranted fees and allowed Wells Fargo employees to boost their sales figures and make more money. "

I think they were doing it to earn bonuses.

I could be wrong, but my understanding of it was that the employees had to meet sales targets (as well as earning bonuses), and that the targets were set at a level hard to reach without a certain amount of fudging. Fail to meet targets meant you were less likely to be kept on (as well as not earning any bonuses).

[Admiral Yi]

I could be wrong, but my understanding of it was that the employees had to meet sales targets (as well as earning bonuses), and that the targets were set at a level hard to reach without a certain amount of fudging. Fail to meet targets meant you were less likely to be kept on (as well as not earning any bonuses).

I don't see anything in the OP link to support that understanding.  Are you looking at another article?

[Malthus]

I could be wrong, but my understanding of it was that the employees had to meet sales targets (as well as earning bonuses), and that the targets were set at a level hard to reach without a certain amount of fudging. Fail to meet targets meant you were less likely to be kept on (as well as not earning any bonuses).

I don't see anything in the OP link to support that understanding.  Are you looking at another article?

I was reading other articles. I'll try to find some discussing that issue.

Edit: here's one:

http://www.wsj.com/articles/how-wells-fargos-high-pressure-sales-culture-spiraled-out-of-control-1474053044

Ms. Kamar says laggards were threatened with termination and sometimes criticized in conference calls. In February 2011, she wrote to Mr. Stumpf in an email: "For the most part funds are moved to new accounts to 'show' growth when in actuality there is no net gain to the company's deposit base." She says she got no reply.

After working for Wells Fargo and its predecessor banks for 22 years, she was let go in 2011 for failing to meet sales targets, she says.

[Baron von Schtinkenbutt]

In this case, from what I understand management created a perverse incentive scheme that basically required its employees to commit fraud to keep their jobs, then blamed and fired the employees when massive fraud came to light. If the relevant criterion were 'how much the company stood to gain from the violation', the amount would be comparatively trivial, leading to a comparatively trivial fine; which, from the POV of enforcement, is an argument against using that method to determine the amount of the fine, as the company would not be deterred by a piffling fine from creating perverse incentives in the future.

I guess the counter-argument (from the first school of thought I mentioned) would be that the fine has to be enough to attract the attention of management, and enough to ensure that it keeps their attention so that they think twice about doing something similar again.

To determine that amount, it makes sense to look at how big the company is. If it was a small business, a million-dollar fine would be a huge incentive. A gigantic business wouldn't even notice that, though.

The question then is, why did management create such perverse incentives in the first place if the company didn't stand to gain from it?  That doesn't sound like a rational course of action, in which case I wouldn't expect rational contemplation of fines, regardless of how large they are, to have much impact on future behavior.

[Malthus]

In this case, from what I understand management created a perverse incentive scheme that basically required its employees to commit fraud to keep their jobs, then blamed and fired the employees when massive fraud came to light. If the relevant criterion were 'how much the company stood to gain from the violation', the amount would be comparatively trivial, leading to a comparatively trivial fine; which, from the POV of enforcement, is an argument against using that method to determine the amount of the fine, as the company would not be deterred by a piffling fine from creating perverse incentives in the future.

I guess the counter-argument (from the first school of thought I mentioned) would be that the fine has to be enough to attract the attention of management, and enough to ensure that it keeps their attention so that they think twice about doing something similar again.

To determine that amount, it makes sense to look at how big the company is. If it was a small business, a million-dollar fine would be a huge incentive. A gigantic business wouldn't even notice that, though.

The question then is, why did management create such perverse incentives in the first place if the company didn't stand to gain from it?  That doesn't sound like a rational course of action, in which case I wouldn't expect rational contemplation of fines, regardless of how large they are, to have much impact on future behavior.

I think the answer would be that while the amount the bank gained from actual frauds was probably pretty low, the amount the bank gained from creating the hothouse atmosphere of hyper-vigilance on pushing sales - which indirectly lead to the frauds - was considerable.

The story (in the article above your post) appears to go something like this:

- the bank set out to "cross sell" its financial products, to squeeze more revenue. Nothing illegal in that.

- The process was successful, so the bank pushed harder on it.

- In pushing harder, it created (or passively allowed lower-level types to create), over time, sales expectations that were unreasonable or that could not be met through actual sales.

- Management turned a willful blind eye to this fact, and allowed lower-level management to engage in activities - such as criticizing/firing people who failed to meet these unrealistic targets - that it knew, or reasonably ought to have known, would more or less force employees to commit fraud, if only to keep their jobs.

- This was almost certainly not the result of any one decision, but the accumulation of a bunch of smaller decisions. If sales are a good thing, then more sales must be better, right? Left unchecked (by anyone asking 'how does someone sell so much anyway?), this leads inevitably to frauds being committed. The actual money value of the frauds may be quite small, but it is a systemic problem.

[The Minsky Moment]

Just got notice that the California State Treasurer is suspending "key business" with Wells.  Not certain how far that goes.

[Monoriu]

Every bank does cross-selling these days, and have set in place a bonus/quota system for its sales staff.  I wonder what makes Wells Fargo different. 

I am considering if this is an opportunity to buy Wells Fargo shares.