Finance Professor Argues Government Inflates Amount of Harm in Spoofing Case
Commentary by Bob Zwirb
University of Houston Finance Professor Craig Pirrong argued that, in a recent criminal case, the DOJ miscalculated the amount of harm caused by three commodities traders for spoofing.
In analyzing the criminal indictment, Professor Pirrong stated that the DOJ should not have relied upon the notional value of the futures contracts to calculate the amount of harm. According to Professor Pirrong, the actual harm caused by spoofing is represented not by the notional value of the contracts, but by the spread on such contracts that other traders pay or lose the opportunity to earn when they make trades based upon the defendants' spoofing.
If computed correctly, Professor Pirrong maintained, the amount of harm involved here would be $20,000 at most - far less than the $60 million cited by the government. Professor Pirrong further argued that "if someone touted that their trading system earned market profits of $60 million based on such a calculation in order to get business from the gullible . . . the DOJ and SEC would prosecute them for fraud."
In addition to being misleading, Professor Pirrong asserted, reliance on notional value to determine sanctions has other detrimental effects, including the imposition of sanctions disproportionate to actual losses, over-deterrence, and the misallocation of enforcement resources. On the latter point, Professor Pirrong stated that focusing on spoofing is misguided in light of "other financial market wrongdoing that is far more harmful, which often escapes prosecution."
Commentary
Even if one accepts the notion that trading misconduct such as spoofing involving 0,000 in harm is worthy of criminal prosecution, the goal of sanctions in such cases is to ensure that “crime does not pay.” Gary Becker, Crime and Punishment: An Economic Approach, 76 J. Pol. Econ. 168 (1968). That goal can be achieved by having expected penalties “at least equal to the gains from criminal activity.” Paul H. Rubin and Robert Zwirb, The Economics of Civil Rico, 20 U.C. Davis L. Rev. 883, 899-900 & 901 (noting that cases involving economic crimes such as fraud involve transfers where the loss to victims are exactly offset by gains to the perpetrator). But here DOJ appears to be basing any potential penalty upon an inflated notion of the amount of harm resulting from the traders’ conduct, if Professor Pirrong is correct. If so, upon conviction, the penalty likely will be disproportionate to any reasonable measure of harm.