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The Jewish Ethicist: Con or crunch?
Written by Rabbi Dr. Asher Meir
Sunday, 25 October 2009 12:51

Lenders deserve to know if a shaky lender has misled them

Question: A person I know is going around borrowing money for his business. I happen to know that his business is not going so great, so there is a good chance lenders may not get their money back. I feel like I should inform them, but I’m afraid that if I tell people I will actually be precipitating a failure and do more harm than good to the lenders.

Answer: Your question is a twist on the usual dilemma involving damaging disclosures. Let’s examine the usual situation:

The Torah commands us, “Don’t go about as a talebearer among your people; don’t stand idly by the blood of your neighbor.” (Leviticus 19:16). The first half of the verse prohibits slander or any other kind of damaging revelation about others, but the second half tempers that prohibition: Our concern for the reputation of the wrongdoer shouldn’t induce us to stand idly by when someone is liable to suffer a loss from his actions.

The classic book Chafetz Chaim by Rabbi Israel Meir HaCohen explains how we harmonize these competing principles. Revelation is justified when there is no other way to prevent someone from suffering a loss, and when the revelation doesn’t cause undeserved harm to the subject.

Thus, the evaluation process is simple. First, we see if the potentially damaging revelation is really likely to save someone from a loss. If it is, we see if there is any other way to prevent the loss. If there is none, we check to see if the revelation will cause disproportionate harm to the subject of the disclosure. If there isn’t, then disclosure is appropriate.

In your case, there is a twist. You can’t evaluate the likelihood of loss in isolation from the reporting itself. The reason is that the very fact that you report the danger may actually augment the danger.

The key question here is the extent of the danger. At one extreme, borrowing money in a doomed effort to prop up a failing business is really a variation of a pyramid scheme. You’re borrowing Peter to pay Paul until the day comes that you just can’t borrow enough to pay off your debts. If the underlying business isn’t viable then no amount of clever financing can save it. In this case, telling people about the business’s problem won’t be causing the failure but only hastening it, before the amount of unpayable debt balloons.

At the other extreme, many businesses, probably most, go through liquidity crises. Good, viable businesses don’t always generate enough cash to meet ongoing obligations and they need loans to get them through a temporary crunch. If this is the situation, then sowing panic among creditors would harm the company and even the creditors themselves, inducing them to be first in line to obtain partial recompense when with a little patience they could get full repayment.

In general the lenders should be evaluating these risks, not you. So your main question should be: Do I have evidence that the borrower is engaging in fraudulent or misleading practices? If the borrower is giving a false impression of his firm’s prospects or of its debt picture, then you will be doing the borrowers a favor by cluing them in. This may possibly trigger a collapse, but that is a consideration each lender can weight for himself

But if they are just overly hopeful or insufficiently diligent in evaluating the risks of a fundamentally legitimate business, I don’t see any reason for you to intervene.

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Last Updated on Thursday, 22 October 2009 11:55
The Jewish Ethicist: Charitable Investment
Written by Rabbi Dr. Asher Meir
Sunday, 13 September 2009 12:20

Can I invest charity money in a sure-fire investment?

Question: I’m the head of a non-profit organization. The organization has some spare cash that I am convinced I can invest at a profit. Should I go ahead and benefit my organization in this way?

Answer: The Talmud has an interesting discussion regarding the propriety of investing charity funds.

Rabba asked Rav Yosef: What do we do with orphans’ funds? He said, we deposit them in court, and distribute them little by little. He said, then you exhaust the capital! He said, what then should we do? He said, we investigate a person who has known assets [to collect from in case he should lose the deposit], and deposit their money with him near to profit and far from loss [the active partner splits profits but bears all losses]. . . That’s very well if we find someone who has certain assets, but if we can’t find someone who has certain assets shall we let the orphans’ funds dissipate? Rather, Rav Ashi stated: We find a person of stable property, reliable, who is obedient to the Torah and is not under a ban, and we deposit it by him in court (Bava Metzia 70a).

The sages of the Talmud are trying to find the right balance between risk and return for charity funds – in this case, money belonging to minor orphans and being administered by a court-supervised guardian. Rav Yosef is unwilling to take any risk, and advocates simply disbursing the money. Rabba is willing to invest only if the investor is willing to personally bear any losses and can actually provide security for potential losses in advance – certainly a very unusual situation. Rav Ashi is the most lenient; he is willing to settle for the case where the investor agrees to bear the losses and appears willing and able to do so.

Based on Rav Ashi’s opinion, you can go right ahead and invest the money if you can personally cover any losses. Of course you would need the approval of the board of your charity before making such a far-reaching step.

However, it is extremely unusual nowadays for a private individual to be willing or even able to personally make good losses of the charity. (If the backer was sure of the quality of the investment it would make much more sense to borrow the money and invest it himself, giving any profits to charity.) So it seems that making even prudent investments could be quite difficult.

Later authorities, in response to changing situations, acknowledged that sometimes the requirement for co-signing could be waived, if it made it prohibitively difficult to invest charity funds productively (Cf. R. Avraham ben Mordechai HaLevi, response Ginat Veradim Choshen Mishpat IV:1). However, there is still a requirement for careful oversight, expressed in the passage by the need for someone stable, reliable and obedient, and for proper documentation (“deposit it by him in court”).

Experience has shown that the only way to do this effectively is by having an investment committee made up of a number of experienced experts who have the best interest of the charity foremost. There is no way for a single individual to exercise the appropriate degree of judgment and knowledge. This is especially true for someone like you, whose judgment would be colored by his involvement in the day-to-day management of the organization.

If you believe that the future interests of the organization would be best served by investing its funds in something more risky than a bank account or CD, you should recommend to the board that they establish a properly constituted investment committee for this purpose.

Another route: if you are so certain that this investment is a sure thing, you might want to invest your own money and promise to give a certain fraction of the returns to the charity. But experience shows that there is no way to know in advance if any investment is a sure thing.

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Last Updated on Thursday, 10 September 2009 09:22
The Jewish Ethicist: Upcoding
Written by Rabbi Dr. Asher Meir
Wednesday, 2 September 2009 01:42

Helping the needy is praiseworthy, but it can’t justify deceit.

Question: Insurers insist that every procedure be reimbursed according to its code. But sometimes a procedure that usually takes five minutes takes an hour. Can’t I record a higher-level code in order to get fair recompense?

Answer: The practice you describe is often called “upcoding” – recording a code for a procedure more expensive than the one the patient needs. It is recognized as a form of insurance fraud, or if the insurer is the government as a form of defrauding the government.

The argument you advance sounds convincing at first. After all, you are not trying to defraud the insurer, but only to get a fair payment for your investment in time. However, the argument appears specious when viewed in total context. No one expects the payment schedule to accurately reflect the time and resource investment of every single visit. The recompense for a procedure that generally takes five minutes, but occasionally an hour or more, will reflect the average amount of time – let us say ten minutes. When the procedure goes smoothly, do you “downcode” to save the insurer money and obtain only what is fair?

Furthermore, even if one particular procedure is mispriced even on an average basis, we have to consider the entire payment schedule. Some procedures pay too little compared to the effort involved, others too much. Again, do you downcode procedures that are consistently the most profitable? I am guessing that you don’t.

Another consideration is that often insurers provide for extra billing when codes don’t adequately reflect the resources needed for a procedure. There is a defined bureaucratic process involved. It is true that the paperwork involved in these claims can itself be somewhat burdensome, but that is to be expected when discussing a mechanism meant to be used only in exceptional circumstances. So the incentive to upcode is sometimes not in order to obtain fair recompense, but only in order to avoid annoying paperwork – an understandable motivation, but certainly not one compelling enough to justify insurance fraud.

After extensive research, I became aware that what I have written so far is not the entire story. Sometimes the insurance is so deficient that the underpayments by the insurance company are never balanced out, and dealing with the issue through paperwork is either impossible or totally not cost effective. This is especially likely to happen for poor people who have minimal insurance. As a result, I have heard of reputable practitioners who don’t want to turn indigent patients away but simply cannot afford to treat them without changing the codes.

Even so, I do not believe this situation can justify upcoding. The health system as a whole will have to find a solution for these underinsured individuals, but the solution is not insurance fraud. Not only is the practice fraudulent in itself, but taking an accepting attitude is nearly certain to lead to an accepting attitude towards upcoding in other cases, when it can’t be easily excused as a desire to help the needy.

According to Jewish law, fraud is impermissible even when it is employed to help the needy. If you find you cannot help needy individuals without upcoding, take as many as you reasonably can on a pro bono basis (meaning accepting only the inadequate payment from the insurer) and you will just have to turn the rest away.

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Last Updated on Wednesday, 2 September 2009 01:42
The Jewish Ethicist: Tycoon Traders II
Written by Rabbi Dr. Asher Meir
Sunday, 23 August 2009 01:00

Last week we discussed whether traders are engaging in socially worthwhile work, as opposed to some kind of rip-off. Based on the evidence I am aware of, I wrote that traders seem to be engaged in a job like any other, earning a salary based on performance which results from a combination of skill and luck.

Some people may be willing to grant this point, but still feel that at some stage salaries become “obscene” or “excessive”. In the US, there is legislation limiting how much salary can be considered a legitimate business expense. (Ironically, this supposedly “salary limiting” legislation is partially responsible for the compensation system of traders, who get a low base salary partially for this reason.)

It is interesting that no one has tried to limit how much money can be made from a business, or by an athlete. For some reason, people don’t have a problem with the fact that people like Bill Gates of Microsoft or Sam Walton of Walmart can make billions of dollars from the firms they founded, or with the hundred million dollars earned in a good year by outstanding sports talents like Tiger Woods. Yet it disturbs them that a “regular” salaried worker like Andrew Hall can earn a hundred million dollars a year. Perhaps it is because a salaried worker is working with “other people’s money” and not risking his own.

I think we can find a precedent for this attitude in the Torah. The patriarch Yaakov begins working for Lavan as an impoverished hand. But his management of the flock is so successful that soon his salary (a percentage arrangement worked out with Lavan) makes him a wealthy man in his own right. Lavan’s sons became jealous: “And he heard the words of the sons of Lavan, saying: ‘Yaakov has taken everything belonging to our father, and from what belongs to our father he obtained all this honor.” (Genesis 31:1.) Yaakov after all was merely a hired hand; it didn’t seem right for him to become a wealthy householder in his own right from a mere salary. But Lavan’s daughters, who are Yaakov’s wives, recognize the truth: “All the wealth that God saved from our father, it is ours and our sons’.” (Genesis 31:16.)

Later on we find a similar story with Yaakov’s son, Yosef. Yosef is acquired as a slave in the household of Potiphar; there, he makes shrewd use of his master’s possessions. “And it happened, since he appointed him on his house and on all that was his, that the Lord blessed the house of the Egyptian because of Yosef.” Yosef, despite being a slave, was allowed to enjoy a standard of living commensurate with the profits he brought his master, as he says to Potiphar’s wife , “and he hasn’t denied me anything except for you, seeing that you are his wife.” It is likely that jealousy towards Yosef’s success also played a role in the enmity borne him, which resulted in his imprisonment, but certainly we do not find any condemnation of Yosef’s generous remuneration merely because he was managing “other people’s money”.

To sum up, I don’t find that there is any reason to condemn someone for making a lot of money merely because they are managing and risking someone else’s money and not their own. If any person, such as Yaakov or Yosef, lacks funds of their own but shows a unique talent for effectively managing the funds of others, there is no reason they shouldn’t enjoy a fair return, up to an including making them independently wealthy like Yaakov or enjoying the lifestyle of a lord like Yosef.

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Last Updated on Tuesday, 18 August 2009 11:54
The Jewish Ethicist: Tycoon Traders I
Written by Rabbi Dr. Asher Meir
Tuesday, 18 August 2009 10:40

Do Wall Street traders really earn their pay?

Question: Is it fair for Wall Street traders to be making tens of millions of dollars a year?

Answer: In the wake of the financial market crisis that began last year, many people in the general public became aware of the customary compensation system for Wall Street traders. Many are scandalized. Attention has intensified in recent weeks as people read of the Citigroup trader Andrew Hall who is due about a hundred million dollars for his work over the last year.

The job of traders is to guess which way markets are going and invest accordingly. The techniques they use to predict markets are quite varied. Many rely on careful market research, poring over balance sheets and sales projections to find companies whose underlying earning potential is much greater or less than the one reflected in the market price. Some use purely statistical techniques to identify prices that are out of alignment; for example, the same asset in two markets should be the same. Many other approaches are also in use.

Typically, traders get a “modest” base salary – modest by Wall Street standards means in six figures – and get a fraction of trading profits that is commonly in the millions of dollars, not infrequently in the tens of millions, and sometimes reaches over a hundred million dollars in a year.

Many ethical questions are directed at these compensation schemes.

1. Do the traders really earn their pay doing something socially productive, or are they bandits who are skillful in ripping off the investing public?

2. Is it fair for an ordinary salaried employee, not someone who built a business, to be getting so much money?

3. Is it fair that some people are getting nine-figure paydays when others live in poverty?

4. Is it right for anyone to control so much wealth?

In this column we will relate to the first issue, and in subsequent columns some of the other issues.

Traditionally, economists assume that speculators, such as today’s Wall Street traders, create value by aligning asset prices with their true economic value, thus ensuring that investment capital is directed to its most productive uses. There is certainly nothing unfair about earning money by knowing how to buy cheap and sell dear. The Shulchan Aruch states that if a person knows of a bargain he is entitled to the profit from it; if he sends an agent to purchase on his behalf but the agent profits himself, that agent is considered unethical (Shulchan Aruch Choshen Mishpat 183:4 in Rema).

However, some observers think that today’s Wall Street traders today don’t have any particular ability and actually make money because of the quirks of the bankruptcy system. Trading firms get all the upside of risky trades, but if there is a crash their creditors bear the loss. So it is a “heads I win, tails you lose” proposition for the public. If this is true, it wouldn’t make trading unethical but it would make obligate regulators to close this loophole. In any case, I have trouble accepting this approach because it wouldn’t explain why the firms pay traders such high salaries. After all, no special skill is necessary to engage in risky trades.

Another claim that is occasionally made against traders is that they prey on uninformed investors. This practice runs afoul of many principles of Jewish law. Legally, it may violate the requirement to disclose any defects in merchandise. Ethically, there is an additional problem. The Talmud states when someone is ill-informed about the odds against him, there is a lack of informed consent gambling against him. Maimonides states that this is considered a form of stealing (Maimonides’ Code, Gezeila veaveida 6:10). This is not quite the same as selling a financial asset, which does have some inherent value, but ethically I think that it is in many ways comparable regarding a risky asset.

I believe that this is a widespread problem, but not among traders. The problem is very widespread among unauthorized people selling different kinds of get-rich-quick schemes, and to a lesser extent it is found among registered brokers. There was a high profile case a few years ago where brokers at a major firm pushed stocks to clients while privately they referred to them as “dogs”. But the particular expertise of the high-flying traders is in arcane instruments which are not usually traded by amateurs at all.

So regarding the first question, my answer is that I do not find any grounds to doubt that traders earn their pay based on a combination of skill and good luck just like any other business person. It’s just another way to make a living, with its own ethical challenges but without any unique ethical opprobrium.

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Last Updated on Tuesday, 18 August 2009 10:40
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