Asleep at the Wheel

To gain some perspective, it should be noted that these scandals originated from the excesses of the late 1990s. Indeed, there were strong signals in the late 1990s of forthcoming scandals. However, investors did not seem to care. As long as the stock market was going up, investors did not want to ask too many questions about the behavior of the corporate system that was earning them profits.

Consider SEC Chairman Arthur Levitt's speech to CPAs, lawyers , and academics in New York. The chairman attacked accounting chicanery and earnings management practices, and promised that the agency would go on the offensive. Although the speech was given in 1998, it is reminiscent of the post-Enron environment of 2001 and 2002. In the couple of years after the speech was given, the SEC took actions against many firms for accounting manipulation and fraud. Some firms were mega firms like Bankers Trust, Cendant, Sunbeam, Waste Management, and McKesson HBOC. Other well-known firms with accounting problems included Boston Chicken, Mercury Finance, Telxon, and Oxford Health. ^[1] But were investors upset about these corporate misdeeds? Were Congressional inquiries made? For the most part, no.

Even the largest two firms (in market value) have been under suspicion ”General Electric (GE) and Cisco. The media expressed concerns about the earnings management practices of GE, and, while the company is notorious for producing increased profits every year, Money magazine claimed that earnings would have been down in 1997 and flat in 1999 had it not been for some accounting maneuvering. ^[2] Barron's questioned the long- term viability of Cisco's practice of financial engineering. ^[3] The article specifically questioned the accounting used in Cisco's endless string of acquisitions. Indeed, the article went so far as to call Cisco a "modern house of cards." Again, investors did not seem too concerned about the accounting problems. After all, investors had made a lot of money investing in Cisco and GE.

However, the stock market declined (along with the economy) in 2000 and 2001. Then came the failures and collapse at Enron in the fall of 2001. Enron's managers, accountants , analysts, and board of directors all failed the investors and employees of Enron. Investors became angry at the enormous fraud at Enron and at the other firms that have subsequently announced problems. However, the problems have been brewing for a while. It has only been since the Enron debacle that investors, the media, regulators, and politicians have taken notice and demanded accountability.

The outcry against corporate greed and fraud is a manifestation of the failing confidence of investors in the corporate system, which, in turn , is partially caused by the decline in the stock market. The following sections illustrate this crisis in investor confidence and how it affects the stock market. Eventually, the lack of confidence can become a drag on the economy. The crisis needs to be reversed before too much damage is done.