Indian banking sector is back in the news, this time for its frauds. The multi-billion rupees Punjab National Bank (PNB) – Nirav Modi fraud became the prime-time story for every news channel. We saw blame game between Congress and BJP & between the government and the central bank. The credibility of the regulator, management and audit professionals were at stake. Even though there are stringent punishments for frauds, they are all pervasive and erupt again and again. How should we tackle them? History has shown us that severe laws are made at the hindsight (i.e. after the fraud has taken place). Hence, our approach of analysing and dealing with them must change.
Fraud Triangle
Why does the fraudster (Nirav Modi) resort to unethical means at first?
The concept of ‘Fraud Triangle’ is designed by American sociologist and criminologist, Donald R. Cressey to explain the reasoning behind committing a workplace fraud. Pressure, opportunity and rationalization are three dimensions of the fraud triangle. He says that pressure on the individual is the motivation to commit a crime.
In case of PNB-Nirav Modi fraud, the motivation could be to get a new consignment or to hide a past mistake / fraud / shortcoming or a personal financial problem.
What was the mechanism of fraud?
‘Opportunity’, the mechanism of the fraud is the second element. It is difficult to commit a fraud single-handedly. There are accomplices and loopholes aiding fraudsters to achieve the aim.
In this case, Nirav Modi (might have) involved an employee and some managerial level individual(s). They found that the Core Banking System (CBS) was not connected to the SWIFT system.
Why does the fraudster not accept the fraud?
“Rationalizing” is the final and cognitive stage of the triangle. The fraudster now justifies the crime through his own moral or ethical prism. He/she does not see himself/herself as a criminal but a victim of circumstances.
In Nirav Modi’s case, since the investigation is unfolding day by day and no relevant public information is available, we cannot decode rationalisation yet. But certain hints can be taken out from Nirav Modi’s letter to the PNB’s management. Instead of admitting any fraudulent transaction, he is wandering across continents and blames PNB for destroying his image, brand and business.
Psychology of Fraud
The fraud involved more than Rs. 130 billion. It added to the troubles of already ailing banking sector which is under pressure of Rs. 9000 billion piles of NPAs. This apart, compliance costs, litigation costs, surveillance costs, etc. will add up to the risk value in future. The economy might go into slump if it exaggerates.
Would the accused have ever thought that his act might damage the economy?
No. Researchers say that the cost of fraud to others is abstract and we are not cognitively designed to think about such things while attempting a fraud. We outweigh short term benefits over long term pains. This also explains partly the financial crisis of 2008. Behaviour of bank managers resulted in crisis which they didn’t think of while granting the sub-prime loans.
But, why should anybody aid in such an unethical act?
It’s not money. Lamar Pierce, a professor at Washington University and psychologist Francesca Gino of Harvard Business School said, “Human beings commit fraud because human beings like each other.” Reciprocity drives our actions and the empathy blinds our ethics. However, I feel that other emotions such as greed, anger, lust, depression, exuberance, etc. can also influence such acts.
Couldn’t these people really see what they are doing is wrong?
And the answer is again “No”. Ann Tenbrunsel, Professor of Business Ethics at University of Notre Dame says, “We are frequently blind to the ethics of a situation”. This goes back to ‘Behavioural Economics 101’ (Link). The way choices are presented to us and the context in which they are presented influence our decisions. While committing a fraud, our mind fails to recognize any ethical confrontation. She adds that people cannot see that they are doing something wrong or unethical although they are not evil or unethical individuals otherwise. This should be helpful because if we want to attack fraud, we must understand that a lot of fraud can be unintentional.
Check on Frauds
The most important component of the ‘fraud triangle’ is ‘opportunity’. Preventing frauds requires vigilance. Role of managers, auditors, independent directors and regulators thus becomes significant. They become stalwarts in the entire governance structure and are expected to be persons of integrity. However, being human the same set of behavioural departures apply to them resulting in their involvement in frauds. ‘Abuse of dominant position’, a common jargon for those in competition law, can be easily applied to our behaviour. This explains why a manager or a chartered accountant or a lawyer or a bureaucrat or a politician might get involved in fraud.
Decoding the psychology of the fraud does not mean defending such behaviour. But it means being more humane and erudite in understanding behaviour; knowing that humans have ‘bounded ethicality’ (i.e. our ability to behave ethically is limited); and finding newer ways to prevent frauds and mitigate losses through combination of value education, laws and technology. People will behave irrationally but it is our duty as a professional to abide by the ethical code of conduct to serve the nation and the world in true sense.
– Swapnil Karkare
References and Further Reading:
