The Case for Fraud: our prison industry

The Case for Fraud: our prison industry

(A version of this article was published in Typepad on November, 2008)

(Second of a four-part series)

I

One of the conceits of liberal capitalism is that it is a constructive economic free for all, more productive than other alternatives because competition is “regulated” by transparency and the “rule of law.” In practice, the alternatives are defined as “socialism” in which the state directs investment and allocates income. The collapse of the Soviet Union is held to be the conclusive proof that socialism doesn’t work, and that liberal capitalism, ipso facto, is the apogee of economic evolution. Ergo, we have reached the end of history.

Any small businessman knows that this is complete rubbish, but that does not stop the ideologues in universities and the capital markets from pretending otherwise. Curiously, even the so-called political “left” so critical of liberal capitalism’s celebration of self-interest supports this fiction by its dependence on foundation grants that are basically nothing more than the self-interested charity of the liberal capitalists. The likes of George Soros, for instance, funds causes ranging from the destabilization of central European states [i] to The Narco News Bulletin, [ii] which simply proves that smart governance in the age of monopoly understands that it is better to fund dissent than it is to fight it, the better to control it. I forget who it was that said that no one ever made money without inside information, but whoever it was, was very practical.

II

So writes Chris Sanders of Sanders Research Associates, an independent think-tank from Ireland, on the eve of the infamous lawsuit in Federal District Court in Washington DC.  

The case (of United States ex rel  Ervin & Associates vs. Hamilton Securities) alleged fraud and called for the recovery of monies owed to Hamilton under its loan sales contract with HUD. Ms. Fitts was the principal owner of Hamilton and the target of those attacks, but more on that later.

Hamilton [Mr. Sanders continues] is interesting as a case study not just of the perversion of the law but of the privatisation of public services. Privatisation has been sold to the public in the US, Great Britain and elsewhere in the New World Order as being necessary to improve the quality and efficiency of public services. One of the foundational assumptions of liberal capitalism is that private firms can do things more efficiently and even more honestly than the public sector can. On the basis of more than twenty years of experience since Ronald Reagan broke the back of the air traffic controllers’ union and Margaret Thatcher broke the miners in Britain, the evidence to support this is mixed at best. On the contrary, in case after case whether it is Halliburton or Dyncorp providing logistics services to the US military, the sale of British Rail, the sale of the Inland Revenue’s assets or the Carlyle Group’s acquisition of the Royal Ordnance’s research arm, the evidence suggests that what is actually happening is the sale of public assets or the licensing of public services at below market prices to politically connected investors. This has nothing to do with the markets and everything to do with fraud.

III

This commentary — “So, where is the collateral?” — was written in 2004, and not much has changed since. The government continues as the principal enabler, allowing unscrupulous business firms and politically connected investors to perpetuate the myth espousing the virtues of privatization while lining their pockets.

It’s a simple case of quid pro quo. And the worst crime of it all, it’s being done in the name of some catchy political idea.

The privatization of our “prison industry” — and industry it had become — is a case in point. .  (See, for example, “Politics and Ethics:  State-of-Nature Theories,” in particular, the reference to Jason J. Campbell.)

IV

As a past member of Dillon Read, Catherine Austin Fitts is well-qualified to address this scandalous issue. See, for instance, chapters 8 thru 10 of her memoirs, Dillon Read & Co, Inc, and the Aristocracy of Stock Profits.

Dillon was a major investor in Houston-based Cornell Corrections, Inc., one of the first privately-owned and -operated prison facilities. Its success or failure was vital because it would serve as a model for all such business enterprises in the future.

V

Consider the following excerpt from a June 1999 interview of David Cornell, one of the principals, by The Wall Street Transcript (TWST) staff. Notice the straightforward manner in which questions are being posed and answered.

As it befits any reputable company trading on the NY Stock Exchange, the editors are simply providing service to potential investors. It doesn’t occur to anyone to question the morality of an enterprise whose primary source of revenues derives from incarcerating people.

TWST: Can you give us a brief overview of the company and a little bit of its history just to set the stage for the readers?

Mr. Cornell: This Company’s concept began December 7, 1990. It was a rough business plan, yet Dillon Read Venture Capital became our first investor on February 21, 1991. We were in the process of pretty much being very dependent upon me and very dependent upon the success of two developmental projects, one in Plymouth, Massachusetts, the other in Central Falls, Rhode Island. As those projects reached completion, we began operating the facility in Central Falls, Rhode Island on October 3, 1993. We have simply progressed since then, growing 33-fold in revenues and offenders under contract since that time. We’ve diversified and are not now so dependent upon development; but we’ve diversified into the three sectors of the business; ‘secure institutional,’ we go up to maximum security; juvenile; and pre-release. We’re the only company really in the business of aggressively growing in each of these three sectors; that is a conscious decision of our Board of Directors. It’s also a conscious decision of our Board to be a well-rounded company and have a vision that’s more cultural than just being a bed manager. I think that if any one message were to come through in 1998, it would probably be that we have succeeded in accomplishing that objective.

TWST: How does the business break down at this point?

Mr. Cornell: Our institutional revenues are around 42 percent; our juvenile revenues approximate 40 percent; and our pre-release revenues are around 18 percent.

VI

One doesn’t have to be a wizard to figure how such a business would prosper. It’s all about numbers. And numbers tell their own tale.

Consider: As of 1992, the going rate by the Federal Government to house a prisoner was $83.00 a day; that’s roughly $30,000 a year per bed. A hundred-strong bed facility, if fully occupied, would generate thus close to three million dollars yearly in gross revenues; one that’s a thousand-strong, thirty million; and so forth.

The figures are staggering. Sooner or later, you’re going to run, of course, into the problem of diminishing returns. But until that point is reached, there’s clearly an interest in expanding the prison facilities. There is also an interest in longer mandatory sentences because a high rate of turnover only increases overhead.

VII

The stock valuation process only corroborates the story.

In its 1996 prospectus before going public, Cornell listed its stock value at $24,241 per bed. (By the time of its initial offering, Cornell was boasting close to 3000 beds in operation, although it claimed 2.4 million in losses.)

I’m not sure how exactly that figure relates to the thirty thousand or so paid out yearly by the Federal Government per bed, but to the best of my understanding, stock valuation is supposed to be based on realistic projections of the profit flow; otherwise, the investors wouldn’t bite. So we’re talking about 25 thousand more or less – or 80 percent out of 30 thousand in gross income – generated yearly through the management of each prisoner.

It’s a hefty profit by any stretch of the term. Still, considering the horror stories of the Federal Government paying its subcontractors upwards of a thousand dollars for a screwdriver or a nail, it’s the norm.

After all, it’s taxpayer’s money, so who cares?

VIII

But wait, it only gets better. Wall Street is all about “pop,” where “pop” is the multiple of income at which a stock trades on the stock market. A pop of 15, for instance, means that for every $1 million of additional net income, the stock goes up in value by $15 million. So there are two ways of making money on a stock like Cornell: first, by increasing bed capacity, which is directly related to profitability; second, by raising market expectations regarding its profitability so that its “pop number” would go up.

It’s bad enough, concludes Ms. Fitts, that we have created a system whereby a significant number of private interests – investment firms, banks, attorneys, auditors, architects, construction firms, real estate developers, bankers, academics, investors among them – have a vested interest in increasing the prison population and keeping people behind bars. [To make matters worse, there is also an interest] in passing laws regarding mandatory sentencing or other rules that will increase the needs for prison capacity [in anticipation, as it were, and regardless of whether those needs will be met or not, because] the passage – or anticipation of – a law that will increase the demand for private prisons is a ‘stock play’ in and of itself.

It’s a double whammy!

IX

Any actual or perceived collusion between private interests and public policy is a cardinal sin of all liberal democracies. It violates the public trust and the law of transparency in government.

“Abstain from all appearance of evil” —  so says the good book.  And it’s sound advice for individuals and governments alike.

It matters less what came first – public policy (such as mandatory sentencing or the three-strikes rule) or vested interests in such laws – although one wonders why. The very possibility of such a collusion – a matter of public perception – is bad enough, and the government should do its damndest to clear it up.

That fact that it could be so – that our policies (such as War on Drugs or War on Crime, popular as they may be) may be influenced or shaped by private interests standing to gain thereby – is unconscionable. It’d make the government not only a principal enabler of fraud but a primary perpetrator as well – no less fraudulent than the lesser players.

Since the evidence is only circumstantial thus far, the jury is still out

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