Fiscal year 2013 marked the fourth consecutive year in which the Department of Justice has recovered at least $2 billion from cases involving charges of healthcare fraud. Make no mistake: these record-setting yields were no accident. The Obama Administration has prioritized busting healthcare fraudsters since it took office, and for good reason. A 2009 analysis by the AHIMA Foundation, estimated that only 3 to 10 percent of healthcare fraud was being identified. To help crackdown, Attorney General Eric Holder and Human Services Secretary Kathleen Sebelius formed the Health Care Fraud Prevention and Enforcement Action Team (HEAT) in 2009.The Government also launched www.stopmedicarefraud.org in an effort to curb ongoing fraud. From January 2009 through the end of the 2013 fiscal year, the Justice Department used the False Claims Act to recover an unprecedented $12.1 billion in federal healthcare dollars.
In this past year alone, DOJ successfully recovered $2.6 billion. More than half of that amount related to alleged false claims for drugs and medical devices under federally insurance health programs, including Medicare, Medicaid and TRICARE.
Many of the DOJ settlements involved allegations that pharmaceutical manufacturers engaged in “off-label marketing” –that is, promoting sales of their drug products for uses other than those for which the Food and Drug Administration (FDA) approved them. A notable “off label” settlement was with Abbott Laboratories, which paid $1.5 billion to resolve allegations that it illegally promoted the drug Depakote to treat agitation and aggression in elderly dementia patients and schizophrenia – neither of which was the use for which the FDA had approved the drug as safe and effective. Abbott’s settlement included $575 million in federal civil recoveries, $225 million in state civil recoveries and nearly $700 million in criminal fines and forfeitures. DOJ also reached a settlement in 2013 with biotech giant Amgen, Inc., which paid $762 million (including $598.5 million in False Claims Act recoveries) over allegations that included promotion of Aranesp, approved to treat anemia, in doses and for purposes not approved by the FDA.
DOJ settlements in the past year also addressed allegations of the manufacture and distribution of adulterated drugs. For example, in May, Ranbaxy USA Inc. paid $505 million, including $237 million in federal civil claims, $118 million in state civil claims and $150 million in criminal fines and forfeitures, due to adulterated drugs from its facilities in India.
Kickbacks were the subject of other DOJ enforcement in 2013. DOJ obtained a $237 million judgment against Tuomey Healthcare System Inc. after a four week trial. Tuomey was accused of violations\ the Stark Law (which prohibits hospitals from submitting Medicare claims for patientsreferredto the hospital by physicians with a prohibited financial relationship with the hospital) and the False Claims act. Tuomey’s appeal is pending; if upheld, the judgment will be the largest in the history of the Stark Law. DOJ’s $26.3 million settlement with Florida dermatologist Steven J. Wasserman M.D., arising from allegations of illegal kickbacks from a pathology lab, was one of the largest with an individual in the history of the False Claims Act.
DOJ Civil Division’s Consumer Protection Branch was likewise active during 2013, obtaining 16 criminal convictions and more than $1.3 billion in criminal fines, forfeitures and disgorgement under the Federal Food, Drug and Cosmetic Act.
These numbers make clear that DOJ continues to view healthcare fraud as a priority. Providers and others who operate in this highly regulated space ignore this law enforcement focus at their peril in 2014.
The media coverage of this week’s announcement that federal prosecutors have charged former Virginia Governor Robert F. McDonnell and his wife, Maureen, with illegally accepting gifts from a wealthy Richmond area businessman have largely focused on what the Commonwealth’s first family may have given in return. To be sure, the question of whether and how these gifts corrupted the state government is an important one, and the effect on a man once considered a potential 2016 Presidential candidate is a significant political story.
But the story of how the allegations against Governor McDonnell first surfaced is also a cautionary tale about the vulnerabilities that can lead prosecutors to the evidence they need to bring down rich and powerful people. During his tenure at the Virginia gubernatorial mansion, chef Todd Schneider kept records and photographs of a variety of things he viewed as suspicious. When Schneider was accused of wrongdoing involving his outside catering company’s relationship with the state – allegations that proved to be unfounded – Schneider revealed to prosecutors all of the documents and photographs he had that suggested corruption on the part of the Governor and his family. The indictments announced this week are the product, at least in part, of that treasure trove of carefully preserved incriminating evidence.
The defense in this case will likely be that gifts were accepted but no favors were granted in exchange, and that may be a winning strategy but there is also a lesson here. Corporate officers and public officials need to understand that, when they engage in behavior that comes close to crossing the line between proper and improper, their acts need to be explained and not kept private. They also need to understand that leaders are often judged by and held to a higher standard of conduct. From the mail room on up, employees expect the most from their leaders. Anything less than that may look suspicious and can literally turn into a federal case.
This saga is by no means the first in which a lowly employee who is discharged or accused of wrongdoing becomes a whistleblower that leads to headline-grabbing criminal charges against a company or a political figure. But it is a good reminder that those who cut corners or even commit crimes in organizations are vulnerable to the evidence collected by others in that organization.
As followers of trends in e-commerce, our firm takes a keen interest in new e-payment methods. Last year, we predicted the Bitcoin would emerge as an innovative mode of currency for online transactions. When Bitcoin – an alternative virtual currency – first appeared in the mainstream media, it was largely portrayed as a wonky, nerdy counterculture experiment in decentralized wiki-currency. Reports explained that it was based on digital cryptography, but few if any people actually understood the math and even fewer could explain it in language that was comprehensible to most of us. But things have changed, and it is a whole new Bitcoin world.
Recent reports actually treat Bitcoin like a part of the mainstream economy. Government officials testifying on Capital Hill warn legislators not to underestimate the value that Bitcoin brings to the economy. Even leaving aside the federal shutdowns of illicit sites like Silk Road (an eBay-like marketplace for illegal drugs), ever-growing numbers of businesses are accepting Bitcoin as payment. Online market Overstock.com and social gaming site Zynga.com have both indicated their intent to accept Bitcoin. The owner of the Sacramento Kings has announced that fans will soon be able to buy tickets and hot dogs using Bitcoin. And it even appears that it will be possible to make political contributions using Bitcoin – doubling down on the whole issue of transparency versus anonymity in campaign contributions.
So if your organization considers using or accepting Bitcoin, there are some significant considerations:
1. The value of Bitcoin is extremely volatile.
Individuals can exchange national (fiat) currencies for Bitcoin through a variety of exchanges that have popped up in response to the demand for such services. The prices on these exchanges vary considerably among themselves at any particular time, and the price of Bitcoin has fluctuated wildly over the course of the past year. One Bitcoin was worth about $13 a year ago (in January 2013); in November 2013, the price surged over $1000 per Bitcoin. For a period of time, people in China were reportedly using Bitcoin as a means to avoid currency restrictions in that country; when China issued a ban on Bitcoin, the price swooned, although it later recovered much of that value.
The volatility of Bitcoin obviously poses challenges for businesses that accept them. Some address the issue by setting prices in national (fiat) currencies, accepting payments in Bitcoin but exchanging them on a regular basis. Other businesses have proposed engaging in sophisticated hedging transactions to address this risk.
2. Bitcoin has regulatory uncertainty.
To even talk about regulations and Bitcoin feels like it cuts against the entire vibe of this alternative currency, but there is little doubt that it is coming. The Financial Crimes Enforcement Network (FINCEN) has stated unequivocally that Bitcoin exchanges (which exchange Bitcoin for fiat currencies) and most Bitcoin “miners” (which process Bitcoin transactions) must register as Money Services Businesses (MSBs) under Department of the Treasury regulations. And legislators in the U.S. Congress are unquestionably considering what regulations can and should be imposed on the currency in order to safeguard against abuses without extinguishing the innovation to which it is so closely tied.
3. Bitcoin is anonymous – sort of.
When Bitcoin first emerged in the public eye, it was ballyhooed – and demonized – because of its supposed anonymity. The belief that its users could indeed remain anonymous gave rise to marketplaces for drugs and murders for hire paid in Bitcoin. The rub is that Bitcoin is not entirely anonymous: The digital framework of the currency is that each transaction is recorded in the cryptography itself (preventing fraud such as spending the same Bitcoin twice), and it is possible in some cases to use that information to find one’s way back to a Bitcoin user. The combination of a belief in anonymity and the ability of law enforcement to identify users obviously poses risks related to anti-money laundering obligations of which businesses must be aware.
4. Bitcoin still has security issues.
The last, but possibly most serious, consideration about accepting Bitcoin is lingering questions about security. Bitcoin are balances (credits) assigned to “addresses” (random strings of letters and numbers) that are publicly available. To spend the balance associated with a particular “address,” a user must have the corresponding “private key” (a slightly longer random string of letters and numbers) and apply a digital signature that allows some portion of that balance to be transferred to another address. Thus, the security of Bitcoin relies entirely on the security of “private keys”: Anyone who gains access to a private key gains access to the Bitcoin balance associated with that key. Given the recent headlines about data security breaches, it is not hard to understand why there might be concerns about accepting a virtual currency that can be purloined simply by stealing digital data from a computer.
The likelihood is that it is simply too early to judge whether Bitcoin is simply a fad or a harbinger of a sea change in our notion of what constitutes money and currency in a global digital world. Businesses who are early adopters may garner significant gains – or they may get burnt by early “learning experiences.” Inside counsel are wise to advise their clients about the risks and benefits of Bitcoin so that business leaders may make wise choices about the decision to accept them.
A Massachusetts man, whose ex-girlfriend had a restraining order out against him, was recently arrested for sending her an invitation to join Google+. This unfortunate drama sheds light on the disparate impact of ordinary things.
According to the Salem News, after receiving a Google+ invitation, Tom Gagnon’s ex-girlfriend went to the police station with a copy of the invitation and the restraining order in hand. The police agreed that the invitation violated the terms of the restraining order; certain Massachusetts orders require that the defendant “refrain from contacting the plaintiff, unless authorized by the court.”The police obtained an arrest warrant, and Gagnon was arrested at his home roughly 90 minutes later.
In court, Gagnon’s counsel argued that the charges were “absolutely unfounded,” asserting that Gagnon had no idea how his ex-girlfriend received the invitation. Judge Brennan, of the Salem District Court,said that he didn’t know how the invitations work either. He set bail at $500, released Gagnon, and ordered him to comply with the terms of the restraining order. A status hearing is set for February 6.
The defendant’s argument is simple: he didn’t send the invitation; Google sent it “automatically” without his (express) consent; and he should not be held criminally liable for Google’s unauthorized actions on his behalf. The Court’s Model Jury Instructions on violations of such restraining orders indicate that Gagnonwill likely prevail – if he can show that the invitation was the accidental, incidental, or inadvertent result of an automated message from Google+. If, on the other hand, the government shows that Gagnon intentionally sent the invitation, he may be found guilty.
Separate from how this plays out in Salem District Court, this incident highlights very important issues for criminal defendants and social media companies more broadly.
For criminal defendants and others under court supervision, Gagnon’s experienceoffers a (relatively obvious) teachable moment: make sure you understand your account settings to ensure that you do not inadvertently land yourself in jail. Post-arrest exoneration is good, avoiding jail in the first place is arguably better.
For the social media companies themselves, the issues are knottier and the lessons more nuanced. Perhaps there is a fundamental disconnect between Google’s machinations of complete interconnectedness and their appreciation for how that could negatively affect users’ real lives. Indeed, persons under court supervision are marginalized, silenced, and regulated in ways that the “average” American never encounters. As a result, companies large and small may (inadvertently) fail to consider how seemingly innocuous product features might affect those customers’ lives.
The line between corporate and personal responsibilities is subjective, broad and hazy. Social media companies have a lot to consider when rolling out new technology, and they can’t think of every possible eventuality. But maybe, just maybe,this worst-case-scenario come to life will make them reconsider those default settings…
Last month, the Missouri Court of Appeals published its opinion holding that criminal defendant David Polk is not entitled to a new trial. Although the prosecutor may have acted improperly by posting trial updates via Twitter, there was no evidence that her updates swayed the jury to convict Polk. The court’s decision resolves a once-cold case that began in St. Louis more than twenty years ago.
In January 1992, Polk approached an eleven-year old girl on the street, then forced her to the basement of a vacant lot and repeatedly assaulted her. Soon after, the victim and her mother reported the crime to local authorities, who collected DNA and other evidence. After that, the case went cold. But three years ago, authorities were notified of a DNA match linking Polk to the crime. The investigation was reopened and culminated in Polk’s prosecution for forcible rape and forcible sodomy. A jury convicted on both counts, and Polk was sentenced to fifteen years on each count.
After trial, Polk asked the judge to dismiss the case or strike the jury panel. In support of his request, Polk submitted evidence that, during the time frame of the trial, Circuit Attorney Jennifer Joyce had posted inappropriate comments about the case on Twitter:
- Prior to jury selection, Joyce tweeted, “David Polk trial next week. DNA hit linked him to 1992 rape of 11 yr old girl. 20 yrs later, victim now same age as prosecutor.”
- During trial, Joyce posted two comments. In the first, she tweeted, “Watching closing arguments in David Polk ‘cold case’ trial. He’s charged with raping 11 yr old girl 20 years ago.” In the second, she tweeted “I have respect for attys who defend child rapists. Our system of justice demands it, but I couldn’t do it. No way, no how.”
- During deliberations, Joyce tweeted, “Jury now has David Polk case. I hope the victim gets justice, even though 20 years late.”
- Post-verdict, she tweeted, “Finally, justice. David Polk guilty of the 1992 rape of 11 yr old girl. DNA cold case. Brave victim now the same age as prosecutor,” and “Aside from DNA, David Polk’s victim could identify him 20 years later. Couldn’t forget the face of the man who terrorized her.”
According to the defense, Joyce’s comments not only violated the professional rules of conduct but tainted the jury verdict as well. But the trial court refused to dismiss the indictment or strike the jury, and Polk appealed.
In a decision published last month, the appeals court affirmed Polk’s conviction, but acknowledged that the Circuit Attorney’s posts were problematic. The court admitted that her comments may have violated the rules of professional conduct for prosecutors. The rule in question prohibits prosecutors from making out-of-court statements that stoke public sentiment against the accused unless they serve a legitimate law-enforcement purpose. Joyce’s tweets may have crossed the line. They did not appear necessary to inform the public, but highlighted evidence against the defendant, dramatized the victim’s plight, and referred to Polk as a “child rapist,” a term that was likely to arouse heightened public condemnation.
The Court of Appeals also noted that such posts have the potential to taint a jury verdict. But the law required Polk to show more than potential prejudice—he had to show that the extrajudicial comments “substantially swayed” the jury. Because he proffered no evidence that jurors were aware of, much less influenced by, the posts, Polk was not entitled to a new trial.
Jennifer Joyce is not the first prosecutor to catch flak for abusing social media. Cleveland prosecutor Aaron Brockler was fired after he contacted defense witnesses on Facebook and dissuaded them from providing alibi testimony. But the issue in that case was the prosecutor’s confirmed use of deception to influence trial witnesses. The issue in Polk’s case was whether the prosecutor’s tweets influenced the jury, as alleged. There was no evidence to that effect, so the conviction was affirmed.
The Cheyenne and Arapaho Tribes have filed suit against Secretary of the Interior Sally Jewell after the Department Interior blocked their effort to offer real-money online gaming to international customers.
The Tribes were prepared to launch Pokertribes.com after coming to a revenue-sharing agreement with the state of Oklahoma. Pursuant to the terms of the agreement, the Cheyenne and Arapaho Tribes were permitted to offer their online gaming to clients overseas, but were prohibited from offering gaming to clients in Oklahoma or elsewhere in the United States. Under the compact, the tribe would pay the state 4 percent of the first $10 million in annual net revenue from electronic gaming, 5 percent of the next $10 million and 6 percent of any subsequent amount, plus a monthly 10 percent from non-house banked card games.
However, the Department of Interior Assistant Secretary of Indian Affairs disapproved two versions of the plan, in August and November 2013 respectively, finding that the state of Oklahoma could not offer exclusive access to an international market and that therefore the state’s “concession is illusory” and it is not entitled to revenue sharing. Notably, however, the Department of Interior explicitly declined to “reach the issue of whether internet gaming as contemplated in the Agreement was lawful,” restricting the basis of its opinion to the fact that “the State has not offered a meaningful concession” sufficient to justify sharing revenue from the online games. Since the Department did not approve the agreement, Pokertribes.net is currently inactive.
The Cheyenne and Arapaho Tribe filed the complaint against the Department of Interior on December 26, 2013 alleging that its decision was arbitrary and capricious, an abuse of discretion, and otherwise contrary to law. The tribe seeks declaratory and injunctive relief to prevent further obstruction of the website’s operation. The case is currently pending before Judge Timothy D. DeGiusti in the Western District of Oklahoma.
Instead of trying to resolve this issue through litigation, we think the better path forward for the Tribes would be to use their political leverage to pass state legislation allowing the Tribes to offer intrastate online gaming to Oklahoma residents, as well as to players internationally. If the Tribes were successful in getting this legislation passed, their authority to offer online gaming would be derived from state law rather than tribal compact and would therefore preclude federal involvement. Offering gaming to Oklahoma residents as well as international customers would also resolve any concerns about the state’s allegedly illusory concessions.
As long-time observers of and participants in the internet gaming industry, we at Ifrah Law looked forward to 2013 as a year full of promise for internet gaming, particularly in the United States. In the end, industry progress in 2013 was mixed:
The year saw the enactment of online gaming in New Jersey and online poker in Nevada and Delaware, but also saw a district court judge and then a three-judge panel of the United States Court of Appeals for the Third Circuit block New Jersey from proceeding with sports betting. During 2013, a number of the individual defendants charged in the Black Friday case in the Southern District of New York settled their cases, and the former customers of Full Tilt Poker saw the beginnings of the remission process that is promised to return to them some or all of the money they had on deposit with Full Tilt at the time of the April 2011 seizures.
After a year filled with so many changes, we naturally are looking forward to see what will happen in theinternet gaming industry in 2014. Here are a few of our predictions:
This past year we witnessed the definitive shift away from an expectation that poker would be legalized through federal legislation, and toward state-by-state enactment of regulatory schemes for online poker. The limitation of the state-by-state approach, of course, is that the legalization of poker in a state only permits individuals in that state to play against other individuals in that same state. In a state like Nevada or Delaware with small populations (and small player pools), there will be significant pressure to increase player liquidity by executing agreements with other states that will permit individuals from all of those states to play against one another. It is very likely that Delaware, New Jersey and Nevada will enter into a multistate poker agreements with each other in 2014, and that any other states that enter the market will be close behind. To the extent that states other than New Jersey authorize online gaming other than poker, those agreements may also encompass other games such as slot machines. The result will be more people at the tables, bigger prize pools, and more competitive games. This, in turn, is likely to increase the popularity of the games, meaning more money coming in for the states to share. And more money will likely to encourage states on the sidelines to enter the market to get a cut of the earnings. These latecomers may actually rely on the established regulatory bodies – such as those in New Jersey and Nevada – rather than creating licensing and regulatory infrastructure in their own states.
It seems obvious to us that other states will want to tap into online poker or gaming as a source of revenue. But it is less clear which states will make the move – particularly the states with massive markets like California. With a population of some 38 million people, California has nearly five times the population of New Jersey and more than a dozen times the population of Nevada, making it potentially the most lucrative online market in the United States. So will California join the fray in the coming year? Odds are even; numerous bills have been discussed in the past, but the state will have to start accelerating its legislative agenda in order to get anything off the ground in 2014. The prominence of tribal gaming in California poses special challenges, as the Native American tribes – who view gaming as their special prerogative –will undoubtedly demand a significant share of revenues. The only certainty is that, if California does enact online gaming, the size of its population will permit it to dictate to other states the terms of interstate agreements for its players.
Hail Mary Pass
No list of predictions for the year would be complete without calling one longshot. In 2012, New Jersey attempted to enact sports betting in its casinos, but progress was barred after a suit by the National Collegiate Athletic Association and professional sports leagues under the Professional and Amateur Sports Protection Act (PASPA). The past year saw the district court issue its injunction in NCAA v. Christie, and a federal appellate court uphold that prohibition. This year we will see whether the United States Supreme Court will take the case and, if so, how it will rule. The case poses just the kind of issues that the Supreme Court often addresses, including the balance of power between the power of the federal government and the rights reserved to the state by the United States Constitution. If the Supreme Court were to hear the case and rule in favor of New Jersey, intrastate sports betting would undoubtedly soon begin, and be followed soon thereafter by online sports betting. But the numbers do not lie: The Supreme Court historically acceptsfewerthan one percent of thecases it is asked to hear. In the end, we have to concede that a favorable ruling from the Supreme Court is a bit of a HailMary pass. But like its football namesake, to watch it happen can be awfully exciting because of what is at stake.
Here at Ifrah Law we will be keeping a close watch on developments in 2014 so that our clients may benefit from all of the new opportunities that are sure to appear in the online gaming industry.
Appellate courts do not often reverse a trial judge’s decision to grant a new trial, so we took notice when the First Circuit did so in United States v. Carpenter. Given the case history, the First Circuit decision should help to answer an important question: How much leeway do prosecutors have when summarizing evidence in closing arguments?
In 2005, a jury convicted Daniel Carpenter on nineteen counts of wire and mail fraud. The charges pertained to Carpenter’s operation of Benistar, a company that handled “like kind” exchanges for owners of investment property. Under federal law, investors may defer capital gains on the sale of investment property if they exchange it for another property of like kind. In order to qualify, the seller or “exchangor” must complete the exchange within 180 days of the initial sale and must not take possession of sale proceeds in the interim. To meet the requirements, exchangors usually rely on a qualified intermediary to hold the exchange funds until they are reinvested. Benistar’s business as a qualified intermediary gave rise to the charges against Carpenter.
The government alleged that Carpenter obtained investors’ exchange funds by fraud. At trial, the prosecution argued that Carpenter persuaded investors to contract with Benistar by misrepresenting that their funds would be managed conservatively for a modest return of 3 to 6%. According to prosecutors, Carpenter made the representations knowing full well that the money would be used for high-risk trades. The jury apparently agreed, returning a guilty verdict on all counts.
Carpenter requested a new trial, which the trial judge granted due to the government’s repeated use of a gambling metaphor in closing arguments. The court noted that the evidence against Carpenter was sufficient for a conviction, but not overwhelming. The government may have tipped the scales by arguing that Carpenter had gambled with investors’ money hoping to make millions for himself. It was possible the jury convicted based on moral disapproval of gambling rather than evidence of fraud.
In a divided opinion, the First Circuit affirmed, largely deferring to the trial court’s assessment.
At the end of the re-trial, the government omitted the gambling metaphor, focusing instead on Benistar’s marketing materials, contracts with investors, and Carpenter’s profit motive. Again, the jury returned a guilty verdict on all counts having deliberated for roughly two hours.
At Carpenter’s request, the trial judge ordered a third trial, but not for reasons advanced by the defense. This time, the judge was troubled by the jury’s two-hour deliberation. He observed that it would be nearly impossible for jurors to walk through the evidence for nineteen different counts in two hours. They must have taken a shortcut. Thus, the judge ordered a new trial on grounds that the prosecutor had invited jurors to employ certain presumptions based on mischaracterizations of evidence. For one, the government implied that Benistar’s marketing materials made express misrepresentations about the safety and security of investor funds. In reality, the marketing materials supported only an inference to that effect. The government also invited jurors to presume that qualified intermediaries are prohibited from using exchange funds for high-risk trades, when that is not the case. Moreover, by emphasizing Carpenter’s profit motive, the government may have encouraged jurors to convict for “greed” rather than fraud.
On appeal, the First Circuit disagreed and reinstated the guilty verdict. A unanimous panel held that the prosecution’s statements were permissible summations of the government’s theory of the case, not mischaracterizations of record evidence. The government had argued that Carpenter took in millions based on false pretenses that Benistar would keep the exchange funds safe and secure. That argument was not improper, as the trial court found, because the prosecution followed it with a discussion of specific evidence supporting that conclusion. Similarly, the government argued that “like kind” transactions are typically conservative—not so the jury would convict based on some imaginary statutory violation or breach of contract, but to establish that Carpenter knew Benistar’s risky investment strategy differed from investors’ expectations. And the government’s references to Carpenter’s profit motives were equally permissible. Those comments went to prove Carpenter’s specific intent for the fraud, which was to make more money.
A comparison of the two appellate decisions suggests that the district court erred because it failed to see the forest for the trees. By treating each of the government’s questionable statements in isolation, the court found support for a new trial. But the statements had to be considered in context. In context, the prosecution’s comments were not mischaracterizations of evidence but main points of the government’s theory, which the prosecution supported from the record.
Given Carpenter’s pro-defense trial judge, it’s unclear why the defense opted for a third jury trial. In hindsight, Carpenter may have fared better by ditching the jury request in favor of a bench trial.
By: Karl Smith and Casselle Smith
The value of Bitcoin, the hottest and most widely traded virtual currency, plunged a little over a week ago, after China’s central bank issued a statement that the government is banning financial institutions from trading in the virtual currency.The price of a single Bitcoinfell from roughly $1200 on December 5th to less than $600, early morning December 8th. Thereafter it recovered somewhat selling for around $700 as of December 16. At the time of this posting (12/18), the price had fallen once again to $571.
This time last year, Bitcoin were selling for roughly $13 apiece. Economists and financial experts have struggled to explain the meteoric rise price to investors and to a public increasingly interested in the virtual currency. In many ways, the soaring price for Bitcoin looks like a classic bubble: Speculators pay out of the nose for Bitcoin, hoping to unload them to an “even greater fool” who will come along later with the same plan. At first blush, this type of bubble appears to resemble a pyramid scheme that must inevitably collapse once all potential speculators have bought in.
Bitcoin, however, has important features that differentiate them from other bubble-prone assets. The fact that the crash coincided with a change in policy from the Chinese government makes it even more likely that the special features of Bitcoin have played an important role in their use.
The design of Bitcoin allows for almost completely secure and anonymous transactions. Users don’t have to trust that a bank or other financial intermediary will keep their information secret. For the most part, the very nature of a Bitcoin transaction does this. Consequently, the currency has attracted substantial interest from users engaged in illicit transactions. Some of these are of the kind familiar to American readers. The website Silk Road, for example, specialized in selling narcotics and accepting Bitcoin as payment; it has been shuttered by U.S. law enforcement.
The Chinese government’s ban on Bitcoin arose from a different sort of illicit transaction that is less familiar to Americans because it are designed to get around regulations that the United States does not impose… Here’s the rub: the Chinese government limits its citizens’ ability to invest outside of the country because it wishes to provide a large pool of capital available to Chinese industries. Since Chinese investors have limited choice, Chinese banks can offer them paltry rates of return that guarantee that the value of their investments will fail to keep up with inflation. Naturally, Chinese investors wanted a way out, and many of them turned to Bitcoin.
Chinese investors would buy Bitcoin using the local currency, the Yuan. They would then transfer the Bitcoin to a bank or other financial institution outside of China and have that institution sell the Bitcoin and invest the proceeds outside of China. When the investor was ready to cash in, she would simply instruct the financial institution to sell the foreign investments, use the proceeds to buy Bitcoin, and then transfer the Bitcoin back to her.
This loophole allowed Chinese investors to earn higher rates of return without being caught by the authorities. For a time, the Chinese government allowed the loophole to remain open. On Wednesday, however, the Chinese government banned financial institutions and, importantly, online platforms like Biadu.com, from doing any business in Bitcoin. Baidu is a Chinese search engine that, like Google,forms the backbone of how users connect online. Without Baidu’s help,finding someone to buy or sell Bitcoin in the first place becomes exponentially more difficult.
Fear that the Chinese market for Bitcoin would dry up seemed to lead speculators to dump the currency following the announcement. It also exposes the fundamental weakness of Bitcoin: while they allow enormous anonymity for users, connecting with a broadbase of other users requires using a platform which almost necessarily does not seek anonymity. If it did, potential users would not know of their existence.
Regulators don’t have to crackdown on users themselves but simply on the websites and platforms that connect them.
There is no readily apparent US or European analogue to the Chinese monetary policy that motivated the country’s crackdown. Hence, China’s stance does not necessarily indicate that an international sea change is afoot with respect to the legal nature of Bitcoin and other emerging virtual currencies. Nonetheless, to the extent that Bitcoin’s surge in value was precipitated by Chinese investors’ thirst for international investment capabilities, the recent crash highlights the currency’s deep vulnerability to changes in financial regulation around the world.
Karl Smith is the Creator and Chief Curator of Modeled Behavior, a leading international finance and economics blog currently hosted on Forbes. He blogs mostly on macroeconomics, rationality, philosophy, and futurism.
Supreme Court Grants Cert to Resolve Circuit Conflict on Intent Required to Prove Federal Bank Fraud
On December 13, 2013, the United States Supreme Court granted a certiorari petition in a case that squarely poses the question of what the government must prove with respect to intent in order to convict a defendant of federal bank fraud. There is wide agreement among the Courts of Appeal that, in order to secure a conviction under Title 18, United States Code section 1344(1) (making it illegal “to defraud a financial institution”), the government must prove that the defendant intended to defraud the government and to expose it to a risk of loss. With respect to subdivision 2 of the statute, however (making it illegal to obtain money and the like of a financial institution “by means of false or fraudulent pretenses, representations, or promises”), the Circuits are split six to three – with the First, Second, Third, Fifth, Seventh and Eighth Circuits holding that the same intent requirement applies under either subsection of the statute, and Sixth, Ninth and Tenth Circuits holding that subsection 2 establishes an independent crime that requires only intent to defraud someone (and not necessary a bank) and some nexus between the fraudulent scheme and a financial institution.
In the case in question, Kevin Loughrin v. United States, the defendant was convicted of bank fraud arising from a scheme to make fraudulent returns at a Target store despite the undisputed fact that he did not intend to cause (nor actually caused) any risk of financial loss to the bank. The Tenth Circuit acknowledged that it took the minority view of split Circuits, but nevertheless upheld the conviction, and Loughrin filed a petition for certiorari to the Supreme Court. In his petition, Loughrin emphasized that having different standards for each subsection regularly led to opposite results in factually similar cases.
The Court’s decision in this case could be a game-changer for the way in which prosecutors use the federal bank fraud statute. In many cases – for example, the Black Friday poker cases in the Southern District of New York – bank fraud charges pose the most serious consequences for a criminal defendant but are asserted in cases in which there is no intent to expose the financial institution to loss. A change in the law will change the way such cases are charged by prosecutors, and alter the dynamics of how such cases are negotiated and tried. Whatever the Court’s ultimate decision on the issue, it will bring badly needed clarity to this area of the law.