Even when you win, you lose. And someone nobody knows gets hurt.
That’s the rule when it comes to a regulator’s investigation. A good example is the apparent triumph over the Federal Energy Regulatory Commission by a pair of twins in the energy business, Kevin and Richard Gates.
Way back in 2010, FERC began looking into whether funds led by the Pennsylvania-based brothers had defrauded the market by executing sham wash trades to collect millions in rebates to which they were not entitled. Last August, three years in, the FERC released an ominous preliminary-findings report that the brothers’ funds, Huntrise Energy and Powhatan Energy, had in all likelihood engaged in fraud. Nor of course were the Gates brothers alone: Other companies, such as JP Morgan, were agreeing to pay hundreds of millions in penalties to FERC, all redounding to the glory of the director of the FERC’s enforcement wing, an attorney named Norman Bay.
The feisty Gates twins, a sort of Winkelvoss brothers of energy, were different. They fought back by launching a counter-investigation of their own. The pair hired the lead experts in the field, including former SEC and energy regulators, to submit position papers on whether their case constituted fraud. The experts found little evidence of fraud. The former chief of enforcement at FERC, Susan Court, put it simply: “Everyone knew what was going on; there was no deceit.” William Hogan of the Kennedy School at Harvard, one of the architects of deregulation of electricity, pointed to an irony: The Gates companies made money off a feature in the market that had been vetted and created by the FERC itself. Though the Gates brothers had heard plenty from the FERC before their counter-investigation, suddenly there was radio silence from the agency. A laudatory profile of the Gateses in the Wall Street Journal seemed to assure the brothers’ conquest.
But such visions of victory obscure the injury sustained by figures in the shadows of such investigations. The philosopher Frédéric Bastiat wrote once of two groups of people: “the seen,” who benefit from a government project, and “the unseen,” those who are hurt by the same project. This story is about a specific group of “unseen” that is rarely recognized: immigrants.
Starting with a trader named Alan Chen — born in China’s Zhejiang Province, Chen earned a Ph.D. in power engineering before coming to the United States. Eventually, he began to trade energy. Chen lives with his wife outside Houston in the small city of Conroe. They have a daughter named Jessica, who is now eleven. Chen’s work with the Gates brothers began in 2008, around the time that this happy photo of his family was snapped.
The FERC works with so-called regional transmission organizations, or markets, that oversee trading in various sections of the country. After a few years together, Chen and the Gates brothers discovered exactly what the experts noticed: that various rules established by the organization or market that governed their area, called PJM, enabled some trades to collect profitable rebates. Just to be sure he understood the anomaly, involving what are known as transmission loss credits, Chen actually telephoned PJM authorities to check whether he could make trades that produced rebates. This is not the behavior of a fraudster.
As Susan Court, says: “Alan Chen played by the rules, by the rules approved by the very government that is now prosecuting him for supposedly manipulating the rules. It is circular, and it doesn’t make any sense.”
Chen proceeded to trade, and he committed what was probably his true sin: He made money for the funds through the trades. “In business, you have some agreements, some rules, some contracts,” Chen recalled in a phone call with me. That is, there is such a thing as rule of law, and you respect it. But while Chen followed the rules and raked it in, the FERC began to change its collective mind. And authorities did not simply change the rules so that this kind of rebate was no longer possible; they went after the Gates brothers and Chen for deriving cash from trades made during the period when such trades were perfectly legal. Of course a serious investigation like this idles talent: Instead of trading, he was defending himself. Four years in, Chen is still doing so. “It’s a different world” than he expected, Chen says. He has learned that there are rules on paper, and then “there are some rules unwritten, and you have to guess what FERC are going to do.”
The details Chen gives about his life will sound familiar to anyone, whether immigrant or Mayflower descendent, who has been scrutinized by a federal regulator. It doesn’t matter much whether that regulator is the FERC, the IRS, or the SEC. The cloud of the investigation hangs over him: “It’s very humiliating,” Chen says, reporting that he finds himself staying at home a lot. “I cut myself off.” If and when he and the Gates brothers are completely cleared, Chen will be able to work again. But right now he can’t: He feels he must tell anyone who approaches him about the investigation. Total clearance might be years hence. No one can give back to Chen’s family the productive years that were taken by the wash-trade investigation.
Regulators lay their traps, more and more of them these days. One of the sad realities is that many of those caught are immigrants such as Chen. Some immigrants have broken the law, such as Raj Rajaratnam of Galleon Group, sentenced to a record eleven years for securities fraud. Of course immigrants, or for that matter any ethnic group (think of Jeffrey Madoff), are susceptible to what the regulators call “affinity fraud.” By this, they mean that newer Americans sometimes do whatever their community does, occasionally without stopping to consider the legality.
Yet other immigrants simply find themselves stuck in a gray area between what is illegal and what is simply aggressive, as Anita Raghavan details in her perceptive book on South Asians and scandal, The Billionaire’s Apprentice. As Raghavan shows, the South Asians who remained standing after the Galleon scandal were usually working as either regulators or prosecutors.
In any case, whether criminals, illicit actors, or saints, immigrants entering the financial sector have an advantage over the rest of us. Coming with new eyes, they see more clearly what’s wrong. They notice what doesn’t make sense, the weakness of the principles behind some laws, especially insider trading or antitrust laws. They see where companies are behaving illogically or playing the thug. They see when government regulators favor one firm over another, as was the case with Goldman, big-time, in 2008. Michael Lewis captures some of this in his book Flash Boys, which describes the case of Sergey Aleynikov, a former Goldman Sachs employee targeted and eventually imprisoned for theft of code.
We must find a way to utilize immigrants’ unique insight instead of simply prosecuting it. As it stands, the message to talented newer arrivals is clear: It’s safer to be a regulator than to be the one regulated. Norman Bay, the Asian-American boss of those who handled the Gates case, is not being investigated. Indeed Bay’s promotion to FERC head was endorsed by the Senate energy committee just this week.
In support of Bay’s nomination, a former chairman of the committee, Senator Pete Domenici (R., N.M.) testified that Bay “typifies the American dream.” You have to wonder what such praise sounds like to eleven-year-old Jessica Chen.
— Amity Shlaes chairs the board of the Calvin Coolidge Presidential Foundation.