Umit Gurun is Associate Professor of Accounting at the University of Texas at Dallas. This post is based on an article authored by Professor Gurun; Noah Stoffman, Associate Professor of Finance at Indiana University, Bloomington, and Scott Yonker, Assistant Professor of Finance at Cornell University.
When the massive Ponzi scheme orchestrated by Bernie Madoff collapsed in December 2008, its effects were immediately felt by a large number of charities, universities, wealthy individuals who altogether disclosed investments of more than $20 billion with Bernard L. Madoff Investment Securities LLC.
In our paper, Trust Busting: The Effect of Fraud on Investor Behavior, which was recently made publicly available on SSRN, we argue that this fraud had effects far beyond the direct investments that were lost by thousands of victims. Public trust in the financial system was affected, especially among people who lived close to Madoff victims. This “shock” to trust could have arisen from a heightened awareness of the fraud either through social connections to victims, or increased coverage by local media in areas with many victims. Indeed, across states, the amount of searching on Google for the term Madoff is highly correlated with the concentration of victims in that state. Moreover, Gallup survey data indicate that people who lived closer to Madoff victims reported larger declines in confidence in the criminal justice system than did others.
