Psychology of Fraud

The 2022 ACFE Women’s Summit opened with a group of panelists well-versed in the first topic — the psychology of fraud. As fraud examiners, one of the biggest questions we ask ourselves is why people commit fraud. Andi McNeal, CFE, CPA, director of research at the Association of Certified Fraud Examiners (ACFE) framed that question with more direction at the start of the session: “What ultimately leads someone to cross that ethical line, and how do they keep motivating themselves to continue their crimes?”

The general assumption tends to be that fraudsters are motivated by greed, but the panel of experts offered some additional insight. According to Christie Hayne, PhD, an accounting professor at the Gies College of Business at the University of Illinois, only about half of fraud is financially motivated, with the other half being either a social motivation or a combination of social and financial motivations. Sherron S. Watkins, the Enron whistleblower and professor at Texas State University, opined that a big motivating factor in Enron’s fraud was the desire to please a boss. Diana B. Henriques, former journalist for the New York Times covering white-collar crime and author of "The Wizard of Lies," offered another idea — pride and vanity. According to Henriques, those were key motivators for Bernie Madoff. “Like we need oxygen, he needed admiration.”

When asked about the “superpowers” needed to commit fraud on a grand scale, both Henriques and Watkins spoke about fraudsters’ capacity to inspire trust. Watkins offered examples from her time at Enron—specifically centering around clients wanting only to speak to Jeff Skilling, as he was the one they trusted beyond anyone else. Henriques pointed out that someone unable to inspire trust will never be a successful fraudster. While this isn’t necessarily a part of the “why” people commit fraud, it does lean into the “how.” The fraudster must be skilled at manipulating others, which requires their trust above all else. To be successful, they need to offer a sense of safety that overcomes an investor’s fear in a confusing market, thus manipulating the balance of power between the fraudster and the victim.

Expanding on the role fear plays in facilitating fraud, Watkins described a situation at Enron referred to as “rank and yank,” where employees were awarded bonuses, or fired, based on not only their successes, but also their ability to keep the peace. This process, she said, instilled a fear into employees about losing their jobs, so their best bet was to ignore red flags and practice passive allowance. It’s human nature to believe that as long as everyone is saying it’s okay, then it must be okay — and this is a concept the higher ups at Enron took advantage of in concealing their scheme. Hayne expanded on the concept of fear, adding other complex factors — such as rewards, a culture of normalization, an absence or lack of enforcing a code of ethics and more — that all combine to create a situation where those who aren’t actively committing fraud are stuck in the situation or blind to reality.

Hayne dove into the ability to rationalize one’s actions as a fraud superpower. She offered the following types of rationalization — all of which Henriques and Watkins agreed were present in their respective experiences.

·       Moral justification – having a moral purpose, the idea that they’re just trying to help someone

·       Advantageous comparison – to make yourself feel better about your bad act, compare it to a more significant act; there’s always a worse act

·       Euphemistic labeling – convoluted or confusing language to make a bad act sound better

·       Minimize/ignore/misconstrue the consequences – believing their act really isn’t that big a deal

·       Denying the victim – believing that the victim had it coming

·       Displacing responsibility – placing blame on someone else

·       Diffusing responsibility – sharing or spreading the responsibility in order to normalize the behavior

While the ability to inspire trust can enable one to commit fraud, it can also allow one to be a successful leader. What factors can determine whether someone becomes a fraudster or a CEO? Hayne presented the “dark triad,” a list of key factors that fraudsters tend to rank off the charts in compared to their peers: psychopathy, Machiavellianism and narcissism. These factors tend to determine whether someone will use their skills of inspiring trust to lead or manipulate. In discussing how organizations are affected by the dark triad, Henriques brought up the “star system,” where if you’re the star, you can do whatever you want. This endemic culture can lead to fraud when the manipulator is allowed to slide on the rules because they’re “special.” Watkins discussed the “rainmakers” at Enron getting away with everything, and how deeply that denigrates the culture of the organization. A leader who puts the organization above the “star” is going to be better able to avoid fraud in the organization.   

 “What is it about those who don’t cross the lines when it comes to trust?” Watkins asked. Hayne discussed the research she’s done in this regard, stating that the view of the world, and what is good and right, is significantly different between those who want to do well and those who want to commit fraud. There are things organizations can implement that will support the former in maintaining a resistance against fraud, though they are not found to make a difference in someone who may rank higher on the dark triad. These key controls, which center on support and accountability, are:

·       Access to mentorship

·       Professional authority and an allegiance to company

·       A generally good and positive company culture

·       A good manager/management style

·       External audit

As the ACFE Women’s Summit was held on International Women’s Day, the panel would have been remiss to not discuss the varying degrees of propensity to commit fraud between sexes. According to research, men display more relational or social red flags — such as unusual relationships with vendors or bullying — whereas women present more financial or familial/marital red flags. However, men are more likely to commit fraud on a grand scale versus the frauds committed by women, and the panelists discussed the possible reasons behind this.

Both Henriques and Watkins mention never “fitting in” as women in the financial sector, therefore making them less afraid to stand out by not taking part in nefarious deeds or blow the whistle. Putting a woman in the room upsets the “old boys club” mentality that may otherwise be present, and if she’s never been in the club, a woman isn’t afraid of getting kicked out of it. Watkins mentioned a possible motherhood gene, or an instinct to “look after” the company. Hayne brought up that the lack of data presents a challenge to truly understanding the differences, but discussed a small piece of research done on board diversity of companies in China — the findings of which seem to echo Henriques’ and Watkins’ experience-based assumptions. The research found:

1.       Gender diversity on the board decreases frequency of fraud

2.       The stock market response to fraud with a diverse board is less pronounced

3.       Women are more effective in male-dominated industries in reducing the frequency and severity of fraud

In closing, the panel discussed what works in deterring fraud. There’s no one size fits all answer, but a few key takeaways are strict enforcement of a code of ethics; availability, response to and appreciation of a whistleblower hotline; the “story” a company tells; and the compelling evidence that mentorship is highly effective in preventing and deterring fraud.