What Will Deter Insider Trading?

Longer prison sentences, like Rajaratnam's, don't necessarily have a greater impact. Maybe we should try public shaming

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Mario Tama / Getty Images

Galleon Group founder Raj Rajaratnam after being sentenced to 11 years in prison for insider trading.

Before last week’s high-profile sentencing of Raj Rajaratnam, who was convicted of masterminding the biggest hedge-fund insider trading scheme in American history, federal prosecutors urged U.S. District Judge Richard Holwell to give him at least 20 years in prison “to send a clear and unequivocal message that illegal insider trading will not be tolerated.” Judge Holwell imposed 11 years — a relatively long sentence compared to insider-trading-Hall-of-Famers such as Ivan Boesky, who served only two years in federal prison. An analysis in the Wall Street Journal reveals that those convicted of insider trading recently have been facing considerably harsher sentences than their predecessors.

But there is ultimately little reason to believe that the “message” delivered by Rajaratnam’s sentence would be any different if his prison term was a couple of years or a couple of decades. Recent analysis of dozens of deterrence studies conducted by Valerie Wright of the Sentencing Project details that “marginal” increases in punishment severity — adding years on to a prison term — does not consistently result in greater deterrence. The research shows that the certainty of punishment, rather than its severity, as well as how particular punishments are perceived, that most greatly impacts whether criminal sanctions deliver a potent “message” to would-be lawbreakers.

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I fear that the real “message” emerging from the Rajaratnam case could further undermine deterrence of corporate crimes. The extraordinary media attention given to this single case creates the impression that criminal prosecutions for those on Wall Street are still very rare. Moreover, nearly half of the few dozen defendants sentenced for insider trading in recent years avoided serving any prison time by being quick to cooperate with the government once caught with their hands in the corporate cookie jar. Add to this mix the perception that prison is “Club Fed” for prominent offenders — as well as the post-prison successes of high-profile offenders involved in past corporate scandals like Martha Stewart and Michael Milken — and it remains dangerously easy for those on Wall Street to convince themselves that very few get caught for transgressions and that even fewer really suffer dramatically if caught. Though Rajaratnam’s lengthy prison term will ensure he will for many years suffer the consequences of his unlawful behavior, that suffering will take place in private behind prison walls; it’s likely that, well before the end of Rajaratnam’s incarceration, his crimes and his sentence and even his name will be long forgotten.

For this reason, I wonder whether our legal system might better deter white-collar crime by imposing extensive shaming sanctions rather than extensive prison terms. What if, after perhaps a couple of years in prison, Rajaratnam was required every business day to ring the opening bell at the stock exchange while wearing his prison jumpsuit? What if Martha Stewart’s magazines and televisions shows had to include an image of Stewart eating in the federal prison’s cafeteria along with other convicted felons when she was imprisoned? What if all people convicted of a white-collar offense were required for decades to post a large sign on their lawns that highlighted to all that the resident inside did not always play by the rules?

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A variety of shaming sanctions were widely used during the 18th Century in America, in part because prisons did not then exist and in part because shaming was viewed as a humane alternative to the death penalty, banishment or brutal physical punishments. More recently, academics have debated the potential virtues and vices of modern shaming sanctions — often after a judge has ordered a shoplifter to wear publicly a sign saying “I am a thief” or a police department has published drunk drivers’ names on billboards. Because we have never tried to make white-collar offenders “pay” for their crimes through extensive and prominent use of shaming sanctions, I cannot say with confidence that this alternative form of punishment will be more effective. But because deterrence research suggests very long prison terms for white-collar offenders may greatly extend their suffering (and taxpayer-funded imprisonment costs) with no corresponding benefit to society, I think it is time to start considering creative alternatives.

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