Just a Little Bit of Fraud

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Out of principle, I don’t play the state lotteries. If I were to win, I suspect I would be in the position of the Orthodox Rabbi who snuck in a game of golf on the Sabbath and hit a hole-in-one. Who could he tell?

Nonetheless, there are many reasons to oppose state lotteries, which still do not provide the odds that the old "numbers" games run by the Mafia used to have. The "numbers rackets," of course, were illegal; state lotteries are promoted everywhere one can turn, even though they are inferior to what the "criminals" offered.

However, until today, I did not realize that maybe the real criminals reside in the lottery offices. This bit of news confirmed my lack of desire to purchase lottery tickets, although I always have been under the impression that while the odds are stacked against those who purchase tickets, nonetheless there is a least a "1" on the left-hand-side of the fraction, as in "1 in 1,000,000." However, I now realize that in many cases, the proper number is "0," as in "no mathematical chance whatsoever."

According to news accounts, this is the situation in many states:

NEW YORK (CNN) — When Scott Hoover bought a $5 scratch-off ticket in Virginia called “Beginner’s Luck” last summer, he carefully studied the odds. Even though he figured his chances of winning were a long shot, he felt the odds were reasonable.

Hoover, a business professor at Washington and Lee University in Virginia, wasn’t surprised when his tickets didn’t bring him the $75,000 grand prize, but he was shocked to learn the top prize had been awarded before he bought the ticket.

“I felt duped into buying these things,” Hoover said.

He discovered the Virginia State Lottery was continuing to sell tickets for games in which the top prizes were no longer available. Public records showed that someone had already won the top prize one month before Hoover played. He is now suing the state of Virginia for breach of contract.

“It’s one thing to say it’s a long shot to win the $75,000, but it’s another thing to say you have no shot to win it,” said John Fishwick, Hoover’s attorney.

Through a request filed under the Freedom of Information Act, Fishwick’s firm was able to obtain records that showed the Virginia State Lottery sold $85 million in tickets for which no top prize was available. Fishwick says the state should pay $85 million in damages.

Now, imagine that a brokerage house on Wall Street was operating a mutual fund for which those who purchased the shares not only were receiving zero return, but also could not get their money back once they put it in. Furthermore, assume that the operators of this fund were advertising that "investors" could receive fabulous returns far in excess of what they put in, even though they knew those returns did not exist.

It would not take long for government agents to swoop in on that fund and lead the fund managers in handcuffs to waiting patrol cars. There would be no letup in the public and media condemnation of these scoundrels and a federal jury would convict them and a judge would have them sentenced to a few thousand years in federal prison.

However, what will happen in Virginia and other states that have openly defrauded people who purchase lottery tickets? Nothing. Read on:

Paula Otto, executive director of the Virginia State Lottery, said the state’s games are fair and the top prize money is actually a small percentage of the money given out to lottery players. Most of the players win through the second, third or fourth-place prizes, she said. Otto also said it’s no longer possible in the state of Virginia to purchase tickets with no top prizes available.

“We absolutely have always been very open and honest with our players about the way our scratch tickets are distributed,” Otto said. “Yes, there were times when there was a scratch game out there that might’ve said “zero” in terms of the number of top prizes, but our players knew that.”

Otto would not comment on the lawsuit, but said she stands by the integrity of the games in Virginia and looks forward to vigorously defending them.

Virginia isn’t the only state to sell tickets that have no top prizes available.

USA Today estimates that about half of the 42 states that have lotteries were, as of early July, continuing to sell tickets after the top prizes are claimed.

Lottery officials from some states say the practice is fair because lesser prizes are still available, and they say tickets and lottery Web sites make that clear.

In New Jersey, tickets for the “$1,000,000 Explosion” scratch-off game were still on sale last week, even though the million-dollar grand prize was already awarded.

Lottery ticket buyers outside a New Jersey convenience store were stunned to hear the news.

“Oh really? I didn’t know that,” one shopper told CNN. Another added, “That’s just not right.”

Dominick DeMarco, a spokesman with the New Jersey Lottery, said information about winning tickets and prizes is readily available on the lottery Web site and at retail outlets. However, officials are still looking for ways to improve on their procedures.

Still, Hoover hopes his lawsuit will alert lottery players in all states to be careful before they place their bets.

It is obvious that the "players" who purchased zero-return tickets did not know about the fact they were buying a pig-in-a-poke, despite what the lottery directors might say. And don’t think for a second that knowledge of risk by purchases of fund shares would save the mutual fund directors from being convicted and imprisoned. Moreover, even if "players" could win smaller prizes, the fact that an unwinnable grand prize was front-and-center in the advertising makes the sales fraudulent.

So, what is to be made of this situation? The government holds state lotteries and their leaders to much different standards than it holds for people working in private businesses. No lottery spokesperson or director will receive a visit from a federal or state law enforcement agent. No prosecutor will seek indictments, and no jury will convict, and no judge will sentence.

The next time someone is hauled out of a Wall Street office in handcuffs, as was the recent case with Ralph Cioffi and Matthew Tannin, formerly of Bear Stearns, remember that federal authorities are making claims against them that they never would make against their own, no matter how dishonest or egregious the behavior. In the case of Cioffi and Tanner, prosecutors cherry-picked emails that they sent each other regarding concerns about the funds, conveniently leaving out the other emails that told a story that contradicts what the prosecution is claiming.

(While it is true that Cioffi took $2 million in personal funds out of the hedge fund he was helping to manage, he put that money in another Bear Stearns fund, but left $4 million of his own money in the original hedge fund, something the ancients once called diversification. The prosecution and the New York Times did not see fit to share that tidbit of information with the public.)

One can bet that there will be no public vilification of these crooked lotteries. The New York Times will not demand indictments, and federal prosecutors will oblige, choosing to target others. Thus, the fraud will continue, blessed by the politicians, the prosecutors, and the judges.

July 9, 2008

William L. Anderson, Ph.D. [send him mail], teaches economics at Frostburg State University in Maryland, and is an adjunct scholar of the Ludwig von Mises Institute. He also is a consultant with American Economic Services.

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