Check Kiting Remains an Unsolved Problem

Yes Virginia, kiting really is a problem, and a down economy makes it worse. I'm disconcerted by the attitude that it's not a big deal, there is little risk. Many feel like the customer is basically a good guy with some bad habits. "They'll make it good, they always do.” Is a comment I hear all too often. Let's try and look at kiting from a different perspective, and see how it changes the picture.

We can start off with negative balances being reported to the Fed as assets, not liabilities. As such they represent a credit risk. When a customer kites they are using the bank's money, not theirs. They are taking an unnegotiated, unsecured loan. The bank is taking the risk, is not getting compensated for doing so, and doesn't even know it is happening (at least on an individual account basis) unless they detect the kite. The worst possible scenario; I'm taking a risk without knowing it, and it involves my core business – lending. Ouch!

As I see it there are three kinds of kiters,

• The accidental kiter, who through miscalculation, bad timing, or sloppy record keeping goes negative for a day, maybe two. These folks are embarrassed, and correct the problem as soon as possible.
• The circumstantial kiter, who will kite to get out of a cash flow jam. This, in my opinion is actually the most dangerous kiter. Success encourages continued bad behavior. They know it's wrong but they don't intend to steal, they just want to get over this rough spot. (Ever notice how rationalization is the acceptance of irrational arguments?)
• The intentional kiter whose intent is to defraud the bank and steal. These guys can do significant damage, like the $12 million loss reported in the fraud news feature in this blog. Luckily this doesn't happen a lot, though I suspect more than we think – or are willing to admit.

Two things happen in a down economy. First, the lines between the categories above blur, with upward mobility being demonstrated, and there are more instances in all categories. Second, there is a higher incidence of kite losses. The upward mobility is especially a problem between the circumstantial kiter and the intentional kiter. Some (maybe many) intentional kiters are circumstantial kiters that got in over their heads and can't work their way out. While their original rationalization was that this is a temporary thing, they are now committed to a kite scheme. This is when the large losses occur. The higher incidences of loss stem from the conditions that caused the customer to kite in the first place, financial stress. Most companies don't fail because of a bad business model, but from a cash flow problem. When do companies kite? When they have poor cash flow. when do they go under? When they have poor cash flow. Hmm, is anyone surprised? BREAK This topic deserves attention and I will follow this post with others on kiting. Next up is "How banks can use their kiting system to improve customer relationships?"

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