Culture versus Regulation: Fixing the Banks
Barclays Bank commissioned a study to find out why the company engaged in a variety of scandals and improprieties, including LIBOR rigging. While the bank was badly buffeted by the credit crisis, it did not need a bailout from the British government. Nonetheless, the bank parted ways with its CEO, Bob Diamond, in an effort to move in a new direction. The bank’s board also engaged Anthony Salz, a lawyer, to conduct the study, known simply as the Salz Review.
Mr. Salz’s central conclusion is that the culture at Barclays became corrupt as the company accelerated its push into investment banking and trading. The report includes a wide variety of recommendations about compensation, hiring practices, and compliance. However, the Salz report’s zeroes in on the bank’s culture for becoming focused on short-term profits, individual advancement, and the subordination of the client’s to the bank’s interests.
I stumbled across the Salz Report because I read an article by John Cassidy in the New Yorker entitled “Why Do Banks Go Rogue: Bad Culture or Lax Regulation”. Mr. Cassidy takes issue with the Salz Report and opines that the only way to prevent banks from going rogue is robust regulation. Mr. Cassidy believes the short-term orientation of traders and investment bankers is so pervasive across the entire industry that something soft, like culture, will not rein in bad behavior. He cites the lofty culture statements featured on the website and in the annual reports of banks for the proposition that culture is a bunch of words that can’t penetrate the short-term, self-interest of modern banking.
I don’t think it’s wise to give up on culture. However, I agree with Mr. Cassidy that culture statements are next to meaningless. I wrote about the impotence of these statements and the need for meaningful cultural reform in “Back to Values [September 27, 2012].” Corporate values begin with the CEO and the board of directors, not a piece of paper. If the CEO is looking to earn a quick buck, and the board creates a reward system that pays the CEO handsomely for short-term results, not surprisingly the company will get employee conduct that reflects those values. The bad behavior will happen in all kinds of business, not just banks.
Hiring a consultant or putting groups of employees in conference rooms to draft lofty principles doesn’t create culture. Rather the CEO and the management team have to live those principles. If management doesn't respect and empower internal risk managers or auditors, traders and bankers will get the message. If management promotes proprietary trading (trading for the bank’s account) at the expense of clients, traders and sales personnel will follow the example. Changing culture is extremely difficult, but without a progressive culture, financial institutions are destined to go rogue over and over again.
What about empowering a big regulatory cop as Mr. Cassidy suggests? Regulation needs to be robust, and it shouldn’t be the cooperative affair that pervaded the early 2000s. Clearly, there has to be more than a bit of adversarial tension between government and the banks. However, the financial system is too complex and global to be contained by regulation alone.
We live in the digital age where almost everything can be reduced to numbers, and nothing is more about the numbers than banking. However, culture and values, which cannot be reduced to a set of figures, are a vital component of keeping our financial system from going rogue.