Neil Irwin is a senior economics correspondent for The New York Times, where he writes for The Upshot, a Times site for analysis of politics, economics and more. He is the author of “The Alchemists: Three Central Bankers and a World on Fire,” about the efforts of the world’s central banks to combat the global financial crisis, published by the Penguin Press in 2013.
Mr. Irwin was previously a columnist at The Washington Post and an economics editor of its Wonkblog site. As a beat reporter covering economics and the Federal Reserve, he led the Post’s coverage of the financial crisis and the government’s response to it.
Mr. Irwin has an M.B.A. from Columbia University, where he was a Knight-Bagehot Fellow in Economics and Business Journalism, and his undergraduate studies were at St. Mary’s College of Maryland. He has often appeared on television analyzing economics topics, including on “PBS NewsHour” and CNBC.
Why Can’t the Banking Industry Solve Its Ethics Problems?
By Neil Irwin
July 29, 2014
The financial crisis that nearly brought down the global economy was triggered in no small part by the aggressive culture and spotty ethics within the world’s biggest banks. But after six years and countless efforts to reform finance, the banking scandals never seem to end.
The important question that doesn’t yet have a satisfying answer is why.
Why are the ethical breaches at megabanks so routine that it is hard to keep them straight? Why do banks seem to have so many scandals — and ensuing multimillion-dollar legal settlements — compared with other large companies like retailers, airlines or manufacturers?
Some of the world’s leading bank regulators are trying to figure that out. And they have taken to sounding like parents who have grown increasingly exasperated at teenage children who keep wrecking the family car.
This week, it was the turn of Mark Carney, the governor of the Bank of England. The latest British banking scandal was enough to make Mr. Carney, a former Goldman Sachs investment banker, sound like an Occupy Wall Street populist.
Lloyds Banking Group stands accused of manipulating a key interest rate to reduce what it would owe the Bank of England in a program meant to spur lending in Britain. “Such manipulation is highly reprehensible, clearly unlawful and may amount to criminal conduct on the part of the individuals involved,” Mr. Carney wrote to the head of the bank.
(Pro-tip: If you are going to manipulate interest rates to squeeze an extra few million bucks out of somebody, don’t make that somebody the entity that regulates you).
Mr. Carney has company among top bank regulators. Bill Dudley, the president of the Federal Reserve Bank of New York, said in a speech last November that “there is evidence of deep-seated cultural and ethical failures at many large financial institutions.” The Financial Times reported this week that New York Fed officials were putting the screws to major banks in private meetings, insisting they strengthen their ethical standards and culture.
It is telling that two of the regulators who have become most publicly angry at the banking industry for its repeated lapses are also those with the most experience with the industry. Mr. Dudley is also a former Goldman Sachs executive, and his role at the helm of the New York Fed puts him at the front lines of overseeing the biggest and most complex American banks.
You know it is a sign that things are bad when people like Mark Carney and Bill Dudley think the banking industry has an ethics problem, and feel so strongly about it that they say so publicly. You might have thought that the 2008 crisis would have scared everybody in the banking industry straight — and resulted in less pushing of the ethical boundaries. But many of today’s scandals involve actions that happened post-crisis; the Lloyds interest rate manipulation that Mr. Carney assailed this week took place in 2009.
The fact that these scandals have all occurred since the crisis raises the uncomfortable possibility that these problems go deeper than a few executives in a few banks who push boundaries, and involve something fundamental about how the industry is organized.
A study of Citigroup’s ethics policies in the wake of several dot-com era scandals, by Justin O’Brien of Queen’s University in Belfast, revealed the problem. In effect, Citi created a range of rules and internal controls to try to stop the kind of fast-and-loose practices in its research department that landed the bank in legal trouble. It might not be enough, Mr. O’Brien argued in the International Journal of Business Governance and Ethics.
Ethical programs “must be linked to material incentives in order to be effective,” he wrote. Any deviation from the ethics program, “even if financially lucrative, must be punishable by nonpayment or clawback of bonuses,” he said, adding, “Sharp practice that complies with the law but causes reputational damage should be penalized.”
That was published, it should be noted, in 2006, the high-water mark of bankers earning giant bonuses for packaging mortgages into securities that were highly rated but that many insiders, we now know, viewed as suspect. That said, it does suggest that the banking industry could be made more ethical if the right mix of financial penalties for misbehavior were put in place.
For a darker view of why there is so much fraud in banking, consider this from Richard Posner, the federal judge and University of Chicago professor, who offered one answer in a 2012 blog post titled “Is Banking Unusually Corrupt, and if So, Why?”
Both a bank’s financial capital and its human capital are short-term propositions, Mr. Posner wrote, meaning both investors and employees can readily jump to a better opportunity at a moment’s notice. “Any firm that has short-term capital is under great pressure to compete ferociously, as it is in constant danger of losing its capital to fiercer, less scrupulous competitors, who can offer its investors and its key employees higher returns,” he wrote.
“Such a business model attracts people who have a taste for risk and attach a very high utility to money. The complexity of modern finance, the greed and gullibility of individual financial consumers, and the difficulty that so many ordinary people have in understanding credit facilitate financial fraud, and financial sharp practices that fall short of fraud, enabling financial fraudsters to skirt criminal sanctions.”
In other words, the ethical breaches that Mr. Carney and other regulators assail may just have deeper roots — and thus more elusive solutions — than anyone might like to see.