Culture drives behaviour in any organisation, for better and for worse. Banking culture is notorious for its competitive, short-termist, bonus-obsessed and at times ruthless nature. Having recognised the damage this culture has had on public image, top bankers tried, following the 2007 crash, to spark fundamental reform. We look at how effective their efforts have been.
Banks’ fall from grace
The crash of 2007 was caused by catastrophic failures in the banking system, and the rescue of failing institutions by central banks caused much anger among the populations of the host countries affected – that is most of the developed world.
The resulting investigations showed widespread unethical practices which put the personal rewards of lending officers and traders before the interests of their customers and clients. This in an industry which once held itself out as a profession with high standards of behaviour.
The resulting backlash produced multi-billion dollar fines and a small number of prosecutions (though none at the highest level). It also produced a rash of new regulation aimed at making the banks less likely to go bust, both through organisationally separating or banning certain trading activities and requiring much more capital as a buffer against losses.
These official responses have done very little to restore trust in the people running banking, however. So the great and good of the banking industry have been trying to repair the image of their industry by addressing the so-called banking culture in the hope that banks adopting better practices will change their cultures, thereby making unethical behaviour less likely and hence improve their brand perception.
View from the top
A report released in July of 2015 by the so-called Group of Thirty banks titled itself Banking Conduct and Culture – a Call for Sustained and Comprehensive Reform. This report was produced for (and by) some of the leading lights of the industry.
Purpose of the study
Some extracts from the Foreword give an indication of the purpose and the content.
Banks and banking rely on trust. And while trust takes years to establish, it can be lost in a moment through failures caused by problematic ethics, values, and behaviors. Events that precipitated the global financial crisis and the subsequent issues that have emerged have revealed a multitude of cultural failures. This report recognizes that problematic cultural norms, and subcultures within large banks, have caused widespread reputational damage and loss of public trust.
A lot of work has begun in banks to deal with issues of conduct and behaviors, but there are important gaps in implementation, and there is a need to sustain and reinforce these efforts to achieve lasting results.
Banking Conduct and Culture: A Call for Sustained and Comprehensive Reform is the third G30 study and the culmination of several years of work focusing on the governance challenges faced by the world’s largest banks, their boards, their management, and the supervisors who oversee the health of the financial system as a whole, and the economic sustainability, strength, and integrity of the individual firms themselves.
The research pursued for this report shows that some firms are further along on the cultural journey, while others have barely begun or are trying but failing to achieve change. Regardless of where a firm stands, this report provides actionable advice to boards, management, and supervisors that we believe is applicable across cultural and geographic boundaries.
It does not define one good or one bad culture, or propose further regulation to govern culture. Rather, it identifies approaches, processes, and examples of good practice that exist in other sectors, the banking industry, and within individual banks that should be the foundation of a sustained industry-led response. Drawing on the seventy interviews conducted, the report offers recommendations for an industry-led response in key areas, including the overall mindset on culture, the need for senior accountability and governance processes, performance management and incentives (compensation), staff development and promotion, and an effective three lines of defense; and identifies specific ways regulators, supervisors, and authorities can contribute effectively.
This is an eighty four page document and the Executive Summary runs to six pages. So what does it say and is it going to achieve its purpose?
What does it recommend?
The Executive Summary lists the main recommendations, which we summarise in the extracts below:
A SUSTAINED FOCUS ON CONDUCT AND CULTURE IS NEEDED.
There must be a sustained focus on conduct and culture by banks and the banking industry, boards, and management. Firms and their leaderships need to make major improvements in the culture within the banking industry and within individual firms.
DEFINE THE DESIRED CULTURE.
A major sustained improvement in culture can be achieved and secured by focusing on values and conduct that are the building blocks of culture
BANKS SHOULD CHALLENGE THE WHAT AND THE HOW OF THEIR CULTURAL FOUNDATION.
The What. Banks should specify their cultural aspirations through a robust set of principles, and fashion mechanisms that deliver high standards of values and associated conduct consistent with the firm’s purpose and broader role in society.
Most banks should aim for a fundamental shift in the overall mindset on culture.
The How. Banks should work to fully embed the desired culture through ongoing monitoring and perseverance, drawn from four key areas: senior accountability and governance, performance management and incentives, staff development and promotion, and an effective three lines of defense. These are
- Staff and management in the business
- Compliance or Risk Management
Regulators, supervisors, and enforcement authorities.
Addressing cultural issues must of necessity be the responsibility of the board and management of firms. Supervisors and regulators cannot determine culture, but supervisors should have an important monitoring function.
There are three critical mechanisms for achieving the cultural transformation:
- Enforcement of black letter law
- Board- and Management-led sustained embedding of substantially improved culture and values, with supervisory monitoring
- A competitive effect that should – in time – create competitive advantage for firms that have demonstrably better cultures and conduct
Some important flaws
This is all very worthy and no-one would disagree with the sentiments. A critic would, however, draw attention to a few points.
Firstly, a small, but possibly very significant point is the limited number of interviews conducted (seventy) from which the Report draws its conclusions and makes its recommendations. A statistically valid survey would look to two thousand. Seventy interviews to assess the problems of the world-wide banking industry with many global players doesn’t seem very many. And one wonders about how the sample was drawn and who the interviewees were. How many traders or sub-prime lenders as opposed to their top level bosses?
This, third, Report acknowledges the limited progress that has been made since the great and good of the banking industry set out on their mission to improve its culture and values. None of the conclusions and recommendations in the current report is so revelatory as to have required three years of work to produce. In other words, the managements have already had many years since the 2007 disaster to take the kind of remedial action set out in this Report – but most of them haven’t. Why?
The most interesting parts of the Report, therefore, are in the sections which list past problems experienced with implementation of the kind of measures recommended to achieve improvements.
A key point which comes out strongly is the need to establish metrics – the Report acknowledges that there is no consistent definition of culture yet. But while stressing the need for boards to keep thinking about culture, it doesn’t give them any metrics, instead suggesting they get out and about to talk to people inside and outside the company to get a feel for behaviour.
It comes to the sensible conclusion that more regulation is not the answer, but still is faced with the problem of defining values. It just advocates persistence in focusing on culture and values at the top level and emphasises the need to constantly remember at board level the reputational risk associated with cultural failings.
Another criticism would be its emphasis on the assessment of personal conduct – a focus which would inevitably lead to further institutionalised bureaucracy. This would be most unlikely to yield much in the way of results, particularly coupled with what it observes is a lack, at the highest level, of real sanctions for bad behaviour.
At various points it recognises and accepts the need for “customer satisfaction” to be assessed, which we would thoroughly endorse; indeed, it’s a key part of our Applied Corporate Governance approach. And it does recommend that the CEO should ensure there is a regular process to check brand assessment in the eyes of key outside stakeholders. Sadly, he would probably get a much more insightful feedback from traders operating in the market, but those probably wouldn’t rank as “key stakeholders” in the eyes of the board. Additionally it suggests that external mentions of the bank should be taken into account in personal assessments – good thinking, but very imprecise!
One potentially very interesting idea comes out of a case study which describes the use of Big Data to correlate behaviour with instances of past bad conduct. This could be a way of picking up infractions before they manifest themselves in conventional ways. However, it would require the system to learn the characteristics of each different part of the business to be able to monitor those parts effectively.
Overall, therefore, our own prediction is that the review in two years’ time, recommended by the Report, will similarly bemoan the slow progress in improving culture and values in the banking industry.
Our own recommendations
What would we recommend to help the Report achieve its laudable objectives?
Firstly, as the Report recommends, an individual bank must define what it means by culture, but it must then express its values in terms which can be measured.
There is an old saying: “To be able to manage it you have to be able to measure it”
This is one of the fundamental issues we addressed at the start in designing our Applied Corporate Governance approach.
The first of our Five Golden Rules of good corporate governance is that there must be an ethical approach to business, and this is the area that is addressed by culture and in which values are expressed.
In implementing our approach, we defined a set of measures by which performance could be measured and through which management could work to improve performance. The approach taken was to use stakeholder perceptions to assess performance, and to gather these through independent surveys.
This is the way the banks should be approaching the fundamental problem of their bad reputation, and this is the big flaw in the recommendations of this Report.
To repeat, therefore, our conclusion is that the Report doesn’t define the metrics by which culture and values can be measured, or even recommend that such metrics are key to implementation. Nor does it specify (except indirectly) the way in which the measurement can feasibly be carried out. In their absence, the result must therefore be that there can therefore be no effective monitoring and no effective programme of improvement.
They need to study our Applied Corporate Governance approach.
Links of interest:
- www.group30.org (external)
- Swimming with Sharks by Joris Luyendijk (Amazon affiliate link)
- The Importance of Corporate Governance – Perception and Reality
- The Importance of Strategic Management – 3rd Golden Rule of Corporate Governance
- Bank Bonus vs the People: perception is reality