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  In Search of the Virtuous Banker 

Cowton, Christopher
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On September 15, 2008, the investment giant Lehman Brothers filed for bankruptcy, the largest in U.S. history. Panic erupted on Wall Street, 25,000 Lehman employees were sent packing, and central banks mobilized to prevent contagion and to keep markets from plummeting.

Lehman's collapse -- considered a watershed moment in the history of banking -- accelerated the subprime mortgage crisis and profoundly eroded trust and confidence in the global financial system. While not the first banking crisis in history (and probably not the last), its scale and geographic scope had a shocking ripple effect throughout the system, inflicting serious economic and social pain.

At the same time, the crisis provoked a tsunami of commentary and criticism, including accusations of an apparent lack of ethics in the financial system and its principal institutions. Unfortunately, at that moment, there was no substantial body of academic knowledge on financial ethics that the global banking sector could turn to for guidance. And despite some encouraging signs over the past 10 years, the situation hasn't changed significantly.

In this article, I offer some ideas to advance the thinking on financial ethics in a way that I hope makes sense to banks and bankers. I begin with a brief overview of the standard measures used to improve the financial system and their potential shortcomings, as a prelude to showing how financial ethics, particularly in the form of virtue ethics, might fit in.

Formal Controls and Their Shortcomings
Regulations, corporate governance reforms and codes of practice were among the first solutions set forth when financial turmoil struck. While these formal controls are important, each has inherent limitations.

REGULATIONS. In the case of regulatory reform, changes to the incentives and constraints that govern financial institutions often look better on paper than in practice. Formulating detailed rules for complex businesses in dynamic markets is a difficult undertaking that often leads to bureaucratic burden and a climate of box-ticking, game-playing and loophole-spotting. In this context, the spirit and substance of the reforms in question are frequently undermined by following the rules to the letter.

Moreover, regulations encourage us to think in terms of policies and rulebooks. But, as any good leader knows, relying on a rule-based system is not a good way of managing. If you don't get people on your side and if the corporate culture works against the rules, people will always find ways around and between them. The regulator's problem is that its resources -- financial and intellectual -- are miniscule when compared with those of banks.

CORPORATE GOVERNANCE REFORMS. The financial crisis also prompted a reexamination of corporate governance. This is perfectly natural if, to echo Bob Tricker's insightful distinction, corporate governance is about seeing that a company is run properly, rather than actually running it, which is management's job. Without a doubt, the renewal of corporate boards and the ongoing assessment of directors' responsibilities and activities are critical. Yet corporate governance is hard to get right, especially if incentives and expertise are not well aligned with needs.

Company or industry codes of practice provide a means of setting expected standards of behavior. The efficacy of codes, however, depends not only on their content but on their implementation and ongoing cultivation at all levels of the organization, as Simon Webley and Andrea Werner noted in their 2008 article, "Corporate Codes of Ethics: Necessary but Not Sufficient." In other words, it's not enough simply to devise a code of ethical conduct and just leave it to do its work.

These formal approaches can make important contributions, but on their own they all underestimate the impact of culture, which, even if it doesn't always make or break formal controls, interacts crucially with them. What's needed is an overall control package that merges both formal components -- which are relatively easy to change by administrative decree -- with informal or social elements.

A truly ethical approach goes beyond mere rules. It not only fills in the gaps in formal systems but gives them life by instilling the spirit of rules and regulations in the corporate culture and in an individual's character. Embedded in culture and character, ethics can help avoid another financial downturn like the Great Recession of 2008, or at least reduce the frequency and magnitude of future crises.

So, what does, or might, ethics in finance look like? Before we get to that, we need to address another question first: is there really room for ethics in banks and banking?

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This article is based on:  In Search of the Virtuous Banker
Publisher:  IESE
Year:  2018
Language:  English