For ethics in banking, rules aren't enough
With all her focus on economic data, Federal Reserve Chair Janet Yellen rarely speaks of a difficult soft topic for a government regulator: ethics in corporate culture. Yet in a speech Tuesday she suggested that employees of large financial firms have 鈥減ervasive shortcomings鈥� in values.
She decried recent brazen behavior in some banks and a need for stronger governance. 鈥淚t is unfortunate that I need to underscore this, but we expect the firms we oversee to follow the law and to operate in an ethical manner,鈥� Ms. Yellen said.
Since the 2008-09 crisis, banks have certainly improved in levels of capital and liquidity as well as governance, Yellen said. But 鈥渃ompliance breakdowns鈥� in recent years show 鈥渞oom for improvement.鈥�
Despite tougher federal rules and supervision imposed on firms since the Great Recession, such as the 2010 Dodd-Frank Act, regulators say the new measures may simply not be adequate to avoid dangerous risk-taking in large firms and ensure stability of the banking system. One Fed governor, Daniel Tarullo, said recently that many bank employees have an attitude of 鈥渕ere compliance,鈥� or rotely following regulations in an 鈥渁lmost check-the-box fashion.鈥�
To nudge the big banks, the Fed has begun to put them under 鈥渟tress tests鈥� that include subjective judgments on the 鈥渜ualitative鈥� aspects of each bank鈥檚 operation, such as risk management. 鈥淎 strong ethical culture will lead to better behavior,鈥� said Thomas Baxter Jr., general counsel of the Federal Reserve Bank of New York, in a January speech.
Many banks have tried to stay ahead of regulators. At J.P. Morgan, for example, employees are now often questioned on ethics. And the company tries to measure its 鈥渃ulture鈥� by the number of 鈥渁dverse regulatory events.鈥� At Citigroup Inc., said chairman Michael O鈥橬eill in a recent speech, 鈥淚f someone sees something untoward, and doesn鈥檛 report it, he or she will be deemed as guilty as the party who committed the infraction.鈥�
Mr. Tarullo says executives that once blamed 鈥渂ad apples鈥� for a firm鈥檚 problem have lately begun to realize that they themselves must make sure all employees hold up 鈥渢he values of probity, customer service, and ethical conduct that most of them espouse on their websites and in their television commercials.鈥�
Fed officials are warning Wall Street that it faces more rules and punishment if banks do not do more to improve worker attitudes, not just behavior. Yet firms find it difficult to always prevent workers from cutting corners, deceiving clients, or other types of malfeasance. Relying on fear of punishment is rarely sufficient to instill values such as honesty and trust in employees. And 鈥渃ulture鈥� is an elusive word, one more easily perceived than described or tallied up like a spreadsheet.
Tarullo speaks of 鈥済ood compliance鈥� by banks, not mere compliance. Fed officials are on the right track if they expect good thinking in financial workers. The more regulators remind banks of it, as Yellen did in her speech, the more they might find it.
