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Good reader response on banks and ethics

A couple of weeks ago I posted something on small banks and ethics: “Are small banks the answer? They seem to think so“.

“Greg”, a reader, posted an interesting response, so I’ve pasted it below:

“Quite right. One direction the debate could go is whether all banks – big ones too – should be subject to a structure that makes ethical considerations a mandatory part of their decision making process.

If wholesale financial products such as collateralised debt obligations and credit default swaps had, when they were first invested, been subject to scrutiny by an ethics committee – either in the bank or by an external regulator – perhaps the financial crisis might not have been so bad.

Imagine if new financial products had to be licensed by an ethical body that first studied the real economic and social effects of the product and its ethical implications.

Such a body might have looked at CDOs containing sub-prime elements, which caused much of the balance sheet damage triggering bail-outs, and asked whether their downstream impact in fostering the growth of unhealthy sub-prime lending was ethically acceptable.

It might also have challenged the ratings agencies on their whether re-packaging sub-prime debt as a AAA bond was ethically acceptable to those buying the bonds.

Similarly, an ethical look at the recently created CDS market might have shown that its structure – where banks could sell quantities of insurance against a bond’s default many times in excess of the value of the bond itself – would create powerful incentives for speculative, volatility-enhancing trading behaviour.

Such trading may be profitable but when it is obviously bad for financial stability and encourages rent-seeking behaviour by fund managers at the expense of investors, someone needs to step in and call a halt.

As with environmental concerns, we need a mechanism to force financial decision makers to consider the unintended external consequences of their actions. An ethical element to the future regulatory structure would be a welcome step.”

It’s an interesting idea Greg. Personally I don’t think we can sell the powers that be on an official, outside structure that makes ethical considerations a mandatory part of bank’s decision making process. But why shouldn’t big banks have an ethics committee that does that job internally? That would be a start. We’re a long way from even that point now.

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