Over the weekend the European Central Bank released results showing that most of the euro zone’s biggest lenders are fit for purpose with only 13 of the 130 tested likely to fail if another financial tsunami hits the continent.
The long-awaited results use capital adequacy – the amount of assets a bank holds as a proportion of its risk – as a measure of bank performance in crisis conditions, but they ignore a fundamental problem that got banks into trouble in the first place: a lack of integrity.
Integrity lapses continued in the banking sector well after the fall of Lehman Brothers in 2008. The LIBOR rigging scandal saw traders colluding to manipulate the most widely used benchmark for interest rates and there are ongoing probes into collusion in the setting of foreign exchange benchmarks. Banks have been fined, but little has changed.
Banks need to rid themselves of a prevailing culture of placing short-term profit before the interests of society. Capital stress tests alone won’t help. People want reassurances banks will not repeat the past misdeeds that brought the global economy to a standstill, causing unemployment to soar and national economies to contract.
In 2015 the US Federal Reserve and other agencies will carry out their next round of stress tests on 31 major banks. Similar to the ECB tests, the Fed will focus on financial strength, overlooking the role of integrity and practices that could cause another crisis.
It’s time to test the integrity of banks and bankers. We need a way to assess both the leadership culture of banks – and the actions taken to win back trust. These should be an integral part of stress tests and general regulatory duties.
Numerous banks have policies on anti-corruption and anti-money laundering but their track record on enforcing them is poor: the Financial Action Task Force routinely reports low compliance with its rules and banks have recently paid billions of dollars in settlements for anti-money laundering failings.
Clearly the leadership culture in banks has failed to put integrity into practice in a broad, holistic framework. This is an issue that concerns Transparency International, as we believe banks need to show an active willingness to practise and value integrity.
We suggest banks should regularly report on what they are doing to boost integrity in decision making throughout all levels of the firm, from hiring and promotion, to whistleblowing systems and compliance with anti-money laundering rules.
Hiring: Banks should use a hiring test similar to the mandatory integrity test the Chartered Institute for Securities and Investment introduced for its partners in 2013. Upwards of 7,000 members have taken part in several countries.
Pay and bonuses: What is best: Stop bonuses? Institute clawbacks? New compensation models are needed that do not focus solely on bottom line success. There should be an ‘integrity bonus’ for those who consistently carry out their fiduciary duty and this should be just as appealing to future bankers as a ‘signing bonus’ or a ‘performance bonus’. Rather than incentivising unethical behaviour because it leads to the quick win, banks should take non-financial performance into account in performance evaluations, promotion and pay decisions.
Transparency and conflict of interest: Banks should increase transparency in their contributions to the financing of politics and to mitigate conflicts of interest. There should be clear rules on what bankers, traders and brokers own in their private accounts, in order to tackle insider trading. Following recent media exposure, Goldman Sachs reportedly committed to updating its conflict of interest policies and prohibiting bankers and other employees from trading individual stocks and bonds on their own accounts.
Money laundering: Banks can limit the flow of corrupt money by ensuring compliance with due diligence duties on the owner and source of funds. Banks should support the creation of public registers of beneficial ownership. This would help them in their due diligence and can prevent corrupt monies ending up in their accounts.
The implementation of integrity standards by banks will take time and determination by banking leaders. But only by looking at their record on integrity will people really understand the true health of banks and know which ones to trust.
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