Background
Today, the financial industry is more regulated than any other time in the history of economic globalization. However, the lack of fundamental professional behavior, ethics, and compliance raises the important question whether the current financial sector in Australia is destined for an endemic future. The persistent fraud cases in the Australian financial industry paints an impression that behaviors are yet to change even after experiencing the global financial predicament that emanated from the US. The recent ANZ suspected interbank interest rate rigging, CBA’s CommInsure denial of compensation to legitimate claims from terminally ill patients, and the Macquarie Group Mishandling of client resources among many others are some the cases that show the status quo persist. It is the crisis that exposed the systematic disregard of responsible practice, where institutions and individuals capitalized on short-term self-enrichment practices to the detriment of the larger economy.
Following the 2008 crisis in the banking and property sector, governments have implemented a number of measures aimed at ensuring the crisis does not happen again in the future. In many countries, post-crisis regulatory reforms have placed more focus on directly regulating the financial sector by the government agencies. Countries such as the US and the United Kingdom that initially embraced non-interference policy in financial markets have forged stricter rules to regulate the industry. The implementation of the Senior Managers Regime, Conduct Rules, and the Certification Regime are some of the responses adopted by the United Kingdom to promote the culture of accountability in the banking sector. The senior managers, for example, will now take responsibility for misconduct both personal and for other actors or employees that break the law under their supervision (FCA 4). The same applies to the junior staffs that are now required to obtain approval from the regulator before they can perform any controlled function.
The US, on the other hand, took a more consumer-first approach in response to the crisis that led to the implementation of the Dodd-Frank Act. The measures include granting the Federal Reserve and the Federal Insurance Corporation FDIC) the authority to oversee the practices of large financial institutions. The oversight takes a consumer protection rulemaking framework enshrined in the newly constituted Consumer Financial Protection Bureau. During the financial depression of 1930, the country had implemented a streak of similar financial regulatory measures that included the Securities Act (1933), Federal Deposit Insurance Act (1933), the Securities Exchange Act (1934), and the Investment Company Act (1940). The realization that these laws failed to prevent the crisis of 2008 indicate that the solution lies largely not in regulation but in organizational culture that is more focused on the satisfaction of consumer needs and not only on profit-making.
Changing Culture over Regulation
There is a consensus among all stakeholders in the financial sector that the culture in the industry should be reoriented from the evident self-serving one to more shareholder and client-based approach. Unfortunately, the initiative to transform this culture has been advanced by the regulatory authorities, which has led to unsatisfactory results. This helps explain why no significant progress has been realized in changing the critical element of culture in the sector. Instead, the industry has been overburdened with compliance of numerous restrictive laws that probably do much harm than good. Rather than promote awareness and a change in culture, the regulations might be limiting the cultural change in financial institutions to strict rule following.
Clive Anderson, the Director of the SFA first recognized the need to address the cultural characteristics of the financial services from within. This is because the culture has the power to influence individual behaviors of workers, which in turn manifest in day-to-day practices and market practices. According to Andrew Bailey, CEO of the Financial Conduct Authority (FCA) of UK, firms that have cultivated a strong culture that is manifested in risk management, remuneration, and governance rarely experience major failures in conduct. Culture drives conduct, compliance, decision making, and risk management. Business strategy, firm values, and behaviors should be aligned in a manner that promotes the interests of the stakeholders that include investors, consumers, and the public.
There is an impregnable reason why the financial sector has to self-determine the change in culture without the involvement of the government policy. According to the head of ASIC, culture cannot be changed by law because regulating a change in mind is impractical. Compliance, in particular, creates boundaries of behavior but does not influence a shift in cultural practices. Cultural change can happen from within the organization because the important ingredients of culture can only be found in the company’s strategy. The aspects that define a culture of an organization include the vision, values, leadership, and human relations.
Focus On Changing Governance and Culture
ASIC position on matters relating to the culture of the financial industry is that organizations should focus on developing practices that put the customer first. Rather than just emphasizing on profit maximization, companies need to invest in rewarding good outcomes for the customers and good conduct. According to a study by Edelman and CFA Institute that involved 2,104 investors in Australia, US, UK, Canada, and Hong Kong, 35 percent of the polled investors indicated trust to be the most important factor that they would consider when choosing an investment institution. Poor culture is responsible for misconduct, significant financial costs (fines, compensations, and remediation), and undesirable outcomes for the consumers and investors. Studies show that world’s ten most effective banking institutions have lost about US$250 billion between 2008 and 2012 as result of poor conduct at the place of work. Poor culture affects the integrity of the financial markets and erodes the trust of the Australian institutions.
Medcraft, the head of Australian Securities and Investments Commission (ASIC) suggests that focus should be redirected to governance and culture in the finance and banking industry. In his statement, Medcraft observed that among the root causes of the financial crisis of 2008 was a conflict of interest among major individual players such as Goldman Sachs that emanates from a place of ignorance and negative competitive culture that drives behavior. The executive committees of Banks in Australia have been vocal about the importance of cultivating cultural values. However, the orotundity has not been transformed into actionable strategies in challenging executive and workers’ behaviors. Conversely, there is another aspect that has undermined the realization of a change in the culture of financial institutions. The penalties for fraud misconducts are significantly lower in Australia making the country a haven for white-collar crimes. In an attempt to force the sector to implement positive changes in the organizational culture, the country’s parliament is considering adopting the UK’s approach that allows customers to transfer personal financial data from one bank to another. This will increase the level of competition in quality of customer services among industry players, hence promoting a change in behaviors.
ASIC has indicated that it will be using organizational culture in its risk surveillance metrics to monitor companies. The metrics include remuneration structures, whistleblowing, conflict of interest, and complaint handling practices. These areas reflect the underlying values of a financial institution hence exposing what is important for the organization. For example, remuneration that is based on sales volume signals a culture that is sales-driven rather than customer-focused. This aspect is especially dangerous in environments where high-risk and short-term business investments are highly rewarded. Employees would be easily tempted to engage in illegal or unethical practices to achieve their quotas.
The current telecommunications technology calls for better cultural practices by financial institutions whose profitability heavily relies on public perception. The social media, in particular, provides a platform for the consumers to give both positive and negative feedback on products and practices of financial institutions that can greatly affect the performance of players in the industry. Financial stand to benefit from adopting a positive culture because it is good for business for the import role it plays in helping firms generate long-term value for shareholders, bolsters reputation, and enhances brand loyalty.
Inadvertent Outcomes
One of the unintended consequences of strict regulation of the financial sector is the resulting brain drain. Excessive monitoring and restrictions disincentivize talented investment bankers that are a great asset to the banking business. Often, the hard rules are intended for the major institutions, and as such, these individuals move to the smaller finance houses that are lightly regulated taking with them the expertise and knowledge much needed in the large financial institutions.
As regulations become stricter, the financial sector has been forced to conform to the new rules. However, some economic experts have warned that over-regulation will inhibit innovation in the markets. Before the property bubble became apparent in the United States, lenders had improvised ways to commercialize mortgaged properties. With time every homeowner was easily accessing loan facilities using assets they did not fully own yet. Although the eventual disaster is blamed on the lack of proper regulation, some argue that allowing banks to have extensive freedoms to materialize their innovative products without supervision is calamitous. The core business of the financial markets is to make profits by investing in the future performance of different sectors of the economy, which may be interpreted to warrant the need for regulating the conduct of the businesses through supervision.
Conclusion
Greg Medcraft agrees that a cultural change will be a big driver in changing the rottenness in the country’s financial industry. The high number of unethical practices shows how the banking sector has changed from a service sector that is supposed to help the people make money to a profitable industry that looks to make money from people. There must be a strategy to develop a sustainable cultural reformation in the banking sector, management, boards, and the working space to restore trust in the financial sector. This can be achieved if the industry is allowed to develop the structures from within using organizational resources. Implementing strict regulatory rules will only serve to limit the behaviors of individuals who would willing engage in misconduct when presented with an opportunity to get away with the crimes. Having strong trust relations between the service provider and the customer is the bedrock of an effective financial system. This exertion is crucial in ensuring stability in the sector over time by fostering public trust in the system.
Compliance failures, professional misbehavior, and other ethical lapses so far have led to losses rather than gains to the industry. Huge fines, penalties, employee punishment, among others are some of the expensive costs of irresponsive culture. It is far from the truth to promote the assumption that the misconduct by a few does not reflect the state of the entire system. The putrefaction originates from the firm’s leadership culture, and as such, the transformation must come from within the organization. Transforming an organization’s culture is challenging because it involves reorganization of interlocking roles, goals, values, assumptions, attitudes, and communication values, which is always a daunting task. Using the leadership tools that include negotiation, persuasion, strategic planning, role modeling, decision-making, and learning, financial institutions can successfully realize culture change that focuses more on promoting the interests of the stakeholders. Financial organizations in Australia can achieve a positive revolution in organizational culture when they closely cooperate with the regulator. The management should spearhead the change of culture in the financial sector, first, by rating the ethical aspects of the financial products offered and how benchmark rates are set.
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