Bank Culture: Can regulators have an impact?

A March 14 New York Times Dealbook article by David Zaring of the Wharton School looks at bank culture from a regulatory perspective and questions why NY FED regulators are taking on the grand task of attempting to make culture and ethics an important part of bank supervision- especially when “creating and regulating culture by regulatory fiat is so difficult.”


Ethical Systems has made fortifying ethical corporate culture a main concentration of our efforts, as there is no better determinant to predicting misconduct. An ethical systems approach to business ethics considers the interplay between corporate culture with considerations for how to motivate individual to be more ethical (nudging),and the regulatory (guiding policies that impact behavior and outcomes).


When examining company culture, leaders should consider whether it is one in which company values are infused into all aspects of the operation, where managers lead by example and teams are encouraged to speak up about ethics and other issues? Or, if it is a culture in which checking the compliance boxes off a list is seen as most important and certain behavior is tolerated by high-performers but not allowed for others?


While other industries- medicine and accounting, for example- seek to regulate day-to-day behavior by having practitioners sign an overarching oath, Mr. Zaring does not see that an oath would work in the financial system due to the various audiences bankers serve and the roles that they must play to grow business, i.e. both sales/marketing and fiduciary functions, as well as working for both their clients and the general public.


So how should the FED approach regulating culture? Zaring seems to suggest that they shouldn’t. Many of the regulators have publicly called for ethical culture in organizations as a driver of stability and reduced misconduct, though none have said that they will specifically regulate for it. In that, Zaring’s thesis may have been slightly overextended. While the basic regulatory toolkit clearly needs to be strengthened to provide additional guidance on how firms can induce a long-term behaviors and perspectives in business, the current strategy of plugging loopholes only serves to drive attention to identify and circumvent others. This results in a constant game of catch-up instead of more proactive solutions. In fact, that the FED has shifted towards a greater emphasis on culture signifies that they want financial institutions to consider the pervasive and systemic sources of misconduct so as to reduce the need for enforcement and interference on their part.


In addition, there is no clear method for how the FED and other regulators would presumably supervise for culture change in companies, given all of their other responsibilities. NY FED Chair Bill Dudley has, instead of focusing on government regulation, called for a self-regulatory approach by the banks, urging them to use a common culture survey to serve as a benchmark for behavior within the industry. The Ethical Systems culture measurement project also advocates for this approach. David Zaring advises that the focus on culture could serve as a complement to “hard, verifiable, capital adequacy rules” and then suggests that supervisors could “also look to see if there is a culture of open communication and a willingness to tolerate employees who escalate issues — internal whistle-blowers, if you like.” However, culture has to be a constantly tended garden, given that weeds will sprout without attention and inhibit the growth of healthy plants. Therefore, the best area for culture change is within the company itself. We say (un) ethical behavior appears at the gap between the stated and unstated policies and values of a company— regulators will be best able to diagnose issues when they are able to do a deep dive.


There is more than ample reason for additional focus on improving culture in banking- from productivity to profits. The question will be if regulators can push this change effectively or whether they have the capacity and ability to do so.


Click here to explore Professor Zaring’s article in depth >>