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Banking Conference
on Business Ethics
Furama Hotel, Hong Kong
Speech on
"The Importance of Ethics in Banking"
by
David Carse
Deputy Chief Executive
Hong Kong Monetary Authority
15 September
1999
Ladies and
gentlemen,
1. I am pleased
to have the opportunity to speak today at this important
conference on business ethics. This is an area that is becoming
a growth industry; and it is one that it is particularly
relevant to banks given the position of trust that they
occupy. Indeed, this is one of the daunting things about
giving a speech about the importance of ethics in banking.
It all seems too obvious. After all, what do we mean by
ethics in business? It means, I would suggest, trying to
be a good corporate citizen; trying as an organisation to
adhere to certain ethical values; and trying to do the right
thing by all the various stakeholders - customers, employees,
suppliers and shareholders - that any business organisation
has. It means, as one writer has put it, "choosing
the good over the bad, the right over the wrong, the fair
over the unfair".
2. Put this
way, is there any respectable bank that would claim not
to attach high importance to core ethical values such as
honesty, integrity, fairness, responsible citizenship and
accountability? Is there any bank that would claim that
it was right to accept bribes in return for loans, to lend
to connected parties and to cheat customers? Unfortunately,
it is not as simple as this. If it were the case that business
ethics simply represented values which everyone accepted
and put into practice, this conference and
my speech would both be superfluous. However, there is sometimes
a gap between what banks claim and what they do. As the
Asian crisis has demonstrated, ethical values are still
not firmly entrenched and followed in many banks in the
region. Bribery and corruption have been one of the root
causes of the banking problems, and the Bank Bali scandal
has shown that the process of reform still has a long way
to go.
3. However,
leaving aside such blatant examples of unethical behaviour,
even the most well meaning of banks are going to confront
moral dilemmas in the course of business. These dilemmas
are more complex than the simple: "should I lie, cheat
or steal variety?" They pose difficult choices that
have the potential to damage reputation and lead to financial
losses. The problem is that in an increasingly complex business
environment the choice is not always the simple one between
what is right and wrong. It is more often between what is
right and less right - in other words between shades of
grey. This increases the need for organisations to adhere
to a strong set of values to steer them through the minefield
of ethical choices with which they are faced as they make
business decisions. It is also necessary to ensure that
the behaviour of the organisation is in practice aligned
with these values and that employees buy into them, so that
the organisation actually practises what it preaches.
4. Let me
try to put some flesh on these arguments with some practical
examples of ethical dilemmas involving banks that have been
in the news recently. I have said that banking business
is becoming more complex. One aspect of this is the globalisation
of business activities, which may be summed up as the tendency
of the world to become one market place. As banks reach
out beyond their home market, they become exposed to unfamiliar
business environments and customers whose ethical standards
may be very different from their own. This puts extra strain
on the "know your customer" policy upon which
regulators are so insistent. Business dealings with Russia
are a case in point. Here you have the situation of a country
that is making the transition from a communist to a capitalist
economy. This naturally creates profit opportunities for
Western banks. It could indeed almost be argued that these
banks have a moral responsibility to assist in transforming
the Russian economy. Unfortunately, somewhere along the
line, this transformation has gone wrong, and the borderline
between what is legitimate and illegitimate business in
Russia has become blurred, to say the least.
5. In this
situation, what should a bank do? The decision can obviously
be viewed in strictly commercial terms. But there is an
ethical dimension as well. Is it right for
the bank to do business with Russian customers and to handle
funds flowing out of Russia where it cannot be sure about
the origin of the funds? No doubt many banks are asking
themselves these questions, in the wake of the stories of
huge amounts of Russian money being laundered through Bank
of New York, and possibly other Western banks. Note that
there is no suggestion at this stage that the banks actively
participated in money laundering. Indeed, it is not yet
clear if money laundering, as opposed to capital flight,
is what was going on. However, difficult questions are going
to be asked, not least by the US Congress, and the banks
concerned are going to have to cope with the negative publicity.
6. Ethical
dilemmas can also arise when banks try to innovate, particularly
when they stray outside their home territory. Take an example
from my own country, in the form of the Bank of Scotland's
proposed joint venture in telephone banking with the American
evangelist, Dr Pat Robertson. This was designed to enable
the bank to expand abroad with the help of new technology
and to attract US$3 billion in deposits. On the face of
it this appears to be a reasonable business decision, so
where does the ethical dimension arise? The problem, as
you may be aware, is that Dr Robertson is not simply a religious
leader, he is also a right wing politician with controversial
views on a variety of issues, including gay rights. News
of the Bank of Scotland's proposed business link with such
a person did not go down very well with gay activists or
trade unionists in Scotland, or indeed with shareholders
and the public generally. Matters were not helped when Dr
Robertson was highly critical of moral values in Scotland.
The bank was forced to pull out of the deal, to pay compensation
to Dr Robertson and to issue a public apology in which it
stressed its "long-standing commitment to ethical values".
Despite the apology, the whole episode was widely regarded
as a public relations disaster.
7. What lessons
can be learned from this episode? The first, I suppose,
is that banks need to be careful about business relationships
with controversial politicians, whether of the right or
left wing variety. The second is the increasing power of
the media and social pressure groups to throw the spotlight
on what they regard as "unethical" business activities.
In the case of banks, such activities might include financing
the arms trade or industries that damage the environment.
The third is the way in which ethical values change and
how they can differ between societies: anti-gay attitudes
are no doubt acceptable in the Mid-West of the United States,
but they were clearly felt to violate modern notions of
fairness, equality and non-discrimination in modern-day
Scotland. The final point is how small the global market
place has become and how events in one country can impinge
on others. The chairman of the bank commented that they
had not foreseen how the controversy surrounding Dr Robertson
would cross the Atlantic to Scotland where he has no political
constituency or business. This provoked the comment that
the bank did not appreciate how new technology has shrunk
the world.
8. The moral
of the story is that banks need to consider how their actions
- anywhere in the world - will affect their customers or
be perceived by them. But customers are not the only people
the banks have to worry about. They also need to take account
of regulators in the various jurisdictions in which they
operate, and the fact that regulatory standards may shift
over time. The Credit Suisse Group has, for example, recently
run into problems with the Japanese regulators because one
of its subsidiaries in Japan was accused of engaging in
window-dressing transactions with Japanese banks. These
transactions are now deemed by the current regulators to
be "inappropriate", though they were apparently
not so regarded in the past. This illustrates that banks
may encounter what has been termed "regulatory risk"
not simply when they break the law. It also shows the problems
they face in deciding which transactions are indeed "appropriate"
where the rules of the game in the various markets in which
they operate may not be clearly defined, or where the rules
are shifting in line with changing standards of what is
right or wrong.
9. The global
reach of many businesses creates practical problems of control
and of enforcement of compliance with regulatory and ethical
standards, as the collapse of Barings Bank clearly showed.
But these issues also arise in domestic markets as the banks
diversify into fee-related businesses such as the sale of
insurance and investment management and advice. Leaving
aside the possible risks from rogue fund managers, these
activities can raise conflicts of interest and the issue
of whether particular products are suitable for the needs
of their customers. The classic case of how things can go
wrong is the recent pension misselling scandal in the UK.
Hundreds of thousands of employees were persuaded by pension
salesmen and the companies they represented (including major
banks and insurance companies) to switch from occupational
pension schemes provided by their employers into personal
plans provided by the companies. It turned out that in many
cases, the employees were much worse off than if they had
stayed in their original schemes. The banks and other pension
providers stood accused of failing to give their customers
suitable advice and sufficient information on the costs
and benefits of making the switch. The end-result is that
the offending companies have been "named and shamed"
by the Government and pressurised into paying billions of
pounds in compensation. The reputation of these firms, many
of whom are household names in the UK, has suffered as a
result. This comes at an awkward time when banks in the
UK and elsewhere are attempting to expand their bancassurance
activities and to persuade the public to trust them with
their long-term savings.
10. Banks
in Hong Kong will need to bear this lesson in mind as we
embark upon the Mandatory Provident Fund Scheme. They will
also have to be alive to the other types of ethical conflict
that may arise as the banking environment becomes increasingly
competitive and there is even more focus on the bottom line.
The HKMA has already pointed out that as a result of interest
rate deregulation that there will be both winners and losers
among bank customers.
Those with small balances and relatively large volume of
transactions may find that increased fees outweigh the benefit
of any increase in the interest paid on their deposits.
As has happened elsewhere, banks may also become more selective
in their choice of customers and the level of customer service
may be affected if the number of branches is pruned to save
costs.
11. A move
towards a user pays approach and a reduction in cross-subsidisation
are manifestations of the greater efficiency that deregulation
is intended to produce. But banks will need to be careful
that this process is handled with tact and sensitivity.
Otherwise, they may be open to accusations from sections
of the community that they are neglecting their social responsibility
by curtailing, or increasing the cost of, basic banking
services to the economically disadvantaged. This was certainly
the accusation made against the Australian banks after deregulation
there. A further aspect is that the possibility of higher
and more extensive charges for banking services will make
it all the more important for the banks to deliver sufficient
information to their customers about these charges.
12. Let me
clarify at this point the HKMA's attitude to ethical matters
and particularly the issue of "fairness" to customers.
Our main responsibility under the Banking Ordinance is to
promote the general stability and effective working of the
banking system. In common with banking regulators in other
countries, we interpret this to mean that our principal
concern should be to determine that individual banks are
financially sound and prudently managed. The aim is to reduce
the risk of bank failure that would result in depositors
losing money and threaten the stability of the banking system
as a whole. We concentrate therefore on checking that the
banks have adequate capital and liquidity and effective
management and internal controls.
13. However,
this is not all that we do. Section 7 of the Banking Ordinance
goes on to say, among other things, that our functions include
the following aspects that have a distinct "ethical"
flavour:
- Taking reasonable steps to ensure that authorised institutions
operate in a "responsible, honest and business-like
manner"
- Promoting and encouraging "proper standards of
conduct and sound and prudent business practices"
- Suppressing "illegal, dishonourable or improper
practices".
14. These
specific functions can be related to our general function
of promoting the stability of the banking sector. Clearly,
if banks are involved in illegal or improper activities
(such as fraud or money laundering) this may threaten the
reputation not only of the bank concerned but also of the
banking system as a whole. This in turn may lead to a loss
of public confidence in the banks.
15. I believe
however that our functions also imply a broader interest
in the concept of "fairness" in the provision
of banking services. This is not to say that the HKMA should
act as a "consumer watchdog" in investigating
and adjudicating on disputes between banks and their customers
on matters such as the cost or quality of banking services.
But at the same time we should not be indifferent to how
banks treat their customers in general. If banks consistently
provide a bad or unfair service, this may damage the reputation
of the banks and destroy customer loyalty and confidence.
Taken to extremes, the system as a whole could be brought
into disrepute. This is why we promoted the Code of Banking
Practice issued jointly in 1997 by the two industry Associations.
The Code is intended to be observed by authorised institutions
in dealing with their personal customers, and it provides
an extremely useful mechanism for the promotion of fair
and transparent banking services in Hong Kong.
16. What tools
can banks use to manage ethics in their own organisations?
No doubt you will have been discussing this during the course
of the seminar and I will not go into a lot of detail in
this speech. Clearly, the first essential is for the bank
itself to be clear about the key ethical values to which
it subscribes. It then needs to ensure that the organisation
and the employees act in accordance with these values. This
can be done through the adoption of codes of conduct. The
former Commissioner of Banking issued a guideline in 1986
which requires all authorised institutions in Hong Kong
to prepare a code of conduct for their staff setting out
the standards to which they are expected to adhere. It is
also necessary to have policies and procedures designed
to ensure compliance with the standards specified in the
code of conduct. For example, many companies now employ
"ethics officers" and give their staff specific
training and advice on ethical issues. The guideline issued
by the Commissioner of Banking recommends that all institutions
should appoint at least one senior officer to handle queries
from staff and other matters relating to the code of conduct.
17. Codes
of conduct and the means to enforce them are important tools.
But I would caution against too narrow a compliance-based
approach towards ethics management. It appears from survey
responses carried out in some US companies that the most
important factor in controlling unethical conduct within
companies is how staff perceive the value that senior management
attaches to ethical behaviour. What matters in other words
is the general culture of the organisation and the example
that is set by those at the top. An important way in which
behaviour of staff can be influenced is, for example, through
remuneration policy, and senior management needs to be careful
to ensure that rewards are not given to staff who uses dubious
practices to gain business.
18. This brings
me round to the role of the board of directors in banks.
As you will recall, we commented in our recent Policy Response
to the Banking Sector Consultancy Study on the need for
high standards of corporate governance within the banking
system as the environment becomes more competitive. We had
in mind particularly the need to enhance systems of risk
management, and we noted that the primary responsibility
for ensuring this rested with the board of directors. We
could equally make the same point in relation to the promotion
of high ethical standards within banks. The board of directors
has an important role to play in establishing the overall
culture of an organisation. It is also the ultimate body
for resolving the type of complex ethical dilemmas I referred
to earlier, and ensuring in particular that the reputation
risks in new business strategies or product are carefully
addressed.
19. I hope
that this conference, and my speech, have demonstrated that
high ethical standards in banks are neither a luxury nor
an abstract ideal. Rather, they are a vital aspect of protecting
and enhancing the bank's brand image, and ensuring its long-term
business survival. Behaving ethically is not only the right
thing for banks to do, it also makes sound business sense.
Hong Kong
Monetary Authority
15 September 1999
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