I have always enjoyed watching the movie, “Miller’s Crossing.” It is a gangster era movie that opens with one mobster bemoaning the lack of ethics in his business as cronies look for an angle to make a profit on a boxing match that he has fixed. Yet as I watch the monster’s ball that the financial services industry has devolved into, I cannot help but remember that scene.
So why has ethics failures plagued financial services? And why does it seem so hard for this business to do the right things? Even recently in headlines, we have watched in dismay as bankers continue to enrich themselves, seemingly without a shred of awareness of why this is not a good idea at the moment.
I think that there are some good reasons that it has been hard for the industry to find its moral compass. One of the largest contributors to this vacuous ethical environment is the strict view that economics is a stand alone social science. The core premise of economics being the rational distribution and use of resources in a closed environment (i.e. limited resources.) And the corollary view that the most efficient mechanism to allocate resources is through unregulated markets.
Stemming from these two views is an implicit third perspective that economics is exclusively about resources and that there is no economic rationale to exercise ethical behavior. After all, what does impersonal market activity channeling resources to the most economically efficient agent have to do with church on Sunday? (or Saturday?)
This raises an interesting question of “how do we economically measure unethical behavior?” Because if we can measure its costs then we have economic relevance and ethics takes its rightful place among economic factors that must be consider by rational agents. And therein lies the crux of the issue. We can only measure the cost of ethical failures when it results in tangible losses- such as now.
Right about now as we dangle above the economic abyss, we can see that lack of transparency, due diligence and an arbitrage-based compensation system have been pretty expensive. There are many risks that we face that cannot be measured a priori and can only be measured ex post facto. Unfortunately ethics in finance appears to be in this class of challenges. You never know how economically inefficient the lack of ethics is until you have experienced a catastrophe- and then it is too late.