There is early evidence that banks are changing their corporate cultures in light of regulatory initiatives such as the UK’s Senior Managers & Certification Regime. It is no surprise, therefore, that other regulators are taking a greater interest in it. By Justin Pugsley.

What is happening?

More than two years on from initial implementation, the UK’s Senior Managers & Certification Regime (SM&CR), which is one of the most comprehensive conduct regimes of its kind anywhere in the world, is not only starting to change bank cultures, as it was designed to do, but is attracting more interest from other regulators.

Reg rage anxiety

At a recent conference in London, culture and conduct specialists within banks discussed how they are changing their employers' incentive and remuneration structures and codes of conduct to try to create a culture where misconduct is no longer incentivised or tolerated.

This is evidence that some banks at least really are making an effort to become good corporate citizens. And they have good reason to. Regimes such as SM&CR make bankers not only personally responsible for their own conduct, but also for the actions of their subordinates. Each bank must produce responsibility maps for the Financial Conduct Authority (FCA) detailing where individual responsibilities lie within the bank.

Meanwhile, regulators in Hong Kong, Australia and South Africa have all had a good look at SM&CR to help inform their own conduct regimes.

Interest in SM&CR also seems to be gathering pace in the US, despite the Trump administration’s deregulation agenda, which some commentators see as a licence for bankers to misbehave and indulge in reckless risk taking.

But not so fast. Back in June, Jay Clayton, chairman of the US Securities and Exchange Commission, was talking about the importance of banks having clear cultural missions so they can handle unexpected grey areas and still do the ‘right’ thing. He cited the FCA’s work on changing bank cultures throughout his speech.

On the same day, John Williams, the president and CEO of the Federal Reserve Bank of San Francisco, also emphasised the importance of banks having good corporate cultures, adding that getting there is a five- to 10-year project.

It appears that US regulators are going to be paying even more attention to bank cultures and lean on institutions to change them if they feel they are not up to scratch.

Why is it happening?

First there is the obvious reason. Academic research shows that nearly all banking scandals can be traced to poor corporate cultures. Therefore fixing them along with sound prudential requirements should make bank failures less likely to occur.

The second more subtle reason, and one highlighted by Mr Williams, is that during the good times, banks appear to be financially robust. He is concerned, and experience suggests he is right to be, that this good performance may mask misconduct, irresponsible risk taking and generally lax controls.

Indeed, as much of the policy-making around prudential and capital markets rules is more or less done, regulators appear to be paying an increasing amount of attention to bank cultures.

The problem, as highlighted by Mr Williams, is that ‘culture’ is very difficult to measure or quantify, and unlike capital ratios, for example, is a 'soft' subject. Unfortunately, for bankers that also probably means that it makes supervisory judgements over what constitutes a bad corporate culture rather subjective and potentially unpredictable.

What do the bankers say?

Bankers in the UK find SM&CR onerous – some have even turned down senior management positions as a result or demanded much bigger remuneration packages.

However, they have little choice but to accept the trend and some see it as an opportunity to create much more ethical bank cultures that make it less likely that their institutions will suffer reputational damage and be slapped with huge fines.  

This has led banks to rethink their bonus structures, particularly in retail to avoid incentivising staff to abuse customers. One UK bank is removing variable pay below management grade outside the investment bank and combining that with conduct checks so staff can verify that their conduct is appropriate when they feel something is not right.

Will it provide the incentives?  

Regulatory intelligence firm Corlytics believes that conduct-related fines aimed at individuals are set to increase as more rules come online. Also, regulators are tending to target individuals more when something goes wrong.

The potential for heavy fines, tarnished reputations and bans from working in financial services should deter all but the most criminally minded persons.

However, where regimes such as SM&CR could really make a difference is in stopping the evolution of misbehaviour and reckless risk taking by large groups of individuals.

When everyone is doing it, it makes misbehaviour seem normal, as witnessed with the interest rate and foreign exchange rigging scandals, and creates peer pressure for others to join in, effectively institutionalising bad conduct.

If SM&CR stops that from happening, then it will have achieved a great deal and should greatly reduce misconduct. 

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