How can we reform banks so they better serve society? It's telling that it took a conference organized by women and featuring an all-female lineup of speakers to focus on this question.
The 18 women speakers at the Institute for New Economic Thinking's conference in Washington, D.C., encouraged people in the field to think creatively about bank reform. Collectively, their arguments laid out a clear strategy for building a safer and more ethical financial system. I firmly believe that in order for banks to provide credit to companies and individuals fairly and efficiently, banks need to have a strong ethical culture, cultivate a diversity of thought, learn from other disciplines and become better capitalized and more transparent.
Improving banks' ethical culture is an essential part of reform. "Regulations are not enough," said International Monetary Fund head Christine Lagarde. While numerous bank and derivatives rules have been finalized and are now being implemented, "we must move from rule-based behavior to values-based."
A litany of scandals involving bank fraud, erroneous home foreclosures, insider trading, market-rate manipulation, and violations of anti-money laundering and terrorist financing rules clearly demonstrates that "heads of banks have not implemented ethical culture," said Ngaire Woods, founding dean of the Blavatnik School of Government and professor of global economic governance at the University of Oxford.
Further elaborating on this theme, Lagarde explained that "ethics, as Aristotle taught, are molded from habit." By the time professionals turn up at a bank, however, they may have already established their set of values and are unlikely to experience sudden moral epiphanies. Therefore it is imperative that bank boards and senior executives set the tone at the top that ethical violations will be punished.
Putting more women leaders in banking and regulatory agencies could help drive the change to a more ethical culture in banking, as Lagarde pointed out.
"Female leadership is more inclusive and probably more risk-averse," Lagarde said. "What would have happened if Lehman Brothers had been Lehman Sisters?"
In addition to diversity of thought, learning from other disciplines are essential. We need to be looking outside of banking for solutions in our own industry. The aviation, pharmaceutical, and the toy industries, for example, are fields where failure to comply with safety standards can result in injury or even death. Therefore these industries have to be well-regulated. Given that the banking sector, with multiple credit products and derivatives, poses its own enormous risks to the well-being of ordinary people, why should it not face the same level of scrutiny?
Stanford University finance and economics professor Anat Admati explained why it's necessary to hold senior bank management accountable for scandals at their banks. We would not tolerate "airline executives or engineers saying that a plane crashed due to unforeseen lightning or a perfect storm," she said. Unfortunately, in finance, "you can be willfully blind, and ordinary people are harmed."
A consensus emerged during the conference that Dodd-Frank has yet to address all of the weaknesses that helped create the conditions for the last financial crisis. "The jury is still out on whether Dodd-Frank will be fully implemented and enforced," said Brooksley Born, the former Commodity Futures Trading Commission chair who tried and failed to persuade former Fed chair Alan Greenspan and former Treasury secretary Robert Rubin to regulate over-the-counter derivatives. "Many financial institutions are too large to be susceptible to good management, supervision and regulation," she continued.
Like these speakers, I believe our society cannot afford to wait around until senior male executives many of whom have been around since the lead-up to the crisis willingly reform banking to benefit all Americans. Therefore improving capital and bank transparency regulation is essential to ensuring that banks do not cheat or fail to the detriment of ordinary individuals.
Large internationally interconnected banks, in particular, need to be better regulated and supervised. When they fail, they cause significant negative externalities globally to ordinary citizens.
The speakers primarily emphasized regulations that require more capital and transparency. Federal Reserve chair Janet Yellen described the proposed capital surcharge for globally systemically important banks in the U.S. as "appropriate because these large financial institutions could really hurt the economy if they failed." Her comments are very important and timely, since in early April the American Bankers Association petitioned the Federal Reserve to withdraw this important proposal.
"There need to be a focus on more and higher quality of capital," said Kansas City Fed president Esther George. She argued that the leverage ratio, which is not based on opaque risk-weighted assets, "is increasingly important."
Unfortunately, we can never know how Lehman Sisters might have changed the course of history. But we can listen to the women who spoke at INET's conference and require banks to be transparent about their corporate structures, risk-weighted assets and how they generate their earnings. This will allow the market, financial reformers, and the population at large to better determine how banks are serving society.
After all, as the IMF's Ceyla Pazarbasioglu reminded the audience, the word "credit" comes from the Latin credere, meaning "to trust." "Without trust, there is not a viable financial market," she said. Moreover, I emerged from the conference even more convinced that bank rules are not the enemy of the market, no matter what bank lobbyists and their supporters might argue. Instead, like Sen. Elizabeth Warren, I believe that bank rules "are a friend of the economy."