Can Guilt Help Bankers Change For The Better?

Should financiers feel guilty? If they did, would it make the world of money a safer place? In the years following the 2008 financial crisis, these questions were raised with anger by politicians, media experts and ordinary citizens. Now, the powerful New York Federal Reserve is exploring the issue in a more forward-looking – and geeky – way as well.

Last week, he released a series of podcasts and a mountain of research papers, which draw on the work of psychologists, neuroscientists and social scientists to examine “the norms and mindsets that contribute to the range of decision making, from ethical to unethical “. This included a discussion of the predictive power of “guilt” among financiers, drawing on the work of Taya Cohen, a professor at Carnegie Mellon, who argues that “highly guilty individuals” may have a “moral advantage” over financial backers. workplaces and that banks should try to hire them.

Separately, Insead professor Mark Mortensen examines why formal rules can’t prevent bad behavior in a Zoom culture, and David Grosse, head of risk and culture at HSBC, explains what group dynamics show about trading floors, while compliance officers from groups like NatWest reveal how they use psychology to track risk. (Full disclosure, I also briefly comment on the anthropology of finance.) The goal, according to New York Fed Chairman John Williams, is to understand the importance of culture in shaping decisions to “ individual and institutional levels ”.

None of this will come as particularly surprising to academic psychologists or business school professors, given that it has been bubbling up in the private sector for years. But this is sort of a first for the Fed. After all, at the end of the 20th century and the beginning of the 21st century, the world of macroeconomics and financial policymaking was dominated by quantitative models; qualitative studies have been largely minimized, if not ridiculed.

That changed somewhat after the crash when behavioral finance became more popular. In 2011, Alan Greenspan, the former chairman of the Federal Reserve and once a big fan of business models, stopped me at a conference in Aspen and asked me for recommendations on introductory books to the anthropology, explaining that he (belatedly) realized that culture matters in markets.

Greenspan’s new interest was primarily sparked by curiosity about other cultures, but not his own (at the time, he was bewildered by why the Greeks had such a special attitude to debt to him during the eurozone crisis). Indeed, in practical terms, even after the crash, financial regulators initially made very little effort to adopt a more systemic attitude to the issue.

But that is about to change. Plus, it doesn’t just happen to the Fed. London is actually well ahead of New York in this regard, as a local regulator called the Banking Standards Board has focused so much on the issue that it recently rebranded itself as the Financial Services Culture Board.

As this analytical shift occurs, it highlights three notable points. First and foremost, and this is the most obvious, it should remind us all that there is nothing like burning your fingers to teach you some common sense. In an ideal world, the Fed should have embarked on all of these thinking long before 2008. In the real world, however, it felt so confident before the crisis that it didn’t feel the need to. This should throw a glove at other regulators to broaden their own target before – not after – a crisis. After all, a little cultural analysis could come in handy when looking at industries like technology, food, energy, medicine, or climate science.

Second, one of the reasons the Fed is – belatedly – leaning more into culture now is that the rise of digitization has made officials doubly eager to avoid a repeat of 2008. Our momentum in cyberspace for Pandemic lockdown is accelerating major structural changes, on a scale arguably not seen since the wave of financial innovations two decades ago. This, in turn, sparks debate on new questions: Does working from home increase the risk of fraud? Are trading apps exacerbating market panics? How should compliance evolve with the hybrid?

Third, digitization raises new challenges for regulators but also, ironically, facilitates the exchange of ideas on how to deal with the issue of ‘culture’. A few years ago, whenever Fed officials wanted to talk to their counterparts around the world about cultural issues, they tended to do so by hosting conferences. It was laborious and attracted a small group of participants. Now they can turn to Zoom, making it easier for them to attract participants from a much larger geographic network and more disciplines. Intellectual exchanges have accelerated.

Will this make regulators and financiers wiser in the future than they were in the past? In all fairness, we won’t know until the next stock market crash. But I hope so. In the meantime, the experiments are another reminder of the unexpected ways in which Covid-19 has caused a sense of cultural and intellectual flow – even among heavy regulators. Three cheers, in other words, for the Fed’s new interest in guilt psychology. Hope the bankers embrace it too.

Follow Gillian on Twitter @gilliantett and send him an email at gillian.tett@ft.com

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James C. Tibbs