England, wrote George Orwell in 1941, is a family with the wrong members in control. What he meant was that the country was governed by the elderly, the moneyed and the entitled, none of which even wanted to understand the scale of the problems they faced, let alone cure them, and that all energy and open-mindedness and creativity was thwarted by the sure-and-steady types that never hesitate to label any effective solution impracticable under present conditions. The botched and misguided response of governments and central bankers to the current crisis proves that the whole of our Atlantic civilization is now under the sway of men and measures that are Lilliputian by comparison with the giants they must slay. The same, it is increasingly evident, is true of the leaders of our great banking institutions. The failures of those that led the banks into the crisis in 2007 are well documented. Five years on, little has changed. In recent months, the character of one bank CEO was exposed as an imposture, and that of another as shameless, while a third was put to the test and found wanting.
It would be convenient for bankers to ascribe these unforgiving judgments to the need, among consumers as well as politicians, for scapegoats. After all, the purpose of a scapegoat is to bear the sins of others. But it would be foolish to agree with the public, press and politicians that the only problem with the financial system is that it has fallen under the command of bad or incompetent or greedy people. If it was, it could be solved by a mere change of personnel. Unfortunately, the problem is not that the financial system is run by unscrupulous people. It is that the financial system is effectively designed to attract unscrupulous people and to reward unscrupulous behavior. The long hours and lavish rewards of a career in banking, especially in the conditions of loose money, perverse regulation and moral hazard that have prevailed in recent decades, mean that the profession is bound to attract a particular type of personality.
Such personalities are ill suited to the task of leading large and complicated organizations through the stresses of prolonged bear markets, especially if their prior experience was confined to the 25 years between 1982 and 2007. It is not surprising that minds honed in markets that have never failed to resurrect themselves are struggling to comprehend the current environment. They are bound to neglect or ignore information that they find unpalatable, or which conflicts with their preconceptions, or which violates their expectations. Nothing illustrates this more completely than the outraged sense of entitlement that greets the suggestion that a large cash bonus should be exceptional rather than perennial. Yet the intensity of the anger about bonuses is in inverse proportion to their importance, as problem or solution. Any individual who is prepared to sacrifice personal honor for a large cash bonus tells us nothing about human nature we did not know already. As for those who sacrifice a large cash bonus in the face of public hostility, whether or not they portray it as a noble sacrifice, they tell us about nobody but themselves.
Such people are the slaves of their desire for money. What the banking industry needs now is leaders who have mastered this desire, because that is the form of self-disclosure that leadership in these times demands. Those for whom money is the measure of all things lost the public four or five years ago, and now they have lost their employees as well. They have continued to be themselves, but in the wrong context. For them, trimming a bonus, or even foregoing it altogether, will always be seen as an inauthentic act. It also demeans the contributions of those further down the hierarchy, for whom the annual bonus is not an accolade but a necessity. It breaks the invisible bonds by which the led identify with the leadership. Even these sins would be forgivable if the leadership had not halved the share price, cost thousands their jobs, alienated the public and forfeited the support of the public. Ultimately, any form of leadership must be judged not by its popularity but by its effectiveness.
Leading a bank is undoubtedly a difficult job. The CEO has to adopt a plausible strategy, communicate it to subordinates, enthuse thousands of staff engaged in its implementation and represent the organization to shareholders, clients, regulators, politicians and the media. That takes tremendous reserves of energy and confidence. Easily the most demanding task that falls to the leader of a bank, however, is the need to make sound and well-informed decisions. Being highly leveraged, banks trade uniquely close to disaster all the time. Yet the leadership of a bank active in the credit and capital markets faces an impossible informational challenge. The quantities of information generated by modern financial markets are vast. They have to be processed, and acted upon, within a timeframe that cannot possibly accommodate the analysis that is necessary to make a fully informed decision. Inevitably, senior bankers come to rely on reviewing a subset of numerical indicators, most of them derived from mathematical theories that are demonstrably flawed (such as value at risk) or rules whose outcome is perverse (such as fair value accounting). In managing a large bank, the senior management faces the insuperable problem that modern computing and communications technologies amplify the quantity of information available, while modern financial market theory distorts the messages it contains.
Filtering and acting on distorted information requires excellent judgment. The multifarious disasters that have overtaken the banking industry in the last five years suggest that this quality is in short supply in the upper echelons of the great global banks. It is unlikely that this betrays a lack of intelligence. It is more likely that the minds of senior bankers have closed to new ideas. This is partly a function of being too busy to read, or having time to read only what is pressing, as the platitudinous prose of senior executives never fails to exemplify. Off-sites and sabbaticals at business schools cannot disturb this pattern. This closing of the minds of the bankers was accelerated by the erosion of the barriers between investment banking and securities trading in the 1980s and 1990s, because it squeezed out the better educated and more thoughtful personalities who populated the partnership banks of old. Most banks now combine trading and investment-banking disciplines and tend to be led by personalities with a trading background, whose success owes nothing to a capacity for sustained reflection. The trading temperament in particular values any decision over none; adopts courses of action that promise the largest payoff; and persists in courses of action even as evidence accumulates that they are mistaken. In banking, that means taking the largest risks, such as buying another bank or banking business without a full understanding of what it owes and owns, and dismissing those who question the wisdom of the purchase as faint-hearts.
In bull markets, the damage caused by this appetite for taking unwarranted risks is washed away by revenues rising fast enough to cover the cost of the consequent write-offs of capital. It is the markets that have prevailed since 2007 that have exposed the fact that the banking industry has proved itself remarkably adept at promoting to positions of authority people capable of bringing opprobriumand occasionally ruinto the organizations that they lead. The fateful decisions taken (and not taken) by the senior management of a number of failed and damaged banks suggest that the qualities necessary to rise to the top of a major bank do not always include an innate or acquired capacity to lead. If this seems counterintuitive in an industry that has the pick of the graduates of the finest universities, many of which go on to devise products that make punishing demands of agile mathematicians and clever lawyers, it is because there is a limited connection between intellect and leadership. True leadership depends not on intelligence but virtue. It requires self-knowledge, a sense of honor, adherence to principle, the capacity to treat people as ends and not means, the willingness to take responsibility when something goes wrong, the courage to accept that the chosen course might be mistaken and the imagination to conceive of an alternative.
Unfortunately, these qualities are not valued by modern banks. Joining one is not unlike joining the army. The bank takes ownership, not just of the time of its most promising employees, but of their life. Trivially, this is evident in the provision of health, leisure and laundry facilities on the bank premises. Less trivially, the sheer quantity of time expended at work blocks access to discordant information. The same onerous demands deter all but a particular type of personality, and the heterogeneity of the group steadily decreases to the point where dissident views evaporate completely. Banks are also large corporate organizations, and, like all such entities, they cramp the gifted but prove a gift to the mediocre. In fact, anyone who performs brilliant individual feats within a large organization must do so despite the stultifying ambience. This is why the general level of competence within an organization diminishes in direct proportion to its size. The shrinking reputation and rewards of the banking industry today can only abet this process. It is a dispiriting prospect, in which ever-less able people will prosecute ever-more difficult tasks. Even if large errors are avoided, the daily toll exerted by an intrinsic lack of inventiveness will be high. The present state of the banking industry, its leadership torn between mute acceptance of regulation and frenetic lobbying to mitigate its impact, with scarcely a thought given to devising an alternative, already bears ample witness to an almost complete want of imagination.
Imagination cannot thrive without ideas, and few human institutions are less open to genuinely revolutionary ideas than the banks. They are, of course, extremely open to merely useful ideas. Bankers readily adapted the Modigliani-Miller theorem (as favorable to debt financing), the portfolio theory of Harry Markowitz (it argues for complex investment products), the efficient market hypothesis of Eugene Fama (it reassures investors the price is always right), the options pricing theory of Fischer Black, Myron Scholes and Robert Merton (it enables derivatives to be valued) and value at risk (it makes adding leverage look scientific). Ideas that challenged self-interest, such as those of Benoit Mandelbrot, on the other hand, tend to be marginalized. Similarly, uncongenial voices tend not be heard in banks. There is no reward for those who are critical of their superiors, as individuals in a number of recent financial disasters have found. Some banks even develop a leadership cult, in which employees come to believe that their CEO is so wise and experienced that questioning his judgment is an act of lse-majest. This does not improve the management of risk. As one recent episode demonstrated, a reputation for omniscience at the highest level can transform an everyday accident into a reputational disaster.
But a bank does not need a personality cult to cut itself off from the truth. Every day, the legal and corporate communications departments of the banks erect a carapace against the penetration of truth from the world or the release of facts about the organization into the world. Far from equipping the leadership of the bank with the information they need to make better decisions, this system not only distorts and destroys information but actually manufactures non-information. Corporate communications have decayed to the point where they are best understood as a form of institutionalized lying to the organization itself, let alone its clients, shareholders and the public. Any organization that is not merely resistant to uncongenial information, but actually engaged in the manufacture of information that better fits its self-image, is bound to lack the capacity for renewal. Organizations of this kind treat criticism not as a valuable corrective, but as an insult, and reach for their lawyers to extract redress. Denied the valuable corrective administered by truth, banks are now unable to learn, innovate or even improvise when market conditions change.
The most senior insiders cannot counter this effect. That well-attested source of military blundersthe reluctance of subordinates to question the decisions of superiorsis prevalent throughout a self-consciously aggressive and competitive industry that never hesitates to distinguish between producers and non-producers. One investment bank even makes a virtue of an annual policy of decimation. But banks do not need such explicit measures of success and failure to adjust their payrolls in ways that manage to be both reckless and ruthless at the same time. In a downturn, staff are not hoarded for the upturn, but discarded. Every upturn, on the other hand, prompts indiscriminate recruitment. Even in normal markets, banks reinforce what works immediately and withdraw precipitately from whatever does not. This institutionalized contempt for the dictates of reason and the promptings of compassion both feeds and feeds upon the carefully burnished self-image of the trader-leaders whose proudest boast is that they follow their heads rather than their hearts. Theirs is a world whose contradictionsfear and greed, patience and profit, system and opportunity, reason and emotionare resolved only by money. That meretricious substance ensures that the people they hire and fire never see themselves as victims, because they are paid so well. For them, the trade is insecurity for money. It is a system that creates not employees but mercenaries. They are ready always, like the representational employee of an Indian call center, to join a competitor for a few dollars more.
Neoclassical economics, with its stunted reduction of human nature to the rational, utility-maximizing individual spreading public blessings through the pursuit of self-interest, was as good as designed for this collective mentality. In investment banking, the ideology became flesh. The profession ceased to attract people with hinterlands, or even the most rudimentary moral sense. In no field of human endeavor was the philosophy of Gary Becker adopted more consciously than that of investment banking. Such a desiccated culture deters those unwilling to sacrifice the pleasures of the mind, and of a private life, and further narrow the range of advice and experience available within the largest global banks. Naturally, regulators in thrall to neoclassical economics are resistant to the idea that the financial crisis owes anything to the typology of the human mind. But they should at least consider the possibility that money-or-your-life is a bargain those least fit to lead will be most willing to strike. Any organization will tend to recruit in its own image, and in banking the ethos of the organization, and the types of personalities it attracts, have fused. The one no longer reinforces the other, but has actually become it.
The result is a banking culture characterized by homogeneity, chronic insecurity, lack of loyalty to the institution and the absence of any sense of common purpose. Senior bankers are notoriously reluctant to place their trust in strangers (no matter how successful) rather than friends or long-standing associates (no matter how unsuccessful). Individual investment bankers, no matter what their personal attributes or individual achievements, are described routinely in terms of who owes loyalty to whom. Team defections, which are not always simultaneous, are commonplace. Even the admiration of fellow team members lasts only so long as the compensation continues to grow. In banking, status depends not on moral qualities but on material advancement. Indeed, in investment banking in particular, high status and high rewards are perfectly correlated. The result is leadership bereft of any moral foundation. This is a non-trivial problem. Privately, any individual banker would agree that ends do not justify means, but at work their habits of mind and behavior become quite detached from moral criteria, precisely because they are led by people who operate by the commercial equivalent of raison dtat.
Nobody is shocked any more when a CEO refuses to take personal responsibility. Instead, errors, losses, even the most shameless breaches of trust, are blamed on a rogue trader or a handful of misguided individuals. Where these individuals cannot be identified, blame is ascribed to mystical forces that could not be anticipated or controlled. It is commonplace for CEOs to attribute expensive disasters to markets that were dislocated or distressed. In fact, it is not unthinkable for CEOs to argue that everybody is doing it, as if crimes become progressively less heinous in line with the frequency of their occurrence. At best, an unconvincing apology will be issued and subordinates relieved of their roles. The CEO is either left in office or has to be prised from it by a higher authority. Meanwhile, the spin-doctors are to hand with a ready explanation. The compliance departments grow ever larger and corporate governance systems more intricate still. Truth has given way to economies with the truth. Morals have given way to procedures. No wonder it is so hard now to tell the difference between leadership in banking and leadership in politics. Both reward the least scrupulous. It is impossible to ponder how they can be rebuilt without being filled with foreboding. Catastrophe alone has the capacity to free them of their corruption and inertia.