Transforming Culture in Regulated Financial Services in Ireland - Martin Moloney, Special Advisor

18 May 2018 Speech

Central Bank of Ireland

Speech delivered at Alvarez & Marsal / Byrne Wallace Solicitors Seminar on Transforming Culture in Regulated Financial Services in Ireland

Both the Director General, Conduct Regulation, Derville Rowland1 and the Deputy Governor, Prudential Regulation, Ed Sibley2 have spoken recently about the culture of regulated firms in Ireland. Indeed, persistent conduct issues have prompted regulators worldwide to consider whether intrusive regulation, fines and compliance measures are sufficient if we are to deliver on our goal of requiring regulated firms to act in the best interests of consumers. Increasingly the international regulatory focus is on transforming the culture in the financial services sector3.

Today’s event has culture as its theme, in large part because the Central Bank is asking firms to focus on culture and naming culture as a cause of many of the regulatory problems we face.

The Central Bank has been to the forefront of developments in this space, introducing, for example, a framework for the assessment of culture in financial services firms which seeks to determine how those firms identify and manage consumer risk. We continue to work with other international supervisory bodies to influence and shape regulatory developments in this area at European and global level.

My purpose here today is, firstly, to say something about why talking about culture is recognised as a useful way to tackle regulatory challenges, secondly, to speak a bit about how companies can respond constructively to this emphasis on culture by the Central Bank and thirdly to say a little about what we are not talking about when regulators talk about engaging with firms on culture.

We have all known for a long time how situational all human behaviour is and how our individual sense of right and wrong is influenced by those around us. The Stanford prison experiment and the Milgram experiment4 are just two of the more famous among a whole armoury of experiments which have confirmed the influence of the behaviour of others on our behaviour, including our ethical choices.

I think a very useful definition of culture which I take from Richardson and Boyd (2005) is “ information capable of affecting individuals’ behaviour that they acquire from other members of their species through teaching, imitation, and other forms of social transmission5.”

We can immediately see the financial services firm as an important part of the culture transmission mechanism in our society6. The culture of a firm differentiates it, supports its sense of identity and forges a set of beliefs and values that allow people to integrate together to form teams7. But so also is a financial services centre like Dublin, with its eco-system of accountancy firms, law firms and other advisors and its particular labour pool. I want to talk a little today about both aspects of financial services culture.

We can trace the origins of the modern concept of culture to the development of the disciplines of social anthropology and social psychology. From these disciplines, we have developed an understanding of how culture can operate with its own dynamic and how strongly culture, as distinct from legal obligations or economic incentives, influence human relationships which are, in turn, the building blocks of organisational behaviour.
Some of the most interesting approaches currently understand culture as socially transmitted behaviour and study topics such as ‘cumulative cultural evolution’ and ‘cultural intelligence’, testing our social learning biases and identifying patterns of ‘cultural attraction’ which transform culture in the process of transmission8.

But perhaps as we look back, the most powerful aphorism concerning culture that those here will be familiar with is that ‘culture eats strategy for breakfast’. It is attributed to Peter Drucker and we have all been quoting and nodding approvingly ever since9.

This ‘iceberg’ concept of culture sees it, in the first instance, as a threat to strategy – mostly hidden from view, but evolving in accordance with its own rules, challenging change programmes, undermining mergers and deciding which firms survive and prosper and which firms prove unable to surf the waves of change.

But there is also an alternative concept of culture: as a crucial reflection of leadership. As leadership has come to be seen in management theory as a matter of personal style – whether autocratic, democratic, transactional and so on – leadership theory has helped us to see that leadership styles impact as much, if not more, in terms of their influence on team working and thus culture, rather than in terms of the particular choices the leader makes. When we talk about leadership as influencing ways of working, we are recognising how leaders influence culture.

We seem to have two concepts of culture in some tension here – the idea of culture as something which is an obstacle to the implementation of the change that a leader initiates and the idea of culture as the mechanism for leaders to influence their organisations. Someone like John Kotter from Harvard Business School is notable for bringing this cultural problem and this leadership solution together into an approach to managing change.

Truth to be told, many cultures prove to be aligned with and follow economic incentives and do not operate entirely independently; similarly, if culture acts as an obstacle to change, it is also the best lever for organisations trying to change and if leaders primarily influence their organisations through their cultural influence, organisational culture can also isolate and defeat a leader’s best intentions.

Culture is one of those areas of discussion where it is neither always clear what is being discussed, what its significance is or how it can be influenced.

But it is important, important and challenging. Let me turn to one of the most difficult areas for culture-focused risk analysis of the financial services sector, namely the role of professional advisors, who are a crucial element of the culture of the financial sector ecosystem here and elsewhere.

Let me give you an example of the importance of advisory culture for regulators to illustrate that professional advisors in a financial centre like Dublin have an important contribution to make to cultural improvement.

In a very interesting recent set of comments on Initial Coin Offerings, the Chair of the USA SEC, Jay Clayton challenged lawyers that “there are ICOs where the lawyers involved appear to be, on the one hand, assisting promoters in structuring offerings of products that have many of the key features of a securities offering, but call it an “ICO,” which sounds pretty close to an IPO.” and that even in circumstances where registration would likely be warranted. “These lawyers appear”, he went on to observe, “to provide the “it depends” equivocal advice, rather than counselling their clients that the product they are promoting likely is a security”; i.e. a financial instrument which requires regulation10.

This kind of advisory behaviour can be seen as culturally damaging were it replicated here, for an on-shore regional financial services centre like Ireland, when viewed as a cultural ecosystem. But I think it is very challenging to tackle it. Lawyers are bound by a strong code of professional ethics and have crucially important duties of care to their clients. They are also, more than anyone else, sensitive to the dividing line between what is legal and what is not.

Some years ago I gave a speech criticising a minority of law firms for advising clients in ways which looked like advice on how best to frustrate or slow down a central bank inspection. To give another example today, building on the SEC remarks, it is surely not part of a good culture for law firms to see it as their role to help their clients to avoid regulation whenever possible. Regulation is there to protect consumers and society as a whole. Why would it ever be the job of a conscientious professional to advise clients how to frustrate the protection of the vulnerable? 

I want to suggest that those lawyers who think that is OK, may conflate the responsibilities of a courtroom advocate with the responsibilities of legal advisory work. Of course, there are clever ways that regulation can, quite legally, be avoided or frustrated. But does it reflect an ineffective culture to get to the point where advisors are helping a firm to do so? The test of doing whatever is permissable, is surely not the correct test for good legal advisors to apply. Let me acknowledge that many law firms will not adopt that approach, preferring to provide more measured and wise advice to their clients than just ‘do what ever you can legally do’.

Some will say that advisors who focus strictly and exclusively on the letter of the law are only helping clients avoid the cost of regulation where the rules never intended them to be caught. This is sometimes true and it is important that it is sometimes true.

Regulation is a cost and, particularly when competing against others who do not bear that cost, the competitive playing field is not level if some companies are subject to a cost that other similar companies are not subject to.

But there are also situations where a firm can artificially structure its business to avoid regulation and lawyers can help them to do it. But surely, you might argue, lawyers must give their clients the facts. Of course: and if their client is determined to go this route, they must advise them truthfully and comprehensively. But is that really the normal situation? More usually, is the relationship not more complex and closer to a partnership in reaching a course of action? And if a client is determined to go this route, are they the kind of client the firm wants to retain?

All of which is a way of focusing on the dilemmas that lawyers, accountants and other professional advisors face in Dublin in beginning to think about their role as cultural agents. As firms talk to you about what they should do, your contribution influences their culture.

And yes, the system could respond by re-writing the rules to cover each clever ploy as it is developed. But re-writing the rules takes time and runs the risk of consumers being left unprotected in the interim. Furthermore, constantly re-writing the rules creates over-engineered regulation which imposes unnecessary costs on other firms and the system as a whole.

What is really interesting in these examples - focused on lawyers - is the cultural assumptions which suggest that it is OK to help firms to act this way. These examples are intended to highlight the potential cultural assumptions which might underpin ignoring the issues I am trying to outline here: such as the potential assumption that a lawyer only has obligations to his client and not to society at large; or the view that regulation should be avoided where possible and that no harm will come to consumers anyway. Such a culture of avoidance of regulation would impose costs and risks on everyone else and its occurrence reflects an unhealthy culture in the regulated firm and its advisers.

I am not suggesting that a law firm which acts this way would be doing anything illegal. The whole point is that it is not. It is probably not even in breach of its code of professional ethics. But, somehow, its culture seems to be leading such a firm in the wrong direction. The really good law firm does its best by its clients, yes, but also does nothing which it would not wish to see broadcast over national media.

My conclusion with regard to advisors in this difficult area is in agreement with Michel Held, General Counsel and Executive Vice President of the Legal Group of the Federal Reserve Bank of New York, who in very useful recent remarks at the First Line of Defence Summit concluded that “lawyers are supposed to assist the firm in its mission and protect its long-term reputation, its good name as a store of value. That takes courage, especially when an action is technically legal but otherwise wrong or just plain stupid.”11

The problem here is similar to extreme tax avoidance techniques, the kind of tax avoidance which reaches the point where the boundary between tax avoidance and tax evasion begins to seem redundant. Firms and their tax advisers with the wrong culture don’t see that they have strayed off the path. Their actions impose costs on everyone else in terms of tax foregone, time and effort to refine tax codes to deal with the avoidance technique and consequentially over-complex tax codes.

Tax authorities, it seems, can see no alternative in tackling such extreme tax avoidance to putting in place provisions for expensive and time consuming reviews of such tax arrangements. There are now a whole set of rules and powers and compulsory reporting obligations to tackle extreme tax avoidance. What is notable is that the tax authorities cannot just close all the loopholes – the impacts would be too great.

The issue is similar also to recent cases of abuse of personal data. The fact that what has been done was not illegal hardly deals with the issue.

In a simpler world, perhaps the law embodied public morality. In a globalised world with innovation on all sides, firms and individuals are more and more obliged to find their ethical standards within themselves and within the cultures of the organisations which teach them how to behave.

When it comes to tax, this means paying tax you might have avoided. When it comes to personal data, Europe has had to introduce the GDPR to counter a culture which was, in places, inadequate, although there were companies with very strong voluntary policies on the control of personal data. When it comes to financial services regulation, it’s worth asking, what does this suggested requirement for firms and their advisors not to rely on the minimum standard of behaviour, encoded in the law, imply?

To answer this question, it might be useful to ask: why we have consumer protection regulation at all. Why do we not just rely on contract law and the private law remedy of going to the courts? The answer is that contract law relies on consent, but as has been highlighted in recent debates in an unrelated area, good consent is far more than a formal signing of a contract or silence in the face of an opportunity to dissent. Good consent is active, informed and capable of being withdrawn. Simple consent is an unreliable safeguard in a world where firms have the wrong culture and are tempted by business models which are not focused on being trustworthy.12  This is particularly true of complex financial products. Clients are vulnerable to giving a consent which does not reflect their real needs or interests.

Too often, although thankfully far from always, we see companies who see the pursuit of consent from consumers as something akin to fly fishing. Some pay less attention to providing high quality products that the consumer will never regret having purchased and more to hooking the customer with bells and whistles and marketing techniques intended to leverage off the asymmetry of information between buyer and seller in order to tie the customer into a contract which they may soon regret but will have no way out of.

Fixing this, by always forcing clients to go to court to vindicate their interests and then by constantly changing the law to deal with such schemes, is highly costly for consumers, for society and for other companies. For this reason, regulators have a promotional role of supporting good practices as well as supervising compliance with requirements already hard-wired into the law.

Of course, so do company boards and company leaders and many take their role in promoting good corporate culture very seriously. Under the rubric of ‘sustainability’ many good companies now look to avoid this kind of behaviour and seek out business models that depend on bringing real and evident added value to their clients. I was impressed by a recent comment by Guy Spier, chief executive officer of Aquamarine Capital talking to his own sector, asset management, that “We have to bring a culture in in which you do not respect people for creaming [fees] off the top."13 His comments are simple, direct and well made.

It is also fascinating to see the success of the ‘great places to work’ programme where companies volunteer to have their culture independently assessed to underpin their HR policies. We see many companies adopting diversity policies and other corporate social responsibility policies that they are not required by law to adopt, but which their leaderships deem in the best interests of the firm. Many firms also take a much broader approach to stakeholder interests than the traditional narrow focus on shareholder profit.

Once again, it is the way these changes in approach are becoming culturally embedded in certain firms and sectors which is one of the most welcome developments in business culture. When you come across a firm which has this kind of culture of sustainability and responsibility and with it transparency and a strong value proposition for customers based on being a trustworthy company, it isn’t hard to spot.

I suspect that many of the firms who are here today fall into that category. In part, that is why you are here. Because this good culture tends to align with organisations with a strong learning culture and a strong commitment to being a good place to work for staff also. Those are the kind of firms who will ask themselves the kind of questions being posed here this morning.

But where I think there can be a difficulty for you in this emphasis on culture, is that the practical implications of a regulator focusing on culture are hard to work out. It tends to be up to the compliance function to respond to regulatory initiatives and compliance functions have limited power when it comes to culture.

When a regulator says something like that consumers should be treated ‘equitably’, ‘honestly’ and ‘fairly’ at all stages of their relationship with financial services providers, we are dealing with concepts that are not easily susceptible to translation into a set of compliance requirements. Yet this is one of the ten high-level principles on Financial Consumer Protection endorsed by the G20 Finance Ministers and Central Bank Governors in 2011 and which guides the Central Bank of Ireland in its work. It is possible to try to encapsulate what is being aimed at here in the idea of firms having some form of fiduciary duty to their customers such that they put their customers’ interest first and sell them suitable products. But does this formulation perhaps just amount to giving these ideas a sheen of legalese, rather than getting to the heart of what is involved?

In a traditional view of commerce, anything that is not prohibited is fair game. But in regulation, in human resources management, customer relationship management, in business development – again and again – we now see businesses being urged by politicians, regulators, by stake holders, by their own advisors, in their own longer term self-interest, to get away from this short-termist approach, this narrowly profit-focused approach, this caveat emptor approach, this legalistic approach.

When it comes to regulation, let me pose a few hypothetical questions and ask you to think about them as if you were the board member of an imaginary financial services firm:

  • Your market desk traders have devised a legal way to trade against your own customers that the customers might never notice; would you approve it to push up profits?
  • Your lawyers have devised a just-about-legal way to get the bulk of your regulated business out from under the regulatory umbrella; would you implement it to control costs?
  • Your CEO is suspected, without your board’s approval, of having misled a regulator to avoid a substantial liability; would you push for the board to investigate vigorously, or would you try to back him (or her) and stonewall a regulatory investigation to protect your CEO?
  • Your marketing people give you a choice to present disclosures required by regulation to consumers in a clear format that might help them grasp the importance of this information and which might reduce sales or in a difficult-to-read format that makes the disclosure required by law, but not in a way that is likely to impact sales – which do you pick?14

You all know the ‘good’ answer to each of these questions, but the law is not so comprehensive as to require you to choose the good option in all circumstances. If enough firms repeatedly choose the bad answer and this comes to light, the law may be changed and the right answer may become a matter of rules. Then you will probably complain about the cost of the regulatory burden; but your own colleagues suffering from an ineffective culture will have imposed this rule upon you, by pushing too far for profit. Meanwhile, answering such questions can feel like a moral dilemma for company leadership.

This is why we call out ineffective culture and advocate good culture. The alternative is a more regulated environment, and a string of scandals of low standards in high places.

So what might your first steps be? I would recommend that you look in particular at your escalation processes, your training offering and your non-financial incentives as key cultural signifiers within your organisation. Particular attention should be paid to how the organisation holds individuals responsible when they have pushed the boundaries of acceptable behaviour for competitive advantage. These behaviours are key cultural signals that your staff pick up on and which influence the culture of your organisation.15

You need your board engaged. How? A good way forward is to conduct a structured cultural self assessment, looking separately at internal governance, at how your human resource management impacts on culture, at the values embedded in your product development and sales transaction processes, right down to the way internal meetings are conducted, and look also at the commitments you make to your customers and live in your post sales handling. Bring your assessment to the board and discuss with them if the reality is aligned with what they expect.

In line with this recognition of the importance of culture, many of you will be aware that, for obvious reasons, the Central Bank is currently conducting a review of the culture in the five main retail banks. The Central Bank is working with the Dutch Central Bank, who have significant expertise in evidence-based assessment of organisational culture and who are participating in our onsite inspections at lenders. We will report on our findings from this work in July.

There are steps we can drive from the regulator’s perch, in the face of concerns about culture, such as:

  • Governance requirements around board-level awareness of ethical and cultural issues (Including the establishment of a board standards sub-committee and a clearly defined role for internal audit in the review of culture).
  • Providing feedback on what we see on inspections to build awareness in firms of the impact of, for example, their incentives policies.
  • Requiring an increase in the formality of individual accountability at leadership level.

Notwithstanding that there are initiatives we can take, we are clear that the firm is responsible for its culture; the Central Bank culture work, currently underway, (and all future work) will not be crudely directive in terms of its observations / findings; rather it will highlight to the banks the behaviours observed and the risks that might arise as a result of those behaviours and seek action from the banks’ boards. The culture review work is a way to open a new narrative with banks; we aim to name behaviours which supervisors have often observed but did not always have the vocabulary to address; we expect you to treat that feedback as an important resource for self-improvement.

Any steps we take can best supplement and complement a determination among boards and CEOs to get their culture right. A wise board will not wish to fall into the high risk category which follows from having an ineffective culture. Nor are the issues really hard to recognise.

The best test for cultural choices is whether you would be proud of your choice if it was widely known. Many of you – and I want to emphasise this – are already in a good place, building profitable business models that clients can develop trust in; but to those who have not made the journey to that conclusion, without pretending this is easy, I can only say to your leadership teams and boards: the ball is in your court to have the hard internal conversations and to get the external help to challenge your internal culture and develop a sustainable approach to your business that you could happily share in public.

1 See Rowland, Derville. (2018) “Our culture assessments will analyse the leadership behaviour of management in banks”, speech European Consumer Protection Conference, March 22.

2 See Sibley, Ed. (2017) "Is it legal? A Question of Culture", speech Eversheds Sutherland Conference, November 14.

3 See, in particular, FSB (2017), Stocktake of efforts to strengthen governance frameworks to mitigate misconduct risks, May 2017.

4 Simply Psychology Standford Prison Experiment and International Organization of Securities Commissions (2017) IOSCO task force report on wholesale market conduct, June 2017

5 Richardson PJ & Boyd R (2005) Not by Genes Alone, Chicago: University of Chicago Press.

6 While the financial crisis led to a particular focus on ‘group think’ at board level, this is only one aspect of a much broader dynamic interaction between individual perceptions and actions, on the one hand, and the behaviour of others which is the subject of an immense literature. (The post-crisis focus on ‘group think’ at board level led to the useful summary of the argument in Appendix 4 of the UK Walker Review prepared by the Tavistock Institute and Crelos Ltd: Psychological and Behavioural Elements in Board Performance, Appendix 4 of A Review of Corporate Governance in UK Banks and Other Financial Industry Entities, H. M. Treasury, 26 November, 2009]. For one particularly interesting contribution which focuses on the impact of public discourse rather than personal characteristics on an individual’s perceptions of risk, see Cass R. Sunstein & Timur Kuran, (1999) Availability Cascades and Risk Regulation, 51 Stanford Law Review 683. It is also possible to address the same problem without using a concept of ‘culture’, but rather a concept of ‘knowledge capture’, which, however, overlaps significantly in what it tries to explain: see Becker, Eva (2014) Knowledge Capture in Financial Regulation: Data, Information and Knowledge. Berlin: Springer VS.

7 Rousseau, D. M. (2000), Assessing Organizational Culture: The case for multiple methods. In B. Schneider (Ed.), Organizational Climate and Culture, San Francisco: Jossey-Bass.

8 For a useful overview see Mesoudi A (2017) Pursuing Darwin’s curious parallel: Prospects for a science of cultural evolution, Proceedings of the National Academy of Sciences, July 2017. See also Nelson, Richard R and Winter Sidney G (2002) Evolutionary Theorizing in Economics, Journal of Economic Perspectives Vol 16, No 2, Spring 2002, Pages 23-46.

9 See

10 See

11 Michael Held (2018) The Evolving First Line of Defence, April 17.

12 See in particular Graham Nietz and Nicole Gillespie (2011) Building and Restoring Organisational Trust, Institute of Business Ethics, London, which emphasises the three component factors of ability, benevolence and integrity.

13 Moisson Ed (2018) Hedge fund manager slams 'insane' mutual fund fee, Ignites 25 April 2018.

14 On the importance of the formatting of disclosures, see: FCA (2018) Occasional Paper No. 32: Now you see it: drawing attention to charges in the asset management industry.

15 See Financial Stability Board (2018) Strengthening Governance Frameworks to Mitigate Misconduct Risk: A Toolkit for Firms and Supervisors, April, 2018.