In my last column I wrote about the overrepresentation of money managers among the wealthiest Americans and their influence on our economy and politics. This week I want to broaden the focus to look at the influence of the financial sector as a whole.
We begin with JPMorgan Chase’s recent guilty plea on charges that it engaged in currency manipulation. The bank acknowledged its wrongdoing and agreed to pay an $892 million fine. At first glance it seems as if we’ve made some progress in holding our financial institutions accountable. However, this felony conviction was not the result of an isolated incident of misconduct. Since 2011, JPMorgan has settled eighteen major proceedings involving everything from mortgage fraud to market manipulation. The bill for these transgressions comes to over $38 billion.
Surely there have been consequences for the bank, its shareholders, and its CEO. You might have expected the felony conviction for a financially related crime to result in the impairment of JPMorgan’s ability to conduct certain kinds of financial activities. However, at the same time that the bank received its felony conviction from the Department of Justice, it also received a series of waivers from the Securities and Exchange Commission so that the bank can continue to do business even though it is a convicted felon. Harm, but no foul.
The burden on the shareholders has been minimal thanks to the beneficence of the American taxpayer and the Federal Reserve. Before the week was out, JPMorgan had increased its dividend by 10 percent to 44 cents a share, a ninefold increase since 2009. In most other industries, a company battered by financial irregularities would have seen its stock plunge, its investors flee, and its dividend slashed. However, finance is not most other industries.
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JPMorgan’s chairman and CEO, Jamie Dimon, remains atop the company, and his board of directors continues to sing his praises. In the bank’s 2014 proxy statement, the board lauded Dimon’s performance, while failing to mention the ethical or legal challenges facing the institution.
Big paychecks return
Of course, JP Morgan isn’t unique. Every major bank on Wall Street has a long list of settlements and deferred prosecution agreements, as well as the occasional admission of liability or even felony conviction. While the banks chafe at the regulatory provisions of the Dodd-Frank Wall Street Reform and Consumer Protection Act, business has largely returned to normal in the financial sector. To the extent the banks can no longer make a type of high-risk loan or engage in a certain trade, hedge funds and private equity firms have been more than happy to take up the slack.
The worst crisis since the Great Depression has faded quickly for the financial sector. Employment is back to 2007 levels, and the gap between the average pay in finance and the rest of the economy is almost back to its pre-crisis levels. The financial sector is, once again, diverting far too much of our financial resources away from productive economic activity. Although every economy requires financial intermediaries, in the U.S. and other developed countries the financial sector has become a self-perpetuating engine rather than a useful means for furthering lending and savings by businesses and consumers.
The industry’s economic power would be a far smaller concern if it weren’t accompanied by serious ethical and cultural challenges. To be clear, most people in finance are ethical and well-meaning. They go to work every day and try to do right by their clients and adhere to the rules and regulations. However, it isn’t nearly good enough for most people to attempt to act ethically or legally. It’s much like the effectiveness of vaccines. Unless the vast majority of people receive an immunization, the benefits of herd immunity can’t be achieved and the disease will continue to attack. That is the situation in finance.
Feeling the pressure
A recent survey conducted by the University of Notre Dame on behalf of the law firm Labaton Sucharow titled “The Street, The Bull and The Crisis” provides some disturbing evidence about the state of Wall Street’s culture. After interviewing 1,200 individuals in the U.S. and the United Kingdom, the authors found that “of all respondents only 10 percent admit to feeling” pressure at their company to compromise ethical standards or violate the law. According to the survey, that number rises to 34 percent among those making more than $500,000 per year. The authors seem relieved that only 10 percent admit to feeling pressure and become alarmed because better than 1 in 3 highly compensated professionals have felt pressured. I’m concerned about both figures. One in 10 ethically pressured employees is simply too high a number.
Imagine working in an industry where 32 percent of respondents said that the incentive compensation or bonus systems could foster unethical or illegal activity. We’re talking about all sorts of commission schemes, performance bonuses, and fee-sharing arrangements that enable professionals to earn multiples of their base salaries. Think about how you’d feel going to work in a business where 25 percent of the respondents said that they’d trade on inside information in order to make $10 million if there was no chance of getting arrested for insider trading.
Since the respondents might be reluctant to admit to their own potential ethical or legal lapses or those of their employer, the survey asked them about their competitors. Sadly, 47 percent said that their competitors have engaged in unethical or illegal activity. This figure rises to 51 percent when the question was asked of folks making more than $500,000 per year. These figures aren’t an anomaly. The same survey was conducted in 2012 with largely the same results. If anything, the results are worse.
We didn’t need a survey to tell us that the culture of Wall Street is rotten. The allegations, settlements and convictions piling up at DOJ, the SEC and the recently created Consumer Finance Protection Bureau provide ample evidence that the financial sector operates in an ethically challenged manner. The chairman of the New York Federal Reserve Bank, William Dudley has admitted as much.
Hooked and dependent
Why should you care? After all, Wall Street’s profits are helping to drive down unemployment, and all that cash coming to hedge fund managers and investment bankers helps to fuel all sorts of business activity. While the financial sector is way too big relative to the economy, it is essential. Businesses, consumers and government wouldn’t survive for long without a sophisticated and reasonably profitable financial sector. Whether it’s the mortgage on your house, the 401(k) account at your job, or just a money market account at a brokerage firm, you are highly dependent on the people who work in finance. Your company’s business couldn’t make payroll, sell goods in Asia, or expand a plant without Wall Street. We’re hooked and dependent.
As I mentioned earlier, it’s more than likely that your financial adviser or broker is trying to adhere to an ethical standard of conduct and comply with all applicable regulations. However, she’s in an industry where she probably has strong suspicions that her competitors are cheating or putting their interests in front of the clients’ interests in order to earn bonuses or make just enough money to avoid being fired. She also knows that the bosses ensconced in lower Manhattan, Charlotte or San Francisco aren’t likely to accept responsibility when something goes wrong. Indeed, this is a difficult environment in which to dispense long-term investment advice that is best suited for the client.
Despite the recent headlines trumpeting the conviction of JPMorgan and other banks, despite the survey data, and despite the massive damage perpetuated on individuals, institutions and our economy during the credit crisis, Wall Street remains unrepentant and unchanged. We can try to pass more laws and support more investigations, but until the culture on Wall Street changes, our financial system will remain broken.
Andrew Silton’s Meditations on Money columns can be found twice a month in The N&O’s Work&Money section. He is a retired money manager living in Chapel Hill. He was CIO for the North Carolina Retirement System from 2002-2005. He writes the blog http://meditationonmoneymanagement.blogspot.com/