hello and welcome to new economic thinking I'm here today with David vines a fellow at Baylor College and the professor of economics at the University of Oxford we're here to discuss his new book capital failure rebuilding trusts in financial services David thank you very much for joining me today to be here now David I almost want to call this banker's behaving badly I mean it does outline what happened in in the a lot of there was a lot of that but but I think your book is interesting because unlike most of the books that have
come out in the aftermath of the financial crisis you're not only suggesting behaviors that ought to be prescribed but you have also suggested ethical norms trying to reimpose that so reestablish that and in that regard it's a it's it's a unique contribution to the debate well we thought it was necessary to do this there's 57 books about re regulating the financial system and you only have to look out not very far and see a lot of clever people with a lot of resources you put a new regulation in on Tuesday morning and by Tuesday afternoon
they will have found a way to arbitrage around it which is certain you have to do this this is this is a point I think that Andy halt dein amongst others at the Bank of England made in his he wrote a paper on this and Jackson Hole and the idea being that of course you bankers can continually game the system so that even though you can establish a new regulation by the next day you say they've they they want wandering surrounded so you imagine yourself going to see a doctor and you on the way in
ask yourself is this guy going to rip me off for personal promise a profit you sound he's a doctor doctors don't do that there's a sense in which you can rely on people having some sense of what it's professional to do and it took a long time for doctors to in 19th century medicine was a bunch of crooks and and types exactly arguably what yeah anyways right bankers like today and well one of our friend to work Britain a history of a British bank said it took the managers of that Bank 20 years to teach
the people working for it how to sell bad products and it's going to take another 20 years to learn a new way of doing things and and that is a professional way and it's just different from having a sense I go into this industry I would be a banker I go in make heaps of money that's what I'm proud of you go in to this industry to become a professional who's helping people find money to do good things with them there's very different ambition there's a there's a but there's no equivalent yet of say a
Hippocratic oath you mentioned the the medicine analogy there's no equivalent of that of course the Dutch recently have so that's why I said this and and there's a lot of really interesting new behavioural economics that says if you make people aware of what they're expected to do the reciprocity the ethical reciprocity no even more than that you know if you if you just by doing an oath this is about things that it's expected of me to do and you know that's in the back of your minds and we all grow up with our parents putting
things in the backs of our minds all of us have an ethical training in life life and and this will make a difference to behaviour in infinite and for the benefit of our viewers who haven't been as up-to-date about the the Dutch situation they effectively have had their bankers relays some sort of do no harm kind of which is a unique as it I wonder if it's changed has it hasn't reflected how many change has been reflected in the Dutch banking behavior that's too early to tell because you made the remark about reciprocity it's even
within the institution's this matters what I do depends not just about these oaths and my training but what I see you doing in the room next door to me and that building up of the culture of what you have you expected to behave it takes a while and and it takes leadership I've been struck by the difference that that that wonderful English phrase the tone at the top can can make - well there's another I was thinking of something else which is Gresham's law which is he of course bad money driving a good bill black
amongst others has talked about this and his work on control fraud it was taken off what and and I have a student who had a wonderful thesis with me last year about this world's very complicated and none of us quite know what's expected of us we look around you I I didn't think I was allowed to get away with it I you know did terrific I'll do that is something that happened to not just allowed to was expected to meet and so the communities of people depend very much on what those around them are expected
each other to do now let me play devil's advocate for a moment there is an argument that says that actually you don't really need to change their behavior there they're all a bunch of leviathans and to use though the Hobbesian turn but but that if you actually took a few and threw them into jail that would have a very powerful deterrent impact for example in after the 1930s we not only had the Pecora Commission here in the United States but you know a few prominent individuals did go to jail and that hasn't happened to to
anywhere near the same degree post 2008 we have a colleague in Oxford visiting this year who's just published a book called too big to jail and that's a very unpleasant things the right word nature of what's happened that people just haven't been pursued it makes a difference so someone was telling a story what incentives would it do to bankers if they what difference would the incentives incentives make if they were really punished and they said you know suppose you were a century in the army and you got kind of Facebook in front of you and
you and your court watching doing that rather than really on sentry duty get shot in finance to be clear we're not we're not a big no-no in China they do line up bankers a long firing squads but you're not actually that would be interesting to see what happens but interestingly there's a a road to choose down the middle because there's a push in the push back on this in Britain people in finance beginning to say if you go too far on this you won't get in in non-executive directors so in shooting won't help finding appropriate
penalties no but it yes but although if you don't enforce the existing laws it's never mind introducing new laws I mean they in the in I don't know who was like this in the UK do the same look of it and certainly in the u.s. you had situations where under Eric Holder you know these these guys were not prosecuted or if if the banks came to agreements with the Department of Justice there were no acknowledgments of guilt so therefore there could be no civil penalties or even criminal land it's been a very interesting case about
this not legal case an issue in this in Britain about effectively tax avoidance margin with tax evasion and it looks as if the Inland Revenue that's to say the British tax authorities have essentially been doing deals with people in order to get a proper revenue result and doing things which they could take to court they just essentially ring up and say listen here's here's what I propose we'll close this case down if you pay X and X is a number quite a lot less the real issue here but to go back back from punishment to
in to incentives I think that it's a question of how firms are managed that that is important to if you take the case that we've thought a lot about which is how Barclays in Britain has has declared a set of values that are important to the firm about trustworthiness and ultimately about sustainability respect and to others and it becomes the job when when a firm has said this is our purpose to treat people this way it then becomes the managerial task to ask of each product that you sell or each activity that you do in
the bank does is this really sustainable is this something that our customers would respect if it came out in public view and and and that's important and yet by contrast you have HSBC which I think has been notorious not just in the UK but also in the in the u.s. they've been linked to criminal violations not as civil and they are now talking about vacating the UK as their headquarters because of the onerous new regulatory definitions you know that's not unrelated to the shooting issue at all you you've got to get the penalty any legal
system has to understand penalties very carefully now what I think is very interesting is the book because it does prescribe as opposed to prescribing certain ethical norms it gets into a old standing philosophic debate you have this you know Rousseau man is fundamentally born free but is everywhere in Chains and is fundamentally good versus Hobbes the Leviathan were monsters and we need to be chained as he's regulated as much as possible where do you stand on this whole this you know because that's an important discussion to have in terms of where you how you approach
the issue of capital failure I meant an economist and looking at this with particular interest because earlier in my career I was Adam Smith professor of political economy at the University of Glasgow my profession has for a hundred and fifty years seeing itself as doing a job which was in Adam Smith's Wealth of Nations it's not for the benevolence of the butcher the baker the candlestick maker that we are our daily life but to the pursuit of their interest that's roughly speaking a quote from that book and yet this same man wrote the Theory of
Moral Sentiments which is the most straw Denari account which begins in one sentence beginning of the book each of us pay regard to the outcomes for others even if wonderful phrase even if it's only because we take pleasure in seeing this and that's a very important insight because I think the first statement of course is what has been used fundamentally by the economics profession for certainly for the last 3040 years and yet there is a new body of research people like Sam balls at the Santa Fe Institute who who now talk about man is a
cooperative species who talk about the importance of altruism and and and and and evolutionary biologists are doing this is not Richard Dawkins world anymore this is a world in which altruism and a sense of understanding the importance of things for others is in our family life in our social life but increasingly in our economic life we're all we're all coming to understand ok so since you've those are the philosophic underpinnings what do you specifically recommend in the book what are the proposals to inculcate the the right kind of behavior to two levels first at the
level of the individual it's about professionalism which starts with the bankers oath idea and includes training and education but is then something about the management of the firm in in understanding what it's organized what does in the firm are doing and and really asking of its employees are you at every stage are you doing something which really serves our purpose and and then that's the professional and there's a fiduciary and there's a fiduciary obligation to that which is crucial partly underpinned by the rule of law and partly a few you treat fiduciary obligation about being
a professional banker that's one level and at the top is a very significant change of corporate governance so that the pursuit of shareholder value doesn't become the be-all and end-all of corporate management I was at a very interesting conference last week of very significant pension firms who were just describing the way in which that obligation and in particular sort termism that involves de nudes people of the outcomes that they would want in their pensions so not only do you want to know down there every day in the foot you know in this office people doing
their job professionally and well but you need leadership at the top that that sees off short termism from governance and and creates a firm that can really encourage its workers to do well okay now those are there and they're there in a sense the micro proposal in the sense that and not trying to say that they're small but in the sense that that's what the industry you know yeah physician heal thyself kind of not normally it is introduced by it by those ideas what about on the macro side the regulatory structure do you have specific
proposals there do you talk about the too-big-to-fail problem for example very demanding there is in Britain an important there's a fair markets review happening in Britain led by the Bank of England there's a very big and that's going to set we go back to the beginning you and I began by laughing at regulators and saying the clever people get round them and yet we come back at the end of this discussion to saying regulation sets boundaries and and and in the middle of the discussion I've been talking about how people can in firms be encouraged
to behavior well so I I was I once worked with but believe it or not I'm going to say this with the control engineer and I learned from control theory that your job was to take things right back from the edge of when it was in danger and regulators set the edge and cultural reform takes organizations right back into good behavior well away from the air but the regulators have to be clear about what the interest and and they they have to be clear and of course the law has to be clear in terms of
enforcing it as well that's important but there's another aspect I mean not not to denigrate the regulator's when you say well they're always a step behind but they're there there is this issue about him making simplifying the nature of banking itself in order to make the regulation more effective because there are some people that say that yeah it's yeah you've got an overly complex financial system so naturally you're going to have an overly complex regulatory system whereas if you went back to some form of banking it's public utility or an arrow for banking then you
would the regulation would become much more effective and let me identify one important aspect of that discussion it was put to me by someone who'd been CEO of a successful bank that he had a trouble with if you like on the third floor of his building were all the people who did current accounts pensions regular mortgages stuff like that and up there on the 11th floor with a deal makers paid heaps of money these guys down there straightforward stuff normally remunerated and those guys go for it in a big way and if you like they
meet for lunch and the trouble is that cultural connecting means that the people down there are in danger of saying you know give me a product to sell it I don't care how horrible it is you know ethics stuff go away I just want to earn some money like those guys up there that and this is a very real argument for separation sort of like glass-steagall and of course the glossary would steagle interestingly for cultural reasons yeah but but of course there is an argument that says you've got shadow banking now you've got a much
more complex banking system Pandora's boxes panocha opened is it realistic to think you can close it again by simplifying those functions you're you're saying in effect it is possible separate undo better and I'm tempted to say stuff out there danger there's got to be a wild west somewhere and people have to do stuff out there but what's important is that their culture doesn't further terminate this cuz then but secondly John Vickers and others have said and what's more in here we shouldn't be at risk by investing in in unmanageable ways out there and that stuff
out there certainly shouldn't put our balance sheet at risk and that's the challenge I think because you you want to let these guys just blow themselves up their own little sandbox and hopefully not and take these yeah well I can go on for a lot longer there's a lot of interesting things to it in the work and it does champion a new kind of economics as well it is interdisciplinary and it brings in a lot of interesting philosophic and political it is let me just say we began this in a really interesting interdisciplinary way we
said lots of people working on fixing the financial system what unusual things could we do let's work with some philosophers and historians to do something a bit interesting and that's what we've done and it is very interesting David vines thank you very much for joining me today terrific
