Business, politics and everyday life share one toxic reality: misconduct risk. Misconduct is a catch-all word that includes illegal, un-ethical and outright criminal behaviour. The fallout from misconduct extends beyond the individual and usually impacts a firm, a community or a country.
The financial sector is probably the most exposed to misconduct risk because it deals with money which is arguably the most effective motivator of human behaviour. Mark Carney, governor of the Bank of England, argues that the incidence of financial sector misconduct has risen to a level that has the potential to create systemic risk by undermining trust in both financial institutions and markets.
In a world were business, politics and regulation are so interconnected it is easy to understand that conduct failure in any of these sectors will inevitably affect the other areas. A survey by Gallup in the US found that just 27 per cent of Americans had ‘a great deal of confidence’ in banks – half the level registered a decade ago.
Academic research indicates that problems with misconduct are not just a stream of idiosyncratic events, random draws of ‘bad apples’. Neither can misconduct be attributed mainly to operational weaknesses like bad processes that facilitate abuse. Root causes of serious misconduct are organisational breakdowns. Often various employees and managers are either complicit in improper conduct, encourage it, or turn a blind eye to unacceptable behaviour.
Managing misconduct risk is arguably the most challenging function of business leaders
Failures are, therefore, attributable to sick organisational cultures that drive behaviour and accentuate misconduct risk. Cultures can be defined as the shared set of norms within a group that influences decision-making and is evidenced through behaviour. Norms refer to attitudes and practices (how we do things) and beliefs and values (the way things should be done).
Companies try to win over the trust of their customers and the community by paying consultants to come up with the articulation of inspirational visions and eloquent mission statements. Politicians produce glitzy electoral manifestos promising exemplary behaviour if entrusted to lead us and self-promoting nuggets of borrowed wisdom in a barrage of tweets and Facebook postings. There is a broadening gap between what business and political leaders say and what they do.
People learn what to do and how to do it by observing their colleagues and leaders. They emulate successful behaviour and avoid unsuccessful ones. In large organisations, one can easily find competing cultures and sub-cultures. The “tone from the top” decides what culture prevails.
Cultural capital is a type of intangible asset that impacts how a firm operates. Like all other assets, if an enterprise does not keep investing in cultural capital, it deteriorates over time and impacts adversely its success. Unlike equity capital, cultural capital is not loss-absorbing. But it can undoubtedly prevent loss by influencing decisions, behaviours, and outcomes over time.
The metrics that quantify misconduct risk and cultural capital are still not well-evolved and so regulatory oversight is still an evolving science. Organisations that invest in cultural capital are identified by observing the way they operate.
The unspoken patterns of behaviour of their leaders and employees are aligned. Employees make their own the understanding and expectations of the law and the meaning of regulatory rules or supervisory guidance. Codes of conduct are more than a boring document that is often left on a shelf to gather dust. Employees feel empowered to raise their hand when they feel uneasy about the way things are done. They believe their efforts to do what is right will result in meaningful responses from their leaders.
In businesses that do not invest in cultural capital, formal policies do not reflect the way things are really done. Informal networks are often extended to include politicians and sometimes even regulators. These networks are more powerful than the formal governance structures. Regulatory capture prevents the proper enforcement of rules and guidelines aimed at mitigating misconduct risk.
Employees do not speak freely when they see incidents of misconduct. Senior managers and the board of directors do not find out about illegal conduct until the authorities uncover it. The diesel-gate saga that engulfed Volkswagen is a classic case of what failure to invest in cultural capital can do to an enterprise’s reputation.
Managing misconduct risk is arguably the most challenging function of business leaders. We are here dealing with one of the most toxic of human instincts – greed. Unfortunately, effective regulation to reduce the incidence of misconduct risk is still elusive.
Businesses must engage more in critical self-analysis to determine whether they are indeed serving the community.