Earlier this month, the banks were told by chancellor George Osborne that they will be broken up if they fail to follow new rules to ring-fence investment operations. He delivered his warning on the same day that the government introduced its Banking Reform Bill and at a time when Bank CEOs are lurching from one media controversy to another.
While it's obvious that the banks are in a bad place, only thinking clearly how they got there will help us to move them on. Banks need reform because of the vice-like grip of short-termism on their thinking: while we have a big opportunity to loosen its hold, neither brickbats nor legislation can do the job alone. This is because short-termism is a psychological challenge: it is rooted in human (mis)behaviour. Therefore the real remedy for short-term thinking lies in changing the way the way bankers think and then act.
This means recognising the 3S's of short-term thinking - its symptoms, the signposts to a better approach and the solutions we need to keep it at bay. The symptoms of short-termism are everywhere: excessive risk taking, deceptive reporting, myopic judgment, inattentive leadership and many more. All of these behaviours led to the economic meltdown of 2008 and will happen again unless challenged. The symptoms of short-termism are reinforced by a structure of quarterly reporting requirements, financially-driven accounting protocols and a perceived lack of alternative approaches. Quarterly reporting, for example, is part of what Andrew Haldane, The Bank of England's Director of Financial Stability, recently described as "a system with in-built incentives for self-harm."
Fortunately, the signposts toward a better way are springing up. Haldane's remedy is to "change the incentives and culture of finance, root and branch." Ways to end the City's obsession with short-term profits was highlighted by the excellent government-commissioned Kay report - this has had an important impact on the thinking of politicians, practitioners and regulators. And in March, Human Potential Accounting (HPA) is publishing a selection of essays by leading thinkers and practitioners in the field entitled "Breaking the grip of short-termism."
When it comes to solutions, both Haldane and Kay point to bank boards as the place to start. Boards need help to get moving and Kay suggests new and more accurate metrics for people performance. The tools are in place to do this: for example, we already audit people opportunities and risks to gauge the maturity of a business's human capital - this will be a key foundation stone on understanding and then challenging short-term thinking will be built.
Solutions are emerging. The Kay report suggested that companies should consult with their large, long-term shareholders over major board appointments and that the obligation for quarterly reporting should be removed. It also suggested that regulators should avoid prescribing traditional ways of measuring valuation and risk ahead of informed judgement and structuring directors' remuneration to require that company shares are held until retirement.
These are all good solutions, but this is just the beginning. To change the pattern of human behaviour is, in keeping with the theme, a long-term challenge. It will take many years before legal reforms are implemented and have the desired effects; longer still to change behaviours not only of bankers but also their shareholders who, until recently, also saw few reasons to change.
There is much to do, but let's not forget that banks have been models of good behaviour in the past. Not so long ago the banks were genuinely seen as part of the social fabric. The Quakers created Lloyds and Barclays and for most of their long history have been lending to local businesses and supporting families buying their own homes. It is encouraging that the CEOs of both banks have vowed to rediscover their "social usefulness" and, when they do, we may at last be on the road to breaking the grip of short-termism for good.
Robert Purse is the general manager at Human Potential Accounting
