Do we need Regulators?

After three years of making pariahs of people in the financial sector, particularly bankers, people like Bob Diamond, CEO of Barclays Bank are starting to ask for a halt to it all. Banks can’t function in the way we need, he argued to the Commons Select Committee, with all this hissing and dissing going on. Mr. Diamond is likely to hope in vain. The damage inflicted by the banking crisis will be with us for a generation, and people are going to go on reminding them about it. Banking and finance are traditionally founded on the twin pillars of trustworthiness, and a reputation for competence. Re-building priceless sentiments like that takes a very long run of close-to-flawless performance. That goes well beyond just calling the dogs off.

How confident should we be that lessons have been learned? Not very much in my view. Early signs of change for the better are still not in evidence. Personally, I am not particularly concerned with the arguments between the outrageous and the outraged about the size of bonuses. Bonuses could be taxed back into the public purse if the government had the determination.  Nor should we be impressed by surly threats to leave the country and go elsewhere. That one’s based on the claim that bankers know how to run banks really, really well. (Er - who was it caused the crisis again?). I believe that we should react with great scepticism to arguments proposing a return to soft touch regulation. Many of these can be expected to come from those with vested interest. What might be more surprising is the way this argument is favoured by some legislators and regulators themselves. I have first hand experience of how this reluctance to get more closely involved can contribute critically to worsening the problem. I think it essential to resist such blandishments. If we don’t, I am convinced that history will repeat itself.

I ran smack into soft-touch regulation during the years I spent flying long-range helicopters in support of oil and gas exploitation in the North Sea. Pilots are trained to be both analytical and critical about safety standards. We knew that the standards of safety being achieved were not as they should be. Given the levels of competition that prevailed in the sector, it was also clear to us that standards of safety had to be driven by standards of regulation to avoid loss of competitive advantage by any individual operator. Our appeals mostly fell on deaf ears. The standard response from the regulators and government agencies was “The record looks good – we have few serious incidents.” So does Russian roulette if you have some early luck.

Some of us were friends with MPs, and we explained our concerns to them. With their connections, we had some success in getting out a warning counter argument. For instance, the Times Insight Team, and the BBC aired the issues, the latter in an edition of its investigative program File On Four entitled “Regulation By Accident”. This argued that a regulatory offshore policy that raised standards only as a reaction to accidents, was not fit for purpose. They turned out to be horribly prescient. Accidents did start, and continue to happen, and tragically, there were many fatalities. Nor was this just about helicopters – who can forget the Piper Alpha disaster? The luck had run out. With the onset of accidents we eventually got better regulation, but too late for many souls.

Is this a fair comparison? After all, if bankers act in a collectively stupid way, usually nobody dies. I believe it is fair, however, because the root causes are the same. People under pressure, or enticed by irresistible incentives, will push the boundaries and keep pushing them. A boundary, once moved, becomes the new normality, which invites further pushing. Add high levels of competition, a big chunk of herd instinct, and the energetic use of authority, and it would be surprising if the game didn’t start to slide towards the edge. With time, ‘normality’ can move away from the circumspect and the prudent, and starts to embrace the outrageous. These are the lessons of the Abilene paradox, of the Asch, and the Milgram experiments. It is the lesson of unchallenged or complicit expense claiming, and even the high and mighty can succumb.  It is also one of the most important warnings from the 20th century, during which I lived most of my life.

There will always be proponents of sanguine Darwinian economics out there, urging us to let everything rip. But I believe the vast majority of people do not want to risk recurring upheavals that endanger lives and livelihoods. The only reliable answer is effective governance of any commercial organization that accrues huge power to affect the lives of people. Given that the prime responsibility of executives is to pursue the narrow interests of their own organization, effective governance cannot be achieved without impartial overview by a legitimizing, counter-balancing power. These are the legislators and the regulators, and their shortcomings last time round contributed to the current problem. They need to raise their game until it is unrecognisably better, and they won’t achieve that by relying on soft touches.

Peter Saxton
January 2011
©Capstick Saxton Associates