Back in the day I was your classic liberal arts student: a history and religion major with enough coursework to have minored in philosophy but too lazy to fill out the paperwork for that. It was not really surprising that my first job out of college was doing campus ministry for the CCO (then known as the Coalition for Christian Outreach).
But what was surprising to me (then and still) was a change in career trajectory that started with my second job out of college. I was engaged to be married, and my wife was living in Pittsburgh. I wanted to move there and get a “real” job that paid more than $3,000 a year. Due to some family connections I landed at Federated Investors as an account administrator (think client service rep.).
To my great surprise, I quickly became attracted to the mutual fund world and decided to make, or try to make, a career out of being an investor. Nearly thirty-five years later I have had just such a career—in Pittsburgh and then Boston—working in client management, product management, portfolio management, and executive management roles. My financial career peaked when I became the chief investment officer of the Boston Company Asset Management.
The most engaging thing for me over my thirty-five-year career is how I have seen what I have seen. The philosophical training I received as an undergrad, and even more so through the CCO, gave me a biblical—creation-fall-redemption-restoration set of “glasses”—similar to the type that animates and informs the work of Cardus and Comment. My way of seeing has been shaped by the writings of Abraham Kuyper, Herman Dooyeweerd, Bob Goudzwaard, and Al Wolters—all very familiar names to readers of Comment, no doubt. My understanding of the proper role of the commercial enterprise has been influenced by interactions with folks like Pete Steen, Jim Skillen, and Gideon Strauss. And of course I can’t forget that work of Cardus and Comment encouraging us all to be thinking about and acting on the renewal of North American social architecture.
As a result, I have been interested in understanding debits, credits, and sphere sovereignty; assets, liabilities, and structure direction; net present value and principled pluralism. Perhaps most importantly has been an appreciation of Strauss’s great turn of phrase “Market economy? Yes! Market Society? No!” It’s an important reminder in a world where we see Gary Becker awarded a Nobel Prize in Economic Science for his work arguing for just such an economic society.
Just a few provisos before we go any further: while this is an article on the social architecture of financial services in North America, my perspective is almost entirely centered on asset management in the United States—I have little experience in Canada or Mexico, and not much experience in brokerage, insurance, lending, and the like. I am also a privileged white male in late middle age. I mention this because in my experience there is a real causal connection between financial capital (what we own), intellectual capital (what we know), and social capital (who we know). The recent college admissions scandal in the United States is only the latest and most blatant example. Those of us who are “rich” in all three ways need to steward all our riches for the benefit of all others. And we all need to imagine avenues to get more of each type of capital into the hands of those most in need. We need a social architecture that fosters that a financial services industry to enable that type of outcome.
With that as background, and with apologies to Clint Eastwood, here are some reflections on the Good, the Bad, and the Ugly of what I have witnessed over my career (not necessarily in that order).
The Ugly (That Which Is Clearly Illegal, Immoral, and Unethical but Happens Far Too Often)
One day I picked up a volume called The Complete Book of Business Ethics from the local bookstore. Every page was totally blank . . . a not so funny gag. In my experience, however, ethical, client-focused behaviour is generally rewarded. Business ethics, over my career, was not a joke.
The sad news is, however, that there are real scoundrels at work in financial services. From small-scale brokers selling expensive and too-risky investments to “widows and orphans,” to Wells Fargo opening accounts in customer’s names without their permission, to Bernie Madoff’s Ponzi scheme that bilked the “rich and famous,” theoretically smart, sophisticated investors. There always have been and always will be (so long as Jesus tarries) outright criminals active in the world of finance. Needless to say, the rest of the world has their share of charlatans—politics, education, entertainment, and so on. Each part of God’s good creational structures is (mis)directed by fallen people. Finance is no more, nor no less ugly.
However, the particular damages done to the financial architecture from these bad actors include an undermining of trust in the entire system (a system that requires a high level of trust), which in turn creates an additional regulatory cost on all the “good apples.” The actions of Madoff and Wells Fargo were already illegal, but the reaction is (sadly, but understandably) to create even more, tighter regulations. And that imposes costs on the entire system. It tempts firms to “outsource” their ownership of ethics to the regulators (Goudzwaard would say normativity becomes external to the enterprise) and raising the cost of providing the service to the consumer. As one example of this, a friend of mine manages a large fixed-income organization and now has to hire more compliance analysts than securities analysts just to keep on the right side of the regulatory regime. What would a better financial architecture look like in this context? Here are a few ideas:
Inside the firm, building an ethical corporate culture starts at the top and is constantly reinforced. Another friend used to tell his staff that he wanted not only to always “stay in bounds” but also to play “within the hash marks.”
For consumers, better education on basic financial concepts should be mandatory in secondary schools; and more of a focus on healthy skepticism (if it sounds too good to be true, it is); and dare I say a bit less individualism (it is harder to scam someone if they have a spouse, a child, or a friend (or perhaps a deacon from the local church) involved in the financial decision-making process.
In terms of regulation, better enforcement of existing rules and regulations with stiffer penalties is a better idea than continuing to add layers of requirements.
The Bad (Legal, but Anti-normative)
I have often been a little offended that Hollywood picks on businesspeople (especially financiers) more than others (or maybe my bias is at work here). Bonfire of the Vanities, Wall Street, Wall Street: Money Never Sleeps, The Wolf of Wall Street—these films all depict greedy, egomaniacal, cheating, abusive financial types. The good news is that they are rarer than one would imagine. The sad news is that these types do exist in real life; they are not criminals, just market participants behaving badly.
In my view the poster child for this type of anti-normative behaviour was exhibited in the housing bubble that preceded the financial crisis of 2008–2010. This was not a natural disaster. It was, rather, totally human-made.
The majority of the actors were acting in line with how the system was created—a great and terrible example of social architecture gone wild. The actors were responding to what can be described as “perverse incentives.” Many are still upset that not one corporate executive has been thrown in jail for what happened in the financial crisis. But “fat cat bankers” were left off the hook because what happened was legal. The injustice perpetrated in the housing bubble was not a legal injustice, but a violation of the creational norms for economics. The failure of any executive to serve jail time should be seen as an indictment of the system rather than an exoneration of individual actors.
This is also a perfect example of Jim Skillen’s focus on shared responsibilities: credit or blame for what went wrong is attributable to several actors. Space does not permit a full explication of the crisis, but suffice to say there is plenty of blame to go around.
Government did not adequately regulate or supervise Fannie Mae and Freddie Mac. Having granted them charters, and an implicit guarantee of their debt, there was insufficient oversight of their risk-taking, capital adequacy, or executive compensation systems (the incentives were asymmetrically tilted in the favour of management—high reward, low risk for management). And the government encouraged (required) banks to make mortgage loans to an increasingly risky population of borrowers—in the desire to increase home ownership (a societal good) the push went too far (extending credit to those unlikely to be able to make payments).
Banks went along for the ride, making loans to risky borrowers and offloading the risk to investors via securitized mortgage pools; earning the origination fees without taking on the task of making sure the loan payments were made. The phrase “NINJA loan” will go down in infamy: loans made to those with no income, no job, and no assets. And with incentive compensation systems that encouraged short-term profits over long-term “safety and soundness” there was no internal governor on the process. Where were the boards of directors? Where the trustees of these institutions?
Ratings agencies failed to identify the true risks of the mortgage pools. Somehow they assumed that a pool of one thousand bad mortgages could, through the power of diversification, become a highly rated security. The incentive structure for these agencies can also be called into question as they are paid their fees by the issuer, not the purchaser. And the government has created a wrinkle in this process by requiring ratings on securities in many instances.
Borrowers also played along. Far too many families signed up for mortgages where they knew, or should have known, they were unable to make the payments. Either willingly or unwittingly, they committed themselves to a level of debt that made absolutely no sense—financial foolhardiness.
Finally, where was the voice of the church in all this? I do not recall one pastor or theologian saying anything about the issues as they evolved. Where was the wisdom of God to be heard in the midst of all the folly? (Note, I am happy to be corrected on this last point. If you know of a voice that did speak out, please let me know.)
What lessons can we take away from all this? What would a better architecture look like? Some have suggested the creation of even more oversight agencies, and in fact the United States did create the Consumer Financial Protection Bureau in the aftermath of the financial crisis. Others suggested another agency to oversee the rating agencies. But in my mind creating “watchdogs” to guard other watchdogs is a fool’s errand. Where will that cycle end? On the other hand, going back to the radical individualism of “free and unfettered” markets where caveat emptor is the only rule would make only a true Libertarian happy.
A far better approach has already been suggested by Bob Goudzwaard, an approach where each actor in the system takes responsibility for their unique calling within the system. For financial firms, in Goudzwaardian terms, that would mean seeking to realize norms on a simultaneous basis. Not seeking a profit and only then being concerned about the environment, the community in which the firm operates, employee welfare, and so on. Not simply living up to the legal and regulatory requirements and exporting all other ethical and normative issues to outsiders. Rather firms should pursue a return on investment for their investors while at the same time being good stewards of the creation and guardians of people (employees, customers, suppliers, neighbours). See Paul Schroetenboer’s Our Place in God’s World for more. Not just the providers of financial services, but consumers, regulators, legislators, ratings agencies all have their own unique call to participate responsibly. Each has a God-given responsibility to fulfill as human flourishing is enabled by the financial sector of the economy.
The Good (Normative, Moral, and Ethical)
The vast majority of my career has been in the investment management segment of financial services. To this history major, it is interesting that the origins of the asset management business are in the trust industry—which goes all the way back to the Crusades, when knights would leave their estates “in trust” while they travelled off to the Holy Land. Since those days families have hired professional managers and entrusted their assets to them.
The concept of having a fiduciary responsibility to the client (being a fiduciary requires being bound ethically to act in the client’s best interest) and the prudent investor rule (requiring a fiduciary to invest assets as if they were his or her own and in accordance with specific guidelines) have been at the core of this relationship from the start. Firms are required by law and by custom to always do what is in the best interest of the client. While not perfect in practice, fiduciary responsibility is a good example of social architecture that can direct work in ways that are in line with biblical norms, and is a good example of God’s common grace at work in the world. For these reasons I have not had many, if any, real clear ethical dilemmas during my career. A fact for which I am very thankful.
While generally getting a bad rap in the media, the financial service industry has been involved in several very helpful initiatives over the last seventy-five years or so. However, the truism that great strengths taken too far become great weaknesses applies no less to financial services than to any other area. Financial instruments are like power tools. When used wisely they are great helps; when used foolishly they are very dangerous. The creation of the mortgage-backed securities market was a useful innovation that allowed the banking system to generate profit and diversify risk. But, taken to the extreme, they became in the financial crisis a way for toxic loans to find their way into investment-grade securities and onto the over-leveraged balance sheets. The complexity of their structures obscured their true risks. Likewise, too much of a good thing is not good. Home ownership is good, but not everyone should take out a mortgage; credit cards are helpful tools, but far too many people use them irresponsibly; and so on.
But with those caveats as context, here are a few of the more beneficial and enabling financial service innovations over the past seventy-five years or so.
It has not always been possible to buy a home with a mortgage. But the mortgage market has enabled millions of people to own their homes without needing to have the cash on hand to buy it. This has allowed the percentage of Americans living in their own homes to increase dramatically.
We take for granted our ability to walk into a store, hotel, or restaurant virtually anywhere in the world and pay for clothes, dinner, or a room for the night without needing to carry wads of various currencies with us. MasterCard, VISA, American Express, Discover are all useful financial tools that enable the exchange of goods and services between and among the nations of the world. (They are also potentially dangerous tools in the hands of irresponsible consumers. Just because you can use a credit card to buy a new tire when you have a blowout on vacation does not mean it is a good idea to blow out your credit card on a vacation.)
While some lament the demise of the defined benefit (pension) plan, the ability to save for retirement with tax deferrals (IRAs and 401ks) provides for better personalization and portability of retirement plans. The US Congress has seen this as important enough to build tax deferral and savings incentives into the tax code.
From my part of the financial world, thanks to the creation of money market funds, investors can now earn market rates of returns on short-term cash rather than having their savings “locked up” in a bank account with regulated interest rates; thanks to the proliferation of stock and bond mutual funds investors can now invest in a diversified portfolio of professionally managed securities without having millions of dollars (the “democratized capitalism”), and more recently investors can buy a broadly diversified portfolio of securities with virtually no management fee through passively managed index funds.
In conclusion, like the rest of life in God’s creation, financial services are a mixed bag of blessings and curses, of the Good, the Bad, and the Ugly. I am happy to report that my own experience has been tilted toward the Good with a little of the Bad and only a vicarious witnessing of the Ugly. It is a portion of God’s world where, in general, normative behaviour is rewarded, where trust is a high value, where doing well and doing good are more or less aligned. It is however constantly in need of careful attention. Industry participants, governmental regulators, and consumers all need vigilantly cultivate and create the appropriate architecture for an evolving marketplace.