Should financiers feel guilt? If they did, would that make the world of money safer? In the years since the 2008 Financial Crisis, these questions have been raised with a sense of anger by politicians, media pundits and ordinary citizens. Now the mighty New York Federal Reserve is exploring the issue in a more forward-facing — and geeky — way too.
Last week it released a series of podcasts and a mountain of research documents, which draw on the work of psychologists, neuroscientists and social scientists to examine “the norms and mindsets that contribute to the spectrum of decision-making, from ethical to unethical”. This included a discussion about the predictive power of “guilt” among financiers, drawing on work by Taya Cohen, a Carnegie Mellon professor, which argues that “highly guilt-prone individuals” may have a “moral advantage” in workplaces and that banks should try to hire them.
Separately, Mark Mortensen, an Insead professor, examines why formal rules cannot prevent bad behaviour in a Zoom culture, and David Grosse, head of risk and culture at HSBC, explains what group dynamics show about trading floors, while compliance officials at groups such as NatWest reveal how they use psychology to track risk. (Full disclosure, I also briefly comment on the anthropology of finance.) The aim, says NY Fed president John Williams, is to understand the importance of culture in shaping decisions at “the individual and institution-wide levels”.
None of this will seem particularly surprising to academic psychologists or business school professors, given that it has been bubbling in the private sector for years. But it is something of a first for the Fed. After all, in the late-20th century and early years of the 21st century, the world of macroeconomics and financial policymaking was dominated by quantitative models; qualitative studies were largely downplayed, if not derided.
This changed to some degree after the crash, when behavioural finance became more popular. Back in 2011, Alan Greenspan, the former chair of the Federal Reserve and once a huge fan of economic models, stopped me at a conference in Aspen and asked for recommendations about introductory books on anthropology, explaining that he had (belatedly) realised that culture mattered in markets.
Greenspan’s newfound interest was primarily sparked by curiosity about other cultures, however, not his own (at the time he was baffled by why the Greeks had an attitude towards debt that seemed peculiar to him during the eurozone crisis). Indeed, in practical terms, even after the crash, there was initially scant effort by financial regulators to take a more systemic attitude to the issue.
But this is changing. Moreover, it is not just happening at the Fed. London has actually been well ahead of New York in this respect, since a local regulatory body called the Banking Standards Board has focused so extensively on the issue that it recently renamed itself the Financial Services Culture Board.
This analytical shift should remind us all that there is nothing like having your fingers burnt to teach you a bit of common sense
As this analytical shift happens, it highlights three notable points. First, and most obviously, it should remind us all that there is nothing like having your fingers burnt to teach you a bit of common sense. In an ideal world, the Fed should have embarked on all this brainstorming long before 2008. In the real world, however, it felt so confident before the crunch that it felt no need to do so. This should throw down a gauntlet to other regulators to widen their own lens before — not after — a crisis. A bit of cultural analysis, after all, could be useful when looking at sectors such as tech, food, energy, medicine or climate science.
Second, one reason why the Fed is — belatedly — looking more at culture now is that the rise of digitisation has made officials doubly keen to avoid a replay of 2008. Our dash into cyberspace during the pandemic lockdown is accelerating major structural shifts, on a scale arguably not seen since the wave of financial innovations two decades ago. That, in turn, is sparking debate about new questions: does working from home enhance the risk of fraud? Do trading apps exacerbate market panics? How should compliance change with hybrid work?
Third, digitisation is raising new challenges for regulators but also, ironically, making it easier to exchange ideas about how to deal with the “culture” issue. A couple of years ago, whenever Fed officials wanted to talk to their counterparts around the world about cultural issues, they tended to do so by organising conferences. This was laborious and pulled in a narrow group of participants. Now they can turn to Zoom and this makes it easier to pull in participants from a much wider geographical net, and from more disciplines. Intellectual exchanges have been speeded up.
Will this make the regulators and financiers wiser in the future than they were in the past? In all honesty, we will not find out until the next market crash. But I hope so. In the meantime, the experiments are another reminder of the unexpected ways in which Covid-19 has caused a sense of cultural and intellectual flux — even among stodgy regulators. Three cheers, in other words, for the Fed’s newfound interest in the psychology of guilt. Let us hope that bankers embrace it too.
Copyright The Financial Times Limited 2021
