The following is the third in a series of articles on bank risk culture. The previous articles can be accessed on the blog here.
In the previous articles we argued that it is futile if not impossible to separate the risk culture of an institution from the other aspects of culture within it. This article further develops this assertion by looking at some very specific examples of how banks got into trouble during the subprime crisis and why, in each case, only focusing on risk culture would have been totally inadequate.
In a January 2009, The Economist wrote an article on Citigroup entitled “A House Built on Sandy”, a less than veiled reference to the bank’s former CEO Sandy Weill and its troubles during the financial crisis. The article did not pull any punches and here are just a few of the statements it made:
“TOO big to fail, too shit to buy” is the way some Citigroup insiders describe their employer…Acquisitions were poorly integrated. Cultures overlapped rather than melded (the resilience of the Smith Barney name is one telling indicator)…It may be inevitable that some banks are too big to fail; but the lesson of Citi is that they can also be too big to manage.
The real lesson here of course is that no amount of risk management can function effectively in an institution which is itself not functioning effectively. The sheer size and complexity of modern banks can and will undermine the best efforts at risk management whatever the risk culture.
Just as important as an institution’s sheer size is the question of how quickly it got to be that size. For example, RBS went from being a small regional bank to a global powerhouse within a mere decade. During one seven year period the size of the RBS balance sheet quadrupled—and that is how it became a £2 trillion behemoth.
The question is therefore, how can any manager, including risks managers of course, be effective at their job when an institution grows so large and at such a rapid pace?
More specifically, if RBS had been growing its base retail business in its domestic market, then perhaps growth might not have been so difficult to manage. However, RBS was growing and expanding internationally, as well as into new areas i.e. complex derivatives and other investment banking products, in which it had no significant prior experience.
What good is having a great risk culture when you don’t even have time to assess the issues and the new environment which are being thrown your way?
However, banks do not have to become suddenly large and unwieldy to run into problems. Back in the 1990s Merrill Lynch was a very well managed and highly profitable Wall Street firm—that was until Stan O’Neal took over and decided that it was not profitable enough and that the firm needed to be more aggressive in taking risks. That strategy included assuming a higher profile in the subprime mortgage market.
The rest as they say is history. Merrill Lynch is now no longer an independent firm, having decided that surrendering itself to Bank of America (another trouble organisation) was its only hope for survival.
All it took to undermine Merrill Lynch was a change in both leadership and the culture of leadership. Over at UBS however, a change in leadership was not necessary.
UBS had successfully developed one of the world’s greatest franchises in private wealth management. Unfortunately, UBS Management thought that that was not enough and decided that they wanted to compete with Goldman Sachs in the investment banking business. An extract from an internal post crisis report read as follows:
It appears that the focus of the IB (investment bank) was revenue growth and filling the gap to competitors…
This headlong pursuit into an area that was not the bank’s traditional strength ultimately resulted in write-offs of some US$ 50 billion and a bailout by the Swiss National Bank.
The reality is that Citigroup, RBS, Merrill Lynch and UBS are all telling us that leadership, strategy, operational complexity and product complexity all far outweigh the importance of risk culture and risk management. In actuality, each of these elements can and will subvert the best efforts of the most well organised and managed risk functions.
As such, we can conclude that any attempt to develop or focus on a separate risk culture within banks and other financial institutions is both meaningless and wholly inappropriate.
An organisation’s culture is the totality of the experiences within it, and how each of those experiences come together to create a product or service. In the next article we will focus on what banks can learn from other industries in how to better manage the totality of risk.
Jonathan Ledwidge is the author of the book Clearing The Bull, The Financial Crisis And Why Banks Need A Human Transformation (iUniverse).