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Cultural Alignment and Compliance

Mary Schapiro, former SEC Chairman from January 2009 until December 2012, remembers "a time when enforcement fines were the cost of doing business." But in August 2013, WSJ financial editor Francesco Guerrera wrote of a change in the regulatory climate: penalties for wrongdoing are getting harsher. However, steep settlements for financial institutions are not enough. As long as the individuals who transgress ethical boundaries continue to escape culpability, compliance may be treated as just one more cost on a spreadsheet.

Even the SEC is of mixed minds regarding the effectiveness of stiff corporate penalties. Current Chairman Mary Jo White is calling for more fines against individual transgressors, in addition to personal admissions of guilt as settlement conditions in select cases. Some think that the shame of such admissions may be a far more powerful deterrent of unethical conduct than mere monetary sanctions.

This reasoning compares favorably with the analysis set forth by Treviño and Nelson in Managing Business Ethics. Although most people wish to behave ethically, improper behavior is a natural consequence of the misalignment of cultural systems. Compliance programs feature guidelines directed at employees, but enforcement mechanisms are focused almost exclusively on corporations, frequently allowing individual wrongdoers to go unpunished. Intentionally or not, this arrangement sets up the expectation that people may take large (even unjustifiable) risks quite freely, because the company will pay to clean up any mess that might result from one person crossing an ethical line. Hence guilt is shifted from the actual perpetrator to the organization at large, such that the former feels little responsibility for the consequences of his own actions.

How can the financial sector fix this misalignment and reduce unethical behavior? Tough talk aside, regulators may be unwilling or unable to effect new penalties in a meaningful way. But financial institutions can help themselves (and save money) by reconsidering how they think about compliance. Last week we wrote about the pitfalls of pay-for-performance regimes, which incentivize selfishness at the expense of responsibility. Recent trends suggest the gradual rise of a new scheme, which we might call "comp-for-compliance": banks have begun to adopt executive payment programs tied to compliance and ethics. Although more research on the effects of such programs is required to determine their efficacy, they seem to be a step in the right direction for cultural alignment. If executives (and managers and employees) see that their companies are treating compliance as an individual responsibility, perhaps they will take a greater personal interest in its implementation.