Thursday, March 15, 2012

Will Goldman Sachs respond to criticism - or does it need to?

Is the future of Goldman Sachs in two sets of hands: its own, and those of the market? No, the future of the firm is actually in three sets of hands!

Here's the background: yesterday, something like $2bn were wiped off the market value of the firm after Greg Smith, one of its own Executive Directors, described the firm's culture as having become 'toxic' (in his very public resignation from the firm, in his open letter published in the New York Times a few days ago, where he claimed that the company now cares more about its own profit than about what is good for its clients as it did earlier).

Smith's accusation of that decline in the firm's moral fibre parallels the decline in most other financial services firms. That may explain why its shares plunged only 3.4 per cent in New York trading yesterday.

So does the future of the firm depend on two sets of hands (its own and those of the market), because the firm can choose to reform itself (probably unlikely given that the damage is only 3.4% and could lessen over time) and the market which clearly has a role to play (it could penalise the company even more if it is seen not to reform)?

Well, whether the market actually does so will be an important indicator of whether the disease is in fact as widespread as I suggest (the market is not going to do much more if there are no firms that have a better corporate culture; portfolio theory-based financial allocation means that a certain proportion of every portfolio is going to be invested in the financial services sector anyway - and, if every firm has similar moral toxicity, that gives portfolio allocators little choice).

That is why the future really lies in the third sets of hands: legislators and regulators. What can legislators and regulators do? They can try and get at the systemic roots of a public and financial services culture which is now anti-commercial and anti-human.

That is what legislation such as Dodd-Frank is about, however clumsy it may be.

However, regulators are still trying to negotiate their way between the requirements of such laws (and common agreement about the sorts of things that are necessary) and intense lobbying by the industry, in additon to its public bleating about how much it is going to cost and how it is going to slow down growth.

Is it going to be costly? Yes. But there is a certain cost to being in any sort of business, and if the costs hits the whole industry uniformly, then it is not going to be a factor changing the fortunes of the industry as a whole or of individual firms within the industry.

Is such legislation growing to slow down growth? Marginally, yes. But the legislation and regulation is equally, or to much more than that extent, going to put the economy on a more stable basis and actually even out corporate earnings by putting them on a much smoother path.

It really boils down to this: the financial services industry would rather that we have the equivalent of the wild swings in the weather that we have seen over the last few weeks in Switzerland. By contrast, those of us in favour of commonsense would rather have more stable and predictable weather conditions.

If the overall environment is conducive because of a more stable environment, financial services firms will be much more likely to be able to modify their culture to suit. On the other hand, if the overall environment is not conducive because of wild swings in economic and financial conditions, then it is not only Goldman Sachs that will continue to have a toxic culture but all financial services companies, because "toxicity" is a precondition for success in the existing environment. Sphere: Related Content

No comments: