February 2017 “ACCOUNTANCY”
Legitimising corrupt practices
In last month’s column I commented on the huge fines levied on financial institutions guilty of violating securities laws, noting that natural justice would be better served if these vast penalties were applied to compensate victims, rather than enriching culprits’ lawyers – while leaving the transgressors’ obscene levels of remuneration and bonuses intact.
These observations have been lent particular emphasis by the head of Deutsche Bank, John Cryan, who clearly has little patience with a bonus culture divorced from corporate performance: he warned his top bankers that their anticipated year-end bonuses will instead be applied to ease the bank’s fine for mis-selling sub-prime mortgages, which could be as high as £11 billion.
Closer to home, the Bank of England’s stress tests on Royal Bank of Scotland have revealed the extent of the wounds resulting from its unprincipled immersion in sub-prime lending in the USA.
unprincipled immersion in sub-prime lending in the USA
Its share price has plummeted by 35 per cent over the past 12 months, threatening the government’s ability to reduce the 73 per cent stake it “acquired” following the last bailout.
The ultimate figure for RBS fines and conduct charges, both here and in the USA, is presently indeterminate – but if current calculations of up to £20 billion prove remotely justified, the government might simply dump its holding, crystallizing a vast loss to taxpayers.
This continuing charade amounts to little more than an unvarnished extortion racket by regulatory agencies whose uselessness needs some emphasis. Spelling out last month’s argument in a little more detail:
no more than token compensation
(i) Victims of these violations are invariably left waiting many years for no more than token compensation for their losses.
(ii) Financial penalties levied at the corporate level, for all their size, appear to have little deterrent value as instruments of reform. Why else would the same charade be repeating itself over and over?
(iii) Adverse findings and associated penalties invariably have a negative impact on entities’ share prices, thereby inflicting unwarranted further damage to the savings of innocent shareholders – clearly the wrong target.
(iv) The reprobates who mastermind and orchestrate the mis-selling and market rigging, and a further panoply of inventive violations, are rarely made to suffer personal retribution for their misdeeds: concepts of humiliation and redemption are meaningless to them, as amply evidenced by the nauseating levels of executive pay that persist.
(v) Auditors of the companies holding these investments were content to confine their vetting to every detail concerning the packages of bonds – except the true value of the dross they actually contained. Some auditing! But, after all, they and the masterminds behind the accounting fudge were often members of the same firm.
Arcane accounting practices
(vi) Arcane accounting practices were used to designate Triple A ratings to parcels of near worthless bonds, and spurious criteria were used by auditors for determining their holders’ loss provisions. The “incurred” loss model permitted the dross to be included in the holders’ balance sheets at book value until being compelled to face the reality of their worthlessness and write them off – perhaps years after the “expected” loss model would have crystallized those losses.
(vii) Companies issuing those bonds also had auditors. But when those companies issued duff paper (such as “reverse convertibles” – bonds that can be converted into equity if the issuer can no longer pay the interest) their auditors remained heedless of the impending litigious tempest about to threaten their clients’ solvency.
Unhinged remuneration levels
Governments are not blameless. Knee-jerk protection of banks has corrupted normal market processes of determining executive remuneration. Left to the market, pay at all levels of management tends to be higher in the most successful institutions, where wise executive management is at a premium.
But when governments, feigning misguided concern with the “public interest”, provide guarantees for insurance of deposits, and implicit promises of a bailout if all goes wrong, executive pay is set free of the market. Ignorance and greed become rampant.
We should not be surprised. Any system characterised by the above litany of corrupt practices will always create corrupt pay packets.
And – if you throw loans at people, their thoughts will become unanchored, heedless of the constraint of eventual repayment.