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Money

Ethics in Business Finance

Abha Wadhwa
Nov 2009

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Ethics is defined as a mode of human behavior (incorporating ends, norms, good, right and choice) in dealing with others. In general this mode deprecates behaviour which is only mypiocally self-serving, on which, conversely, imposes large costs on others with small gains to oneself.

Finance, as practiced in professions and in industry, is seen as a value-neutral positive discipline promoting efficiency without regard to the social consequences which flow from its products. Yet there are implicit value judgments in accepting the consequences of so-called efficiency.

Disregard of social consequences of the products of finance is manifest in unethical behaviour in business in general. Examples of such behaviour include insider dealings by management and others to boost share prices artificially in case of a takeover, tax fraud, lack of pollution disclosure, manipulating accounting numbers to strike abnormal profits, overcharging customers in defence contracts, leveraged buyouts and the practice of greenmail. These are but the tip of the iceberg of unethical dealings. The underlying ethos in such behavior is self-interest, short-term orientation and the relentless focus on deal making rather than long-term investment.

Ehtical conflicts in the financial area are exacerbrated by the nature of its markets. Financial markets, institutions and users deal with enormous amounts of money, often by word of mouth and through ordinary communication systems. Not only is the scale of potential gain much higher, but the ability to achieve such gain is perhaps also augmented by arcane and mysterious mechanisms. Conflicts of interest abound more to the point, financial markets are used for transaction purposes and the allocation of risk return and property rights between individuals, between time horizons, between nations and across generations. This allocation process gives rise to several types of ethical conflicts in the financial system.

These raise questions such as : What kind of restructuring is appropriate in the distress situation (which group is to sacrifice how much) and how are priorities to be set between employees, shareholders, bondholders and the general public? How should performance related pay be administered between top management and employees? Are traders interested in increasing potential gains for themselves at the expense of the corporation?

In the past two decade, with the enlightenment of the masses (consumer sovereignty), advancement of technology, globalization of businesses, a plethora of derivatives in the financial markets, and environmental awareness, all has changed. There are problems of reducing shareholder-creditor conflicts, conflicts between different cohorts of shareholder voting rights, conflicts in managers' incentive plans, and conflicts of resource allocation between generations. Stakeholder conflicts are numerous, and the number of potential stakeholders in business and the society is continuously increasing, giving rise to questions of modes of governance in organizations and short-termism of managers.

Lending with a vision

A lender has his own constituency (shareholders) as well as a large number of stakeholders in the organizations to which it lends. When the existence of the borrowing institution is threatened by a takeover or potential bankruptcy, any action by the bank is naturally going to affect some stakeholders more adversely than others. While the lending bank must look after its clients, it must take a long-term view and not withdraw support just when the client needs it most. Other conflicts that banks face include: how to handle privileged information, and how to balance notions of efficiency with notions of justice when unemployment may result bankruptcies in the national context or when political stability is threatened in a global context.

It is a fact that most small and mid-sized companies are multi-banked. This introduces additional dilemmas for bankers, for they too are in business and failure to support a reasonable credit risk proposition because of ethical concerns may lead to a competitor lending institution providing the requested loan.

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