Monday, August 29, 2011

OSC: Barking up the wrong tree?

This weekend, an interesting business ethics story hit the papers in Canada. It is about the fairly unprecedented measure of the Ontario Securities and Exchange Commission (OSC), on Friday last week, to not only suspend the trade of Sino-Forest (TSX listing: TRE) but to also to demand five of their top executives to step down. Sino-Forest is a Hong-Kong based lumber company mostly operating in China which appeared to have overstated their reserves as well as their revenues. The OSC was alerted to this by a whistleblower in a Canadian investment bank (with the conspicuous name of Muddy Waters...). While the OSC later had to rescind their demand for personnel changes at Sino Forest – it turned out to have no jurisdiction over such far reaching changes in the corporate governance - the case raises some interesting questions about the role and intricacies of business ethics.

For one, it was a pretty unequivocal and drastic measure for a regulator. While the failure of the SEC in the US in the regulation of sub-prime mortgages or the Madoff case has been widely lamented, the OSC seems to be much more hands-on with these things. In some ways, many have argued that this relatively higher level of regulation has in fact strengthened over all the Canadian financial market place.

At the same time the case also raises questions about the role of a regulator. The job of the OSC is basically to ensure a functioning and fair market for capital and credit. The main challenge here is to make sure that the prices signal a credible account of the ‘goods’, and that the information about those goods is available to all players. Issuing commands about the intricacies of corporate governance, including who should do which job, certainly is not the job of the regulator.

In this sense, one could argue that the OSC – while trying to play the tough Sherrif in town – has maybe still some more work to do. Sino-Forest was correctly audited by Ernst & Young and got decent ratings by Standard & Poors and Moody’s (until Friday that is, when both agencies rated Sino-Forest down). It is amazing to see how little attention in the press is paid to these circumstances. How is it possible, that the very intermediaries in charge of making sure the information about a company out there is correct have failed so blatantly and frequently in recent times – with hardly any serious attention to this drawn by regulators? We would certainly recommend the OSC to look a bit closer to these actors.

The incident is also interesting in other respects. One might ask why such an allegedly strong ethical stand of the OSC comes at this point in time? One cannot help but to think about the ongoing plans of a merger between the Toronto Stock Exchange (TSX) and the London one (LSE) – something which is viewed by many Canadian business people as another sell-out of Canada’s business jewels. Arguably, this incident makes a point: the TSX, listing place of around 80% of all mining/resources stocks globally, lists mostly smaller und fairly unknown companies who – unlike big brands or companies with consumer interface – are mostly working under the radar of public scrutiny. Without strong scrutiny from NGOs, consumers or the media, a regulator in such a market has arguably more on its hands. Whether this could easily take place from London after such a merger remains open for discussion

It will also be interesting to watch if such a new approach of the OSC will debunk another Canadian myth: that as a small country in a global economy, regulators have to be soft in order to not shy business away to the US or even further. Currently, Sino-Forest is still traded over the counter in New York. Investors at the TSX though run no risk to buy this ‘junk bond’ any more. In some ways the case seems to provide another confirmation of the thesis that a stricter regulated financial sector has protected Canada and Canadians from many of the hardships the subprime mortgage crisis in the US in 2008 has landed their neighbours with.

Admittedly, this all sounds a bit like we are trying to sneak in another endorsement of the ‘ethics pays’-hypothesis. Well, in this case it might indeed, mostly for shareholders though. But that is a whole other ethical issue in itself.

Picture by jurvetson, reproduced under the Creative Commons Licence.

Monday, August 15, 2011

Crisis? What Crisis?

In the latest edition of ‘Business Ethics’ we referred to the events of 2008 (Lehman, AIG, RBS etc.) as the ‘financial crisis of the late 2000s’. Well, at the time we did not expect this to be useful for the reasons it now makes total (non-)sense: we are quite likely to having witnessed the beginning of the next instalment these days.

Following the budget compromise in the US and the downgrading of US government bonds by Standard & Poors (S&P), we have seen markets plummeting and shareholder’s wealth wiped out in the billions. Again. Rather than being a distinct event from 3 years ago, the ‘financial crisis’ – as it is still commonly referred to – seems more of an ongoing concern than a one-off. This also seems to be the message from Europe: Greece is hardly on the safe side, and new bad news is coming out of Italy, Spain, and even France, of all places!

So let’s put it frankly: there is no such thing as ‘the financial crisis’ or ‘a new financial crisis’. What we see these days is just the new normality in global economics and politics.

What does that mean? We think the last two weeks have given us a little taster of the some major features dominating economic, social and political life for the foreseeable future. First, it was blatantly obvious how the recent turmoil, once again, got induced by the plotting of rating agencies. The initial spark for the fall of stock prices was the downgrading of US bonds by S&P. Now, this is in itself hilarious. As Paul Krugman pointed out, this was not only the company that in 2008 ‘gave Lehman Brothers, whose collapse triggered a global panic, an A rating right up to the month of its demise’. As he also reports, the initial downgrading report contained an error of $ 2trillion – and when it was discovered they downgraded those US bonds anyway.

While we do not want to speculate about the motivations of S&P this clearly points to the fact how global political developments are now directly shaped by private, unaccountable corporations. When we started to write about the role of ‘corporations as governments’ in the early 2000s many of our colleagues deemed this ‘an idea whose time has not yet come’. We have much less of a hard time to make this point these days – and we say this not without some regret. It is not only a statement regarding corporations in general. Readers of our text will have noticed that we included a section on the ethics of rating agencies in chapter six of the 3rd edition in 2010. These players have escaped the scrutiny by both the public and academics alike for all too long.

Parallel to this, the last two weeks surfaced a culmination of public unrest and violence. We got a little appetizer over the summer from Greece, Italy or Spain already. But what happened on the streets of London, Manchester or Birmingham these last two weeks, takes it to a new level. The anger and veracity of violence against persons and property is quite shocking. One of the most thought provoking analyses by many commentators was summarized in an article in Der Spiegel this week. He argues that societies which just had witnessed theft, misappropriation of funds or invasion of privacy by bankers and other corporate players on a massive scale, with next to no consequences for these people, loses its sense for fairness of institutions and trust in the rule of law. 

This is exacerbated by the fact that in all countries affected by the financial crisis the bill, by and large, is footed by cuts in welfare, health and education for middle and lower income segments of society. The latest US budget takes this to an even comical level: tax breaks for private jet owners, but cuts for the sick, old, young, and poor. The fact that the UK is leading in the riot department just reflects that Cameron’s Tories, despite all the smooth talk about the ‘big society’, has not changed a bit from the ‘nasty party’ that they were dubbed under Margret Thatcher in the 1980s.

This wider effect of ‘white collar’ crime has also been re-iterated by the whistleblower Harry Markopolos, who warned the SEC about Bernie Madoff’s Ponzi scheme years before it blew up. In an interview on which the new documentary ‘Chasing Bernie Madoff’ is based he talks about the blatant asymmetry we see between prosecuting million dollar corporate misappropriations and, say petty theft or small time bank robbery. This interview is worth watching also as Markopolos – more a nerdy accountant than an anti-corporate activist – elaborates on the corporate capture of the political system which has for decades refused to adequately police Wall Street. While his is a largely American argument the recent scandal around Rupert Murdoch’s phone hacking scandal has shown that this phenomenon is by no means confined to this side of the Atlantic.

There are little signs of change – which in theory should come from governments and regulators. The haphazard and amateurish handling of the Greek finances by EU leaders, or the dealings and compromises in US politics to fix the budget though provide little hope from this direction. It leaves us all to wonder how the world will develop. What is clear though is that the current situation is not just an ephemeral ditch – a ‘crisis’ - in which the economy is stuck for a short period of time. We should get used to the thought that it is in fact becoming the normal state of affairs.

Artwork by studebaker2008 (top) and takomabibelot (bottom right), reproduced under the Creative Commons licence.