Conduct, culture and COVID-19

Conduct risk reporting has been a factor of doing business for a while now but its shape is changing profoundly in 2021 as conduct regulators roll out a new set of assessment tools called Culture Audit.

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Clearly the COVID-19 pandemic is still the biggest object on everyone’s risk radar. For many in the financial sector, remote working has created new challenges around team cohesion, surveillance and security, psychological safety and mental health. It would be surprising if conduct regulators – whose first interest is how people behave – didn’t take an interest in that.

"There’s a widespread sense that with many parts of the planet suffering pandemic, social unrest and climate change, it’s time to reconsider the banking sector’s social usefulness.”

On the customer-facing side, COVID-19 forced a redefinition of “vulnerable customer” as each day’s infection figures recalibrate the vulnerable population. Longer-term, we can be sure conduct regulators will revise their definition of a business’ acceptable and expected behaviour to include wider lessons from the industry’s experience of pandemic. Businesses are already being asked to reappraise their social licence (the often tacit “benefit of the doubt” stakeholders allow to brands to continue trade); expect to hear much more of this.

Conduct rules evolve and change, too. In 2021 there will be a new emphasis on non-financial (as opposed to financial) misconduct. Regulators’ powers continue to extend, as well, bringing into scope more kinds of financial trading activity across all asset classes.

More than profit

So what drives these changes in the conduct control agenda?

There’s a widespread sense among the public, as well as financial industry staff, customers and regulators, that with many parts of the planet suffering pandemic, social unrest and the effects of climate change, it’s time to reconsider the banking sector’s social usefulness. Put simply, the value it creates for others beyond simply generating profits.

This is clear in the community expectations put forward by Financial Services Commissioner Kenneth Hayne and in recent letters from UK financial regulators to CEOs demanding a better communicated “purpose” higher than profit.

The UK’s Financial Conduct Authority, the Dutch De Nederlandsche Bank, the Australian Prudential Regulation Authority, America’s Federal Reserve Bank of New York and the Monetary Authority of Singapore have led a global conduct regulator refocus into culture assessment – and all five regulators talk to each other regularly about how best to make change happen from boardrooms to trading floors to call centres. Later this year, regulators intend to visit all parts of the industry, in person, to check how the culture is moving ahead.

It helps to imagine the global conduct regulation project as a series of waves. The first two waves were about preventing detriment and holding senior managers accountable in person. The third is the new culture assessments and the fourth (due in 2022) will be capital assessment of reputation risk, bringing regulatory capital charges against offending banks.

Observing culture

Conduct supervision itself is evolving. Broadly, proforma stats-based reporting on operational risk history is giving way to a greater focus on qualitative (word-based) reporting from live observation of how staff in the industry are actually behaving. Regulators’ case officers will look to gather more data from external sources such as Glassdoor, Trustpilot, customers’ own informal chat rooms and so on.

With help from regtech such as AI assisted language analytics, regulators will hunt for patterns of abusive activity among unstructured data such as emails and voice trade recordings. Mostly though, regulators are looking to expand their so-called “walkabout” tests: visiting offices or dropping in on team video conference meetings to watch how much conduct awareness staff are showing in their daily work. So it’s time to raise the culture reporting game.

Up until recently, regulators’ approach to conduct risk focused on finding infractions – events of bad behaviour – looking to find misconduct in order to punish it. Now, the mood is more positive, as conduct regulators talk about “coaching” firms to produce and celebrate “exemplary conduct”. In other words, the finance industry should be taking more notice of, and amplifying, the many pre-existing good practices rather than basing conduct programs on the premise that the regulator wants to hit us with a big stick.

To support good conduct reporting, financial services firms are invited to define a company-wide positive purpose. The regulator’s culture audits will expect each company to define and report their “purposeful culture”. New cultural indicator sets will need to include some form of measurement for each of the following human-risk factors:

  • psychological safety - essentially, how safe is it to put a hand up and challenge anything;
  • cognitive diversity - how good we are at different ways of thinking about solving problems;
  • leadership moral character - such as not ‘by-standing’ when abuses occur; and
  • social licence - stakeholders’ continued tolerance for how we behave.

Those indicators haven’t previously been seen in conventional year-end business reporting or even among environmental, social and governance (ESG) reports. Traditionally, the industry has tended to lean on financial spreadsheets.

As culture assessments push the industry to raise our game, a vital first step is knowing some basics of behavioural science. Some people may have already heard of “groupthink”, even if they couldn’t define it technically. But what about “thinking fast and slow”, or “nudge” and all the “bias effects” such as loss-aversion, confirmation bias, or Dunning-Kruger? Those are just a few of the many science-based sources culture assessments will be drawing on. For example, there are more than 200 documented bias effects and conduct regulators expect businesses to know about at least the seven which pose the biggest everyday risk to good conduct of business.

Businesses that get on board the culture program early – especially before a conduct regulator asks them about it – will see strong business value returns. Better engaged staff are happier; so they stay longer, reducing churn costs and giving better customer service. As a result, customers and clients stay longer and do more business with the company because they sense how much good service truly matters and regulators, respecting those efforts, put that big stick back in the cupboard.

Social reckoning

After COVID-19 - whatever that turns out to mean in practice - businesses will still need to brace for a major ‘social reckoning’. The pandemic has damaged many lives; but even before it there was a deep-seated public unease with institutions of government and corporate governance. That has sometimes exploded into the form of street protests against institutionalised abuses such as bank bail-outs, normalised racial injustice and sexual misconduct, and state inaction on climate change.

Against this backdrop of public suspicion, every business should expect their conduct during the pandemic to be reappraised – sceptically – with the benefit of hindsight, using the plain question: “Did they help?”.

The new landscape of ‘socially perceived’ risk, where a poor culture is indictable, presents new challenges for banks. How well prepared are banks to respond to a new credit squeeze, the emerging true cost of payment deferrals or widespread business struggles to repay emergency loans?

Using 2021 to step up pre-emptive efforts for positive culture building is one powerful way to start building back better, for everyone’s sake.

Dr Roger Miles is Faculty Lead at the Conduct and Culture Academy for UK Finance

The views and opinions expressed in this communication are those of the author and may not necessarily state or reflect those of ANZ.

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