Howard Davies writes: In November, the United Kingdom’s Financial Conduct Authority (FCA) announced a settlement in which six banks would be fined a total of $4.3 billion for manipulating the foreign-exchange market. And yet share prices barely reacted. Why?
The nefarious practices and management failings uncovered during the yearlong investigation that led to the fines were shocking. Semi-literate email and chat-room exchanges among venal traders revealed brazen conspiracies to rig the afternoon exchange-rate “fix” for profit and personal gain. Using nicknames like “the three musketeers” and “the A-team,” they did whatever they liked, at an enormous cost to their institutions.
But, despite the huge FCA fine, no top executive was forced to leave and investors did little more than shrug. Even $4.3 billion is small change when compared to the total fines and litigation costs incurred by the major banks over the last five years. Morgan Stanley analysts estimate that the top 22 banks in the United States and Europe have been forced to pay $230 billion since 2009 – more than 50 times the cost of the FCA settlement. This is over and above the heavy losses that banks incurred from bad lending and overambitious financial engineering.
American banks have incurred more than half of these massive penalties. The European bill amounts to just over $100 billion – roughly half of which was paid by the top seven British banks.
In the US, the penalties have been dominated by fines for sales of misleadingly marketed mortgage-backed securities, often to the two government supported entities Fannie Mae and Freddie Mac.
In the UK, by contrast, the biggest penalties have come in the form of compensation payments made to individual mortgage borrowers who were sold Payment Protection Insurance.
The Morgan Stanley analysis suggests that we can expect another $70 billion in fines and litigation costs over the next two years from already identified errors and omissions.
The irony here – not lost on the major banks’ finance directors – is that as fast as banks add capital from rights issues and retained earnings to meet the demands of prudential regulators, the funds are drained away by conduct regulators.
Some of the money, especially in the UK, has gone back to individual customers. Today, the payments have become so large that the government has seized them and channeled revenues exceeding the regulator’s enforcement costs to veterans’ charities.
In the US, the end recipients are less clear; indeed, they are undisclosed. Charles Calomiris of Columbia University has challenged what he calls “a real subversion of the fiscal process” as funds are raised and spent in non-transparent ways.
Do fines on this scale serve as useful deterrents? Clearly, the post-crisis period has revealed unacceptable behavior in many institutions. It will be some time before we know whether large fines on corporations, paid principally by their shareholders, contribute to keeping the system honest.
Whether the current approach serves as an effective deterrent is a question that should be widely debated. Senior bank managers and regulators have a common interest in developing a more effective system – one that punishes the guilty and creates the right incentives for the future.
