Banks should work to restore public trust in their operations by embracing regulatory reforms, including changes to capital levels and compensation, Mark Carney, the governor of the Bank of Canada, said.
“Bankers need to see themselves as custodians of their institutions, improving them before passing them along to their successors,” Carney said in a speech he gave to the Ivey business school at Western University in London, Ontario yesterday. “It has been said that, ‘trust arrives on foot, but leaves in a Ferrari.’”
There has been a “significant loss of trust by the general public” due to the excesses that led to the 2008 financial crisis, as well as allegations of wrongdoing in areas such as the setting of the London interbank offered rate, a benchmark interest rate known as LIBOR, Carney said. He is scheduled to leave the Bank of Canada June 1 to become Bank of England governor a month later as that institution takes on the role of banking regulator.
The lack of trust has depressed the stock price of banks such as London-based Barclays Plc and Frankfurt-based Deutsche Bank AG, and is “restraining the pace” of the global recovery, Carney said. It has also “increased the cost and lowered the availability of capital for non-financial firms.”
While Carney didn’t mention the outlook for the Canadian economy or monetary policy in his speech, he told reporters afterward that Statistics Canada’s report on fourth-quarter economic growth, due Friday, may be weaker than the 1 percent pace he projected in January. He made no comments at all about the outlook for the U.K. economy.
Speaking in Tokyo today, Bank of England Governor Mervyn King said monetary policy alone is not a panacea for economic problems and that it shouldn’t target currency rates. He also said the BOE’s 2 percent inflation target is not impeding the U.K. recovery.
Deputy Governors Charles Bean and Paul Tucker will take questions from lawmakers on the central bank’s latest forecasts and the outlook for U.K. policy at a hearing in London today.
Policy makers David Miles and Ian McCafferty will also speak at the hearing of the cross-party Treasury committee into the BOE’s quarterly Inflation Report, which was published earlier this month.
Asked whether he supports proposals by John Vickers, the former chairman of Britain’s Independent Commission on Banking, to have lenders separate their consumer and investment banking businesses, Carney said he was on record as doing so.
“I believe in my testimony I made it clear that I was,” he said, referring to his Feb. 7 appearance before the Treasury Select Committee in London. “And if I didn’t, I am.”
Carney said global standards that require banks to enhance their capital are an important part of efforts to rebuild trust. While reforms proposed by the Group of 20 nations “will go a long way,” they will not be sufficient to restore trust, he said.
“Bankers need to participate actively in reform, not fight it,” said Carney.
Those reforms have changed the economics of capital markets operations, the central banker said. “The amount of capital an institution needs to carry for the trading book has tripled, effectively,” he said. “It does, if you’re a bank CEO, make you think about how much weight you want to have on the capital markets business, maybe not this year but five years or 10 years out.”
Carney also called on banks to improve the transparency of their accounting and conduct regular “stress tests” of their balance sheets.
One of the biggest blows to public trust came from the “perception of a heads-I-win-tails-you-lose finance,” he said. “Bankers made enormous sums in the run-up to the crisis and were often well compensated after it hit. In turn, taxpayers picked up the tab for their failures.”
Financial reforms must include “measures that restore capitalism to the capitalists,” Carney said.
Global financial institutions need to rediscover the connections with their clients, he said. “The LIBOR-setter sees only the numbers on the screen as a game to be won, ignoring the consequences of his or her actions on mortgage-holders or corporate borrowers.”
Banks’ manipulation of interest rates has spawned probes by half a dozen agencies on three continents in what has become the industry’s biggest and longest-running scandal. More than $300 trillion of loans, mortgages, financial products and contracts are linked to Libor.
Carney urged banks to return to their “core values.” Senior management and board members should promote a “culture of ethical business” throughout the organization, he said.
The Financial Stability Board, a Basel, Switzerland-based body that Carney chairs and that recommends global financial reforms, has suggested changes to compensation plans in the banking industry, such as the payment of bonuses in stock rather than cash.
While an important lesson of the crisis was that large bonuses encouraged risk taking, compensation reforms alone can’t “ensure virtue,” he said. “Integrity cannot be legislated, and it certainly cannot be bought. It must come from within.”
Carney will succeed King as Bank of England Governor. King is pushing for banks to boost their capital buffers. In the BOE’s November Financial Stability Report, he said banks’ capital must reflect a “proper valuation” of their assets and a “prudent calculation of risk weights.” King also said lenders must strengthen resilience and has asked regulators to report back by March on how banks will comply.