Conduct and Culture in the COVID Era

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Anna Bligh, Chief Executive of the Australian Banking Association commented on the state of culture and conduct during the Covid-19 pandemic in a recent speech.  “Almost two years ago, I stood at a media conference in Sydney and told the nation that, in the wake of the Hayne Royal Commission, Australia’s banks would do ‘whatever it takes’ to regain the trust of their customers,” she said.

While much has changed since then, Bligh went on to explain that culture is a new element of operational risk.

Culture and conduct related risk has a significant impact on the stability of the banking system.  This has elevated such concerns to board-level consideration and is driving culture reform efforts across the Australian industry.  Implementation of a new Banking Code of Practice, and restructuring of remuneration for front-line sales functions, offer examples of the industry working together to shift culture and the behavioral predilections it may drive.

Still, more needs to be done. Much current effort is undertaken at an institutional level, with each bank considering their culture and setting their own priorities for change. For lasting industry wide changes for the better, there is need for greater industry collaboration to achieve consensus on how culture and conduct risk is best managed.

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The Impact of the Pandemic on Cultural Capital in the Finance Industry

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On November 16th, Kevin Stiroh, Executive Vice President of the Federal Reserve Bank of New York, delivered a speech regarding the impact of the pandemic on “cultural capital.”

Stiroh described cultural capital as an input into a firm’s production process that determines its ability to deliver the products and services that it offers. He called it “analogous” to physical capital (e.g., equipment, buildings and property), human capital (e.g., the accumulated knowledge and skills of its workers), and to reputational capital (e.g, franchise or brand value).

For financial firms, Stiroh continued, cultural capital is not loss-absorbing in a financial sense like equity capital. However, it can be loss-preventing in nature, by influencing management decision making, employee behaviors, and customer outcomes over time. Underscoring this point, Stiroh contends that organizations low in cultural capital face higher levels of conduct risk that may lead to negative outcomes.

“Like other forms of tangible and intangible capital, cultural capital grows and shrinks over time. Depletion of cultural capital can adversely impact the firm’s productive capacity and value. This reflects, for example, changes to employees’ attitudes and practices, as well as their beliefs and values,” he said.

Firms need to recognize the value of this intangible asset, learn what investment is needed to sustain it, and apprehend what may cause it to depreciate. In this direction, some firms have begun to make use of Big Data, AI and network analytics in order to discover and track how culture is transmitted through an organization to measurably shape performance outcomes.

Given the challenges of Covid and related Work From Home protocols, the ways in which firms might invest in their culture will likely change in the near term. But sure to persist is the recognition that culture influences business outcomes, that firms can build their culture through purposeful investment, and that culture can depreciate if left unattended.

Read the full speech here

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Cosy Audit Relationships Challenged Under 10-Year Rule

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Australian companies may be forced to put their audit work up for tender, or explain to investors why they won’t open up the role to other providers, as MPs push ahead with proposals designed to disrupt the cosy relationship that can develop between company directors and their long-time auditors.

The proposed changes follow from bipartisan concerns, raised by the Joint Committee on Corporations and Financial Services, regarding the quality of audit work in Australia.  

The Committee held four days of hearings and received more than 100 submissions with general agreement from firms, the corporate regulator, and experts all concluding that the current state in audit was not serving the users of financial information adequately.

The Committee’s inquiry focused on the Big Four firms – Deloitte, EY, KPMG, and PwC. The Australian Securities & Investments Commission found that the Big Four had failed to obtain sufficient assurance in up to 32% of the audit areas examined.

Average tenure of audit firms at the nation’s 20 largest companies is more than two decades. ANZ Bank, for instance, has retained KPMG as its auditor for more than 50 years, while Westpac has worked with PwC for nearly 20 years. 

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Underinvestment in Data, Tech a Root Cause of Breaches: ASIC

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Australian Securities and Investments Commission (ASIC) commissioner Sean Hughes has highlighted data and technology systems as a key area where financial institutions need to step up their game.  Speaking at the Australian Retail Credit Association Conference on November 13th, Hughes said a review of breach report samples lodged with ASIC point to “underinvestment in technology systems” as a root cause of breaches in a significant number of cases. 

Hughes went on to report that underinvestment in technology accounts for about 40% of breaches related to bank overcharging and around 70% in insurance overcharging, and he pointed to significant and pervasive limitations to the systems in use among a wide range of financial institutions. “This creates operational risks and suggests historical Board and management decisions on the development and maintenance of these systems have not placed the long-term interests of the consumer at the core,” Hughes said.

A combination of poor systems and poor governance means delays in picking up problems and, ultimately, result in lengthy and costly remediation programs. However, Huges noted that institutions with better data and technology capability – for example analytics and AI – were able to respond more quickly and in a targeted fashion.  Promoting the adoption of superior technologies and approaches to managing such non-financial risks is an increasing priority for Australian regulators, among their global peers.

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Evidence of PPP Fraud Mounts, Officials Say

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According to US officials and public data, the government is swamped with reports of potential fraud in the Paycheck Protection Program, casting a shadow on one of Washington’s signature responses to the coronavirus pandemic.

Last month, the Small Business Administration’s inspector general, an arm of the agency that administers the PPP, said there were “strong indicators of widespread potential abuse and fraud in the PPP.” The Treasury Department received 2,495 suspicious-activity reports in September, involving business loans from banks and other depository institutions. This was more than the total for any year dating back to 2014. 

According to the FBI, hundreds PPP-related investigations have been opened, involving close to 500 suspects and hundreds of millions of dollars of loans. Many involve allegations of made-up companies or forged documents.

“With the passage of time it becomes much more troubling when the fraud framework is not in place,” said William Shear, director in the GAO’s financial market and community investment team, at an Oct. 1 hearing before the House Small Business Committee. “There are too many questions that go unanswered.”

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