11 November 2009
Whatever Happened to Honour? Reflections on Ethics in Business with Some References to Government
By: Michael Woolgar— 2009-2010
Michael Woolgar has an economics, project development and finance background with experience as an economist in several multi-national oil companies, banks, and international organisations. Seminar held on 11 November 2009
I retired about six years ago and have since been engaged on a number of projects as project developer (with the usual quota of failures) and so have been following current developments in banking and business as more of an outsider.
I wanted to place the idea of ethics in business in a philosophical context but shied away from attempting anything too serious when remembering the competence of the participants in a philosophical discussion here about a year ago. So, I should like to make some inevitably anecdotal comments on my experience of ethics in business which has to include some relevant observations on government because of the considerable impact of a large State on economic activity.
What, then, should one expect as ethical behaviour in business? Honest product descriptions? Fulfilment of contractual engagements? Some concept of ‘reasonable’ pricing? Non-collusion with competition? No industrial espionage? Respect for patents? Payment of taxes? Some idea of ‘fairness’ in wages at home and abroad? Non-usurious credit terms? Decent company pension arrangements? Competent private medicine? Excellent private schools?
What should one expect as ethical behaviour in government? Protection from enemies both external and internal? Moral use of force in internal and external governance? Honest policy descriptions? Fulfilment of engagements? Some idea of ‘reasonable’ taxation? Excellent publicly-funded schools? Non-collusion with special-interest producer groups and maintenance of free competition? Maintenance of the integrity of money as a store of value? Respect for privacy? Respect for rights and traditions? Some idea of ‘fair’ wages in the civil service? Decent pension provisions? Promotion of free trade to benefit the poor abroad? Competent public medicine? An adequate response to growing doubts about abortion, and grave reservations about euthanasia?
It is surprising how, during a quarter century of varied experience of corporate life through to roughly 1990, I had little concern about formal ethics and did not encounter any disturbing ethical business problems. Maybe my failure to spot unethical behaviour for so long reveals a naiveté about what my colleagues or managers were up to. More comfortable to one’s ego would be the explanation that there has been a sea change in personal and corporate life in the last twenty-something years and that ‘things were better then’. This comforting thought is somewhat undermined by remembering the (for Britain) scandals of the 1960s and after, such as property-speculator Poulson, rental-Rachmann, corrupt police in Brighton, the Jeremy Thorpe affair, and others.
However, the case for a decline in morality is given weight by today’s crime statistics (if you can find a long time-series to link the past to today), by pornography and by, for example, the contrast between the apparently smothered investigation of Blair’s peerage creations or the extent of MPs’ expense claims against the admirable post-scandal behaviour of John (Jack) Profumo at Toynbee Hall. Profumo told a lie to the House and, while he may not have compromised national security, he knew for what he had to atone and how to do it.
Having spent so many years in the oil industry and some time in banking, how come that ethical issues did not arise? Were the companies in which I was involved (Petroleum Economics Ltd, Esso Petroleum Company, NAM Gas Export, Exxon Corporation, Kuwait Petroleum Corporation and European Banking Company) all so ‘squeaky clean’ that there were no ethical discussions on, e.g.,
- Esso Blue paraffin sold to households for room heating, being not very healthy?
- elimination of the Dutch coal-mining industry as Groningen gas was commercialised by Esso and Shell?
- the validity of resistance by the ‘oil majors’ to the demands of the Arab oil producers in 1974?
- accusations that Exxon held oil tankers off the United States shore to wait for higher prices?
- accusations in Congress that our Kuwaiti takeover of Santa Fe International was a proxy for the Palestinians and would support Arab oil boycotts?
- accusations of taking unfair advantage of US regulations on foreign exchange to finance acquisition of Gulfstream from Grumman?
The brand new Dutch natural gas industry was eliminating the coal mining industry in Holland in the early 1970s and coal merchants took their flat trailers with coal-bags around the Maliveld in The Hague in a rather pathetic attempt to drum up sympathy. We watched as they went by but we were the bright new future for natural gas in Holland, Belgium and France and the market was against them so we would prevail – right?
Of course, one knew about the Red Line agreement between some oil majors that was set up in an anti-competitive, orderly market spirit in the Middle East. But those arrangements were not necessarily against consumer country interests. The potential rise in oil production from vast new oil reserve discoveries in the couple of decades after World War II, if not managed, would wreck the market for other fuels and cause large-scale industrial disruption. Well, that was how the industry apologists put it. One also knew at the time (in the 1970s) that such arrangements could not survive into a post-OPEC world.
And, besides, we knew, did we not, that the oil producing countries were combining in a worldwide monopolistic gang to manipulate production and, thereby, prices to their advantage and much to our disadvantage.
When I went to Washington with Exxon’s Chief Economist (a religiously observant man of admirable integrity) to explain the implications of the work I had been asked to carry out for oil demand and for the western economies as a result of the quadrupling of oil prices in 1972 (the regression analyses were done in my New York office by satellite link to a computer in California – no PCs then) and to draw implications for western foreign policy, we were acting in good faith as expert advisors for the then second-largest oil company in the world – with an impeccable free market case to make.
The free market did not present ethical problems, we thought – and the company expected high standards of conduct from its employees and did not need to publish (as today) any guidelines or statements of how well it was behaving in human relations, environment and cultural sensitivity around the world.
On return from the United States, I did do political risk analyses in Esso Europe for our Head Office on, e.g., Lebanon and South Africa. The latter upset executives from Johannesburg. The work explicitly pointed to unacceptable ethics in racial matters and predicted more than one scenario of racial violence and regime change – but the bad ethics was the fault of the government, not of the company. Technically, the merging of probabilistic figures of various outcomes to draw conclusions about corporate investment policy was a very doubtful thing to do. At least I thought so until finding, only a month ago, that risk analysis for banks currently seems to use a frightfully similar idea to attempt to weight business risk around the world.
It was a pre-internet period a quarter of a century ago, so it was probably easier for top management in any industry to keep opinions and facts from employees and the world at large. Moreover, the famous whistle-blower in the US cigarette company was at work at the time (the 1970s) and was being pursued with malevolent intent by the employers. The drug companies were similarly covering up and then litigating against those who knew that thalidomide caused disastrous birth defects. The Del Monte fruit company was supposedly not treating South American workers very well.
But to come to my time in the Middle East: working for Shaikh Ali Khalifa in KPC (at the time he was Chairman of KPC, Oil Minister and Finance Minister!) was an Arabian Nights adventure – with no funny business in what I did or, at the time, was aware of others doing.
During my second period of living and working in the region, Iraq came into the picture. The Saddam Hussein regime in Baghdad was a nasty government and, as we all later came to know, used poison gas on its own people at Halabja, a crime for which the post-Saddam government tried a number of Baathist officials.
Awareness of the extent of the regime’s awfulness was not so very widespread at the time when I went with the chairman of a Middle East company to Baghdad to propose a scheme that (as Finance Director) I had dreamed up for the Iraqi oil industry. My awareness of the extent to which Saddam could terrorise his opponents was limited; perhaps the Chairman knew better. The arrogant immigration officials in Baghdad airport and the armed men sitting under spotlights every two hundred yards all the miles to the city were, however, somewhat disturbing.
The reception by the Oil Minister was negative. The reception by Lt.-General Amr Al Saadi, a much more senior figure and deputy-head in the Ministry of Military Manufacture (immediately under one of Saddam’s sons-in-law who, after the first Gulf War, unwisely returned to Iraq after spilling the beans to western intelligence and was unsurprisingly and promptly killed ‘in a family feud’), was both courteous and intelligent.
But that event was later, after the first Gulf War. Within a month of getting to know Amr Al Saadi, we had a hunting licence to run around America to set up a deal whereby the Government of Iraq would buy a minority share of a large US oil company’s refining and distribution assets. Iraqi oil would thereby be guaranteed entry to one very important market and crude oil would be priced to the business to ensure that the banks assisting the acquisition with debt would never have to worry about any default on loan cover ratios.
The venture proceeded apace and the Americans were soon in Baghdad for serious and very positive discussions until, in his unbalanced judgement, Saddam invaded Kuwait. The point is that, for all its vile features which soon became better known, the Government’s business in this case was expected to be conducted by us in an ethical fashion.
My first encounter with ethical problems arose in the pursuit of a refinery project in Pakistan in the 1990s. The World Bank was to be lead financier. Anybody familiar with Pakistan is aware that the economy was essentially public-sector-led with protective tariffs (a left-over of the British-taught case for the protection of Infant Industry, the British articulators of which had perhaps lost sight of the benefits of abolition of the Corn Laws). So, government approvals were unavoidable. In these approvals opportunities for ambiguous deals arise – permissions may be subject to conditional secret payments. Of course, introduction fees are not necessarily unreasonable, and are recognised in US law. However, the US Foreign Corrupt Practices Act has made such payments a lot more problematical for US companies. From introduction fees to kick-backs is not such a large step. And UK companies could until recently offset such payments against UK tax. BAe is still struggling with its payments to Saudi officials for aircraft contracts and it is rather unlikely that the UK government would have been unaware of them at the time of the payments. In Pakistan, the current President was known as ‘Mr. 5%’ (if not ‘Mr. 10%’) when he was Benazir Bhutto’s husband and before Musharaff put him in jail. The refinery project was launched when Benazir was PM.
The World Bank was at the time implementing part of the finance for the $1.8bln Hub River project, an important power plant contract near Karachi. Many international shareholders bought stock in Hub on the enthusiastic write-ups of the analysts of western stockbrokers. Subsequently, he deal unravelled with British engineers at one stage locked inside the plant as the impossibility became clear of the company properly servicing debt caused by onerous loan terms and the difficulty of collecting adequate revenues from the multiple customers who steal power in Pakistan from every overhead line. The project duly suffered a default. The World Bank executive who negotiated the financing left the Bank.
Curiously, as the refinery venture went forward, a new Chairman of the Pakistani partner company arrived on the scene and must have decided that he could do better with another contractor and without our company’s lead role in the venture. A battle royal ensued, with a script worthy of a Mogul Oil TV series (you may some of you be old enough to remember), and the entire project stumbled on in a fashion that caused the World Bank to cease engagement with it.
The Arab, Indian, Indonesian (etc.), and Italian, habit of dodgy deals is an obstacle to business. But bidding is getting more transparent and Dubai’s International Financial Centre has a British judge on station for resolution of legal disputes. While Islam allows less-than-straightforward truth-telling to non-Muslims in commerce and in treaties (with less dishonesty for ‘people of the book’ even if as residents they must pay taxes the faithful are not called upon to pay), this dishonesty is being reduced by the transparency western governments are increasingly requiring from their own companies. We have recently seen a corporation in the Middle East join the network of Global Corporations for Transparency International (GCTI).
A ‘B2B’ (for ‘Business to Business’, as the jargon had it at the time) project that our Middle East company set up at the height of the Dot.Com craze was rationally inspired in enabling more competition and better pricing to be achieved by Middle East buyers of oil industry goods and services (often handled by expatriates in Arab state companies – frequently Egyptians who swim in those waters with ease). Our Chairman planned to sell on the business at a premium after it had ‘burned’ a certain amount of his cash – as was often being achieved at the time in the West. My paper on the arithmetical impossibility of achieving the objective was described by the Chairman as ‘old economy thinking’.
But it is my personal opinion that there was a reason other than an implausible P/E (price/earnings ratio) and illogically compounding growth that told against the concept. It is that the buyers in the target Middle East region could indeed use the B2B service to reduce costs to their (mainly State-owned) companies, but that, in so doing, they would lose their meetings and negotiations with foreign contractors and salesmen from around the world who might, if selected for a contract, offer some discreet benefit.
Privatisation is now all the rage in the region so the scope for corruption should be gradually reduced. But Thyssen-Krupp and Siemens have been found out giving ‘backhanders’.
We have had Enron (headed by an ex-Exxon colleague), WorldCom, Lehman Brothers and the financial crisis of 2008, 2009 and – doubtless – a trail of consequences for some years yet to come. The accounts of the EU have not been approved for a number of years and Martha Andreason was sacked for her persistence in demonstrating the ease of, and scope for, false expenses claims in the disorganised accounting system of the Community. She is now an MEP for UKIP and on a budget committee of the Parliament. EU Parliamentarians, we are told, do much better than the fledgling fraudsters of Westminster. In Brussels, nobody seems to get sacked except Andreason – in her case, for ‘disrespect and disloyalty’.
Democratic rejection of the European Constitution by the citizens of several member states did not lead to its abandonment or to significant modification in the Lisbon Treaty. The ‘re-referenduming’ was not in accordance with the pre-agreed rules. Does that not make it unethical?
My Chairman at European Banking Company was Stanislas Yassukovich whose leading of the 09.00 meeting for all staff above Assistant Director level at our bank was always intensely nerve-racking and potentially disastrous for one’s career. Stanislas drove for profitable business – the bigger the better. We ranged the world for this purpose: Chile, Australia, the USA, Norway, Canada, South Africa. We handled some 1–2% of the daily £/$ foreign exchange market. Nobody proposed, as far as I could see, any shady business.
We were pioneers in ‘Project Finance’ – a term of art in which the risks inherent in a project are assumed to a large degree by the bank or bank consortium. This used to be called ‘non-recourse financing’, but usually it does involve a measure of recourse. It means that the balance sheet of the project sponsor company or group is not at risk in the same way as in normal debt financing. Such a financing technique leads in theory to deep assessment of risks in the venture and identification of risk-mitigation measures. The depth of ‘due diligence’ (another term of art) makes unethical behaviour more difficult to carry out. Sponsors may try to shift risk unreasonably to the banks but that is not likely to remain hidden before the financial close.
We were owned by seven major European banks. But the biggest bonus I had was £25,000. Maybe others did better – because they brought in more profit? As the internationally-owned bank concept fell out of fashion, we sold ourselves to ABN. This was a cultural disaster and we were mostly made redundant within eighteen months.
HSBC, among the most important banking names today (some of which would now be bankrupt without government support), has adopted something called the ‘Equator Principles’ which oblige the bank to avoid certain morally undesirable loans (e.g., tobacco and armaments for export) and to ensure that credit granted is used in an environmentally acceptable fashion.
Let us address two topics to finish this presentation:
- the validity of the market economy, and
- the current financial crisis,
and attempt to say something about both from an ethical point of view.
The market economy has been called one of ‘creative destruction’ in which activities and jobs are eliminated as they fail. Improving one’s lot is behind the search for market success. The system is not a ‘zero-sum’ game, which some ecclesiastics seemed to think it was, in appearing to take delight in the apparent end of capitalism as the current financial crisis unfolded.
Adam Smith, of course, did not use this kind of terminology but he was not just an economic thinker and knew well that businessmen’s natural tendency is to conspire against their customers to fix prices and otherwise smother competition. This awareness of ingrained selfishness is why regulation is needed to make the market economy work efficiently.
The idea that pursuing one’s own self-interest inevitably furthers the material interests of society was attractive, inter alios, to Montesquieu who held that:
Everyone pursues the common good under the impression that he is following his own private advantage.
And to Alexander Pope who declared:
thus God and Nature link’d the gen’ral frame
And bade Self-love and Social be the same.
As well as to Ayn Rand, who surprisingly got some attention this last summer. But her extreme advocacy of the market is morally disastrous in obliging her capitalists, as a duty, to be totally self-sufficient and to neglect social and other consequences of their free market activities. A finer recipe for resurrecting the poor sociology of Marx into a political movement that must fail could scarcely be imagined.
There never has been, nor will there ever be, an implementable and totally free market.
The free market leads to capitalism, with production, distribution and exchange in private hands and operated for profit. Capitalism is inevitably destructive while it is being creative. But many churchmen seem to see the market as some sort of thing or state. It is better characterised as a process which, with its competitive destructiveness, is morally acceptable only (to use a modern term) if social security is there to bridge periods during which the unemployed seek work in viable firms. The social responsibility of businesses appears in Pope Leo XIII’s Rerum Novarum, more clearly still in John Paul II’s Centesimus Annus, in the Catechism of the Catholic Church and, most recently, in Benedict XVI’s Caritas in Veritate.
But, let us recall that a relatively free market (learnt at university in my case along with the incorrectly supposed and permanent triumph of Keynesian economics in solving unemployment), which was so successful in the nineteenth century, did not start to come back in the UK until quite recently. The economy was wrecked during the World War II (not least by American loans) and on steadily into the 1970s by producer interests that had been built up by post-War nationalisations and by deficit financing – as well as by the contortions of government and industry in seeking to mitigate the awful consequences of nationalisations, deficits and the failure of the economy to grow. The National Plan was the vogue for a while but it was not properly market-related and it was swept away by industrial strife as trade unions sought to exploit the power that the tripartite government system gave them in Downing Street and over the budget – their communist members intent on strikes and welfare and wage increases as a path to social revolution.
The apotheosis of management of this weak command economy, as pursued by one failing government after another, was Ted Heath’s three-day working week and quasi-Marxist Prices and Incomes Policy. Heath was followed by Wilson and Callaghan with further major strife on to the end of the 1970s which led to the election of Margaret Thatcher in 1979. She had a team which had thought through the failures and which was prepared to ditch the demand management game, to tackle the unions and to privatise the bloated state sector. So a partial market system was to re-emerge and the State to be more corralled.
Regarding the role of business ethics in the present financial disaster through which we are living, Caritas in Veritate is highly critical of the unthinking selfishness of economic life.
Here, I should like to revert to Stanislas Yassukovich who, in 2005, wrote an article for The Spectator titled, ‘Whatever happened to Shame?’. I mis-remembered that title when proposing one of my own for the flyer advertising this evening’s discussion. The article observed that, over his career in London from the 1980s onwards, the development of the financial industry had led to concentration of the players – the ever-growing deposit and investment banks (in the post Glass-Steagall world which no longer separated commercial and investment banking). It did not matter whether you dealt with New York, London or Frankfurt, you met the same firms with the same corporate culture. Moreover, the firms were already so big that they could not be allowed to fail and, while the regulators imposed fines for infringements of the rules (which the firms paid without admitting guilt), these fines were trivial and had come to be seen as a cost of business. Therefore, said Stanislas, regulation has failed (and the British FSA was singled out for criticism well before the failures of 2008).
Loss of reputation counted no longer. Stanislas said that the City had lost its grip on the difference between right and wrong, and that this could lead to disaster that would put capitalism itself at risk.
In fact the FSA and the banks came to be too close – the real experts for part of the regulatory process were apparently left at the Bank of England. The new FSA people chatted with the banks about their products as the FSA could not readily understand them and an incestuous relationship seems to have grown up.
The present financial disaster as a global phenomenon is technically traceable to Bill Clinton’s push for wider property ownership in the USA. The aggressive implementation of that superficially moral policy led to some $10 trillion of ‘sub-prime’ loans. The figure vastly dwarfs China’s $2 trillion of US Dollar reserves (the reflow of much of which to the USA finances the US deficit). Gordon Brown’s disastrous deficits do not even begin to register on such a scale.
The moral problem arose when American banks began to be aware that many of these loans were going into default – and that even more would do so shortly. The loans were ‘securitised’ and split up into packages, ‘rated’ by Fitch and Moody and sold into international markets, primarily to the Anglo-Saxon (as well as German) banks. The ratings were seen as seal of approval. The due diligence of the entire securities market on these papers was lamentable. Remember Sir Fred Goodwin before the House of Commons Committee?: ‘We thought they were good quality but they were worth only a few cents on the dollar’.
Regulation by the FSA and the Treasury did nothing to stop Equitable Life’s ponzi scheme. How good was the FSA analysis of complex derivatives? Did they understand the hedge fund speculations in the grain market in 2008? Did they not subject Fred the Shred’s maniacal pursuit of acquisitions to a risk analysis?
Today, there are still some billions of undisclosed sub-prime paper on many banks’ balance sheets. This undeclared liability makes it difficult to rate risk in much inter-bank lending and this is at the heart of continued stickiness in bank lending to companies and persons – with quantitative lending pushing up bank assets – but not correspondingly increasing lending to customers.
It was moral failure by the United States Government so to expand the mortgage market in the USA. The sale of sub-prime paper may be called, I think, a fraudulent operation. The US banks did not seem to consider the consequences elsewhere as they sold paper and cleaned up their exposures. It was also moral failure in other banks, mainly British, to buy the paper without doing their homework. It was another moral failure of the de-mutualised building societies to lend so incautiously. It was a moral failure in the credit card companies to press higher credit limits to all and sundry and it continues to be a moral failure of these companies to maintain today outrageously usurious interest rates that are holding back the recovery and impoverishing millions of the Queen’s subjects. It was moral failure for the banks in Ireland and Greece and Portugal and Spain (presented with Euro interest rates that were lower than they had ever seen as independent currencies) to lend wildly in their mortgage markets.
But, the crisis appeared in other places that did not buy sub-prime paper – such as Dubai where the international credit expansion craze was catching: simple greed drove building projects and the local banks fed the frenzy.
Greed will never go away – it comes with original sin, however you conceive original sin to have arisen. Capitalism is unstable without some regulation of our greedy instincts. Economists knew long ago that anti-monopoly regulation is needed. Now, we know that the Basel ratios are not enough.
As the Methodist John Kennedy said to the IEA over 15 years ago, ‘the moral foundation of the market is inevitably a strong state. It is this corollary that buries forever the idea of a virtuous free market’.
One might add that the strong State does not have to mean the cradle to the grave State of Gordon Brown.
The anger of the public and governments over bank failures and bank bonuses (did the banks not have shareholders?) runs a grave risk of over-regulation damaging the functioning of the economy through restrictive banking rules.
Governments will inevitably take bad decisions because they do not understand the working of the economy; the EU Commission possibly even less so. But the guilty parties are the bankers themselves. Even more regulation is thus the consequence of recent years of moral failure in the banking sector.
And so we can wrap up with morality and government. When Philippe le Bel arraigned Jacques de Molay, the head of the Templars, and then burnt him alive, he was supposedly after their money and assets in order to go to war. His unscrupulous manipulation of the Pope and of the Templar Knights is truly shocking. He terminated two centuries of prosperity in France (France being a smaller place at that time than today’s ‘hexagon’). The King reduced the amount of silver in the coinage, causing inflation and, after three such devaluations, had ruined many of the aristocracy who lived off fixed incomes. The clipping of the currency was not only unethical, it was ruinous for the economy and for social stability.
Henry VIII of England also abused the currency. As happened in Germany before the Second World War and Hungary after it. As has been done by Robert Mugabe and, maybe now, by Gordon Brown.
At issue in Britain should be not just the economic consequences but also the ethical defensibility of public sector spending beyond a certain point, and of large public sector employment whether for idealistic motives or for electoral advantage.
The discontent caused by the tax, spend and borrow policies of the present UK government should remove it from power within the year. But the issue is not just party politics, it is a moral one.