Rogues and Regulation in Global Finance: Maxwell ...

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Rogues and Regulation in Global Finance: Maxwell, Leeson and the City of London Gordon L. Clark

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School of Geography, St Peter's College and University of Oxford, Oxford, OX1 3TB, UK Version of record first published: 18 Aug 2010

To cite this article: Gordon L. Clark (1997): Rogues and Regulation in Global Finance: Maxwell, Leeson and the City of London, Regional Studies, 31:3, 221-236 To link to this article: http://dx.doi.org/10.1080/00343409750134656

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Regional Studies, Vol. 31.3, pp. 221± 236

Rogues and Regulation in Global Finance: Maxwell, Leeson and the City of London G O R DO N L . C L A R K

Downloaded by [the Bodleian Libraries of the University of Oxford] at 07:55 16 July 2012

School of Geography, St Peter’s College and University of Oxford, Oxford OX1 3TB, UK (Received June 1996; in revised form August 1996) C L A RK G. L. (1997) Rogues and regulation in global ® nance: Maxwell, Leeson and the City of London, Reg. Studies 31, 221236. In this paper, I explore the culture of the ® nance industry in general and, in particular, the problems of dealing with socalled rogue behaviour in the context of regulation and regulatory regimes. The reference points for analysis are the recent cases of Robert Maxwell, the British entrepreneur who is thought by many to have systematically `¯ eeced’ his companies’ pension funds to ® nance complex corporate deals, and Nick Leeson, the Barings trader (in Singapore) who, it is commonly believed, single-handedly bankrupted the bank. While no doubt provocative and the subjects of considerable speculation regarding their true motives, I argue that the Maxwell and Leeson cases are representative of a strategy of demonization and selective representation designed to protect the reputations of existing institutions. In this respect, I focus upon three issues: the representation of behaviour; the signi® cance of an industry’s culture for individual behaviour; and the scope of regulation. The paper includes a discussion of the ¯ awed logic of explanations of individual behaviour that do not take seriously the context of behaviour. To illustrate, I begin with Mrs Maxwell’s recent biography of her late husband and then concentrate on recent government reports and commentaries related to Leeson and the Barings’ collapse. The paper concludes with an analysis of these issues with reference to the global regulation of the securities industry. Finance

Regulation

Behaviour

Industry culture

C L A RK G. L (1997) Les malins et la reÂglementation dans le domaine de la ® nance internationale: Ms. Maxwell, Leeson et la CiteÂ, Reg. Studies 31, 221-236. Cet article cherche aÁ examiner la culture de l’industrie de la ® nance en geÂneÂral et, en particulier, les probleÁmes de comment s’occuper du comportement dit frauduleux dans le contexte de la reÂ glementation et des reÂgimes reÂgulateurs. Les points de repeÁre pour l’analyse sont les affaires reÂcentes concernant M. Robert Maxwell, l’entrepreneur britannique censeÂ avoir `plumeÂ’ systeÂmatiquemment les fonds de pension de ses compagnies a® n de ® nancer des affaires d’entreprise complexes, et M. Nick Leeson, l’opeÂrateur de Barings (employeÂ au Singapour) qui, ou du moins c’est ce que l’on raconte, a ruineÂ tout seul la banque. Alors que ces affaires-laÁ donnent aÁ penser et qu’ il faut s’ interroger sur les vrais motifs des sujets dont il s’agit, on af® rme que les affaires Maxwell et Leeson constituent une strateÂgie de deÂmonisation et de repreÂsentation seÂlective visant la protection de la reÂputation des institutions existantes. A cet eÂgard, l’article porte sur trois questions: la repreÂsentation du comportement, l’importance de la culture d’une industrie quant au comportement de l’individu, et la porteÂe de la reÂ glementation. L’article discute de la logique imparfaite des explications du comportement des individus qui ne prennent pas au seÂrieux le contexte du comportement. A titre d’exemple, on commence par la biographie reÂcente de Mme. Maxwell au sujet de son deÂfunt mari et puis on concentre sur des rapports et des commentaires gouvernementaux reÂ cents lieÂs aÁ M. Leeson et au krach de Barings. Pour conclure, l’article analyse ces questions-laÁ quant aÁ la reÂ glementation internationale de l’industrie des valeurs boursieÁres. 0034-3404/97/030221± 16 ©1997 Regional Studies Association

C L AR K G. L. (1997) Gauner und Vorschriften im Globalen FinanzgeschaÈft: Maxwell, Leeson und die Londoner BoÈrse, Reg. Studies 31, 221± 236. In diesem Aufsatz wird die Kultur der Finanzindustrie im allgemeinen untersucht, sowie die besonderen Probleme der Handhabung sogenannten Globalverhaltens im Zusammenhang mit Vorschriften und bestehenden Ordnungen. Der Bezugspunkt fuÈ r die Analyse sind die kuÈ rzlich aufgetretenen FaÈlle Robert Maxwells, des britischen Unternehmers, von dem weithin angenommen wird, daû er die Pensionskassen seiner Gesellschaften systematisch àusgepluÈndert’ habe, um komplexe koÈ rperschaftliche GeschaÈfte zu ® nanzieren, und Nick Leesons, des BaringhaÈndlers (in Singapur), von dem man in weiten Kreisen annimmt, daû er allein den Bankrott seiner Bank herbeigefuÈhrt habe. Obgleich zweifellos provokativ, und Gegenstand betraÈchtlicher Spekulation, was ihre wahren Motive betrifft, wird hier die These aufgestellt, daû die FaÈlle Maxwell und Leeson fuÈr eine Strategie der Verteufelung und selektiver RepraÈsentierung stehen, die dazu dient, das ReÂnomme bestehender Institutionen zu wahren. In dieser Hinsicht behandelt der Aufsatz drei Themen: die Darstellung von Verhalten, die Bedeutung der Kultur einer Industrie fuÈr individuelles Verhalten, und den Geltungsbereich von Vorschriften. Der Aufsatz enthaÈlt eine Diskussion der fehlerhaften Logik bei ErklaÈrungen individuellen Verhaltens, die den Zusammenhang des Verhaltens nicht ernst nehmen. Zur Veranschaulichung wird mit Mrs Maxwells kÈurzlich erschienener Biographie ihres verstorbenen Mannes begonnen; es folgen auf Leeson und den Zusammenbruch Barings eingehende Regierungsberichte und Kommentare der juÈ ngsten Vergangenheit. Der Aufsatz schlieû t mit einer

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Finance ReÂglementation Culture d’industrie

Comportement

Analyse dieser Fragen im Lichte globaler Vorschriften fuÈr die Wertpapier-und Effektenindustrie. Finanz


I N T RO D UC T I O N The facts behind the collapse of the Maxwell’s public and private companies and the public’s subsequent realization that Robert Maxwell routinely used assets of the Mirror Group’s pension plans to ® nance his corporate manoeuvres are, by now, well known. The trials of the Maxwell brothers (and a colleague) have brought out into the open many issues concerning the management and ® nancing of Maxwell’s empire that were previously the subject of great speculation (B OWE R , 1992). It is not my intention here to recount the details and logic behind Maxwell’s pension-related deals. But I am interested in Maxwell’s authority and his relationships with others in connection with the regulation of the UK ® nancial system in the international context. On the other side of the world, in Singapore, Nick Leeson is in gaol. There was never any doubt about his guilt of fraud, at any rate. The Singaporean authorities accumulated a veritable mountain of evidence: Leeson’s trades; market movements in relation to those trades; his transactions in and out of the so-called secret 88888 èrror’ account; and his daily settlements (real and otherwise). Though identi® ed by the British media as the man who single-handedly bankrupted Barings, a rogue trader concerned only with covering-up his malfeasance, there seems to be nothing sinister about Leeson.1 If there is anything sinister about the Barings’ collapse and subsequent sale, it would seem to concern the degree to which senior management concealed what they knew about Leeson’s activities and whether the Bank of England protected senior management in the interests of shoring-up the reputation of the British ® nancial system. It is not my intention to consider in any detail the merits or otherwise of these suspicions. But I am interested in the general issue of the systemwide integrity of the UK ® nancial system: the extent to which local regulators can affect standards of behaviour given the place of the City of London in the international economy. Clearly, Maxwell’s and Leeson’s behaviour and the regulation of the British ® nancial system are entwined; as individuals, they represent important regulatory problems for the present Government and any future Labour Government (see J A R M A N , 1995). Over the past decade or so, deregulation of the ® nancial system has been matched by the increasing privatization of pensions (relative to social security entitlements and employer sponsored occupational pensions) and by an unwillingness of regulators (compared to US regulators) to closely scrutinize corporate behaviour in

Vorschriften

Verhalten

Industriekultur

® nancial markets. More than ever, the nature and value of individuals’ wealth are directly related to the behaviour of corporate executives inside and outside of the ® nancial and investment management industry set within the context of the rules, customs and norms that presumably govern their behaviour. And more than ever, the growth of national wealth is directly related to the relative standing of British regulation of the ® nancial industry compared to other jurisdictions’ related regulations. If regulators are to protect the integrity of the British ® nancial system and, by extension, our individual and collective reliance upon the ® nancial system for national welfare, I argue that regulators must better acknowledge and focus upon the context in which decisions are made. In this respect, the Leeson and Maxwell cases provide a way of understanding the role of the individual in the context of the culture of ® nance and its (sometimes perverse) imperatives. At the same time, it is also that the Bank of England’s (BoE) Board of Banking Supervision’s report on the collapse of Barings is ¯ awed.2 It demonized Leeson, as Robert Maxwell has also been demonized by the media, and failed to appreciate the signi® cance of the culture of ® nance (the norms and conventions) which provide the logic by which so many people in the industry actually behave. In this context, the Maxwell and Leeson cases have powerful implications for the theory of regulation in general. Before introducing the `players’, Maxwell and Leeson, I should acknowledge that the logic of my argument proceeds through analogical claims and inferences drawn from exemplary cases (see B R EW ER , 1996). Much of social science research, including many papers published in this journal, has a different analytical logic ± inferences are drawn from comprehensive data sets, and cases (if used at all) simply illustrate rather than form the basic core of the argument. Here by contrast, I use exemplary cases in an analogical manner as the foundation for my argument and then draw inferences from those cases to make arguments about British regulatory policy. My concern about the global context of national regulation will, I hope, match in substance Michael Chisholm’s (1995) recent concerns about Britain’s changing `place’ in Europe and the world in general. As well, it will become clear that I blend together economic, geographic and regulatory issues in a manner increasingly familiar to ® nancial analysts (K A N E , 1996). In these ways, I make a contribution to economic geography and policy analysis ± the areas of research that Michael Chisholm spent his academic life cultivating and promoting.

Rogues and Regulation in Global Finance


P O RT RA I T O F A N E N T RE P RE N E UR Mrs Maxwell’s (1994) story of Robert and their relationship over nearly 50 years is intriguing. If we take her seriously, Robert Maxwell was the product of three `forces’: his past (being born Jewish in eastern Europe); his physicality (a combination of his imposing stature and personal charisma); and his claim for recognition (in the public arena). Her story could be read as an explanation of Robert and their relationship in the light of these three forces which seem to exist in her narrative as separate but overlapping aspects of his personality. To illustrate, his past meant that he was always the outsider ® ghting for recognition. His allies were also often outsiders, like the academics who joined forces with Pergamon to advance their careers through publishing innovation in the sciences. They were drawn to him by his undeniable charm, by his vision and by his willingness to do anything to succeed in a world of inherited privilege and self-satis® ed inertia. For many years, Elizabeth Maxwell was an essential cog in this enterprise. She recounts a number of times in the book how their lives were so completely enmeshed, how she was integral to his projects and his public persona. At the same time, she acknowledges that his insecurity and his never-ending ambition translated into impossible demands on herself, her commitment to him, her social manners and etiquette. Reading her story is at once fascinating and disturbing.3 And her story is strangely familiar. In a sense, her story is Robert Louis Stevenson’s (1886) Dr Jekyll and Mr Hyde. The man she fell in love with was Dr Jekyll, a person with many talents, a man who won the friendship of leading international scientists, a man of great vision and commitment, and a person who could be extraordinarily generous. Still, Mr Hyde lurked just below the surface, suppressed for much of the time but occasionally apparent to his family. Over time, however, it seems that Robert Maxwell came to value his Mr Hyde persona, and to appreciate that Mr Hyde had his uses in the world of publishing and politics. Slowly, there appeared a divided self : by implication, Mr Hyde dominated Maxwell’s Londonbased world of business while Dr Jekyll (increasingly rarely) came to life at home in Headington. In Stevenson’s story, Mr Hyde literally took over Dr Jekyll much to the horror of the responsible self. And by the end of the story, Dr Jekyll seeks death rather than live with the actions of his other self. Mrs Maxwell’s recognition that Robert’s death released them all from his demons is, in this context, very revealing. But the story may be darker and more problematic than that implied by the Dr Jekyll and Mr Hyde connection. In Mrs Maxwell’s story, Robert emerges as a man with his own destiny (if not control over his destiny). By the end of her story Robert is characterized as being responsible to no one, a person whose life `forces’ were spent. He was at once an autonomous

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being, someone larger than life who was conceived at a moment in time and destroyed by time. Obviously, people are complex, multifaceted agents motivated by a variety of often con¯ icting desires (S K HL A R , 1986). Even so, Mrs Maxwell’s portrait of Robert makes a too clean division between his Dr Jekyll and Mr Hyde. Her loyalty to him in the early years of his career (Dr Jekyll), and then her retreat from him as he grew more obsessed with the world of business (Mr Hyde) in effect demonizes him rather than humanizes him. It seems to suggest that her initial attraction to him was driven by his apparent charm rather than his darker side which, presumably, did not emerge until later. Mrs Maxwell would like us to recognize his good qualities as they appeared to her in 1945, and then she would like us to understand why and how she retreated from him as he changed. But in doing so, she cleaves Robert in half ; practically invents someone else, someone evil whom neither she nor the reader would have accepted into their hearts if that evil had been apparent all those years ago. Another problem with the story is her evasiveness about Robert Maxwell’s later business life. She professes ignorance. Mr Hyde had taken over. Yet her involvement and knowledge about the early years was remarkable. It is hard to believe that she was so completely ignorant of his later business life. It might be said, of course, that she was deliberately kept out of his later life. She implies as much when discussing his obsessive secrecy (his so-called `need to know’ strategy), an issue which re-appears in the Maxwell brothers’ defence in court against fraud charges. Even so the story glosses over the depth of their relationship and the relationship of Robert to his children, and then trivializes her latter involvement in his business dealings. Perhaps this was intended. But the cost of this strategy is to make Maxwell into a remote devil at the expense of the complex web of relationships that sustained him and made him into a very rich man. In this sense, Mrs Maxwell’s husband disappears from view to be replaced by a creature whose relationship to herself and the family is shrouded in mystery RO G UE S A N D S C A P E G OAT S In these ways, the most troubling aspect of Mrs Maxwell’s story is her strategy of selective emphasis: on the one hand, she details the context and relationships essential to Robert’s Dr Jekyll while, on the other hand, she strips the story bare of those details when considering Robert’s Mr Hyde. In effect, she demonizes that part of her husband she would want us to reject. Now we might imagine that this strategy of selective emphasis is of limited importance, bearing only on the plausibility of Mrs Maxwell’s story and little else. However, it is more important than we might have expected. The British Government and media have become obsessed with this kind of demonized


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character, ® nding him everywhere there is ® nancial mismanagement (witness the of® cial response to the B CCI collapse; B I NG H A M , 1992). And the strategy of selective emphasis can also be found in the Bank of England’s report on the collapse of Barings and the pivotal role attributed to Nick Leeson in precipitating its collapse. In the media, Leeson was initially portrayed as a rogue-trader, an employee of the ® rm who had deliberately over-stepped the company’s lines of responsibility.4 The ® rm was portrayed as having been misled by Leeson (at best) and, at worst, having been betrayed by a trusted employee who had taken advantage of the company in a distant location. With the consequent failure of Barings, Leeson became the object of analysis. Speculation was rife, about his whereabouts, speculation abounded (and still remains) about possible hidden assets and bank accounts, about conspiracies involving other unidenti® ed parties, about greed and hubris set against his modest origins in east London. Directly and indirectly, the media built up an image of Leeson which played-off his apparent ordinary background, suggesting (one way or another) that his very ordinariness had induced the company to trust him and to ignore his true character (R AW NS L E Y, 1995). In this context, his attempted return to Britain on a commercial air¯ ight seems to have been incredibly misconceived and misjudged; he turned-up in Frankfurt airport carrying little except for his luggage, accompanied by his wife who stood dumb-founded before the media. It suddenly became obvious to many that Leeson was not the master criminal, the clever rogue as originally cast by the media. The B A NK O F E NG L A N D ’s, 1995, Board of Banking Supervision report on the collapse of Barings begins and ends with Leeson. In Section 1, the Board concentrates on the events and people involved in the Barings collapse, emphasizing the role of Leeson as the principal Singapore trader (BFS’s General Manager and Head Trader). Sections 3, 4, 5 and 6 describe in detail the nature of trading by the Singapore unit of Barings, the volume of authorized and unauthorized trading, the concealment of those activities and the funding of trading by Barings of their Singapore unit. Time and again it is noted that Leeson was believed by Barings (London) to be a trusted employee, contributing signi® cantly to the Bank’s reported pro® ts by trading in a presumably `risk-less’ manner against the path of the Japanese stock exchange (Nikkei index). This is not to say that the Bank’s management escapes criticism. In Section 14, under the heading of `Lessons arising from the collapse of Barings’, the Board makes its position plain: `Baring’s collapse, was due to the unauthorized and ultimately catastrophic activities of, it appears, one individual (Leeson) that went undetected as a consequence of a failure of management and other internal controls of the most basic kind’ (ibid., p. 250). Little is said, however, about Leeson’s motives. Oddly

the Board’s two crucial sections on the volume and signi® cance of Leeson’s unauthorized trading and his concealment of losses attributed to those trades from local scrutiny and the London directors of the Bank are simply reconstructions of the mechanics behind these activities (how the trading was done, and how the concealment was managed). Missing is any analysis of why Leeson did what he did, and how those actions were related (or unrelated) to his relationships with others in Singapore and the bank in general. Likewise little is said about the internal life of the bank except to point out that it was organized into a matrix structure with a highly decentralized system of decision making and a diffuse reporting network of authority and responsibility. Some brief observations are made, though, about con¯ icts between Singapore-based Barings’ executives (but not including Leeson) and the apparent ignorance of Leeson’s immediate employees with respect to his activities. These issues are not integrated into the logic of the report. In effect, the Board’s report allows the British media’s Mr Hyde version of Leeson to stand uncontested. In this context, the most surprising aspect of the Board’s report is its failure to assign liability and culpability to individual bank directors or their employees for Leeson’s activities and the consequent collapse of the bank. It may appear, at ® rst sight at least, that the sentence quoted above from Section 14 clearly implicates management in the collapse of the bank. But actually the report is quite circumspect about Barings’ executives’ roles in the collapse. While there is some detail in the report about those who were involved in the events leading up to the collapse, any assignment of liability or culpability is cautious and vague. The management of the bank is held accountable for its neglect to implement an adequate system of checks on Leeson’s activities, management is accused of ignorance of futures trading, and management is said to have been preoccupied with other issues and responsibilities thereby contributing to Leeson’s damaging independence. In other words, the report blames management in general, and blames it for sins of omission rather than sins of commission. Leeson remains the demon, and wholly personally accountable. By virtue of its strategy of selective emphasis, the Board remains focused on Leeson the person (the devil) while individual managers slip out of view to be replaced by management in general. It is not surprising, then, that the Board has little to say about the responsibility of regulators for the Barings debacle. Indeed, their conclusion is that, `[t]he events leading up to the collapse of Barings do not, in our view, of themselves point to the need for any fundamental change to the framework of regulation in the UK’ (ibid., p. 251). In the space of just three paragraphs they imply that UK regulators were blameless, that there may be some need to tighten audit controls, and that they would welcome international co-operation on information sharing


Rogues and Regulation in Global Finance between markets with respect to the trading of derivatives. Again, the implication is that one person was responsible; neither the company’s executives nor the Bank of England could be held accountable for the isolated actions of a rogue trader. This interpretation has, as I have suggested, dominated public perceptions about the Barings collapse. And it has a neat rhetorical connection with the Robert Maxwell story, allowing for a clear separation of responsibility for the debacle between Leeson and established institutions and individuals. But it is not the only story (see also T I C K EL L , 1996).5 The Price Waterhouse report for the Singapore Minister of Finance (M I N I S T RY O F F I NA N CE , 1995) is quite different. Instead of demonizing Leeson, the Price Waterhouse report seeks to put Leeson in context, to better understand how and why Leeson was able to do what he did, and assign responsibility for the collapse to particular Barings executives. In a nutshell, the report suggests that the bank’s: claim that it was unaware that account 88888 existed, and also that the sum of S$1.7 billion which the Baring Group had remitted to BFS, was to meet the margins required for trades transacted through this account, if true, gives rise to a strong inference that key individuals of the Baring Group’s management were grossly negligent, or wilfully blind and reckless with the truth (ibid., p. vi).

In this analysis, Leeson was not the demon as portrayed by the Bank of England. Rather, he may have been a scapegoat for others including the British system of ® nancial regulation.6 T H E C ULT URE O F F I N A N C E In the previous sections I have suggested that Mrs Maxwell’s and the BoE’s strategy of selective emphasis, in effect, demonized Maxwell and Leeson. They are treated as isolated individuals, creatures whose morals and motives are so suspect that they seem to exist outside of the norms and conventions of society. As a result, the web of institutions and relationships that are so important to all of us in our day-to-day lives are largely absent from the analysis: the implication is that Maxwell and Leeson are to be held solely responsible for the consequences of their actions. Of course, this (analytical) isolation has a number of virtues. It allows those otherwise implicated in the story to narrow responsibility for any illegal actions to particular individuals (witness the focus of the Serious Fraud Of® ce on Kevin and Ian Maxwell). It also means that, whatever the motives and origins of their behaviour, the institutions and relationships in which Maxwell and Leeson lived and worked may claim continued respect for their integrity (witness the Bank of England’s response to criticisms of their supervision of the ® nancial industry).7 It should be clear by now, however, that selective

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emphasis (demonizing the isolated individual) is misleading, and perhaps disingenuous. In this section, my goal is to show that institutions and relationships are profoundly important for any analysis of regulation in the ® nance industry. While I can not conclusively demonstrate that the behaviour of people like Maxwell and Leeson is (or was) the product of what I identify as the culture of ® nance. I do want to suggest that their behaviour is not so peculiar or so unusual given the structure of incentives and the scope of authority in ® nance ® rms, and the role and status of relationships in the ® nance industry. In doing so, I wish to emphasize the culture of the industry, de® ned here as the customs and conventions, the accepted practices, and the language of commerce in which these elements of culture are inscribed in the industry (see also O ’ B A R R and C O NL EY, 1994).8 This is obviously an enormous topic, involving contested notions of culture in relation to economic structure (compare S A ID, 1993, with C H A RT I E R , 1988), and claims about the signi® cance and otherwise of discourse in relation to social practice (see W HI T E , 1985). Words matter as cultural markers for behaviour. Incentives and behaviour Notwithstanding the rapidly increasing volume of research on ® nancial services and ® nancial markets (L O, 1995), there has been surprisingly little published on the culture or norms and conventions of behaviour within ® nancial ® rms and markets. It has been observed that traders are focused upon short term results (daily, even hourly) and that they rely upon close and wideranging networks of personal contacts and electronic information in framing interpretations of events in making trades (T H R I F T and L EY S HO N , 1995). It has also been observed that recruitment into the industry since deregulation in the 1980s is now less concerned with gender, ethnicity and nationality than other, more established industries (C L A R K E , 1986). But it also has been observed that one’s functional place in the industry is often highly gender-speci® c. For instance, market traders are overwhelmingly men whereas back-of® ce functions are dominated by women. It is hard to imagine that the following phrase (overheard in a morning meeting of market traders in a large multinational ® nance firm) `let’s go make love to the market’ would be similarly accepted by men and women. Embedded in this short comment is a sexual objecti® cation of the market which relies upon a widely shared male traders’ conception of women (markets) as objects of conquest. My point in noting this phrase is two-fold: at one level, ® nancial markets are networks of functional relationships focused around market transactions and integrated through channels of formal and informal information (see, generally, C R A NE et al., 1995). At a second level, however, ® nancial markets are networks


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of people located in speci® c parts of ® rms and markets around the world according to their expertise, and their social and gender identities. Traders are particularly important in this world of transactions and information processing. And while it is sometimes supposed that traders are mavericks or cowboys, referencing an ideal of rugged male individualism, at the frontier of the civilized world traders are very often employees of large ® rms who operate within well-structured sets of sanctions and incentives designed and maintained by senior management so as to drive ® rms’ pro® ts. Even if some ® rms may be perceived as chaotic and poorly managed (witness Barings in Singapore), market-leaders typically set the commonly-accepted norms and conventions regarding traders’ (and others) incentives. For example, consider the logic under-pinning the lives of traders in one of the world’s largest investment management ® rms. A past president of this ® rm (interviewed in April 1994) described the culture of their trading group as `Darwinian’.9 He does not mean, as contemporary evolutionary biologists often times suggest, that (by analogy) traders and trading routines are blindly and mechanically selected by the market according to the closeness of match of traders’ routines with exogenous movements in the market (see D AWK I N S , 1986). What he means is that senior management have designed an incentive system whereby traders are compared daily, weekly, quarterly, and yearly and rewarded (or not), promoted (or ® red), and given more responsibility (or shifted side-ways) according to their relative performance. The ® rm deliberately sets-off their traders one against the other, and from the ® rm’s own resources so that each trader’s performance can be directly compared; group-based or team-based organizational modes of trading are eschewed at this level of the ® rm in favour of a model which can identify and reward the best and the brightest.10 This model of managing the trading division of the ® rm is commonly acknowledged within and without the ® rm (see C L A R K , 1997b, forthcoming). There is no doubt amongst traders that they are engaged in a lonely ® ght for survival both with respect to colleagues within the ® rm and with respect to the outside market.11 This firm’s model, while believed to be particularly demanding by many within the industry, has been widely copied, albeit implemented differently, in different settings by many other international ® nance ® rms. There are, of course, other ways of organizing and managing trading functions within ® nancial ® rms. It should be immediately understood, moreover, that large ® nancial ® rms have well-developed systems of management and deliberately articulated sets of sanctions and incentives. If traders are isolated and strippedbare of ® rm resources this is, more often than not, a deliberate management policy. This kind of organizational structure is also commonly accompanied by a high level of surveillance; in successful ® rms traders’ performances are, or should be, closely monitored and

linked with the management of the ® rm. Traders are only isolated in the sense that their performance is ideally theirs alone. While trading success generates more resources and more responsibility, it also means greater authority over those who are less successful. Thus, it was not surprising that Leeson was relatively isolated or that he had considerable access to bank resources. What was surprising was that his performance was not closely monitored or routinely validated by senior management.

Scope of authority The discussion above of systems of management presupposes senior managers have the authority to implement systems of incentives designed to channel and control employees’ behaviour with respect to the interests of the ® rm. In fact, the Darwinian model of trader behaviour implies a quite comprehensive framework of management authority in the ® rm. Authority within ® nancial ® rms is, however, more complex and problematic than my discussion has so far recognized. To illustrate, Robert Maxwell seems to have had practically unfettered authority, operating across the ® rm with impunity, directing corporate of® cers on all manner of issues including the funding and investment strategies of the Mirror Group’s pension funds. While Leeson had by no means the same scope of authority, it does seem that his local authority (in Singapore) was unquestioned. The Bank of England’s report mentions a number of times the fact that Leeson’s employees in Barings’ Singapore of® ce never questioned his instructions nor challenged his trading and settlement procedures. Moreover, even though Barings was quite aware of the problematic scope of his authority, it failed to implement needed balancing constraints on his settlement authority. To understand how and why Maxwell and Leeson had such wide (albeit different) scope of authority requires a deeper appreciation of the structure of authority in ® nancial ® rms. In theory, authority in private ® rms is de® ned and ordered according to position: from the top of the ® rm (maximum authority and discretion) through to the bottom of the ® rm (limited authority and no discretion) matching the theory of delegated managerial power and responsibility with respect to shareholders (D I A M O ND, 1984). It should also be recognized that these ® rms have, very often, formal charts of responsibility, linking in an hierarchical manner operational units to their immediate supervisors and through them to the very top of the organization. By contrast, it is often supposed that authority in public institutions and organizations is negotiated and mediated through the process of interest group representation. There is a sense in which authority in public organizations is deliberately ambiguous and polyvalent. If this was also the case in Barings, it was a failure of


Rogues and Regulation in Global Finance the bank not a particularly desirable attribute of the bank’s matrix structure of authority and responsibility. For ® nancial ® rms, in particular, authority has two basic dimensions: structural and functional. By structural, I mean: (1) the codi® ed and legally de® ned authority of ® rms’ of® cers given their statutory obligations; and (2) the authority of ® rms’ of® cers given their obligations to shareholders. In general, senior of® cers of ® rms represent and embody the property rights of their shareholders ± this is the ultimate claim of management authority. Even so, ® nancial ® rms are more than structurally-determined hierarchies of authority. Given the relative abstractness of structural warrants of authority, functional claims of authority have evolved as the distance (metaphorical and literal) between, senior management and traders in large ® nancial ® rms has grown with the size and reach of global corporations. In this respect, trading managers like Leeson, normally have three kinds of functional authority: precedent (invoking past decision making practices of the ® rm and industry); immediacy (a presumption in favour of decision making by the local operational units of the ® rm); and respect (deriving from the past performance of the unit measured against market parameters). The tension between structural claims and functional claims of authority is the political reality of large ® nancial ® rms (see, generally, R O E , 1995). It would seem that Leeson had little structural authority. His location in the ® rm (on the trading room ¯ oor and in Singapore) was de® ned entirely by his functional responsibilities. And yet, his authority was considerable. Compared to similarly placed tradermanagers in other ® rms the scope of his local authority was largely unquestioned. This was for a couple of reasons. It is clear from the Bank of England report that Barings failed to articulate and enforce a structurallyfocused, hierarchical system of accountability. This allowed Leeson’s immediate superiors to evade responsibility contributing, in part, to the failure of the bank to correct the problem of Leeson’s dual responsibility for daily trading and daily settlement. But Leeson’s authority was more than the result of managerial neglect. It was a product of his position in Singapore as the bank’s principal far east trader (immediacy) and the fact that his past performance had seemed quite extraordinary (respect). His functional authority was, in this sense, a reward by the bank for his past success. Where precedent could have limited his authority, recognizing the potential dangers of allowing trading and settlement to be managed by one person, the matrix structure of the bank fostered inaction. Contributing to Leeson’s authority in Singapore was, of course, the culture of the industry. The widely-shared notion of traders as cowboys, as individualists and as loners reinforced the authority of Leeson. His immediate colleagues and employees had no reason to question the scope of his authority. And if they did, it seems

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there was no one in the bank to whom such questions could be directed. At the other end of the spectrum, Robert Maxwell looms larger than life. His authority was not simply unquestioned within the parameters of his functional responsibilities, his authority was unfettered across the whole organization. In this case, his structural authority was extraordinary as was his functional authority. In combination, his authority was absolute. Though public companies, the Mirror Group and Maxwell Communications were the product of Maxwell’s life-time ambitions. Their structure and activities were almost entirely the product of one man, a fact of life not lost on shareholders, directors and employees. And the close, even intimate connections between the companies and Maxwell’s private ® rms meant that it was very dif® cult to separate the interests of one side of the empire from the other, just as it was impossible in practice for the companies’ directors to identify and separate Maxwell’s personal claims on both. In this context, Maxwell’s authority derived the following structural claims of authority: (1) his barely concealed prior property rights to the assets of the companies and the linked private companies; (2) his mandate of authority derived from his previous ownership of the companies and his then current role as chairman; and (3) his presumed personal responsibility for the actions of the companies in relation to regulators and shareholders. Reinforcing structural claims of authority were then the three functional claims of authority: precedent (the fact that he had run the companies in the past according to his own standards); immediacy (the fact that he was integral to the companies’ strategies and competitive policies); and respect (the fact that many people believed inside and outside of the companies that he was the driving force behind the companies’ performance). These claims of authority extended through to, and included, the management of the Mirror Group’s pension funds. Indeed, it is widely believed that the, then, high level of funding (against expected liabilities) of the pension funds was due almost entirely to Maxwell’s investment strategies. According to inside commentators, the pension fund trustees (and directors of his companies) were reliant on his knowledge of the markets and opportunities for pro® t. Status of relationships It is a truism that relationships tie economic systems together and promote economic performance. It is also obviously true that relationships are a necessary ingredient in any ® rm’s or industry’s culture. For C A S S O N , 1991, the logic of mutual co-operation based upon norms of commitment and reciprocity as opposed to the logic of competition based upon norms of suspicion and distrust is a distinctive feature of successful ® rms, industries and economies. Now these observa-


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tions are not new, nor necessarily con® ned to certain disciplines, notwithstanding many social scientists’ predilections for abstract, formal models of human’ behaviour. The point here is surely plain: if we are to analyse the culture of ® nance we need also consider the status and signi® cance of relationships in the industry. If relationships are an ingredient in any industry’s culture, it is commonly argued that relationships are more important in ® nance than in many other industries. T H R I FT, 1994, argues that since the ® nance industry is based upon expertise and information processing, and since it relies upon the communication and shared understanding of knowledge for economic exchange, relationships are an essential mechanism affecting traders’ performance. Speci® cally, relationships seem to have at least the following functions. They are a means of sustaining coherence, providing the `glue’ linking parts of the industry together in a world where advanced communications technology allow for more and more participants scattered across the world (compare O ’ B R I E N, 1992). They are a means of sustaining transactions, providing the necessary social infrastructure to accommodate risk and uncertainty in an industry characterized by extraordinary opportunities for exploiting informational asymmetries. They are also a means of sustaining specialization, providing the means through which ® rms develop new opportunities and products in conjunction with one another. While inter® rm competition is a important feature of the industry, it seems that successful ® rms are able to structure relationships in ways that advantage them compared to other ® rms (and places; see P RY K E and L EE , 1995). The idea that relationships are functionally essential for the ef® ciency of the ® nance industry is now widely acknowledged even if there remain disputes about the signi® cance of relationships in relation to technological innovation in information processing. But are all relationships in the ® nance industry so functionally ef® cacious? Are all relationships so advantageous to ® rms and their employees? At the theoretical level it would seem that, by de® nition, relationships are joined if, and only if; there are mutual (if not the same) bene® ts. This is a version of Pareto optimal exchange relations which has a long lineage in neoclassical economics and, most recently, in transactions-based models of economic structure and regulation (see C O L E MA N , 1986). (It should be observed at this juncture that Thrift does not necessarily subscribe to this theoretical conception of economic relationships.) But theory is one thing, practice another. The Leeson and Maxwell stories have very different implications for our understanding of the status of relationships in the industry than neoclassical theory would seem to imply. It could be argued that, in undertaking his investment strategy, Leeson actually bet against the functional ef® cacy of relationships in the market and in the ® rm. His derivatives strategy was actually very simple. Leeson

bought futures hoping that his bet on the path of the Nikkei index was correct and most other traders’ expectations were incorrect. His contrarian strategy was a high risk strategy, but by no means an unusual strategy (see E I C H EN G R E EN et al., 1995). He bet against the herd instinct of other traders whose expectations were framed by market relationships in the context of the babble of inter-market communication (Z EC K H AU S ER et al., 1991). He also bet against the market in another way. He placed his investments hoping that evidence of his strategy would be lost in the vast ¯ ow of daily transactions. As time went on, however, his positions became increasingly untenable. The Kobe earthquake then dealt a fatal blow to his strategy; there was no way to recover. He also bet against the relationships within his ® rm in the following sense. While his strategy was not secret from London, its costs were deliberately hidden from view. He bet that his local authority coupled with the disputed nature of intra® rm relationships would ensure that his true trading position would remain hidden until success was at hand. Unfortunately for Leeson and Barings his contra-strategy proved to be a disaster.12 In Robert Maxwell’s case, it could be argued that he exploited the web of commercial and familial relationships which were his life. We have already noted that Maxwell claimed unfettered authority, dominating his colleagues and children in a manner that suggests he could do as he wished. Here, Elizabeth Maxwell’s portrait of her late husband assumes greater importance than I have heretofore acknowledged. She describes Robert as a bully, a man who combined enormous charisma with a penchant for emotional blackmail. She recounts time and again how he complained about her inattention to his needs, her lack of commitment, and how he reinforced his claims by reference to unquestioned loyalty. While she now disputes the reality of these claims, it seems she often was forced to accede to his wishes. In these ways, he dominated their relationship. And in these ways he dominated his two younger children as employees of the Mirror Group. For Robert Maxwell, it appears that his relationships with others were an essential ingredient in his quest for power and commercial advantage. It is clear that these relationships were wholly functional for Maxwell’s ambitions, though they were hardly as functionally bene® cial for those involved with him (including the company’s pension plan bene® ciaries). In this case, Maxwell understood too well the culture of the ® nance industry; he made it work for him through his relationships with those involved. My argument is both that relationships are essential to the ® nance industry and that relationships are a twosided sword; relationships are embedded in the fabric of personal and moral commitments, some of which may have a profound coercive quality. This was the Maxwell brothers’ defence. While denying any wrong doing, it was contended that if they had inadvertently


Rogues and Regulation in Global Finance done something wrong their father had, in effect, forced them to do so. Here, coercion seems to have been de® ned as having been forced to do something against one’s will recognizing there was no reasonable alternative (see W E RT H EI M E R , 1986). Presumably, Kevin Maxwell could have disobeyed his father. But the emotional costs of such a strategy would have been too heavy to carry (one might surmise). Whereas it might be suggested that this is just an isolated instance, and that the rational order of competition and survival sustains the long term integrity of the ® nance industry, it should be clear that given the signi® cance of relationships to the industry, their emotional power is inevitably part of the nature of corporate decision making. T H E L O G I C O F RE G UL AT I O N The discussion above of Maxwell and Leeson was framed in two ways: in the ® rst instance, by reference to media commentaries that have emphasized their rogue characteristics; and, in the second instance, by reference to the culture of ® nance which allows us to understand their actions in the context of the norms and conventions of the industry. By doing so, by juxtaposing these two ways of representing behaviour I have argued, in effect, that the second approach provides us with a more sophisticated and credible way of understanding Maxwell and Leeson. Not surprisingly, I would argue that the ® rst approach, which is exclusively focused on the characters of Maxwell and Leeson, is misleading, even disingenuous, given the complex institutional and social world in which these men lived and worked. It is a logic which at once isolates the cause of ® nancial irregularities and blames individuals rather than institutions and systems of regulation. In this context, one is reminded of Edward Kane’s comment that, `[a]round the world, in jurisdiction after jurisdiction, of® cials have routinely failed to follow up important symptoms of institutional weakness and [have] contented themselves with super® cial tests and treatments’ (K A NE , 1993a, p. 1). It is not my intention here to develop a comprehensive critique of British regulation of the banking, corporate and securities industries. The points I have made about the costs of selective emphasis for understanding the nature of identi® ed ® nancial irregularities should be clear enough. Even so, before we move on to the issue of global regulation, it may be useful to pause and consider in more detail the theoretical logic which underlies the Bank of England’s (BoE) position on Leeson and the Barings’ collapse. While it may seem that the BoE’s position on Barings is not particularly relevant to the Maxwell case, I would suggest it is representative of a theory of regulation which has dominated the British ® nancial industry for many years. In a speech to the Japanese Federation of Bankers’ Associations in Tokyo in late 1995, the Governor of the Bank of England, Mr Eddie George, set out the

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position of the BoE on banking regulation in general and the Barings’ collapse in particular. There he made a series of related points. He began by observing that banks are vulnerable to ® nancial turbulence because of the liquidity of their deposits compared to the (relative) liquidity of their investments. He then suggested that whereas this may be an isolated problem, re¯ ecting the particular mix and types of a bank’s deposits and investments, there are real dangers that one problem in one bank can quickly spread to other banks and ultimately threaten the integrity of the whole banking and ® nancial system. Noting (rightly) that it is not the responsibility of the BoE to protect a bank’s shareholders from the risks of failure, and recognizing the role that risk plays in properly allocating resources in the industry, he argues that it is the role of the BoE to `(a) try to prevent ® nancial institutions from getting into trouble in the ® rst place’ , and `(b) to limit the damage by stopping it spreading when nevertheless they do run into trouble’ (G E OR G E , 1995, p. 6). By this argument, having failed to prevent Barings from `getting into trouble’ it was not incumbent upon the BoE to protect the equity of the shareholders if, as it was true, the collapse and sale of Barings would have no immediate effects on the liquidity of the British banking system. Thus, Eddie George’s argument is entirely defensible in terms of banking theory and practice. Even so, it is presumptuous in supposing that the BoE had met its obligations as the supervisor of banking practice. Eddie George notes there may be real limits to the extent of supervision, especially concerning the costs and consequences of supervision for ® nancial product innovation. But did the BoE adequately supervise Barings with respect to `the probity and competence of management and the adequacy of control systems, and by setting ± and seeking to enforce ± minimum standards of capital and liquidity’ ( p. 7)? Surely the answer is no. Just as importantly, it seems the BoE has not adequately appreciated the signi® cance of global ® nancial trading functions for banks, being preoccupied with a regulatory system designed for a world in which British banks were simply banks and wholly managed and controlled from London (see the related comments of Mr Brian Quinn, an Executive Director of the BoE, in a speech in Tokyo in November 1995). The issues of complex ® nancial investment functions overlapping and intersecting with traditional banking practice and the international scope of major banks are profound for the long term integrity of nation-state based specialized regulatory systems (see, generally, G OO D H A RT and S H OE NM A K E R , 1995). Whereas some commentators believe the geographic interface problem can be solved by the harmonization of countries’ regulatory regimes (D A L E , 1994), other commentators believe that global ® nancial deregulation has promoted nationstate competition for the regulation of ® nancial services (K A N E , 1984). Thus it might be


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argued that the BoE’s response to the Leeson scandal was both inadequate and impotent. As a number of analysts have claimed, either the BoE misunderstood or was mislead by Barings executives and managers. More darkly, perhaps the BoE report was actually a strategy conceived to protect of the interests of the City of London. While there may be merit in these claims, to focus upon these claims would be to ignore a more profound issue: the logic of the BoE’s regulatory system.13 In this respect, it could be argued that the BoE’s response re¯ ects a theory of regulation which is commonly accepted in western democracies, and is especially important in Britain. Speci® cally, I would argue that the BoE’s theory of regulation is a liberal, realist theory (compare with U N D ER H I L L , 1996). In general terms this theory is based upon three underlying (liberal) principles and three (realist) beliefs about the limits of regulation. First, the underlying principles. The liberal theory of regulation is committed to individual autonomy. This means that regulators ought to be both cautious about the proper scope of their rules and regulations and should take care not to intrude upon individual decision making. As well, the liberal theory of regulation is committed to neutrality. This means that regulators should not take the side of any particular substantive vision of the proper order of the world. In this sense, regulators are simply the policemen of procedural rules of the game. Moreover, the liberal theory of regulation is committed to facilitating the responsibility of individuals for their own actions and goals. This means that the well-being of society is the combined product of the liberty of individuals and their assessments of the most desirable options, given the risk and return payoffs of those options. On the other (realist) side of the theory, doubts about the ability of regulators to de® ne and enforce any substantive notion of proper behaviour limit the power of regulation. It is commonly claimed that regulation can stymie innovation, that forcing people to obey rules and regulations not of their own making is self-defeating, and that people must chose their own course of action if there is to be an accepted code of practice. In other words, the realist side of the liberal theory of regulation denies the possibility of `making men moral’ (G E O R G E , 1993). By implication, the liberal theory of regulation also supposes that the norms and conventions of an industry arise out of the overlap between different parties’ mutually intersecting goals and objectives. With respect to the Leeson case and, by extension the Maxwell case, once we understand the logic behind the BoE’s regulatory strategy we can understand better Eddie George’s arguments regarding the role and status of Leeson. For instance, the focus of the BoE’s report on Leeson re¯ ects the primacy of the individual as both the object and subject of regulation. This focus is matched in the Maxwell case by the SFO’s focus on

Robert’s two sons and a colleague. The willingness of the Bank to let Barings fail also re¯ ects the principle that individuals (in this case, shareholders and employees) should carry the burden of their actions. And the apparent irrelevance of the culture of ® nance for understanding and explaining the fact that Leeson was able to run-up such large, uncovered positions re¯ ects the presumption of the liberal theory of regulation in favour of neutrality ± that it is not the business of the BoE to judge the structure and organization of Barings or any ® nancial institution (as opposed to the ® nancial performance of the bank). In terms of the BoE’s conclusions, it is clear, then, why there was no assessment of the institutional context of the ® nancial industry. For the BoE it seems the failure of Barings was the (albeit unfortunate) consequence of the importance attributed to regulatory caution and neutrality. Leeson was to blame, and if other factors were important (like the culture of ® nance) these were simply irrelevant given the principled commitment by the BoE to neutrality. In this context, it is not surprising that the BoE favours greater information sharing between markets as opposed to systematic regulation of the structure and organization of ® nance ® rms. The BoE apparently believes it has designed a regulatory framework which is the `best’ framework for promoting the growth and development of the City of London as one of the leading ® nancial centres of the world. In this respect, the BoE seems committed to a view of inter-market ® nancial regulation which presumes the overwhelming dominance of inter-market competition for trading volume rather than inter-market competition of trading standards. RE G UL AT I O N A ND T H E C I T Y O F L OND ON Clearly, there are reasons to doubt the logic and ef® cacy of the Bank of England’s realist, liberal approach to regulating ® nancial markets. Likewise, there are reasons to doubt the value of any prosecution strategy which is exclusively focused on the integrity of individuals ± traders or corporate executives. The SFO’s legal case against the Maxwell family seems to have been premised upon the `demon’ logic underlying so many of® cial versions of the collapse of the Maxwell empire. On trial was a quite extraordinary proposition: that a couple of individuals could be shown to have caused the crisis in the Mirror Group’s pensions, independent of the whole complex set of relationships and institutions which not only underwrote the Maxwell empire but which also actively played a role in sustaining the web of transactions which allowed the ¯ ow of funds out of the pension funds. In retrospect, it seems quite extraordinary that the prosecutors could have made such a strong causal claim given the chain of relationships which rendered any corporate strategy contingent upon the collaboration of others within parameters


Rogues and Regulation in Global Finance de® ned by the culture of ® nance (see A R MS T RO NG , 1989, on causality, contingency and culpability). In the light of the previous discussion of Leeson and Maxwell, I would make three summary points against the realist, liberal approach to ® nancial regulation. First, it is apparent that the practice of scapegoating is, at best, a distraction from understanding the underlying cultural context(s) in which behaviour is framed and sustained. At worst, individuals may be victimized by regulatory agencies and the media searching for demons to blame. Second, the presumption in favour of neutrality with respect to the internal management of corporate decision making is dif® cult to justify given the social costs of such a strategy; witness the consequences of the collapse of Barings for equity and debt holders and the threatened impoverishment of the Mirror Group’s pensioners. Third, and most importantly, it is an approach that fails to distinguish between ® rms that are well-managed with respect to the accountability of internal decision making and ® rms that are chaotic and mismanaged. The realist, liberal approach to ® nancial regulation assumes that the culture of ® nance is either benign or is adequately `policed’ by ef® cient markets.14 In theory, at least, the Bank of England would presumably defend their regulatory regime, arguing that it is an essential element in the nation’s economic development and growth. To put it most plainly, the failure of some banks and investment houses like Barings may be the unavoidable cost of a regulatory regime that otherwise promotes a high rate of capital mobility and ® nancial and product innovation in British banks, and hence the pivotal role of London in the world economy. In the weeks and months immediately after the Barings collapse, this argument was a common refrain in the Bank’s own interpretations of its role in the ® nancial industry, and commentators’ defence of bank policies. For some, of course, this type of argument has the virtue of theoretical purity if not empirical relevance; as claimed by many neoclassical economists prior to the 1987 stock market crisis, markets may not always produce socially desirable outcomes but they are clearly superior to Government intrusion into marketbased economic decision making (compare with S H I L L E R ’s, 1992, assessment of market ef® ciency and the role of Government policy after the 1987 crash). In essence, I would argue that the culture of ® nance is neither benign nor adequately policed by the market. Moreover, I would argue that the internal structure and performance of ® nancial institutions (banks, asset managers, etc.) with respect to the challenges posed by the culture of ® nance is an essential ingredient in any nation’s economic performance (compare with G I L S O N , 1995). Thus, I would suggest that the accelerating integration of the world of ® nance means that the Bank of England’s realist, liberal model of regulation may become a constraint on the long term competitiveness of British ® nancial institutions and the City of London. While O ’ B R I EN , 1992, and others somehow

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believe that the global integration of ® nance questions the very possibility of national regulatory regimes, I would argue that the emerging economic geography of ® nance threatens ® nance companies burdened with outmoded (liberal) national regulatory regimes. In this respect, I tend to agree with K A N E , 1993b, who suggests that there is a global market for regulation as well as trading volume rather than accepting the proposition that globalization means the irrelevance of regulation in toto. There are three ways of illustrating these claims. One is to return to the presumptions embedded in the BoE’s response to Barings. These presumptions are: ® rst, that the focus of regulation is properly banks rather than ® nancial companies in general; and, second, that the focus of regulation is national rather than international notwithstanding the globalization of national ® nancial institutions. The BoE has found it dif® cult to accommodate the apparent reality that banks are becoming either secondary players with respect to other, new kinds of ® nancial institutions (like asset managers) or are becoming the homes to new kinds of investment functions that are not easily regulated or even understood using conventional instruments like capital adequacy. This is recognized by the BoE. And, one response to the Barings debacle has been to develop mechanisms of information sharing between the Bank and other (national and international) regulatory agencies whose expertise is closer to the new forms of investment intermediaries (B A NK OF E N G L A N D, 1996). Even so, the Bank has failed to appreciate that these new investment functions have very different cultural norms than traditional, consumer-oriented regional and national banks. The global reach of Barings was due, in part, to the fact that there is a pro® t to be made by ® nancial institutions willing and able to arbitrage between ® nance markets on a global scale.15 A second way of illustrating my point is to challenge the Bank’s claim that its regulatory regime contributes to long term national economic wealth. In fact, as the buy-out of Barings indicated, the role and status of British banks in the emerging global ® nancial industry is under considerable threat (F A I R LA M B , 1995). Many have been bought-out by foreign ® nance companies, some by banks and others by ® nancial hybrids that are able to manage the various and competing norms and conventions that are associated with different ® nancial functions in different countries. Now foreign ownership of a nation’s banking and ® nancial services is not necessarily a problem; it may simply re¯ ect the superior quality and competence of foreign institutions with respect to their British counterparts. But there is a suspicion amongst some academics that one advantage enjoyed by some foreign ® nancial institutions is that they come from markets (notably the US) that are more ef® ciently regulated than the British market. By this logic, the integration of ® nancial services between institutions has been promoted (or at least unhindered)


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by local regulators leading to the development of learnt managerial expertise which is the basis of their comparative advantage in the global market for ® nancial services. In this respect, the British culture of ® nance, based as it is around balkanized and separated ® nancial functions as well as separate banks and other ® nancial intermediaries, may be a real barrier to the competitiveness of the British banking system. A third way of illustrating my point is to re¯ ect upon the role and status of the City of London in the global economy. Even if the British ® nancial industry is increasingly dominated by foreign institutions, it is plausible to argue that the BoE’s realist, liberal regulatory regime is not a disadvantage to ® rms locating in London as part of their global market strategy. Presumably ® rms will increasingly bring with them to the City of London internal, managerial con® gurations that are the combined product of other jurisdictions’ market opportunities and regulatory regimes. In this sense, the City of London would remain a desirable location in the world of ® nance for its geographical characteristics as a site of high quality communications and exchange in the context of the temporal structure of twenty-four hour global market trading. In this respect, my argument is that the place of the City of London in the world of ® nance could become simply a place of exchange as opposed to a place of innovation in ® nancial products and ® rm structure. The point here is at once subtle and complex. It is apparent that banks are less and less important as the developers of new kinds of ® nancial products. For example, derivatives were developed in speciality ® nancial ® rms which relied upon ® nancial consultants to make the link between product developers and institutions that have an interest in managing their risk exposure to currency movements and the like. By their very nature, these types of products are opaque ± their structure and design are proprietary information, and their performance often the subject of independent assessment (C L A R K and O ’ C O NN O R , 1997). In this world, the extent to which ® nancial managers invest in these kinds of products depends, in part, upon the veracity of product developers and their managers as well as the availability of information through which assessments can be made about claimed performance. Thus, quite directly, the purchase of these kinds of products depends upon the culture of ® nance. To the extent that individual ® rms and related, service-based ® rms share norms and conventions that sustain the trust of investment managers, then these organizations will prosper. To the extent to which the culture of ® nance is understood to be a threat to the interests of investment managers, then it will be a constraint on the growth of the City of London as a site of product innovation. In this respect, the response of the BoE to the Barings’ collapse is very revealing. In detailing measures taken in response to the Board of Banking Supervision’s report on Barings, the Bank has emphasized three

issues: Improving quantitative and qualitative measures of bank liquidity; improving co-ordination of the ¯ ow of information between other national and international regulators; and improving the Bank’s knowledge about non-bank risk exposure in regulated institutions. Unfortunately for the City of London, and perhaps unfortunately for the British economy, the BoE has failed to acknowledge the signi® cance of the culture of ® nance as an essential ingredient in the future growth of the City as a major site of ® nancial innovation. Whereas the Bank assumes that ® nancial innovation is best encouraged by a realist, liberal theory of regulation, I would argue that the sophistication of ® nancial products now demands a regulatory regime which sustains veracity between market agents given the apparent threat of systematic tendencies towards unmanaged corruption within major ® nancial institutions. Nations that are able to develop and adapt their ® nancial regulatory regimes in a manner consistent with this logic will be the places that become the ® nancial centres of the twenty-® rst century (hence the Singapore Government’s very different response to the Barings crisis). C O NC L US I O NS It is tempting to be cynical about the regulation of ® nancial markets. The world of ® nance seems to be a world set apart from the norms and conventions of ordinary life. According to newspaper accounts, and popular journalistic accounts, ® nance seems to be inhabited by people whose only concerns are the daily transactions and settlement balance sheets. The standards of behaviour of ordinary citizens, corporations and nations are arguably of little relevance. This perception is given credence by those who exaggerate and demonize people like Leeson and Maxwell; they are held to be at once representatives of a world populated by many others like them and they are held to be extraordinary in the sense that normal conventions of behaviour are thought irrelevant to them, and others like them in the industry. By this logic, it is dif® cult even impossible to regulate the ® nance industry. It supposes that the chaotic clamour of individual greed will, in the end, subvert the best intentions of regulators. So, in this light, the apparent inability of the Bank of England to articulate a credible regulatory framework is an unfortunate but inevitable fact of life about global ® nancial markets. There are some commentators, however, who believe the BoE’s fatalistic realism is implausible. As I have argued in this paper, the strategy of demonizing people like Leeson and Maxwell should be carefully scrutinized. Behind the facade of rogues and scoundrels are corporations and industry practices. Maxwell and Leeson lived and worked in organizations which were enmeshed in the culture of ® nance. This culture has well-articulated norms and conventions relating to the


Rogues and Regulation in Global Finance structure of incentives, the nature of authority and the status of relationships. This does not mean that these norms and conventions are necessarily ef® cacious for the functional ef® ciency of the industry, nor necessarily warranted in the light of societal standards of behaviour. Indeed, whereas many analysts point to the existence of such industry norms and conventions as evidence for a distinctive sociology of ® nance I have argued that a crucial task of regulation may be to penetrate the culture of ® nance so as to maintain certain standards of behaviour. By this logic, regulation is an essential ingredient in the life of the industry, even if that life is international in scope and subject to competing and overlapping standards of behaviour. It is tempting, then, to imagine that the proper role of regulation is to perfect behaviour in the ® nance industry. So if we accept that Leeson and Maxwell are representative of the culture of ® nance, is it plausible to suppose that regulators could so change that culture that individuals like Leeson and Maxwell would `disappear’? It is apparent that there are many in contemporary society committed to a perfectionist theory of regulation ± that men can be made moral. While in one sense sympathetic to this view, recognizing the laudable idealism implied by the perfectionist theory of regulation, one must be careful not to equate idealism with the coherence of the culture of ® nance or the functional integrity of government policy. In essence, neither the culture of ® nance nor the instruments of regulation can be as coherent and so well structured as the perfectionist theory of regulation would seem to imply. There are, in fact, various threads and strands to the culture of ® nance some of which may be amenable to government policy and some of which may be dif® cult to identify, let alone focus upon, with welldesigned government policy instruments. My point here is simple and obvious: achieving the goal of perfectionism presupposes a degree of coherence of culture and policy that is impossible to attain. So what of the goal of perfectionism? It is clearly important in informing and motivating the design and implementation of government policy. At the same time, it is also a test against which the culture of ® nance should be evaluated. Even so, regulation is a process of accommodation and re¯ exivity: there can be no ® nal ideal form (K A N E , 1993b). By this account, the Leesons and Maxwells of this world can not be made to `disappear’ from the ® nance industry. However, a more active and comprehensive regulatory regime may allow us to understand better the signi® cance of their behaviour in the context of the culture of ® nance and the goals of regulation. The Bank of England’s position is so fatalistic that all we are left with is Leeson and Maxwell. Hidden from view, deliberately some might suggest, is the social and moral life of real people. They deserve to be seen in their context. They deserve to be understood as part of the world of ® nance which is both intelligible and

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worthy of public scrutiny. And they deserve to be seen as an essential ingredient in any attempt to re-evaluate the value of British ® nancial regulation in the context of competing national regimes of regulation. Otherwise, if the demonized versions of Leeson and Maxwell are allowed to stand unchallenged, the City of London will be a (relatively) smaller place in global ® nance in the twenty-® rst century. Acknowledgem ents ± Support for this paper was provided by the Australian Housing and Urban Research Institute as part of its superannuation and investment project. In preparing this paper, I bene® ted from discussions with Shirley Clark, John Evans, Roy Goode and Frank Field M P. Having written the paper, I was fortunate to be able to discuss issues related to regulation with Alan Fels, John Braithwaite, Elizabeth Prior Jonson, Adam Tickell and Nigel Thrift. Edward Kane and two referees made useful comments on a previous draft. Initial thoughts for this paper were presented at an Institutional Investment Marketing Conference sponsored by Burkitt Australia (Sydney). A version of the paper was presented as the Gregory Lecture at the University of Southampton, March 1996, and aspects were discussed in a seminar on regulation at the University of Newcastle. None of the above should be held responsible for any errors or omissions contained herein. Unfortunately, I have not been able to use the best advice offered.

NOT E S 1. Leeson remains an elusive character. Having read, reviewed and discussed Leeson’s role and his own account, I tend to think of him as a relatively (compared to Maxwell) innocuous character. Here, W E BB ER ’s, 1996, summary seems apt: `Leeson, seeing the opportunity to satisfy a long-standing goal of becoming a trader and wanting to assure his success, created account 88888 as his safety net. But he got caught on a treadmill and couldn’t get off. 2. Throughout this paper, I treat the Board of Supervision as an integral institution of the Bank of England. There are, however, some internal issues of management control and structure which are ignored by such a strategy. Of course, the Governor of the Bank also blurs the lines of authority and responsibility between the Bank and its Board. 3. I have ignored, perhaps wrongly, Elizabeth’s own story separate from Robert. Her struggle for self-con® dence and a separate identity is quite extraordinary. One must be careful not to belittle her life separate from Robert. On the other hand, we must also be careful not to idealize the motives behind her autobiography (see B ROO KE- R O SE , 1996, on the problematic nature of autobiography). 4. Ironically, L E ESO N , 1996, himself has capitalized on this characterization account in his own account of his actions and relationships with Barings (London and Singapore). There is a market, apparently, in this kind of personalized imagery. 5. Notice that, in this paper at least, I do not directly analyse the recent Bank of England follow-up report

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6.

7.

8.

9.

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Gordon L. Clark

by A N D ERSE N C O N SU LT I NG , 1996, on changes to supervision practices. There seems to be little of substance in that report which would change the logic of my paper although it is clear that the Bank of England have sought to respond to their critics through the new report. The apparent gap between the BoE’s assessment and the Singaporean analysis of the Barings’ collapse remains a sensitive issue. In 1996, a Treasury Committee enquiry was initiated in an attempt to reconcile the differences between these reports, focusing upon the possible knowledge and actions of senior Barings of® cials. Headlines have been given to the recent revelations of a small group of Barings’ executives. The interest of the SFO in Baring’s senior management also re¯ ects disquiet amongst some British regulators about the BoE’s overemphasis of Leeson (see H O U SE O F C O M MO N S T R EA SU RY C O MM I TT EE , 1996, for details). While my focus here is on the demonization of Maxwell and Leeson with regard to the structure of the ® nancial industry, it should be recognized that it is not unknown for ® rms to identify individuals as scapegoats for corporate policy. For these cases, scapegoating is deliberate, and scapegoats are often compensated for their role in the charade. Some people are just ùnlucky’ (W ILL I A M S, 1981). M C D OWE L L’s, 1994, de® nition of culture (related to spatial practice) is also relevant here. She says ( p. 148) that `culture is a set of ideas, customs and beliefs that shape people’s , actions . . . [and that] culture is socially de® ned and determined’. This interview was part of a larger project on pension fund investment strategies by the Australian Housing and Research Institute. In C L A RK , 1997a, 1997b (forthcoming), I report the results of this project, focusing upon the process of product innovation in the industry. It is dif® cult, in my ® eld experience at least, to distinguish a separate ® rm (or ènterprise’ ) culture from an industry (or `city’ ) culture. While agreeing with many of the issues raised by S TAN L EY, 1992, it is hard to identify (empirically) the kind of ® rm-based cultural homogeneity he suggests dominates the ® nance industry. The rate of labour turnover and switching between ® rms, as well as the enormous changes in corporate

11.

12.

13.

14.

15.

structure and ownership since the 1980s have conspired to generalize culture within the industry. An especially valuable, though ® ctional, insight into this world is provided by B RONS O N ’s, 1995, novel. There, he emphasizes the loneliness, ennui and isolation of traders ± individuals who seem to be as disfunctional as their company roles appear to fracture any attempts at building solidarity. One can exaggerate this sense of alienation. On the other hand, one must take care not to ignore its deliberate construction by ® rms’ management. It is, in retrospect at least, remarkable that Barings’ London-based senior executives were not more concerned about the scale of Leeson’s positions on the Nikkei index prior to the Kobe earthquake. Here, I accept arguments by BoE of® cials that the Bank cannot reasonably be accused of close complicity ± that is, acting on behalf of certain elites in the City in a manner consistent with a bygone era of patronage and corruption amongst self-referencing elites. If this was the case in the early years of the nineteenth century (H OWE , 1994), it seems more likely, as I suggest below, that the BoE represents and protects the interests of the nation-state through its regulation of ® nancial ® rms (see, generally, R O BE RTS and K Y NA STO N , 1996). Whether it does so in an adequate manner is the focus of my paper. Notwithstanding the claim attributed to Michael Jensen that the ef® cient market hypothesis is the most wellestablished fact in social science’, in recent years there has been a number of studies published which comprehensively empirically dispute the plausibility of this `fact’ . The work by Andrei Shleifer and his colleagues has been especially important in this context (see S H L EI FE R , 1997, forthcoming), although he is reluctant to draw implications for regulation from his evidence preferring to argue that market inef® ciency does not automatically imply the need for intrusive governmental regulation. Those writing on global ® nancial integration too often blur the distinction between banking and non-banking functions. There is a presumption shared amongst those who focus on banking, capital adequacy and the like that such a focus reasonably translates into ® nancial conglomerates (see H ERR IN G and L ITA N , 1995). This is a problematic claim, one which deserves more empirical analysis.

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