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Ethics in Financial Services and Financial Markets

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Dr V Basil Hans, Associate Professor of Economics and Dean, Faculty of Arts, St Aloysius Evening College, Mangaluru

Ethical issues in the financial services industry affect everyone because even if you don’t work in the field, you’re a consumer of the services.

Some cynics jokingly deny that there is any ethics in finance, especially on Wall Street. This view is expressed in a thin volume, The Complete Book of Wall Street Ethics, which claims to fill “an empty space on financial bookshelves where consideration of ethics should be.” Of course, the pages are all blank! However, a moment’s reflection reveals that finance would be impossible without ethics. The very act of placing our assets in the hands of other people requires immense trust. An untrustworthy stockbroker or insurance agent, like an untrustworthy physician or attorney, finds few takers for the services offered. Financial scandals shock us precisely because they involve individuals and institutions that we should be able to trust.

FINANCIAL MARKETS

The fundamental ethical requirement of financial markets is that they be fair. Fairness may be defined either substantively (when the price of a security reflects the actual value) or procedurally (when buyers are enabled to determine the actual value of a security).

Although many business ethics problems are common to every functional area, finance involves some distinctive ethical issues that require separate treatment. Because the financial activity is closely regulated, these issues are often addressed as matters of law rather than ethics, but the basis of regulation in finance includes some fundamental ethical precepts, such as fairness in financial markets and the duties of fiduciaries. The law is an uncertain regulator, though, and much financial activity presupposes unwritten rules of ethical behavior. People trained in finance enter many different lines of work, and so finance ethics is necessarily diverse; ethical conduct is not the same for bond traders, mutual fund managers, and corporate financial officers, for example. Moreover, finance ethics is concerned not only with individual conduct but also with the operation of financial markets and financial institutions. Finally, the financial management of corporations, with its objective of maximizing shareholder wealth, raises yet different ethical issues.

Why are ethics important in the finance industry?

  • Scams
  • Frauds
  • Unfair trading practices
  • Securities scams
  • Churning
  • Insider trading
  • Window dressing

The stock market scam of 1992 is considered one of the worst violations of ethics in the Indian financial industry. Retail investors lost money after the market was manipulated, and it subsequently lost 72 percent of its value.

Investors intrinsically trust financial institutions with their money and expect them to invest it with integrity. All market risks considered, investors expect the highest return and put their faith in the hands of professionals. Upholding investor confidence is vital to the success of the investment industry. High ethical standards are critical to maintaining the public’s trust in financial markets and in the investment profession.

CFA Institute Code of Ethics and Standards of Professional Conduct outline best practices around professionalism and integrity of capital markets, duties to clients and employers, investment analysis and recommendations, and conflicts of interest and responsibilities. The Code of Ethics maintains that investment professionals must place the integrity of the profession and the interests of clients above their own, and act with competence and respect.

Ethical Issues

1) Self-interest sometimes morphs into greed and selfishness, which is unchecked by self-interest at the expense of someone else. This greed becomes a kind of accumulation fever.

2) Some people suffer from stunted moral development: This happens in three areas: the failure to be taught, the failure to look beyond one’s own perspective, and the lack of proper mentoring.

3) Some people equate moral behaviour with legal behaviour, disregarding the fact that even though an action may not be illegal, it still may not be moral.

4) Professional duty can conflict with company demands. For example, a faulty reward system can induce unethical behaviour. A purely self-interested agent would choose that course of action that contains the highest returns to himself or herself.

5) Individual responsibility can wither under the demands of the client. Sometimes the push to act unethically comes from the client.

Follow corporate governance and business ethics.

Corporate governance promotes equity and ethics among the workforce and the top management’s decision making. This can be understood by studying the following points:

  1. Corporate governance incorporates accountability among the top management which is transferred to the middle and lower-level management’s way of performing duties.
  2. Corporate governance inculcates a sense of trust among the investors that their hard-earned money is valued appropriately.

iii. Corporate governance unlocks and capitalizes on the strength of all its stakeholders irrespective of caste or gender.

Guiding Principles for being ethical or not

It can be clearly observed that one of the major reasons for ethical lapses in the financial sector is the greed of mankind. This greed becomes an accumulation of fever. If you accumulate for the sake of accumulation, it becomes the end by itself and if accumulation becomes the end, there is no place to stop. So the moral of the story is that we should never allow self-interest to turn into greed and selfishness. There can be a three-way test to decide whether your action is ethical or not.

  • Test of Legality: If the decision taken is not legal, it is not ethical.
  • Test of fairness: Being fair means providing equal advantages and disadvantages to all concerned parties. If it favors any particular party to an extent, it is not fair and therefore it is not ethical.
  • Eleventh Commandment Test: If the decision taken is known publicly in the media, will you be ashamed?

Conclusion

  • Ethical behaviour is important.
  • Wisdom – dependability and realism
  • Courage – effectiveness and consistency
  • Integrity – responsibility and personality
  • Restraint – respect and co-operation

About the author:

Dr V Basil Hans has been teaching at St Aloysius College institutions for the past three decades. He has produced six MPhils and three PhDs. He has written more than 200 articles in journals, books and newspapers in English and Kannada. He is serving as honorary editor in more than 30 journals. He has presented papers in more than 75 conferences. He has written more than 20 books. His book on Digital Banking will be translated into eight foreign languages.

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