week 11: reflection on common topics about financial ethics

Trust is a fundamental building block to any successful organization, as well as a premium for many contemporary organizations. Building an organization's reputation for trustworthiness may take a long time and requires considerable effort and investment. It is essential to the further development of organizations. When a crisis or scandal hits an organization, its reputation for trustworthiness comes under sustained threat. In some ways, trustworthiness is damaged by ethical misconduct. In the most cases, the reason why trustworthiness is being disappeared is due to the lack of integrity and the speed of organizations responding to the crisis is too slow.

Talking about a famous scandal from an international company  Enron happened in U.S of 2001. Enron Energy Company was established on July 1985 in the United States, ranked at No.7of the top 500 company in the world of 2000 and gaining billions of dollars. This giant energy company almost collapsed in a flash, because it supplied the false annual reports to its shareholders and investors in the stock market. After growth, Enron had not satisfied with the traditional mode of operation, it began to look at energy securities. Enron's executives thought that creating derivative securities markets for any commodity was possible, so Enron was constantly developing some futures, options and other financial derivatives about the energy commodities, they activated many assets which were in poor liquidity. To the end of the 1990s, in energy securities trading, Enron had become the monopoly and it had been transformed into a similar type of the hedge fund companies in the Wall Street from the substantive production enterprise. Using clever accounting method, Enron created a set of very complex financial structure, aimed at its capital operation. The biggest achievement of Enron is the applied innovation of financial tools, owing to its outstanding performance, Enron was regarded as the expert in the management of capital operation.

After all, the success of Enron was a bubble, resulting in the decrease in the Enron's stock price from $90 per share to less than $1, on December 2, 2001 Enron ultimately announced the bankruptcy protection, which became the biggest bankruptcy in the U.S history. As for Enron’s failure, it seemed like a failure from the shares bubble. But in the final analysis，it should blame to Enron’s false audit and “cheating game” to its investors, shareholders and normal staff. From the late 90s to 2002 summer, all Enron’s financial successes were illusory bubble. For years, Enron had made a false report of its profits. Some senior managers even hided the losses which was up to $1 billion from September 2000 to September 2001, and sold Enron stocks that worth millions of dollars. Furthermore, those managers set up a large number of complicated mechanism inside the company, and had collusion with others outside the company to manipulate Enron's financial statements, thus gaining tens millions dollars of money that shouldn't belong to them.

Because of the cheating scandal, Enron had to choose the only solution that announced bankruptcy. It is precisely because this, it had no ways to rebuild its business and it had lost everyone’s trust. In my opinion, Enron's collapse is not just because of false accounting, or the corruption by its high-level managers, the deeper reason is the cultural phenomenon where had too quick buck and greed adventures dug the tomb for Enron during the period of struggling for success. As an American scholar pointed out, Enron's culture had been the atmosphere like casino. Enron's core culture is profitable which even can be said as loving money. In Enron, operators’ goal is "high profit, high price, high growth". Enron’s failure had made very bad impression on the worldwide markets, many financial institutions which had relation with it all got hurt, particularly to J.P Morgen and Citi Group that had provided Enron with a large amount of loans without security.

Unalterable loss made by Enron reflected that any cheating behaviors are inadvisable and the result from those crisis of losing confidence will be out of our minds. Minor mistakes can be corrected by the repairmen, but if organizations have done some mistakes like Enron, no one could rescue. The organization only can be dying.

self-reflection after watching the financial documentary: the RBS Inside the Bank That Ran Out of Money

In most people’s eyes, the Royal Bank of Scotland (RBS) was once a famous Scottish institution in the past twenty year; it was a bank with a reputation for prudence, even sometimes people considered it as the best bank than any British bank. Specially, when Fred Goodwin became their leader; under his leadership and operational strategy which was aimed at entering into the US market, the biggest investment market all over the world and striving for the status of dominance, the RBS began to develop at higher speed and soon it got prosperous. Giving all investors’ surprises, every day is not Sunday. But in October 2008, less than a decade after Fred Goodwin took over as chief executive, it came within hours of collapsing. The RBS later posted their biggest loss in UK corporate history (24 billion pounds) which damaged the bank's reputation for financial prudence and Scotland's image as a global financial center.

According to the previously unbroadcasted footage of the bank's top executives and interviews with bank insiders, I learn the compelling story of a national catastrophe deeply. When we refer to the financial crisis in 2008, we all remember the dilemmas in the most industries of the world, too many people lost their job and they might be hurt by this crisis. In fact, the financial crisis came from the subprime lending crisis in us. Saying more clearly, in micro-level, it was a crisis of the corporate governance. These weaknesses in the banking industry reflect as follows:

Firstly, the internal defects; 

1) There was not a sound governance from the board of banks. For example, because the comprise of the board mostly was the current and former managers, Citi Group's board of directors was considered to be an insufficiency of objectivity and independence

2) There existed an unreasonable structure of shareholders. Such as the Bank of America, the first biggest shareholder held only about 4%; by contrast, the first biggest shareholders holding the shares of the Citi Bank was only about 5%.

3) There was some asymmetric incentives for executives. In the crisis, for example, the CEO of Freddie Mac and Fannie Mae who were required to leave could still get severance payment of $9.3 million and $14.1 million relatively.

4) There was low information transparence.

On the other hand, the shortages of external regulatory.

1)    Government had poor supervision.

2)    The existence of inadequate legal mechanisms in U.S. market. Until 2000, many protective systems in the U.S. financial sector had been revoked which set the potential problem to the crisis.

3)    Rating agencies were not independent. In U.S market, it was very common that a rating agency which could give the highest rating to the issued securities, the issuer would hire whose service, so that credit rating agencies had the tendency to grading high marks.

As for Chinese banking industry, they have a lot of things to learn and improve. Owing to the governmental level is lower than America, we need to take warning from the financial crisis in western countries. Moreover, all banks in the world should take a joint effort to push the Basel 3 into practice more quickly. Meanwhile, taking some adjustments with the development of the global economy and faced with any difficulties, we should take some timely and positive solutions.