Bank Culture Reform
The Hong Kong Monetary Authority (the “HKMA”) released a circular entitled “Bank Culture Reform” on 2 March 2017. The circular sets out a framework for establishing a sound corporate culture within an Authorized Institution (“AI”) based around the three pillars of “Governance”, “Incentives”, and “Assessment and Feedback”.
AIs are required to implement the framework by 1 March 2018.
Why is culture so important?
It has been said that culture is what drives behaviours within an institution, corporation or collective when nobody is watching. Left to their own devices, will staff adhere to corporate values? Or will they stretch the boundaries towards atonal behaviours? Despite an ever-increasing workforce, regulators cannot look at everything all of the time. A culture of adherence to normative ethics is required – and must come from within.
The HKMA have named culture as a real priority for 2017 because poor culture within authorised institutions continues to threaten market integrity and consumer protection. This threat can be seen in the most significant conduct failings, from benchmark rigging through to the Sons & Daughters scandal. A failure of culture, and a failure of the measurable influences that shape culture, such as incentive schemes and risk management, can be seen to be one of the root causes of the failings.
A good culture will sustainably reduce systemic conduct risk, increase the likelihood that employees will speak up against poor conduct, and can also materially impact enforcement outcomes.
What do financial institutions need to do?
Establishing a good culture cannot be achieved quickly and financial institutions that try to approach this task as a checklist exercise, will struggle to achieve what the HKMA expects. In the words of Norman Chan, HKMA Chief Executive:
“culture should be self-driven and adopted by all from the top to the bottom, inside out, without any external regulatory pressure”.
Putting this into practice is a considerable endeavour, and will almost inevitably require specific resource allocation focused on the three pillars.
AIs will need to demonstrate top level commitment to establishing the right culture through, for example, regular messaging in relation to culture expectations during town hall meetings, webcasts and newsletters. A Culture Committee chaired by an independent non-executive director should be established. The Culture Committee should be responsible for reviewing the effectiveness of the AI’s culture shaping initiatives and ensure that there is some form of ongoing monitoring.
This is perhaps one of the most difficult areas for any company, in any sector, to get right. It will be a particular challenge for AIs with poorly thought out incentive schemes. Having the wrong incentives in place (or “profit at all costs”) has been blamed for some of the worst conduct failings in history.
The circular suggests that AIs reform incentive schemes to ensure they align with “culture and values” and consider doing away with sales/profit targets as the primary determinant of pay with more focus on adherence with corporate values. This shift in emphasis will be a significant change for many AIs and one that may face internal resistance from employees who are used to working with defined, value driven, bonus and pay schemes.
Assessment and Feedback Mechanisms
A dashboard of indicators should be introduced for assessing and gauging changes in culture. Staff and customer feedback should be obtained with trends tracked and staff assessed to ensure they are behaving in line with the AIs’ cultural expectations. A framework should be put in place for the sharing of lessons learned from internal misconduct. Significantly, a whistleblower line must be introduced for staff to report concerns.
The HKMA has indicated its intention to incorporate the Bank Culture Reform circular into the Corporate Governance chapter (CG-1) of the Supervisory Policy Manual. AIs will be required to fill in self-assessment questionnaires, following which the HKMA will likely be conducting inspections on compliance with CG-1.
In parallel, the HKMA is also forecasted to seek to harmonise its corporate governance framework with the Managers in Charge regime currently being implemented by the SFC later this year.
The combined result of these initiatives is likely to be an ever-increasing focus on senior managers being held accountable for delivering positive cultural outcomes through good conduct at all levels. The tone from the top should be echoed and reflected in the message from the middle and behaviours at the bottom.