Editorial

A financial crisis is usually the most visible element of a global economic crisis which hits everywhere on the planet, every sector, each and every one of us. Conventional wisdom holds that the financial crisis of 1929 led to the prolonged global economic crisis of that era. Some question this and instead argue that the 1929 financial crisis was not a cause but rather a consequence of the crisis. The same cannot be argued of this crisis however. As over the last 30 years finance has been the only generally accepted criteria of value creation, the 2008 financial crisis may indeed be seen as the source of the global economic crisis.

The focus on value creation, and value creation through finance, stems from a decline in human values. Finance has accelerated this decline after the fall of Berlin Wall and the rising tide of globalisation. The emphasis put on transaction (as opposed to personal relationship), and monetisation (of all and everything) became the prevailing values leading us to constant growth and development of the world. But this was an illusion. Considering finance as the criteria of value creation has on the contrary resulted first in value extraction and finally—in 2007/08—in value destruction.

Because the decline of human values has been a direct cause of this global crisis, it will require more than a change in the regulatory environment to enable us to restore the healthy development model that we need.

The decline of values is a direct cause of the crisis

For the last 30 years, true economic value creation has been confused with financial value creation as expressed by the stock market. Based on the assumption that markets cannot be wrong, all efforts have concentrated on how to increase stock prices, independently of the real value of businesses in terms of products, services, etc. The easiest way to increase that value was to focus on the growth of quarterly reports of companies. Regulators and economic actors made these quarterly reports obligatory worldwide, and imposed marked-to-market valuations of portfolios detained by the financial industry (banks and insurance companies, i.e. all of us), thus dramatically reducing strategic thinking, planning and investing. Corporate executives, encouraged by pension funds managers (again, meaning all of us), accepted being evaluated by financial performance. In exchange, they benefitted from stock options plans and bonuses linked to stock prices. As a result, they concentrated on devising short-term strategies, financially efficient but economically disastrous, as we can see with the decline of our long-term businesses. CEOs and senior executive teams, financial analysts and bankers, fund managers and institutional investors have gradually shifted their focus exclusively to short-term gains. Significant gains. The faster the time frame, the better. At the same time, governments have brought entire countries into unrestrained budgetary situations with the same mentality: delivering short-term benefits to the populace results in a good return in terms of election votes, and the resulting financing through debt has, as we have seen, become a strategic long-term nightmare as well as a short-term potential bomb. Here again, we are all involved: as beneficiaries of these deficit policies, but also as indirect lenders to these countries through our bank deposits, insurance premiums, and pension savings.

The decline of values—competence, courage, responsibility, respect, prudence, justice, moderation, honesty—has enabled all of this at all levels, not only in business but also in government. And once accepted the trend became irreversible: It became not only possible but almost easy to make fast fortune in business; It was for decades not only possible but practically required to craft state budgets based on deficit spending in order to be elected or reelected in politics.

The subprime bubble burst epitomises these moral and professional failures and is therefore a powerful indicator of this overall decline in values: the greed for short-term gains on the real estate market which drove modest households to borrow amounts disproportionate to their income; no credit analysis which induced humble people to go into personal bankruptcy; no financial diligence, leading to packaging irresponsible products with a simplistic rating; no moral responsibility, detaching revenue from risk in selling the package to a third party; no sound analysis, enabling buying those products to achieve a few basis point increased return, etc… In a nutshell, pretty much a list of combined faults. One simple objective shared from borrowers to lenders: make money (a lot), fast (very fast), and run (very far).

As a result, our children will inherit huge public debts and defaulted governments, a shaky financial industry and a fragile economy, and a lot of bad habits. Interestingly, those children seem eager to find solutions. And a lot of technical solutions have been considered over the last five years.

But we need more than technical solutions. In fact, to compensate for the decline in values, technical solutions like processes, rules, and regulations had already been devised over the years, long before the crisis. Instead of helping, those have gradually tainted all levels of our organisations, business as well as governments. A bit like Pravda, which claimed to tell the truth as it delivered lies, manuals of ethical conduct and processes devised by experts and consultants pretended to reduce the risks. Ironically, those have proven to be doubly false: first, they did not address the right issues, and in fact increased risks (the crisis is there to prove it, just consider the failure of the rating agencies). Second, they killed innovation and promoted financial and administrative profiteers who follow processes, instead of visionary people who make sound decisions. Changing more rules has been the main motto to avoid a new crisis. This may be necessary but is by no means sufficient if the value background remains unchanged.

The return to values has to precede the changing of rules

In reality, until now, too many rules have merely masked the generally accepted, yet ultimately flawed assumption that value creation has to be the criteria for development, and finance the criteria of value creation. Financial metrics are easy to implement, easy to monitor, easy to pilot. Reporting obligations, marked to market valuations as mentioned above, identical taxation for short- and long-term gains, stock option plans linking remuneration and share price, aggressive pension funds’ investments into stocks versus bonds, etc.—all these measures and rules should be modified to restore long-term strategic thinking, innovation, and investment. They should be reformed in order to restore sound economic and social development. And nothing will be achieved without those modifications because no actor in business or politics can act virtuously if the rules are against him. But this is not enough.

To be really efficient, we need to consider how to restore responsibility, competence, courage, prudence, justice, moderation as generally accepted principles. We need to speak up, to write, to take a stance on the fundamentals, so that the rules are designed to fit a virtuous circle. Obviously, we have to apply this to our own way of acting, whatever responsibility we have: as managers in respecting and forming our people and promoting the right people; as investors in asking for responsible ways to invest our funds, individually or through our pension funds; as business leaders, in respecting our clients, suppliers, employees, the environment; as politicians in serving the long-term interests of the people and the security between nations; as board members in putting the right business leaders in place; as religious leaders in speaking up and telling the truth, especially when nobody wants to listen. And then, to propose technical solutions to fit these accepted principles.

In short, serving should become a priority and the common good a recognised objective. Indeed we should stop serving only ourselves and ditch individual satisfaction as the main evaluation criterion. We all know that human weakness will never allow a perfect world. But to emphasise at least the right principles and virtues would help all people of goodwill to enable the world to become a better place. It would also reduce the risk of another impending financial and economic crisis. Changing the rules without addressing a fundamental change in values would leave the common good a second-class goal. It is because we try to stick to flawed principles that nothing has changed during the last five years.

Symmetrically, hoping for the best without taking practical measures will guarantee failure. So we definitively need both: a strong moral awakening and a global reflection on a regulatory environment enabling long-term development of the planet. Let us all advocate for replacement of accepted principles and at the same time request the implementation of proper changes in existing rules and regulations to discourage short-term thinking, encourage sound development (every person and the whole of each person) and minimise the enormous risks looming for the next generations.

Read the full text of the Working Paper here