The Ethics of Banking: Conclusions from the Financial Crisis (Issues ...

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Wager or Gambling: What Is Speculation? 121 Innovation is always a wager on a new product and a new production method. Given the special rewards for innovation, it is pointless to bet on an old favorite; only a successful wager on new consumer benefits from new products and technologies is worthwhile. Every innovation originates as a wager on the success of a new product or a new technology. We talk about business-changing bets when a firm puts its faith in a new technology or a new product, and hence on the future trend. 2 The wager is lost if the competitor’s counter-wager and counterstrategy proves more successful and more in tune with the trend. It is also possible for two strategies to emerge as viable paths, so that neither competitor is the sole victor. One strategy will nevertheless turn out to be the more successful wager, even if the other wager was not completely useless; it will still have contributed to the broadening of knowledge in technology and production. There are three types of wager: the productive, knowledge-increasing and hence value-adding wager; the unproductive wager; and the wager for the sake of entertainment or the chance-driven wager. These should be clearly differentiated. The Productive or Knowledge-Increasing Financial Wager Every attempt to discover new knowledge is a wager on a particular research and technological approach. A researcher whose work has nothing staked on the possible outcome will never be immersed in the research. In the domains of technology and production, as opposed to scientific research, the wagering element is further intensified because the aim is not just to discover laws that exist independently of the researcher, but to assess how viable a new product and its technology will be in the marketplace, and with consumers, whose reactions have little in common with scientific laws. The success-backing and thus business-transforming element of the wager on product and technology is unavoidable and necessary. Firms that are not prepared to enter into such wagers cannot bring forth any deep-seated and market-changing innovations. The productive or knowledge-increasing financial wager enlarges knowledge. Even a wager with a less successful outcome still contributes to the enlargement of methodological and technical knowledge. It is also a 2 Cf. MICHAEL V. COPELAND: “Intel’s secret plan. This giant box contains a super-hushhush project that promises to transform Intel’s business. Can the company inside millions of PCs find a way to power billions of phones and other gadgets?”, in: Fortune, 12May2009, http://money.cnn.com/2009/05/12/technology/copeland_intel.fortune/index.htm: “Intelhasmade company-changing bets before. Management seizes on a future trend, and the center of the company shifts. It happened in 1986, when then-CEO Andy Grove bet the future of Intel on the nascent PC and microprocessors. Several years later the company bet that speed would win the day, and in 1993 it unveiled another blockbuster, the Pentium chip, which helped desktop computers go mainstream. Otellini is entrusting his company’s current bet on small gadgets to a team led by Elenora Yoeli [...]: Build a chip compatible with Intel’s existing architecture, and make it consume onetenth the power of the latest Centrino chip. She started with a $1 billion budget and a metaphorical blank sheet of paper.”
122 9 Financial Wagers, Hyper-Speculation and Shareholder Primacy necessary part of an experimental process, in which even the less successful attempt yields a knowledge-enlarging effect. In the developmental wager, both wagering approaches are integral to the necessary development process and its costs. Value is always added, not only by successful wagers but also by the less successful ones. The Productive and the Unproductive Wager on Derivatives In the case of unproductive wagers, it is less clear how much value is added. The underlying wager generates no new knowledge. Therefore the loss of the wager represents a cost only. The writer who sells an option for hedging creates more certainty for the option buyer, for which the latter pays an option fee. If the conditions specified in the option contract occur, the buyer’s need for certainty is satisfied. The seller loses the wager, but keeps the option fee. Macro-economically, the risk is not reduced, just redistributed between option sellers and buyers. If the insured risk turns into an actual loss, the overall risk is not reduced by a gain in knowledge from the wager but only reapportioned between the option seller and the option buyer. The option seller bears the risk minus the option fee, which remains as the residual risk with the option buyer. It can be useful to redistribute risk in this way. The value that it adds is minimal, however. It becomes even more negligible if the risk is further divided up among other option buyers, without any reduction of risk on the macro-economic level through a modification of behavior or new knowledge. Further costs are the opportunity costs of time and attention to the option contracts. The added value of the option contracts is equally doubtful, because they represent costs that are not matched by any macro-economic risk-reduction resulting from this option trading. Furthermore, if the consequence of this trading is a reduction of riskmonitoring, because individuals are less concerned about risk, additional damage is occasioned in the allocative efficiency of the economy. This process of de-monitoring risk by trading derivatives becomes particularly visible in the case of collateralized debt obligations. When the bank wants to pass on the credit risk to the investor, packaged as a CDO, in order to increase its capitalization or ratio of equity to balance sheet total, both the bank and the investor transfer the monitoring function to the rating agency that issues the rating for the CDO. The rating agency does not, however, bear the risk of a mistaken rating; that remains with the investor. The rating agency has a minimal incentive to carry out due diligence, to fulfill the duty of care, while it is virtually impossible for the investor to do so, since he has no knowledge of the original debtor and has to rely on the assessments of the originator and the rating agency. It was also common for the bank to sell a securitized bond, a synthetic CDO, to another bank, from which it would go on to buy a similar synthetic CDO. This, of all practices, is most obviously motivated by the interest in reducing the equity to balance sheet total requirement. The transaction takes on attributes of self-dealing between the two banks. 3 3 Cf. also POSNER (2009), p. 321.
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THE ETHICS OF BANKING
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The Ethics of Banking Conclusions f
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Preface The crisis in the financial
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Introduction: Is the Finance Indust
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Introduction: Is the Finance Indust
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Contents Part I Foundations of Busi
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Contents xiii 6 The Ethical Economy
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Contents xv After the American Fina
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Part I Foundations of Business and
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Chapter 1 Ethical Economy, Economic
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The Justification of Ethical Duties
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The Justification of Ethical Duties
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Business Ethics and the Fiduciary D
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Part II The Ethical Economy and Fin
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Chapter 2 The Ethical Economy of th
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Purpose and Task of the Credit Mark
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Duties of Banks Arising from the Na
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Chapter 3 The Ethical Economy of th
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The Globalization of the Capital Ma
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Values and Valuations in the Capita
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Which Values Should Determine the A
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On the Ethics of Financial Consulti
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Tasks of the Capital Market and Dut
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Tasks of the Capital Market and Dut
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Speculation and Finance Ethics 45 S
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The Functions of Speculation in the
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The Functions of Speculation in the
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Chapter 4 Insider Knowledge and Ins
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Insider Trading as Pseudo-Speculati
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Statutory Provisions Against Inside
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The Abuse of Insider Knowledge as a
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The Abuse of Insider Knowledge as a
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Ethical Duties of the Investor 67 a
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Ethical Duties of the Investor 69 a
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Page 90 and 91: The Finance Ethics of Hostile and F
Page 92 and 93: Mergers and Acquisitions 75 On the
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Page 102 and 103: Futures and Options 85 They are str
Page 104 and 105: Variants of Derivatives 87 signific
Page 106 and 107: Variants of Derivatives 89 the law
Page 108 and 109: Variants of Derivatives 91 CDO synt
Page 110 and 111: Hedging and Speculation 93 insuranc
Page 112 and 113: Hedging and Speculation 95 average
Page 114 and 115: Chapter 7 Interdependences Between
Page 116 and 117: The Information and Influence Asymm
Page 118 and 119: Intangibility of Financial Products
Page 120 and 121: Intangibility of Financial Products
Page 122 and 123: Chapter 8 The “Banking Secret”,
Page 124 and 125: The Swiss “Banking Secret” 107
Page 130 and 131: Banking Secrecy, the Right to Priva
Page 132 and 133: Banking Secrecy, the Right to Priva
Page 134 and 135: Part III Financial Wagers, Hyper-Sp
Page 136 and 137: Chapter 9 Financial Wagers, Hyper-S
Page 140 and 141: Wager or Gambling: What Is Speculat
Page 150 and 151: The Principle of Shareholder Primac
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Page 166 and 167: Hyper-Incentivization and the Hubri
Page 172 and 173: Easy Credit and the Hubris of the C
Page 174 and 175: Easy Credit and the Hubris of the C
Page 176 and 177: Credit and Credo, Economic Success
Page 178 and 179: Credit and Credo, Economic Success
Page 180 and 181: The Financial Market Crisis as a Cr
Page 182 and 183: The Financial Market Crisis as a Cr
Page 184 and 185: From Big Bang Deregulation to Big B
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From Big Bang Deregulation to Big B
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After the American Financial Overst
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After the American Financial Overst
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The Failure of Economics and Manage
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The Outsourcing of Asset Management
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The Outsourcing of Asset Management
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The Financial Crisis - Systems Cris
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The Way Out of Financial Crises 189
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References ALBERT,H.:Marktsoziologi
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References 199 CASPARI, K.-B.: “D
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References 201 HALDANE, A,A.TURNER
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References 203 KOSLOWSKI, P.: Ethik
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References 205 MESSNER,J.:Das Natur
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References 207 SCHMID, N.: “Insid
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References 209 WEBER, M.:Die Börse
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Name Index Note: Page numbers in it
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Name Index 213 N Naughton, M. J., 1
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