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God, Greed & GamingGod, Greed & Gaming

God, Greed & Gaming

In God we trust. Capitalism? Ummm, these days not so much. Mark Carney, Roger Martin and Father Raymond J. de Souza on restoring faith in the financial world.

26 minute read

On May 3, 2013, at the Toronto Board of Trade in the heart of Canada's financial district, Convivium Editor-in-Chief Father Raymond J. de Souza joined Mark Carney, Governor of the Bank of Canada, and Roger Martin, dean of the University of Toronto's Rotman School of Management, for a Convivium forum on the fundamental threats that still beset global capitalism almost five years after the 2008 financial crisis. Each man app roached the issue from his speciality: theology, trust, and education. In the end, all agreed that renewal will rely much more on the transformation of hearts than the imposition of new rules and regulations. Their remarks are printed below.

Mark Carney:

Six years ago, the collapse of the global financial system triggered the worst global recession since the Great Depression.

Losing savings, jobs and houses has been devastating for many. Something else was lost—trust in major banking systems. This deepened the cost of the crisis and is restraining the pace of the recovery.

The real economy relies on the financial system. And the financial system depends on trust. Indeed, trust is embedded in the language of finance. The word credit is derived from the Latin, credere, which means "to have trust in." Too few banks outside of Canada can claim credit today. Bonds of trust between banks and their depositors, clients, investors and regulators have been shaken by the mismanagement of banks and, on occasion, the malfeasance of their employees.

Over the past year, questions of competence have been supplanted by questions of conduct. Several major foreign banks and their employees have been charged with criminal activity, including the manipulation of financial benchmarks, such as LIBOR, money laundering, unlawful foreclosure and the unauthorized use of client funds. These abuses have raised fundamental doubts about the core values of financial institutions.

The G20's comprehensive financial reforms will go a long way but will not be sufficient. Virtue cannot be regulated. Even the strongest supervision cannot guarantee good conduct. Essential will be the rediscovery of core values, and ultimately this is a question of individual responsibility.

Trust is strained at multiple levels.

Between banks and their shareholders: Most major banks outside Canada are now trading well below their book value, indicating shareholder concerns about a combination of the quality of bank assets and the value of their franchises.

Between banks and their debt holders: Bank credit ratings have been downgraded, and even the revised ratings reflect continued reliance on sovereign backstops.

Between banks and their supervisors: For too many institutions, concerns over competence, conduct and, ultimately, culture have fed supervisory concerns and built the political case for structural measures such as ring-fencing or prohibiting certain activities such as proprietary trading.

Between supervisors in advanced economies: Fearful that support from parent banks cannot be counted upon in times of global stress, some supervisors are moving to ensure that subsidiaries in their jurisdictions are resilient on a stand-alone basis. Measures to [isolate and protect] the capital and liquidity of local entities are being proposed. Left unchecked, these trends could substantially decrease the efficiency of the global financial system. In addition, a more balkanized system that concentrates risk within national borders would reduce systemic resilience globally.

Between emerging and advanced economies: Given that the crisis originated in the advanced economies, the incentives for emerging and developing economies to [isolate and protect] their financial systems are particularly pronounced. This has been, at times, supplemented by more active management of capital inflows, further fragmenting the global system.

Finally, and most fundamentally, there has been a significant loss of trust by the general public in the financial system. There is a growing suspicion of the benefits of financial deregulation and cross-border financial liberalization, a suspicion that could ultimately undermine support for free trade and open markets more generally. The costs are potentially enormous. A global system that is nationally fragmented will lead to less efficient intermediation of savings and a deep misallocation of capital. It could reverse the process of global economic integration that has supported growth and widespread poverty reduction over the last two decades.

Within economies, the hesitancy of firms to invest reflects, in part, low confidence that banks will be there to provide credit through the cycle.

Reduced trust in the financial system has increased the cost and lowered the availability of capital for non-financial firms. The massive response of central banks has provided some offset, but access to credit remains strained.

The G20's comprehensive financial reforms will go a long way to rebuild trust. The good news is that there has been progress, even if it is not yet fully reflected in market valuations or public attitudes. So what to do? A combination of institutional and individual initiatives—the "Five Cs"—is required.


Many people remember the pivotal moment when Lehman Brothers collapsed, but that was only one example of a widespread failure of banking models across the advanced economies.

That same year, major banks in the United States, the United Kingdom, Germany, France, Ireland, Switzerland, the Netherlands and Belgium either failed or were rescued by the State. Gallingly, on the eve of their collapse, every bank boasted of capital levels well in excess of the standards of the time.

So it should be no surprise when building a more resilient system [that] the first priority was to strengthen the bank capital regime. Through higher minimums, surcharges for systemically important banks, counter-cyclical buffers and tougher definitions of capital, the largest banks will have to hold at least seven times as much capital as before the crisis.

Canadian banks are setting the pace. Since withstanding the financial crisis, they have become considerably stronger. Their common equity capital has increased by 81 per cent, or $77 billion, and they already meet the new Basel III capital requirements six full years ahead of schedule.


Greater clarity, the second "C," is critical to wellfunctioning capital markets.

In the run-up to the crisis, financial institutions became increasingly opaque. Their balance sheets were stuffed with mark-to-model assets, massive undisclosed contingent exposures, and debt classified as regulatory capital. Annual reports ran over 400 pages in some cases, leaving investors exhausted but no better informed. One of the most important initiatives to improve clarity is the work of a private sector group, the Enhanced Disclosure Task Force, which was formed at the encouragement of the Financial Stability Board. It has made a series of recommendations to improve annual financial reporting by banks based on seven principles. Disclosures should be clear, comprehensive, relevant, consistent, comparable, and timely. Finally, annual reports should explain how risk is actually managed.

Once adopted, enhanced disclosure will contribute to effective market discipline, better access to funding and, importantly, improved market confidence in banks.


Perhaps the most fatal blow to public trust has been the perception of a heads-I-win-tails-you-lose finance. Bankers made enormous sums in the run-up to the crisis and were often well compensated after it hit. In turn, taxpayers picked up the tab for their failures. Thus, at the heart of financial reform must be measures that restore capitalism to the capitalists.

To that end, the Financial Stability Board (FSB) is enhancing the role of the market. The measures to improve clarity will enhance market discipline.

The development of effective resolution tools will also help diminish the moral hazard associated with "too big to fail." The FSB has identified those banks that are systemically important at the global level and developed a range of measures that, once implemented, will help to ensure that any financial institution can be resolved without severe disruption to the financial system and without exposing the taxpayer to the risk of loss.

The knowledge that this could happen should enhance market discipline of private creditors who previously enjoyed a free ride at the expense of taxpayers.

While solid progress has been made, it is not yet mission accomplished. In the coming months, jurisdictions need to articulate comprehensive plans to resolve each systemic institution. These should include effective cross-border agreements for handling a failure and a minimum amount of "bail-inable" liabilities and the publication of a presumptive path for resolution.

To take stock, the FSB will report to the G20 leaders at the St. Petersburg Summit on the extent to which "too big to fail" has been ended and, if not, what further steps are required.

Connecting with clients

Financial capitalism is not an end in itself but a means to promote investment, innovation, growth and prosperity. Banking is fundamentally about intermediation—connecting borrowers and savers in the real economy. Yet too many in finance saw it as the apex of economic activity.

In the run-up to the crisis, banking became more about banks connecting with other banks. Clients were replaced by counter-parties, and banking was increasingly transactional rather than relational.

These attitudes developed over years as new markets and instruments were created. The initial motivation was to meet the credit and hedging needs of clients in support of their business activities. However, over time, many of these innovations morphed into ways to amplify bets on financial outcomes.

An important example of a useful, but eventually misused, innovation is securitisation, which initially provided funding diversification for banks while spreading risk among investors with different loadbearing capacities.

However, in the run-up to the crisis, highly complex chains developed linking low-risk money market funds with high-risk structured investment vehicles (SIVs). Banks sold mortgages into the SIVs and many of the SIVs in turn wrote credit insurance contracts, often to the very banks that sponsored them, to "insure" the bank's proprietary credit positions.

These links with banks were simultaneously too weak and too strong. The shift of credit exposure from originating bank to the SIV eroded underwriting and monitoring standards. The further you separate borrower and creditor, the more you create anonymity of finance.

Similarly, the rapid expansion of banks into overthe- counter derivatives was initially motivated by the desire to provide hedges to their clients as end-users. These transactions eventually morphed into a mountain of intra-financial system claims, largely divorced from end-users, with banks and other financial entities trading among themselves.

As intra-financial sector claims grew, banks became increasingly detached from their ultimate clients in the real economy. In most professions, people see the "real" impact of their work: teachers witness the growth of their students; farmers, that of their crops. When bankers become disconnected from their ultimate clients in the real economy, they have no direct view of the impact of their work. The LIBOR-setter sees only the numbers on the screen as a game to be won, ignoring the consequences of his or her actions on mortgage holders or corporate borrowers.

Fortunately, there are some signs that global banks are returning to their roots. Complex securitisation chains have dissolved. Mechanistic reliance on credit ratings is declining. With higher capital requirements on trading activities (and the prospect of structural restrictions), traditional lending is looking more attractive.

But there arguably has not yet been a full recognition of the need for banks to return to what [TD Bank CEO] Ed Clark calls "old fashioned banking—activities that help grow their country and communities." To do this, some banks may need to reconsider their values.

Core values

The fifth "C"—core values—is the responsibility of the financial sector and its leaders. Their behaviour during the crisis demonstrated that many were not being guided by sound core values.

Many in the wake of the crisis looked first to how compensation affects behaviour. Indeed, an important lesson was that compensation schemes that delivered large bonuses for short-term returns encouraged individuals to take on too much long-term and tail risk. In short, the present was overvalued and the future heavily discounted.

To better align incentives with long-term interests of the firm and, more broadly, society, the Financial Stability Board developed Principles and Standards for Sound Compensation Practices. Core elements include deferred variable performance payments, paying bonuses in stock rather than cash, and introducing bonus clawbacks.

Of course, no compensation package can fully align the incentives of a bank's shareholders and its risktakers. Even if such a package could be devised, it would not internalize the impact of individual actions on systemic risks, including on trust in the banking system.

More fundamentally, to think that compensation arrangements can ensure virtue is to miss the point entirely. Integrity cannot be legislated, and it certainly cannot be bought. It must come from within.

Purely financial compensation ignores the nonpecuniary rewards to employment, such as the satisfaction received from helping a client or colleague succeed. When bankers become detached from endusers, their only reward is money, which is generally insufficient to guide socially useful behaviour.

Few regulators and virtually no bankers saw these limitations. Beliefs in efficient, self-equilibrating markets fed a reliance on market incentives that entered the realm of faith. As [American political philosopher] Michael Sandel has observed, we moved from a market economy toward a market society.

This reductionist view of the human condition is a poor foundation for ethical financial institutions needed to support long-term prosperity.

To help rebuild that foundation, bankers, like all of us, need to avoid compartmentalization or what the former chair of HSBC, Stephen Green, calls "the besetting sin of human beings." When we compartmentalize, we divide our life into different realms, each with its own set of rules. Home is distinct from work; ethics from law.

In the extreme, as Ed Clark observed, "Bank leaders created cultures around a simple principle: if it's legal and others are doing it, we should do it too if it makes money. It didn't matter if it was the right thing to do for the customer, community or country."

To restore trust in banks and in the broader financial system, global financial institutions need to rediscover their values.

For companies, this responsibility begins with their boards and senior management. They need to define clearly the purpose of their organizations and promote a culture of ethical business throughout them.

But a top-down approach is insufficient. Employees need a sense of broader purpose, grounded in strong connections to their clients and their communities. To move to a world that once again values the future, bankers need to see themselves as custodians of their institutions, improving them before passing them along to their successors.

It has been said "trust arrives on foot, but leaves in a Ferrari." After the Ferrari screeched out of the parking lot in 2008, what steps have been taken to rebuild trust?

There has been progress. As the new Basel capital rules are implemented and the reliance on ratings agencies diminishes, market infrastructure improves; and as banks—and, crucially, their investors—develop a better appreciation of their prospects for risk and return, business models are beginning to change.

Global banks have made significant progress in reforming their compensation practices so that rewards more closely match risk profiles. In addition, boards of directors and risk committees are taking more responsibility to ensure that remuneration packages and employee behaviour are aligned with updated institutional cultures.

Unfortunately, a spate of conduct scandals ranging from rigging LIBOR to money laundering has overshadowed these steady and material improvements.

This underscores that it remains the collective responsibility of banks, regulators and other stakeholders to rebuild trust in banking. Banks need to participate actively in reform, not fight it. Until recently, too few bankers acknowledged their industry's role in the fiasco. The time for remorse is far from over.

Ultimately, it will be down to individual bankers. Which tradition will they uphold? Will their professional values be distinct from their personal ones? What will they leave those who come after them?

—Mark Carney

Roger Martin:

In 2011, the New York Stock Exchange [NYSE] opened a new outpost in Mahwah, New Jersey, a bucolic township of 25,000 inhabitants about an hour's drive north of Wall Street. One reason for creating the facility was pretty standard. Trading technology infrastructure takes up a lot of space, so moving it from expensive Manhattan to low-cost Mahwah saves money for the exchange. But another reason for the move was more novel. The NYSE built the facility big enough to lease out space to third parties, deriving new revenue in addition to the cost savings. But who on earth would want to lease space in an NYSE facility in rural New Jersey? Turns out, finding takers wasn't a problem. In fact, trading firms were very eager for the opportunity. These firms understood that having their server in close proximity to NYSE servers would create a speed advantage; it would mean that trades from their co-located servers would reach the NYSE servers a few milliseconds faster than trades from servers not in the facility.

It was a nice money-maker for the NYSE because the rents are steep by rural New Jersey standards. But the NYSE immediately had a challenge: how would it allocate space within the facility? Some server bays were closer to the NYSE server and so had fractional time advantages over those that were farther away. Should the exchange auction off the real estate by location? Should the bay immediately beside the NYSE server cost five times the bay near the back door? Or should it be ten times? Any tiered pricing approach was likely to create an arms race within the building, which would be unseemly. No, the clever folks at the NYSE came up with a better solution. Regardless of where lessees were located within the facility, their servers would be connected to the NYSE servers with cables of equal length even if that meant coiling cables to inefficient lengths.

There would be no arms race within their facility! There is some fractured logic at work here. The NYSE obsessed about making sure that those who paid a special price for preferential placement in the trading queue were all equally advantaged and experienced profound fairness. But the exchange seemed utterly uninterested in a more profound unfairness—the fact that any trader not paying to rent space in the NYSE facility was distinctly disadvantaged.

Why does any of this matter? It matters because of the nature of modern trading. The bustling trading floor of popular imagination is no more. As much as 70 per cent of the trading on the NYSE is now high-frequency trading, in which a computer makes trading decisions based on miniscule arbitrage opportunities in market prices and shares are often held for fractions of a second. For this type of trading, getting your order to the front of the trading queue is not the most important thing—it is the only thing.

That is why Spread Networks invested hundreds of millions of dollars to build a fibre-optic link along the shortest route between the NYSE and the Chicago Board of Trade. The link cut transmission time to an estimated 13.3 milliseconds. But that is a proverbial slow boat to China compared to the two microwave networks under construction, which promise to cut the time to eight to nine milliseconds because microwave is more direct than fibre-optical cable.

Why does all of this infrastructure investment make economic sense? If traders using it can get their orders in a millisecond faster than the hoi polloi, they will have a proverbial licence to print money. Even a small technology advantage can translate into billions of dollars in trading profits.

It's all part of playing our emergent banking and capital markets game.

So, too, was the accounting approach Lehman Brothers used in the lead-up to its catastrophic crash and bankruptcy filing on September 15, 2008. Even though Lehman was getting into ever-deeper financial distress, its quarterly financial statements didn't look particularly bad. Lehman was able to camouflage its decline by using repurchase agreements, specifically the now-infamous Repo 105 vehicle. Repo 105 is a legitimate accounting technique that allows a firm to classify a short-term loan as a sale. Lehman used these repurchase agreements extensively. At the end of a quarter, Lehman would take out a massive short-term loan [as much as $50 billion in the second quarter of 2008], classify it as a sale, and use the loan to pay down its debt. So, its balance sheet looked just fine unless one scrutinized the footnotes very, very carefully.

After the quarterly statements were released, blessed both by Lehman's leading global audit firm and legal advisor, Lehman would repay the short-term loan and re-inflate its long-term debt. The public remained largely unaware of Lehman's precarious financial state and the methods it was using to stay afloat in the short-run. This was all perfectly legal—Lehman scrupulously followed the letter of the law regarding Repo 105. Lehman and its advisors were playing the game using all the tools available to them.

Co-located trading servers and Repo 105s: these are but two examples of gaming the modern capital markets game. I could give you so many more. In each case, the rules of the game were followed. There is no rule that says the NYSE can't rent out space in its facility and hard-wire traders directly to its servers. There are rules about Repo 105 transactions, and according to the finest auditors and lawyers on the planet, Lehman was following those rules.

So what is the concern then? The fundamental problem is that this kind of gaming threatens the underlying game. It makes the game unfair, unreliable and unsustainable. And, for all of us, that is deeply dangerous.

The underlying game here is business and it is a truly important game. Business is the game in which companies supply real and valued products or services to customers. Business is the game that generates value for customers, jobs for employees, and returns for investors. Done well, it creates net wealth and prosperity for society. The functioning of this game is central to the well-being and prosperity (or lack thereof) of every country on the planet.

Banking is a vital component of this game; in order to grow and thrive, companies need capital. So, for this game to work, two pillars must work in tandem: businesses and the banks that finance them.

Threats to either pillar threaten the game. The game is threatened if businesses, aided and abetted by prominent auditors and lawyers, hide mountains of debt from investors using obscure accounting provisions. It is threatened by unequal access, in which some firms have preferential and tangible speed advantages over others in the zero-sum game of stock trading.

These techniques may be profitable and enjoyable for the gamers—the high-frequency traders, the hedge funds—but they cannot exist without the underlying game. Yet, as these gamers parasitically feed off the game of business, they seem blissfully unaware that if they destroy the game, they will destroy themselves, too.

All games need rules, including economic games like trading, accounting and compensation. The prevailing view of our economic games seems to be, so long as we have rules and we enforce them, the game will be just fine. Gamers might manipulate the rules in their favour, but they won't damage the game in any meaningful ways.

But gaming isn't a stable phenomenon. It is a dynamic, self-reinforcing system. Clever innovators figure out an initial way to game the game. Then, everybody watching replicates that gambit, eliminating the initial advantage. So, the cleverest gamers realize that they have to take their gaming to the next level. This is eventually matched, which produces the next level of gaming, and so on. That is how we get a 70 per cent share for high-frequency trades and billions of dollars spent on ultra-highspeed trading networks; it is how we get not just the occasional repurchase agreement but also $50 billion of Repo 105s for a single company.

The more important the game, the more dedicated the gamers. The capital markets and banking have become by far the biggest economic game in the world. For that reason, the most motivated gamers are focusing on it—and succeeding. The biggest gamers in the world are the hedge fund managers, and they have quickly become the most potent economic force in America (at least).

The annual Forbes 400 list of the richest Americans is the chronicler of wealth in America. Historically, the most common way to get on the list was to build an oil and gas, retailing, media or real estate empire. In the 1990s, the new way was to have built a technology empire, like Bill Gates, Larry Ellison or Paul Allen. In 2000, these men held down spots one through three, respectively, and led the record 87 members of the list who had built their fortunes by way of a technology company. The media clan was next with 59 members.

But the 2000 list also heralded the arrival of a new kind of billionaire. These were hedge fund managers who made their fortunes in the trading game. Four hedge fund managers made the list that year. Since 2000, the rise of hedge funds has been nothing short of spectacular. There are 35 hedge fund managers on the 2012 list, closing in on technology empires, with 43 (down dramatically from the 2000 technology heydays). The growth in hedge fund managers was highest by far of any source of wealth.

Conventional wisdom says this is just fine, a small and natural evolution of the market. Yet shortly, the best way to become wealthy in America will be to trade other people's money. This is a zero-sum game in which a dollar made by a hedge fund manager is a dollar lost by someone else. Hedge funds exist to trade value rather than build it. A technology company creates value when it offers a new product that has sufficient value that customers pay more than it costs to produce. That is a positivesum game in which customers, the company and society are better off. A shift to trading rather than building as the best way to gain wealth is a profound change to the structure of our game.

Rules alone don't protect a game, even if they are rigorously enforced. A fixed set of rules won't stop the gamers from gaming, because the world changes and games evolve. A rigid adherence to a single, unchanging set of rules by some players simply offers more power to those inclined to game the game. Powerful players will use their opponents' rules to exploit them and not even overwhelming force will ever stop them. It is almost enough to make one give up on rules entirely. But a market free-for-all is clearly not the answer either.

No, the only solution is to accept that the game you love will always be gamed by the most dedicated, talented and ruthless gamers. Don't attempt to set, maintain and enforce the perfect set of rules. Rather, adjust them continuously to counteract the gaming. The key is not the rules themselves, but the principles that guide the continuous adjustment of the rules.

That is why we must continuously tweak the rules of the game to protect it against the forces that would destroy it.

But based on what principles? I don't propose to have the full answer. But to get the thinking started, I would offer three principles.

First, I believe that if we hold the principle that the customer comes first, we will be more likely to nurture healthier economic games that produce greater societal value.

In the capital markets, we have increasingly put investors first. It may seem at first blush that putting shareholder value first would be best for shareholders, but it isn't. Putting customers first is the best way for shareholders of an individual company to prosper.

In the long run, investors are best off when companies grow and succeed; that is what maximizes stock values. If we focus on making the stock markets work wonderfully for investors, rather than on helping companies raise equity, manage their operations and serve customers for the long term, investors will actually suffer. Artifacts like mandatory quarterly reporting and incredibly complicated and legalistic requirements for issuing treasury stock might seem sensible if not optimal if investors come first. But if instead issuers come first as the true customers of stock markets, I believe that we would be better off.

Second, we should hold as a principle that we seek sustainability. If instead, as was the case leading up to the financial crisis, the principle is that we should do whatever is doable until the music stops, we will get utterly unsustainable games (such as the subprime mortgage bubble) that crash spectacularly. Similarly, if companies believe that they needn't be concerned with environmental sustainability and aren't required by the capital markets to pay attention to it, company performance will only prosper until such time as the ecology collapses, taking business with it.

Third, we should hold the principle that we support positive-sum games and discourage zero-sum games. Unfortunately, a lot of the opposite goes on—as is the case with private equity taxation. As mentioned, hedge fund management is entirely a zero-sum game producing zero net value to society.

Yet, the "carried interest" that they earn as their fee for trading on behalf of the limited-partner investors is taxed at the highly preferential capital gains rate. This represents the use of the tax system to encourage rather than discourage a large and rapidly growing zero-sum game. Meanwhile, income earned by executives who build companies is taxed at the much higher ordinary income rate, which discourages the positive-sum game of growing a real company.

In the end, we must accept that banking and the capital markets will be gamed and because of that, we need to be prepared to continuously tweak the rules of the game to protect it. The rule tweaking must be guided by a set of principles because otherwise the tweaking won't be likely to maintain a productive and healthy game. The three principles that should guide our tweaking are: customers first, sustainability, and positive-sum games. With these principles in mind, democratic capitalism—which I believe is the surest and best route to broad prosperity—can survive and thrive.

—Roger Martin

Fr. Raymond J. de Souza

A banker, a professor and a priest walk into a bar.... It's not even a joke. It's just that I got about two dozen emails that had that in one form or the other when people saw the agenda. But I'm very grateful to the Governor of the Bank of Canada, Mark Carney, and to Professor Martin of the Rotman School for participating in what is an unusual encounter, but an unusual encounter, I think, in response to unusual circumstances.

I'm delighted [by] our Convivium magazine discussion of banking, trust and the culture of capitalism. When we founded Convivium magazine just about a year and a half ago, it was in order to explore the role, the place of faith in our common life, and a very large part of our common life has been taken up with commerce. Economic activity is not separate from the world of ethics and philosophy, morality and faith, even if sometimes it might seem that way.

I teach an honours-level seminar at Queen's University in the Department of Economics on philosophy and economics, and my students regularly say that understanding economics in the broader context— this broader context of philosophy, ethics, morality, faith—makes the discipline more interesting and more relevant, not less so.

One of the lessons of the financial crisis, proposed by Mr. Carney in his address, is that when economics as a whole, and finance in particular, separates itself from this grounding in ethics and virtue, it becomes a loose cannon on deck: still powerful but capable of great self-destruction.

I tell my students that economics is best understood as the science of human freedom, which is not the usual definition of it. Economists study human choices in an attempt to understand how they are made in response to scarce resources, opportunity costs, and the various incentives.

An intellectual tradition most concerned directly with human choices is moral philosophy. Economics, for those of you who are familiar with the discipline, has its roots in precisely moral philosophy. The 18th century Scot economists were moral philosophers, really. If I read the Governor's speech correctly, he thinks the danger is when economic activity is separate from those roots.

Already in 1995, Francis Fukuyama wrote a book simply called Trust. The subtitle was The Social Virtues and the Creation of Prosperity. It's a big book, but the title actually sums up the whole argument, which is good, that prosperity is related to virtue— both individual and social.

In terms of rebuilding trust in global banking, the title of [Mr. Carney's] speech, he makes the same claim, I would argue, now buttressed by the negative contrary example of the financial crisis. In fact, as he said just a few moments ago, virtue cannot be regulated. More than mastering options, pricing, company evaluation or accounting, living the right values will be the most important challenge in this reform.

The Governor framed his proposals for reform in terms of five Cs. I would suggest that those five Cs, Carney's Five Cs, you might say, have other names. They're somewhat lacking in alliteration to give them other names, but they do have the benefit of a much longer history. What is capital in terms of higher reserve requirements but prudence? What is clarity if not honesty that is seeking to inform rather than obscure in your reporting? What is the proper discipline of capitalism if not justice, that those who fail suffer the consequences of failure? What is connecting with clients if not being at the service of others?

In moral philosophy, we call these virtues, good habits. Specifically, they would fall under what are called the Cardinal Virtues, cardinal because everything else hangs on them.

The critical question, then, is how do we persuade economic actors, especially, for example, in finance, to act in this way? It is not enough to fall back on the standard economist answer, which is that virtuous behaviour reduces transaction costs. It is the usual explanation of why things like morality and religion are useful, because they reduce transaction costs and therefore make efficient trading easier. That is largely the argument, for example, in Francis Fukuyama's book Trust. Not entirely, but largely.

What we learned in the financial crisis was that the argument thought to be valid and descriptive, accurately descriptive for so long, was that many actors, including powerful ones, knew that what they were doing would mean a great cost would have to be paid. They knew that, but they thought that someone else would get stuck with it. It wasn't that they were unaware these transaction costs were coming but that someone else would have to pay them.

The Governor says, more fundamentally, to think that compensation arrangements can ensure virtue is to miss the point entirely. Integrity cannot be legislated and it certainly cannot be bought. It must come from within. But from within what? If regulation is insufficient, we must rely on the men and women of finance to regulate themselves. It's the Governor's argument about individual responsibility. They must do it from within.

But one might ask, then, what about those core values? If they must do it from within by their necessary core values, what is, in fact, at the core? The great theologian of the free society and free economy, Michael Novak, who is now in retirement —I recommend his works—taught us that the free market does what it does extremely well. It creates wealth, allocates resources etc., but it does not do metaphysics. That is to say, it does not provide from within itself a logic for the virtues that it actually requires to operate efficiently.

Those have to come from without, from outside of the market, from the realm of ethics, or for many people, faith. As Novak used to put it, the altar of the free market is empty. That is, the market is not supposed to provide us with a god or even with a meaning for life, but if there is no god somewhere else that provides those things then the market can easily be turned into a god itself, to catastrophic effect.

Transactions, financial or otherwise, are merely instrumental. An exchange of money can be conducted efficiently or not, quickly or not, securely or not, but that does not tell us anything about the moral quality of that transaction. Is it a bribe? Is it theft? Is it just payment for goods and services? Or is it exploitation? Mere skill in executing the transaction cannot answer that question. What the Governor argues must come from within, meaning individual conscience, must be formed from without, by the great moral tradition of which faith is an inescapable part.

Professor Martin calls this great moral tradition the "civil foundation," at least I interpreted him to say that in his book Fixing the Game: Bubbles, Crashes, and What Capitalism Can Learn from the NFL. I'm the football chaplain at Queen's University, so it got my attention.

The civil foundation, I would say the great moral tradition—I think it's referring to the same thing— Professor Martin defines as "the shared customs and norms to which members of society are expected to adhere." He continues, "As major actors in modern society, companies can have a negative, neutral or positive impact on the evolution of the civil foundation. The people who run these companies have a choice: they can chip away at the bricks of the civil foundation; they can benefit from the existing foundation and not contribute to it; or they can work to add bricks and to strengthen the robustness of the foundation."

It's about the choice that individuals make, the science of human freedom. No culture, I would argue, has developed a robust civil foundation without that heritage of moral philosophy, usually informed by the data of faith. If the task of financial reform is about virtue, which is about habitually making good moral choices, then it will be a project for which the resources of the entire culture, not just the market or the world of finance, will be required, including the resources of faith. The reform of the financial dimension of our economy is too important a task to be undertaken with inadequate tools.

I've written, in a few columns over the last few years, about the Governor himself and about the financial crisis, and in making those comments, I've sometimes said, only half-joking, that the Governor of the Bank of Canada has become something of a preacher, talking about virtue and moral reform. I even once suggested that the Bank of Canada perhaps could use the services of a chaplain, but that hint did not have its desired effect, and now it's too late.

As we bid you farewell, Governor Carney, should you find the task [of overseeing the Bank of England] to be staggering, perhaps even overwhelming, I encourage you to use the full resources that are at your disposal and the culture's disposal.

Perhaps when you get to England, you can hire a chaplain. Godspeed.

—Fr. Raymond J.de Souza

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