Only a new emphasis on ethics can restore confidence in the system
by Evelyn de Rothschild
Capitalism, or at least the corporate personalities and structures that define it for most of us, may be under threat from itself. The collapses of businesses in the US and Europe in a cloud of alleged fraud have shaken confidence in the financial system. People who normally pay little attention to international capital flows may have the feeling that their savings and pensions are suddenly at risk.
For financial services to survive in anything like their present order, we have to restore public confidence. Not only must we clean out the infected parts; we must also prevent the re-invasion of the regulators. The solution must come from inside corporate boardrooms. To preserve the public benefits of capitalism, private reform is the curative, not more public oversight. A restoration of ethics to the top of the priority list in the management of financial services may still be able to save the industry from itself.
In spite of its recently tarnished image, capitalism most certainly does have a public purpose. Finance has built nations, constructed railways, bridges, motorways and harbours, paid for social services, education and defence. When financial services fail to work, through criminal activity or over-regulation, social disruption can quickly follow.
Some recent cases of market abuse involved skimming off small amounts from many accounts. Even when the sums amounted in total to many millions, the frauds were tiny compared with the size of the market as a whole, so it was easy to argue that no one had been hurt. In the case of Parmalat, however, the city of Parma suffered immediate financial damage. Without assistance from the national government, the sudden collapse of such a dominant local business could have disrupted the entire regional economy.
An even greater threat - self-generated - now hangs over Berlin. By the end of 2003 the city's debt was €50bn and is expected to grow to over €67bn by 2007. Such a burden may become unmanageable without a government infusion. This could have an important effect not only on the future of the city, but also on the German economy. Remember how long it took New York to regain its stability after its debt crisis in the 1970s.
Local people suffer not only from job losses but from the collapse of the housing market, the disruption of council services and new demands on health systems. So spreading the pain may keep most of us from noticing, but in some cases the wound goes so deep it becomes impossible to deny its seriousness for society as a whole.
Regulation can provide some protection against abuse, but it succeeds only when it plays a supervisory role rather than trespassing into management. Legal strictures must be succinct to be effective. Lawyers and public regulators do not have the skills to run financial service organisations.
The world of financial services is fluid. Widespread use of the internet is only 10 years old. Before that, we had the introduction of credit cards, market-based pension funds, the multiplicity of mortgage types and with-profits policies. And that is only on the consumer side.
Governments have learned to use a variety of exotic mechanisms to help finance infrastructure projects, public services and pension funds.
With all the wrongdoing in the financial markets over the past year or two, it is worth wondering whether this is a period of temporary disruption, a new step in the evolution of the markets, or the end of capitalism. Even in areas of the world where it is most heavily criticised, capitalism is proving to be a robust and effective manner of market operation. If there is only a disruption, we should see the markets settle down into a renewed period of integrity and constructive growth. On the other hand, if a new species has in fact evolved, we may face new forms of abuse as unethical operators learn to manipulate the system.
New misdeeds could seriously disrupt our systems. That would bring even more cooperation between financial institutions and national governments. But this is not the end of capitalism.