Getting down to governance

04 January, 2021Ouida Taaffe

Clear light bulb with small green shoot insideFinancial services firms exist to manage risk, but managing risk isn’t just about how firms deal with their assets in the market. It’s also about sustainability, the right internal governance and, ultimately, their role in society.

Risk in financial markets comes in many forms. Banks, for example, can have borrowers who default on their loans, and insurers can be faced with ‘black swan’ events. But risks can also be internal.

Barings Bank, for instance, was closed 25 years ago because its internal controls were inadequate. The 200-year-old bank found that the derivatives trades it was exposed to were neither risk-free nor highly profitable.

The way to try to protect firms against such losses is to have good governance.

Good governance is a commercial imperative

“Firms that are well-governed tend not to lose money or go bust, in the same way as those that are not well-governed,” says Dr Paul Fisher, a Visiting Professor at the London Institute of Banking & Finance, now at the Cambridge Institute for Sustainability Leadership, and a former Deputy Head of the Prudential Regulation Authority (PRA).

In his two years at the PRA, Dr Fisher says, one of the main things he learned was just how much time a prudential regulator spends on governance.

“Not on capital and liquidity rules, which I thought was going to be the job, but getting the boards of major banks and insurance companies to work properly.”

Fisher says there were “all sorts of issues”. They included financial firms choosing board members because they would “just sit there and decorate the board”.

He also encountered major retail banks that had no one on the board who understood the banking industry and could challenge directions from senior management.

One problem that continually surprises him, is “the arrangements that allow the future of large, established mature companies to be dependent on the whim of one, egotistical chief executive”.

Governance remains, he says, a big issue at the very top in the financial sector and “it’s not going to go away”.

Governance cuts across everything

Fisher points out that, though environmental, social and governance (ESG) issues are all extremely important to firms, governance is “completely different from environmental and social because it cuts across everything.”

It isn’t even necessarily linked to environmental and social responsibility.

Putting in place the right governance is, however, fundamental to solving “both social and environmental challenges”. Part of the right approach is not confusing the needs of a small firm with those of a mature company.

 “There is much more individual leadership in a small growing company,” Fisher says. “A mature firm will have much more of a consensus model.”

Society will demand good governance

Fisher expects firms to need excellent governance going forward for many reasons. One is the continual change that he anticipates.

“We’re going to need a lot of it going forward to meet both social and environmental challenges,” he says. “We must get used to change and encourage it.”

Another imperative for good governance is that it boosts employee loyalty.

“If you don’t look after your employees, you won’t have loyal employees,” says Fisher. But he says it’s also important to have loyal customers.

“If, for example, you employ child labour abroad at some point, you will be spotted and outed… Suffering the consequences of bad social practices will increasingly be the norm.”  

Dr Fisher was speaking on a CSFI webinar – “ESG isn't all about the Environment: Putting the S&G back into ESG,” together with Mark Goyder, of Tomorrow's Company, and Lionel Taylor of the Trade Advisory Network.

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