Some assumptions are just wrong

If I were Sir Fred Goodwin, I would be spending some of my considerable wealth on bodyguards. Sir Fred took the Royal Bank of Scotland, a 300-year-old institution, and drove it into the ground. The British people are the lucky new owners of the bank, which lost £34.2 billion, the largest loss in British corporate history.

The British citizens are up in arms over a huge pension given Sir Fred. He told his fellow citizens to bug off when then questioned about the deal, but the ultimate outcome is still up in the air. On this side of the pond we have our own financial wizards who made out like bandits, so it is not the pension that interests me. It is the high esteem in which Sir Fred was held until it all came apart that I find fascinating.

Sir Fred Goodwin was named “Businessman of the Year” by Forbes magazine in 2002 and “European Banker of the Year” in 2003. Knighted by the Queen for his services to the banking industry, he was No. 1 in Scotland on Sunday’s power 100 from 2003-2006. As recently as 2008 he was given an honorary fellowship by the London Business School. The problems we are having do not originate with crooks like Bernie Madoff, as bad as that is. The problems stem from business practices that were fully approved of by all the important people running the financial system worldwide.

Sir Fred was regarded as ruthless and arrogant. He quadrupled the size of the Royal Bank of Scotland by buying up other banks. What is the difference between the assumptions you and I make and the assumptions Wall Street and the international business community were making?

If you or I owned a hardware store, we would not assume we had to buy or create more hardware stores in order to be in business. We might want to start another store, or we might not, but we would not assume that it was necessary. Not so with corporations. In order for people to have confidence in you and buy your stock, you had to grow. Wal-Mart could never say that having put a store in every town in America, it didn’t need any more stores. It had to keep growing. So did Circuit City. Grow here or grow in other countries, but you must grow. Why would the Royal Bank of Scotland be a better bank if it was four times bigger?

If you or I owned a hardware store, we would not assume that we absolutely had to have a certain profit margin and that our profits ought to increase year after year. We would know we had to make a profit. We would assume that some years would be better than others. Publicly held companies were under tremendous pressure to not only get bigger but to increase profits constantly. Those standards pushed them to do things that were, in the long run, disastrous.

People owning businesses that were not dependent on Wall Street, businesses that were privately held, could run them any way they liked, but people running banks and publicly held corporations were chosen precisely because they thought like Sir Fred Goodwin. People who didn’t believe in capitalism on steroids were never chosen to be CEOs. Banks that tried to do banking differently were under tremendous pressure to knuckle under to the Sir Freds of the world. In fact, they were ripe for takeovers by institutions like the Royal Bank of Scotland because such a takeover enriched stockholders, at least until it all came tumbling down.

For decades the financial system has been operated on principles that are not sound and assumptions about the nature of reality that are not true. The sub-prime mortgage crisis is not the cause of this situation; it is a symptom. Alan Greenspan is the only person I have seen who has admitted, partially, that some of the assumptions he made were wrong. I would love to see similar admissions from America’s business schools who educated this generation of Masters of the Universe and from the business media who adored them. I suspect I will not live that long.

Patricia Hunt, of Staunton, is a chaplain at Mary Baldwin College.