Thursday, 23 January 2014

The lessons of government and business targets

Old sayings like "If you can't measure it, you can't manage it" are not always strictly true but it is true that, without either direct or indirect measurement, it is hard to know whether the actions you are taking are actually working. This is why governments and business are so keen to set targets. But, as soon as you do so, you modify the behaviour of the people who must meet the targets. We read stories about the British National Health Service where patients are denied formal appointments in order to keep them off the waiting lists, or they are given pre-appointments with the same objective. This is because government has set targets for the length of waiting lists and the maximum time until a patient is seen or treated. If they are not formally on the list then they do not contribute to the statistics. And if those statistics are examined to determine the funding of an organisation or the remuneration of an individual then there are powerful incentives to make them say what is required.

A recent report showed that police forces in the UK are routinely misreporting crime data by redefining classes of crimes so that, often, what we think is a crime turns out not to be. Of course once targets affect this behaviour there is a knock-on effect on public behaviour since they stop reporting crimes to a police force that does nothing about them...what's the point? I have a recent personal experience arising from credit card fraud perpetrated against a business: what is the point in reporting the fraud to a non-police agency when there appears to be no action resulting from this: no attempt to catch the fraudster? That, in turn, has a corrosive effect on general public confidence in the police.

But let us not imagine that targets only change behaviour in the public sector. Try creating a fair and effective bonus scheme for a salesforce! Make it a monthly target and sales from months either side mysteriously move into one month in the middle. And what about off-balance sheet financing? The use of leasing and similar instruments in business is often used to make it look as if the organisation has a lower debt level than it really has. Whilst the debt level is usually not a formal target, though lenders may make it one, there are generally accepted unofficial targets set by bank and stock market analysts - so an incentive exists to adjust the published figures.

We must not despair - there is a way of both setting targets to guide behaviour whilst also protecting against unintended consequences. But that way is expensive and requires continual evolution to match the evolving ducking and diving of those who try to cheat. There must be an audit function that checks the reported figures and there must also be punishment for those who cheat. Unfortunately that punishment rarely exists in the public sector. False police statistics came to public attention because a young police officer testified to a committee of MP's but instead of being a national hero he is currently on a disciplinary charge and there is little chance that those MP's will step in to help him. It seldom works out well for whistleblowers. Fortunately there remain people who answer to moral outrage which makes them speak out against things that are plain wrong, regardless of the consequences for themselves. We should be grateful.

Sunday, 15 December 2013

Plebgate and why Good Governance is about Trust

It has been some time since I wrote a blog on this site. This is because I can see problems but so seldom do I see their solutions and, after a while, I despair of just writing about failure. Nonetheless, I think the issue of trust is so important that it deserves an airing.

Forgive me for quoting background liberally from Wikipedia but I can't set out the critical facts any better;

The "Plebgate" scandal in the United Kingdom concerns an altercation between Conservative MP Andrew Mitchell, the former Government Chief Whip, and the police, which took place in September 2012. It gained notoriety initially for his alleged conduct and again, two months later when, subsequent to his resignation, CCTV and other evidence was revealed which appeared to call into question some of the evidence against him.
Leaked police logs, later backed up by eyewitness evidence, had suggested that Mitchell swore at police officers on duty at Downing Street and called them "plebs" (a pejorative word signifying someone of low social class) when they refused to open the main gate for him as he attempted to leave with his bicycle. Mitchell apologised but denied using the words claimed and in particular calling officers "plebs". However, finding his position untenable amid the media storm, he resigned from office.
The story returned to the headlines again in December 2012, when CCTV footage was released which threw into doubt the police version of events and it was revealed that an email purporting to be from a member of the public, which had backed up the accounts given in the police log, was actually sent by a serving police officer who had not been present.

The affair was revisited again in October 2013, after a report from the Independent Police Complaints Commission concluded three officers who met Mitchell at his constituency office, supposedly to clear the air, had given a false account of what was said while the findings of a subsequent investigation had been changed at the eleventh hour to recommend no disciplinary action be taken against them. This report prompted both Home Secretary Theresa May and Prime Minister David Cameron to criticise the conduct of the officers involved and bemoan the lack of disciplinary action.

The issues in this case are wide ranging and build on previous highly publicised instances of unreliable police evidence and subsequent cover up by senior officers. Why does it matter? Well, clearly, if a senior government minister can be brought down by an apparent conspiracy of lies then who is safe? But more important is the issue of trust. Our entire criminal justice system is built on believing what police say. If they not only lie but also engage in conspiracy and cover up then the whole edifice crumbles. Over twenty years ago I sat on a jury which was unable to reach a conclusion because one member would not trust the police version of events. I was horrified. If you don't believe the police evidence then where does that leave us? How can we convict the bad people in society?

I realise I am taking a step away, but the same principles arise in all aspects of society and including business organisations. So when local councils in the UK earn huge incomes from parking fines and fees but  claim they are engaged in improving traffic flow and not in income generation then that damages our entire democracy because we all know they are lying. When business leaders earn eye watering sums of money, often from failure, then that erodes the trust of their work colleagues who are less empowered to eat at the trough. The consequences matter: staff motivation is reduced and honesty suffers at all levels. Why not manipulate reported figures to boost bonuses if the bosses are helping themselves? Why not use company assets for personal use if the bosses also appropriate such assets? Why be the only one who is honest? Why not take the odd back-hander?

Indeed, remuneration committees and non-executive directors bear heavy responsibilities.

Saturday, 2 March 2013

Is Boris right to oppose an EU cap on bank bonuses?

My usual liberal instincts tell me that governments have no place in micro-managing markets: that what companies choose to pay their staff is no business of either politicians or bureaucrats in a democratic society. Such interference is the hallmark of tyrannies and, practically, has been shown not to work very well in the log run, leading to a misallocation of resources and economic activity. Even more to the point, in a world where the residence of individuals and companies can be changed virtually at the flick of a switch, it is a quixotic gesture. Either the individuals the regulations are aimed at will suddenly be employed offshore, or corporate structures will be devised that enable them to stay in situ but to be paid offshore, or the jobs will move to other people in other jurisdictions where the dirigistes hold no sway. As Boris Johnson has identified, the effect on the individuals' earnings is likely to be small but the damage to the business of the City of London, and to the EU economy, may be large.

On the other can see their point...the interferers, the micromanagers, the bureaucrats the very indirectly elected politicians. They say that such large bonuses encourage individuals to take huge risks with other people's money. When the individuals who may receive the bonuses work for very large banks then the 'other people's money' is the public purse because a big risk that goes wrong must be covered by government intervention to prevent the collapse of the banking system. So the risk takers may not even be risking their jobs. When these risks are so large as to threaten the economic system then, the dirigistes argue, government must act to contain these risks. One way of doing so is to limit the incentives to take risk. Further, they may argue, the normal mechanisms of shareholder oversight of these financial institutions has failed. It has done so for two reasons; either shareholdings are so thinly spread that none has the power to influence or the institutional shareholders themselves employ large bonus schemes and are therefore part of the problem.

But then...oh how I wish for a third hand...voluntary codes of conduct have been put in place in the City of London that restrict the way bonuses are paid, spreading them over several years to try to limit the incentive to boost short-term profits at the cost of taking big long-term risks. Why can't such methods be extended to more individuals and permanent working parties be established, on a voluntary basis, to find ways to limit incentives that encourage bad behaviours? Are we sure that such voluntary mechanisms don't work?

I think, on balance, we the public need more information before we could possibly make an informed decision. And that is a big issue with these and other EU proposals: the democratic deficit of EU institutions. These matters are not debated and publicised in the public domain. Regulation within the EU is something that is done to us rather than something we can feel we participate in. That is why, in the end, the liberal in me revolts at EU regulation and supports Boris's protest

Wednesday, 30 January 2013

Banking scandals, corporate memory and incentives

I have not blogged here for some time, which is not because I have tired of the subject. Many people would yawn at the mere thought of corporate governance but it holds a fascination just because it is actually not some arcane discipline beloved by crusty academics and dull accountants: it is about everyday life. It is about "why do people behave like that and what can be done?". My slowing blog writing arises from my failure in the realm of answers. I find I keep coming back to words like integrity rather than being able to suggest smart procedures that will solve our problems.

And what a host of problems we have. As an example, it is hard to open a newspaper without reading about legal actions by regulators and law enforcement authorities against banks in America, many of them British. There is the Libor scandal that encompasses many of them, accusations of helping drug lords to launder their ill gotten gains, accusations of helping countries evade UN and US imposed sanctions. In the UK there is the massive scandal of miss-sold loan protection insurance. You may want to click across and look at Forbes list of scandals...

I am not just picking on banks but they happen to provide such good examples. The question is, why do these things keep happening? What is it about the structure of these organizations or the incentives they offer (which is surely much the same thing) that makes it keep happening? It is not as though such behaviour is good for the these organizations. If you look at the size of some of the fines and settlements then you must conclude that their size swamps any gains. You may argue that there are lots of such scams that do not come to light but I am rather inclined to think that, eventually, most of them do and then again, there is the size of the penalties: HSBC, for example, recently settled for $1.9bn.

Then Daniel Finklestein, writing in the Times, discussed the private interests of public servants. In doing so he evoked the 'Mandy Rice Davis principle'.

It was June 30, 1963, and the second day of the trial of the osteopath Stephen Ward, charged with living off immoral earnings while Miss Rice-Davies was his tenant. The dancer was asked about her claim to have slept with Lord Astor.
Do you know, asked Ward’s defence lawyer, that Lord Astor has denied these allegations of yours? And Miss Rice-Davies gave her immortal reply: “He would, wouldn’t he.”
He would, wouldn’t he. The Rice-Davies principle. Much (most?) of what people say and do in politics and in life can be most readily understood by appreciating their incentives, by understanding what they have to gain or lose.
He went on to mention the work of economist James Buchanan in researching such incentives in the public realm.

Finally, to complete my parcel of evidence, came a private conversation with a friend that ranged over these banking scandals and touched on the work of a mutual friend, Arnold Kransdorff, who writes about corporate memory and the perils of losing those memories. My friend then observed that there is nobody left in any senior position in the City of London who remembers the pre-Big Bang world. And there you have it.....

In those old, forgotten days, incentives were lower (still high but not so high) and an individual's reputation for integrity mattered - if you were rumoured to be a bit shifty then you were shunned and struggled to do business with or work for a City firm. What has happened since 'Big Bang' is that the rewards for success have grown so dramatically that they have overwhelmed the role of integrity as a restraint and have made it far more worthwhile to take the risk of being caught doing wrong.

The answer...? It comes from the top. First of all, the top team must talk about values and set an example and must live the talk. Too often the prime wrongdoers are the guys at the top. When they are seen to take outrageous rewards then you can hardly expect the little guys not to try to feather their nests too. But assuming a good example is set from the top and that they talk about values, promote values and reward values then they must also punish wrongdoers - when they get away with it then that encourages others to cheat. Secondly, rewards and incentives must be reduced to reduce the incentive to cheat. It is hard to do, seems to go against liberal economic sense but in the long run these incentives are not sensible because they encourage behaviours that have a massive long-term cost when you all get caught. Some of this is discussed in a book, The Value of Talent (due to be updated next year).

Thursday, 20 December 2012

What 'Plebgate' has to tell us about trust

For non-UK readers 'Plebgate' may hover between insignificance and mystery. It is the news story that a British government minister was pressured to resign his post as a result of abusing two police officers who were on security duty in the street outside the prime minister's office. It appears they declined to open the gates for him and insisted he wheel his bicycle (yes, really, some British government ministers are not grand while others make a public appearance of not being grand), at which point he lost his temper. It was alleged that he called them 'plebs', a short form of the latin word 'plebian' that implies a belief in his higher social standing.

Police reports were leaked and an enormous public fuss exploded in the national press and continued for days. It was all made worse by the minister, Andrew Mitchell, sticking firmly to the formula that he had not used the words attributed to him but refusing to say exactly which words he had not said. This raised suspicions that he was trying to muddy the waters having used the 'pleb' word but not used other words; or that he may not have used the 'pleb' word but had used other, equally uncivil language.

Anyway, what has this to do with governance?

It is actually all about trust. Our society is built on trust...does not function properly without it. That is the main reason why corruption is such a problem - the economic misallocation of resources is bad but corrosion of trust is far worse. Business depends on trust: you can't spend all your time in law courts getting redress from people who have tried to cheat you. So when it now turns out that police officers leaked the details of the original exchange and the ensuing investigation; and then allegedly went on to embellish the facts: that undermines civil trust.

Years ago I was a juror in a trial for possession of a knife as an offensive weapon. The defendant claimed in court that it was a tool he used for wire stripping but the policeman who had arrested him said that he had admitted it was for self defence. Eleven jurors found the man guilty but one found him not guilty and would not budge. She did not trust the police, so a man who was clearly guilty escaped justice (believe me, one look at the knife was enough to know its purpose). In much the same way, because trust in some aspects of the evidence is undermined, Andrew Mitchell looks likely to be allowed to return to front line politics despite having admitted that he behaved in an undignified and ungentlemanly manner (my words here). This trivial affair will result in the institution of policing being damaged - maybe other guilty people will escape justice because jurors don't believe police evidence - and engagement with civil society will be damaged as some potential voters think all politicians are smarmy liars who secretly despise them.

Tuesday, 4 December 2012

The Starbucks Tax Scandal

Poor Starbucks. They seem to have been informally voted the leading corporate tax dodger in the UK by that independent, impartial and totally just tribunal: the press. Admittedly other US based corporations such as Amazon, Google and Apple have been held up to opprobrium too for contriving to shift taxable profits out of the UK, but Starbucks seems to have been awarded the crown.

Now there is a good point of public interest in this story. Clearly it is a sound argument that, if UK companies are unable to shift their taxable profits from the UK whilst foreign competitors can, then they will be at an economic disadvantage. Clearly, also, it would be madness for UK public policy to allow this to continue. But where does responsibility lie? When I started writing I intended to observe that there is an old maxim that nobody is obliged to arrange their affairs in a way that renders them liable to tax. I intended to qualify that by observing that people may not, however, arrange their fairs to flout the law. But that principle has  been taken further and legislation was introduced years ago in the UK to make arrangements whose sole purpose is to avoid tax unlawful. In more recent times a new constraint has been developed, that of public opinion. As ideas of corporate (and personal) social responsibility have developed, so pressures have grown on those who seek to avoid paying tax.

 I do wonder whether this is not, at least a bit, unfair. Is this not a scandal relating to the ineptitude of the tax authorities as much as anything else? Why do they allow companies to charge UK businesses fees from corporations they own abroad that drain away all their taxable profits? It is, after all, pretty clear that the businesses that stand stark naked (of profit) before them are, in fact, successful businesses that are playing the system. If they are allowed to get away with it then they will obviously all pile in. Whilst it is useful that journalists have revealed this scandal, the most appropriate outcome would be if it embarrassed the tax authorities into taking actions they should have taken years ago to limit these fees from connected companies that are allowable deductions against tax bills!

I don't say that the corporations or the individuals who have been a previous target of investigative journalism are simply freed of responsibility and can place all blame on governments that let them get away with it. It may be stretching a simile, but that is rather like a thief blaming his misdeeds on the householder who leaves a window open. There is a responsibility to be a good citizen and the public may take revenge if you are not.

Monday, 13 August 2012

Rodial and the governance responsibilities of newspapers

Newspapers have special governance responsibilities. There has been much reported on corrupt practices of British newspapers in paying public officials for information that informs news stories and also on an apparently widespread historic practice of hacking into people's voicemail to gain information for reporting. It is worthwhile pointing out, in passing, that while those journalists implicated were acting improperly their motivation was, generally, to investigate news stories that were of public interest.

There is another area where the news media has responsibilities that has, so far, received less attention. I recently spotted a very peculiar article that illustrates this, in the Sunday Times (Kiki Loizou, "How I Made It: Maria, Hatzistefanis, founder of Rodial", 5 August 2012). You may argue that there is nothing wrong in a reputable newspaper running a piece on the background of the founder of a controversial business. It did, after all, state quite clearly that Rodial had sued a docter who cast doubts on the efficacy of their products and quoted the business founder as saying she had no regrets in having done so. However, let us examine this by taking a wholly hypothetical and extreme position. Let us suppose that none of Rodial's products have the effect their manufacturer claims and that it is a business that preys on the credulous and the desperate. Would it then be right for a reputable newspaper to be offering helpful publicity without calling it an advertisement?

You may argue that the article was balanced but I think that is questionable. At the time of the legal action  against the doctor it was claimed its purpose was to make it too expensive for her to defend herself when she thought she had merely expressed a reasonable opinion - the intention, it was suggested, was to shut her up. The doctor had expressed only mild doubts, not an all-out assertion that the claims for Rodial products were balderdash, and she had merely asked for the company to publish scientific proof for what seemed to be extraordinary claims. See my previous post on this matter. No peer reviewed evidence for efficacy has ever been published. Loizou's article does not make any of this clear and it is pretty material. You may wish to look at Rodial's website yourself to inform your own opinion of the products and claims for them. You may disagree with me. The range has extended considerably over the last couple of years and the products that caused all the fuss - under 'bodycare' - are now a small element of the whole. I admit that, personally, I find the claims for this range of products hard to believe without seeing some convincing supporting evidence. A counter-view to mine might be that many of the skincare products sold by Rodial make claims that are no more extravagant than many cosmetic companies, which also offer no proof of efficacy to potential customers. Indeed, for example, a study published in the past year suggested that only two or three of the many anti-wrinkle creams on the market work at all - all the rest have no effect.

My problem with the Sunday Times article is that it provides unbalanced publicity for this company. Are there other articles in supposed 'papers of record' that are similarly unbalanced? Do not newspapers that claim to be 'papers of record' owe some duty of care to their readers? Is this not a governance matter? How did the article come to be written, did Rodial's representatives approach the journalist, is the journalist a user of their products? I do not suggest that News International, the owner of the Sunday Times, is worse than other proprietors. It just happens that they have recently been the centre of a public relations and media storm concerning governance, which might have made them a bit more careful.