Goizueta Effect - Poor Ethics, Bad Business

Poor Ethics, Bad Business

08/27/20 • 24 min

Business Ethics Matter in the Organization of Society

Dr. Gonzalo Maturana, Assistant Professor of Finance, at Goizueta Business School, Emory University, suggests that society must be organized around an economic system that places competition as the fundamental pillar for economic growth. And, that we can easily lose the benefits of capitalism when rules are violated.

An organized society formulated around an economic system that places competition as the competition for economic growth awards merit. The idea is that if one works hard there is an award. This fosters innovation and entrepreneurship, resulting in benefits to society, the entrepreneur hires workers, lower prices and covers a necessity. Central to the idea of merit is fairness. The strength of our economic system is predicated around this idea that the system is fair. There are a set of rules and polices that we have to help us move closer to fairness, but if not followed the system falls apart and a small group of people benefit at the expense of the majority. As a result, we could lose the benefits of capitalism when rules are violated.

So now the question is what happens if the public perceives that the system is not fair. A University of Chicago professor argues that without public support, or worse with public resentment, it's very difficult for the economic and financial system to operate.

Housing Crisis and Mortgage Back Securities

The 2008 mortgage crisis revealed the negative impact of not following ethics and behaving fairly. Recession mortgage backed securities helped facilitate additional mortgage credit that was not available. This fueled the demand for houses and contributed to the housing bubble. The market grew rapidly around 85 billion in 2000 to 1 trillion in 2006. Catching these during an economic boom is very difficult in part because no one is paying attention and the problem is exacerbated during an economic downturn.

Mortgaged back securities are non-agency securities. The mortgages are put together and securities are created out of them which is then sold to investors. This allows banks to transfer credit risks allowing borrowers to default on their mortgages. Homeowners may want larger loans and a lower rate and the loan officer collects important information to determine how risky the borrower is.

There are several conflicts of interest when creating such securities. The loan officer is often compensated on loan volume, so there is some incentive to lowering the standards. Originators may also have an incentive to inaccurately report information to the underwriters. Misrepresentation may be difficult to catch due to the complexity of mortgage back securities, the structure of the payments and how you measure risk. Most problems flow directly or indirectly to the incentive of the underwriting bank.

Residential mortgage backed securities are extremely complex in terms of the structure of the payments and how you measure risk. Also, credit rating agencies were supposed to certify the quality of the securities, but again they were paid by the underwriters with whom they have repeated business. Dr. Maturana has research that shows that there was a ripple effect that operated house prices and incentivized someone’s decision to expand a credit. When the recession market collapsed and disappeared by these lenders went out of business quickly.

Ramifications for Unethical Behavior

Dr. Maturana says employees involved in the creation of residential mortgage backed securities that were later found to be misrepresented did not face significant career penalties. These employees remained employed at the same bank, moved to another large bank, or were promoted. This is concerning because the employees that were analyzed, worked at banks that settled with the Department of Justice and admitted wrongdoing during the structuring of these residential mortgage backed securities.

Findings show that the system of settlements may not be good. These results and the lack of individual prosecutions send a message to current and future finance professionals that there's little if any place for punishment for abusive practices. This level of repercussion can reinforce cultural norms that allow or encourage employees to ignore the warning signs of fraud and abuse. Dr. Maturana says good business ethics need to be part of the culture and that the guidelines need to come from upper management who should lead by example. If a boss cares about business ethics and good behavior then that's something that's constantly discussed in the work setting. Also, for incentivizing good behavior he suggests having a strong enough deterrent. Increasing accountability and rethinking statute of limitations for example are a way to generate incentives.

How Academia Plays a Role in Business Ethics
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Business Ethics Matter in the Organization of Society

Housing Crisis and Mortgage Back Securities

Ramifications for Unethical Behavior

How Academia Plays a Role in Business Ethics
<...

Previous Episode

Bonus Episode: Silver Linings for Students Graduating Into a Recession

Impact of Economic Downturns on Young Adults

College students who graduate into a recession certainly experience obstacles according to Dr. Bianchi, Associate Professor of Organization & Management at Emory University’s Goizueta Business School. Young adults are often the last to be hired during a recession and this can be quite challenging because they have very few work experience and skills and the entry-level jobs they go after are usually the first to go. As a result, unemployment for young adults usually jumps significantly during recessions, much higher than the unemployment rate for others.

Professor Bianchi became interested in how this shapes young adults for a long period to come. During the Great Recession, there were many stories about the 2009 graduation season and how students were doomed. There have been studies to show that young people graduating during a recession earn less for decades. Other studies have shown that people who graduate in recessions tend to have lower levels of occupational prestige. Even if they do become chief executive officers, they tend to become CEOs of smaller, less prestigious firms. There's no question that, economically, the effects are real, that people who graduate in a recession do earn less, and you see that for a long time to come. But the effects are also pretty small.

Given all the worry and all the difficulty of finding their first job could graduates be happier once they are hired by an employer? Dr. Bianchi found that people who graduated in worse economic times reported greater job satisfaction than people who graduated in better economic times. There are hardships and challenges. The difficulties are serious, but there are some long-lasting positive implications down the road.

Recessions Long-term Impact on Young Adults

There has been a fair amount of work on people's attitudes towards money, right? Economists have found that people who come of age in recessions tend to be more risk-averse with money and tend to choose less financially-risky strategies. Even as CEOs, they tend to be more risk-averse in how they invest their company's money. Using the metric of narcissism, Dr. Bianchi studied how people who come of age during a recession view themselves compared to other people. Narcissism is a sense of entitlement, a sense of grandiosity, a sense that one deserves better outcomes than other people. She looked at the characteristics heightened optimism, and individualism and wondered if people who came of age in that time are more narcissistic than people who came into age in a time where there was more uncertainty. Dr. Bianchi found that people who come of age in recessions score lower in narcissism, clinical narcissism, and sub-clinical narcissism.

According to Dr. Bianchi, young adulthood is a very transformational time in people's lives. Most are leaving their childhood homes, communities, and families and begin to develop an adult identity. They are figuring out who they are, who they want to be, what they believe in, and what they don't believe in. People overwhelmingly mention things that happened when they were young adults. All of these seem to suggest that what's going on in the greater environment, in the greater kind of cultural landscape or economic landscape, helps formulate those identities, helps shape those identities in ways that last throughout adulthood.

Dr. Bianchi says this will be an interesting generation to watch over the next couple decades.

Next Episode

Racial Bias is Everywhere

Dr. Erika Hall, assistant professor of Organization and Management at Emory University's Goizueta Business School, focuses her research on the influence of race, gender, and class-based biases on interactions within the workplace and more broadly within society.

Racial Bias in the Workplace

Bias is an instance of prejudice and racial bias is an instance of prejudice based on a person’s race or perceived race. In the workplace, racial bias manifests in a number of ways such as lower wages, higher job loss, being passed over for a promotion, and so on. It is important to understand the difference between bias in the workplace versus an anomalous outcome versus a true deficiency in performance that led to an outcome. With a sample size of one, that determination may be difficult but Hall has looked at hundreds and sometimes thousands of people and companies in her research studies which enables her to identify trends in discrimination.

Organizations can use control groups to evaluate whether or not an instance is due to racial bias. This means looking at a situation and determining if there was another person that had the same type of qualifications, who had the same résumé, would that person suffer the same outcomes as the Black person is right now.

Hall says hiring biases are quite common. There are negative stereotypes associated with Black candidates regarding future performance. Many résumé studies show that bias is in play with hiring managers if the name on top of that résumé is perceived to be black versus white. In these studies, a fictitious résumé is created with all the qualifications necessary for a position. Two copies of the résumé ─ one version with a stereotypically Black or Asian or Latino name on it and the other a name that is stereotypically white ─ are submitted to actual companies for real positions. Even though it is an identical résumé except for the name at the top, the callback rate for candidates with names that are stereotypically Black or minority, in general, tends to be lower than for candidates with “White” names.

Code-Switching

Hall notes that it is not uncommon for people of color to change their name or go by their middle name in order to not be discriminated against when applying for a job. A study published in Administrative Science Quarterly suggested that both Black and Asian employees tend to change their names in a way that will make it whiter, a behavior known as résumé whitening.

Making your name seem more “white” is related to code-switching or when a person adjusts their style of speech, appearance, behavior, or expression based on the setting they are in (home vs office, for example) or those who are around them. Hall says everyone has to code-switch to some degree between their personal and professional lives, but it seems to be more distinct and more disparate for Black Americans.

Racial Bias Misconceptions

The biggest misconception about racial bias in the workplace, says Hall, is that you have to be a racist to be biased. A racist is someone who is prejudiced against people on the basis of their racial or ethnic group.

If you don't hire someone who is Black because you are fearful that your customers would respond better to someone that is white, you have introduced racial bias into the hiring process, even though you personally may not hold any negative feelings toward Black people.

Another example of racial bias can be found in the real estate industry. While companies that value homes for sale are bound by law not to discriminate, there are reports that it happens often. Homes in predominantly Black neighborhoods or homes that have evidence of Black owners (such as family photos) are appraised at lower rates than homes with white owners. Hall references an article in which a professional appraiser said that appraisers try to mirror the market. Buyers are less willing to purchase a home that was previously owned by a Black person and their valuation of the home reflects that. The appraisers may not be racist but they are contributing to discrimination and in doing so are disadvantaging Black home sellers.

Black vs African American

The terms Black and African American often are used interchangeably within the United States but there is a literal difference. Black refers to the entire diaspora of people with ...