Cheating in American Baseball

A report was just issued stating that many renown players working for professional baseball teams in America have used steroids and other muscle-building drugs to enhance their natural ability and win out over other players.

Here is an instance of moral grand corruption.

The ethic of sport - going back to Greek Olympics - was supposed to be in the character of the athlete - in his or her mental effort, self-discipline, skill and courage. Winning was only icing on the cake.

Now winning seems to be all and at any price. A winning record leads to more money, lots more money, in the business of professional sports.

Just like winning in the stock market - to get the most out of it for ourselves, why not take a few performance enhancing drugs? In the world of finance, such drugs are misleading information about a company's prospects. See Enron, WorldCom, et. al.

Misleading information gives a company unfair advantages in the competition for investor interest.

Professional sports in the United States provide moral and ethical standards for a large number of Americans. The behavior - noble or vile - of sports celebrities triggers imitation among the young and, thus, has a public good quality about it. The behavior of such role-models cannot be overlooked by society.

What surprises me is the lack of programs in business ethics for professional sports companies and their employees.

Like Death and Taxes - there are consequences

Advocates of cash flow as the “summum bonum” of capitalism often take the position, as they must, that there are no negative consequences attendant upon such a course of business enterprise worthy of note.

The assumption they make is that the enterprise is autonomous, separated from society by various walls such that the only costs of material concern are those that show up on the income statement.

Thus, the “costs” of enterprise born by stakeholders – the environment, civil society, customers, employees, investors, creditors – do not count. They can be ignored.

This point of view is very short-sighted and so wrong as several developments here in the United States make very clear.

First, in the sub-prime mortgage mess; The consequences of rising foreclosures on home mortgages were set by entrepreneurs who extended mortgages to borrowers who were very much at risk of non-payment when conditions changes. By pushing off risks on borrowers with marginally secure abilities to pay, the originators of the sub-prime lending set off a sequence of developments that carried within its economic logic high risks of social dislocation.

With homes in foreclosure, with the prices of homes dropping for America’s great middle class, with the banking system under great stress, the government could not leave the market alone. Anxieties were too high and the demand for protection from market forces too intense.

So, President Bush felt compelled (it’s presidential election season as well and his party is not doing well in the polls) to step in. He imposed an emergency freeze on the raising of the interest rates on certain mortgages. The freeze will last for five years.

Nothing could be more alien to his principles of free market autonomy, where private actions without government regulation bring about optimal outcomes for society.

The moral lesson from the sub-prime adventures is: as you sow, so shall you reap. There are consequences for business that don’t always show up on the quarterly income statement.

Second, there are recent developments with UnitedHealth Group. This company in Minnesota underwrote for premiums the health care costs of millions of Americans. It paid its CEO William McGuire hundreds of millions of dollars and gave him stock options as well. The company’s stock rose in the market.

But it then turned out that many of his stock options had been rigged – backdated – to give him even more financial advantage.

When the back-dating was discovered, the Securities and Exchange Commission began an investigation and investors brought litigation. On December 6, 2007, McGuire decided to settle the claims against him. He agreed to give back to the company some $420 to $460 million in stock options and pay and to pay a $7 million fine.

He is still left with over $500 million in stock options so he will be able to live for the rest of his life as a gentleman should.

But there were consequences that followed upon his taking short-term financial advantage of the company.

Now, one way in which McGuire’s leadership of UnitedHealth Group had led to substantial profits was to squeeze its customers – the insured and doctor’s to be paid for their services. As a result of these business practices, the company in recent years lost 315,000 customers this year and angered doctors.

So, as a consequence, it is changing its practices. It will now show doctors and patients on the day of a doctor’s visit how a claim will be paid; it will pay doctors more quickly; UnitedHealth employees will be given incentives to put quality and patient advocacy first and productivity (i.e. cash profit) second.

Like death and taxes, consequences cannot be avoided. There is no free lunch in capitalism. Ethics is material to the bottom line.

In China it's culture, not ethics or CSR

A conference this past week in Beijing was most informative on several levels. The topic was to discuss in a Chinese context business values and corporate culture. The audience was engaged – very engaged; more engaged than audiences in most of the conferences I have attended where the topic is business ethics or corporate social responsibility.

The substance of our discussions in Beijing was essentially the same concerns as inform discussions of business ethics or corporate social responsibility. But the conceptual framework, the lens, brought to bear on the subject matter was unique. The starting point was “culture”, not ethics, not the business case for taking stakeholder concerns into account when running a for-profit enterprise.

In prior workshops on business ethics in China my observation was the absence of concern for the topic on the part of Chinese business owners and managers. This recent discussion, however, was very different. It struck me as being very authentically Chinese while the previous meeting seems now in retrospect to have been the extension of a foreign framework into an unresponsive Chinese intellectual and emotional milieu.

Something like the assertion of exterritorial legal jurisdiction in China by the western powers during the glory years of Western colonial dominance. For example, Western powers had their own tribunal in Shanghai to resolve matters according to French, British, or other European legal norms and practices.

In startling contrast, in this past week’s conference and panel discussions, the Chinese asserted conceptual ownership of the subject and fully engaged their minds as well as their emotions.

It appears that, for them, the discussion of “culture” is not a trivial matter.

Which fact, I suppose, should not have come as a surprise to me. After all, Chairman Mao’s great effort to shape China in his image was undertaken as a “cultural” revolution.

In ways that were quite exciting and revealing, speakers and commentators asked basic questions as a starting point on the way to defining appropriate levels of business conduct.

They asked what is human nature? Are people basically sinful and greedy? Do people have a capacity for moral behavior? Can they acknowledge the claims of society on their freedom and autonomy? Don’t we have to choose between “profit” on one side and ethical conduct on the other as Mencius argued so many years ago?

I felt as I listened that the objective of the conversation was to find a formula for “market freedoms with Chinese characteristics.”

The need to find such a formula is palpable as the Chinese Communist Party is moving more and more beyond Deng Xiao Ping’s formula of “Socialism with Chinese Characteristics” that justified the program of reform and opening up that began some 30 years ago.

The unstated question in everyone’s mind in the conference seemed to be “what kind of company behaviors will maximize market efficiencies and so create wealth but at the same time not be destructive of social harmony and non-financial values?

“Corporate culture” seemed to be assumed to be the meeting point of profit and social responsibility. One participant described the role of culture in a market setting as the brakes to off set too much pressure on the gas pedal. Excessive acceleration – a metaphor for excessive individualism or self-seeking – is tempered by putting on the brakes and keeping the car under the speed limit or safely hugging the road as it twists and turns.

This assumption is not a bad one in my opinion. Culture is a restraint on individualism. Culture is the action of the moral sense within us; culture arises within communities and sustains communities with commonalities of values, behaviors, practices, understandings.

Our discussions in Beijing had the following logic: with the right culture in place, companies will be ethical and socially responsible.

But the approach to implementation starts with culture – the psychology of the human, the needs and motivations of people - not with debates over moral theory or a list of stakeholder interests.

At the same time, a discussion of “culture” provided a way to reclaim China’s moral heritage. We spoke of Confucianism, of Taoism, even Buddhism, as rich sources of cultural “brakes” for companies in today’s China.

I very pleasantly felt that the Caux Round Table had a constructive role to play in this conversation as we have in a number of cultures been successful in mapping global standards of ethics and corporate social responsibility to core values within national settings. I was very pleased that our colleagues Dr. Roger Conant, Hiroshi Ishida, Andy Whitford from Westpac Bank, and Brinton Scott from the Fredrickson & Byron law firm office in Shanghai could make notable and constructive contributions to the discussions.

It’s the same all over

I arrived in Beijing on Sunday night the 2^nd of December for a conference discussing CSR and the cultural imperatives of Chinese companies.

This morning in the paper were two front page stories that caught my attention.

One was about the sentencing to 16 years in prison of a Shanghai “tycoon” for abusive “brute” capitalist behavior. He had embezzled money, forged tax receipts, defrauded investors in the stock market, among other criminal acts carried out through the means of business enterprise.

This story put to me once again the role of character in free markets: cheating is everywhere; laws alone don’t stop it; free markets can clear it out only after the truth comes to light.

There would thus seem to be a constant, universal need to focus on ethics, character, personal goals and integrity as a third counter-weight to the human tendency to abuse power in private hands.

The second story was the report of a Chinese government agency that the average temperature in China so far during 2007 was at the highest level since 1951. This marks the 11^th year in a row of higher average temperatures than in previous periods.

Systemic temperature rise is prima facia evidence of global warming. It does not provide evidence of the cause or causes of the trend, but does leave us with the fact of a change in our environment.

And, to me, if we don’t like the implications of the trend, regardless of its causes, we should be taking steps to moderate the rise in global temperatures.

where's the protest? Sub-Prime lending excesses as one more failure of capitalism

I don’t get it. Violations of honest business practices that produced the scandals at Enron, WorldCom, Health South brought about widespread rejection of short-termist thinking as a basic principle for capitalism. But the current crisis in American credit markets precipitated by rather similar violations of best practices has not provoked a similar degree of alarm and concern.

But the current failure of market-behavior to reach beneficial outcomes is more damaging perhaps to the American economy and society than the scandals of only a few years ago.

The consequences of Enron and related abuses of financial reporting obligations punctured a liquidity bubble in the stock market which led to a large fall in the prices of securities. Employees of Enron in particular, which was forced into bankruptcy suffered heavily and many who were buying stocks in the hopes of a continued rise in prices lost money. Within a few years, however, the markets recovered. Short term losses were made up with longer term gains.

New legislation was introduced mandating better financial reporting and oversight of the auditing function to prevent a re-occurrence of those particular scandals.

But this time, excessive extension of credit to sub-prime borrowers seeking to buy houses has boomeranged into a serious threat to the entire American economy. Investors are in a hurried, unreflective, general flight to quality and so many would-be borrowers are being left without cash and needed working capital to sustain their businesses and to expand the production of goods and services.

The system of finance and credit supports an economy; any dysfunction or retrenchment in this sector undermines the entire society’s well-being.

But in particular, the sub-prime crisis has led to more foreclosures on homes, lower housing sales, and falling house values. The poor and the middle class are most affected by this negative move in the activity volume in the housing industry and sectors that depend on consumer demand for housing and related fixtures, etc.

More wealthy Americans have a range of assets at their disposal; the poor and most of the middle class have their houses as their primary source of equity capital. Lower housing prices errode the wealth available to those who need it most, making them more financially vulnerable just as the economy becomes more difficult.

This is not the outcome we should want from modern capitalism.

A price will be paid by those who spawned the excess in risky lending. Both Merrill Lynch and Citibank have lost their CEO’s as a result and taken huge write-owns in their equity. And more bad news for the banking and financial sectors and for the owners of derivatives is still to come we hear.

One reassuring point, I suppose, about markets is that reality always sets in. There is no escaping karma; consequences cannot be avoided by wishful thinking. Raising the level of risk by making too many risky loans leads to some degree of risks actually coming true. And somebody must pay the price associated with those losses when they occur.

So it is with every speculative bubble: someday the bubble bursts.

The trouble, I think, with running transactions on a fee basis (some promoter takes some money and runs) is that fees shield the instigators of the transaction from having to live with long-term risk. Their market function is only to put the deal together. Others are left to bear the consequences.

So it was with the aiders and abettors of Enron special purpose entities, excessive investment in telecom and dot-com companies in the late 1990s and with the packagers of sub-prime mortgages and related derivatives.

Where fees are too high and too easily obtained, systemic risk management suffers. This is an iron law of human nature.

A Bucharest Glimpse into the Ethics of Hedge Funds

Romania now is part of the European Union, but traces of its past are more than evident in Bucharest. The massive, hubristic presidential edifice commissioned by the late despot Nicholas Caucescue hulks over the city on a site cleared of old houses and churches which had withstood centuries of pre-Communist turmoil.

And the Romanian economy, while growing and birthing a middle class, is more of a transitional economy than a developed one.

Bucharest needs infrastructure – better roads, underpasses, overpasses, ring roads, new streets, stop lights that work, parking ramps.

The new middle class is putting is disposable income into cars. There are too many for the streets of Bucharest, too much time wasted in traffic jams and no place to park them. The city needs parking facilities.

A business man has a plan. At least a small one. He owns a parcel of land in the central city and has estimated the cost and earnings of building and maintaining a modest parking ramp – 600 cars – on the site. It will pay off with interest in 5 years. But he can get no investors to finance the project.

Romanians are in a speculative mode; quick turnaround of capital at a good return – get your money back in 6 months at 30% interest.

Asset speculation – whether on financial exchanges, in wartime economies, or in real estate – always leads to trouble. It is built on the twin pillars of unrealistic valuations and “irrational exuberance” – the human propensity to gamble when facing the prospects of making easy money. It is a dysfunction that undermines the rationality of capitalism and pre-dated the emergence of capitalist production and systemic accumulation of invested wealth.

While in Bucharest to speak on corporate social responsibility recently, I met by chance a young investment broker from the UK seeking to earn commissions by channeling money into Romanian real estate projects. He is offering London hedge funds 400% returns on money they invest in Romania. They love the prospects he told me. Money is coming into Romania.

But not for parking ramps, needed infrastructure and other long-term payoff projects.

The effect of the hedge funds is to further distort Romanian economic priorities towards short term speculation.

Is this really very helpful?

The UN Panel Report on Climate Change

My first response to the release of the report on Global Warming by the UN Inter-governmental Panel on Climate Change was, for me, a new thought – one no doubt well understood by others before me.

The general recommendation as to the continued human release of green-house gases is two fold: one, to switch our source of energy away from hydro-carbons and, second, to use less energy. The second alternative seems, at first, merely a prescription to increase the cost of energy in order, through the supply/demand mechanics of classical micro-economic theory, to reduce energy consumption.

This alternative is not welcomed by many who link increased cost of a basic input for global production to lower global output and reduced wealth creation.

However, the flip-side of less use could be higher productivity.

The wage rates for labor have risen steadily with industrialization and post-industrialization as rates of productivity rose and rose.

Less and less units of labor were needed for production of the same quantity of output, so per-unit labor costs could go up without triggering higher prices for consumers. Each unit of labor contributed to the production of more and more goods and services.

Productivity increases for labor inputs came with the introduction of capital improvements to the means and methods of production. With machines and other supplements to human handiwork the value generated for society by each working individual grew exponentially. Adam Smith understood that this increase in output through specialization was the origin of the wealth of nations.

Should we not apply this same thinking to our inputs of energy as well as of labor?

If we make energy more productive – getting more from each joule and kilowatt, each amp and BTU, then might we not enjoy growing prosperity with less energy consumption?

A higher cost for each unit of energy consumed would not necessarily lead to higher total costs for consumers and reduced growth for the world.

The action step that should flow from taking this point of view would be at a minimum better measurement and public disclosure of energy efficiency in all uses of energy.