Too Big to Trust? Or Too Untrustworthy to Scale?

This will be my fourth week on the road; more on that later in the week. At least all that plane time (and waiting in lines time) makes for good reading time—thanks to the iPhone Kindle Reader app.  (and no they don’t pay me for saying it).

I’m re-reading Francis Fukuyama’s 1995 classic Trust: the Social Virtues and the Creation of Prosperity. 

It’s the perfect companion for Andrew Ross Sorkin’s Too Big to Fail: The Inside Story of How Wall Street and Washington Fought to Save the Financial System—and Themselves. 

Fukuyama’s View of Trust

Fukuyama makes a compelling case that economic development is strongly affected by the cultural norms of a society—in particular, the propensity to trust. In this, he is up against both neo-classical economists (who argue people are rational utility-maximizers), Marxians (who argue it’s all about the money), and a ton of management theorists (who pretty much believe both).

The Chinese, Korean and Italian preference for family, Japanese attitudes toward adoption of non-kin, the French reluctance to enter into face-to-face relationships, the German emphasis on training, the sectarian temper of American social life: all come about as the result not of rational calculation but from inherited ethical habit.

Who we trust, it turns out, radically determines the nature of business we engage in. He explains why large French companies are state-owned, and why Chinese companies find it hard to hire professional management (think Wang Laboratories). 

Fukuyama describes several cultures in the world–southern Italy, chunks of Russia, some Chinese regions—which contain high-trust pockets of communities within a broader society of low-trust intermediate institutions. 

Those high trust pockets? Think the Mafia, Chinese tongs, and street gangs.

Their values? Fierce loyalty toward each other, coupled with a level of competitiveness bordering on paranoia regarding other competing pockets and the world at large.

Too Big to Fail?

Andrew Ross Sorkin’s book is riveting reading, a blow-by-blow account of who said and did just what to whom during the extraordinary market meltdown that brought down Lehman Brothers, resulted in the TARP legislation, and nearly brought the world financial system to a full stop.

Part of the charm is sorting out the black hats and the white hats; maybe I should say black and shades of gray.

Paulson and Geithner emerge as the flawed heroes. Jamie Dimon plays to the crowd, but is also the only really good manager of the lot, and the only one to show flashes of true industry leadership and something resembling responsible social behavior.

The rest, frankly, resemble refugees from a failed Sopranos casting call. Jimmy Cayne, John Mack, and Dick Fuld in particular come off as mob leaders, with Goldmans’ Lloyd Blankfein coming off better only because of a better sense of a world beyond New York. 

Wall Street as Low Trust Culture

The majority of suggestions to reform Wall Street focus on four solutions:

1.structural cures (e.g. separate investment and commercial banking functions),

2.regulatory cures (e.g. prescriptions for capital ratios),

3.enforcement (e.g. tougher sanctions, more investigative staff for the SEC),

4.compliance (more procedures).

None of those critiques draw the conclusion that feels obvious if you’ve just read Fukuyama: that the dominant model of leadership on Wall Street has been pretty much like the Mafia—or the Sopranos, anyway. Wall Street has been run by a cabal of low-trust, tribal, familistic gang leaders. 

The inability to work as a group when the industry was threatened; the tendency to circle like cannibalistic sharks when there’s blood in the water; the pathological obsession with ‘enemies’ (the most hated being the short-sellers, who as near as I can tell were never shown by anyone to have done any significant harm and who in fact did a lot of good, but were nonetheless the villain of choice); the celebration of loyalty coupled with the ability to flip allegiances on a dime. All these are traits of low-trust cultures.

A trader once told me how he was recruited. 

“The guy from [Big Wall Street Firm] walked into a room of 25 expectant recruits, and said, ‘Who here is motivated by fear and greed?’ Me and another guy raised our hands timidly. ‘The rest of you can go home,’ he said, ‘I’m only interested in these two.”

So how do these clowns get so much power? Amid all the defeatist models that posit human beings as innately susceptible to money, that assume selfish motives are immutable and can only be beaten by more rules and rewards, I still think there is a valid role to be played by culture and character. 

There are more than a few moments of perspective, responsibility and decency shown in Sorkin’s book by Geithner, Paulson and Dimon. Why aren’t there more players like them?

In Sorkin’s final pages, he warns that we’re already letting the opportunity for genuine reform slip by—and not just regulatory and structural reform either. But, he says:

Perhaps most disturbing of all, ego is still very much a central part of the Wall Street machine. While the financial crisis destroyed careers and reputations, and left many more bruised and battered, it also left he survivors with a genuine sense of invulnerability at having made it back from the brink. Still missing in the current environment is a genuine sense of humility.

Whether an institution—or the entire system—is too big to fail has as much to do with the people that run these firms and those that regulate them as it does any policy or written rules. 

Amen to that, Mr. Sorkin. We cannot afford these low-trust types wandering around with their hands on the financial world’s throat.