Three recent Federal Court cases reflect the extent of ethical and cultural shortcomings in the financial sector, writes Professor Bob Baxt FAICDLife.

    The announcement of the Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry is one of a number of matters that will need the attention of directors, particularly those of banks, superannuation and other financial services organisations, in 2018.

    Federal Court Justice Jayne Jagot approved the settlement of the action brought by the Australian Securities and Investments Commission (ASIC) against the National Australia Bank and the ANZ Bank, released last November. A third case, conducted by ASIC against Westpac before Justice Jonathan Beach, may also prove significant.

    The litigation brought by ASIC against the three banks was based on alleged breaches of provisions in the Australian Securities and Investments Commission Act 2001 (Cth). These provisions provide an opportunity for ASIC to bring proceedings against relevant parties for alleged unconscionable conduct. It is not surprising ASIC brought proceedings under the claim that the conduct was unconscionable because that particular “remedy” — introduced into the then Trade Practices Act 1974 (Cth) and now part of the Competition and Consumer Act 2010 (Cth) — is regarded as a useful remedy for regulators to protect business and consumers.

    The allegations in these cases were that the practices engaged in by the banks in relation to interest rate swaps and other behaviour in the market had enabled them to “rig” markets, especially in dealing with large sums of money invested in the banks and by or on behalf of those banks.

    ASIC spent a considerable amount of its litigation budget in running these three cases. However, for reasons not explained in the judgment (nor by public statements by the banks or ASIC), after many days of negotiations and court argument, NAB and ANZ agreed to pay penalties of $50 million each in disposing of the litigation. (The two banks minimised the potential of further suits by admitting only to attempting to engage in unconscionable conduct — class actions rely on the plaintiff being able to show actual losses.)

    In her judgment, Justice Jagot set out the technical legal details of the litigation and discussed various practices allegedly engaged in by the banks. Her Honour then made some significant obiter dicta comments. “Each of NAB and ANZ has admitted to unethical and dishonest conduct. It is difficult to convey the seriousness of what the offences involved,” her judgement said.

    “Knowing the function of the [relevant banks’ swap rates] in the Australian financial system and that it was relied upon as an independent established benchmark throughout the system, employees of NAB and ANZ deliberately sought to manipulate the benchmark to advantage their employer (and their own performance) over counterparties who have no means of protecting themselves from the effects of such manipulation, and had a right to expect that NAB and ANZ would deal with them fairly, honestly and in good faith.”

    Two further comments addressed her broader concern about the behaviour of the banks and their employees. “From the perspective of the counterparties, the conduct involved great departures from basic standards of commercial decency, honesty and fairness. From the broader perspective of the Australian financial system, a system which depends on public and institutional trust in its integrity, the conduct is even worse.”

    She also noted that any employee who is performing functions in the banking institutions, which may well amount to the commission of manipulating practices over a period of time displayed: “fundamental failings in the culture, training, governance and regulatory systems of both [banks]. The public should be shocked, dismayed and, indeed, disgusted that conduct of this kind could have occurred.”

    She went on to say, “The conduct involved attempts to corrupt a fundamental component of the entire Australian financial system for a mere short-term commercial advantage. The conduct involved a repeated failure to fulfil what would generally be perceived as the most basic standards of honesty, fairness and commercial decency, let alone the standards that would properly be expected of these two banks. The conduct tends to undermine public confidence in the entirety of the Australian financial system.”

    We must await the Westpac litigation outcome before further comment, but it is clear that Justice Jagot has real concern that the conduct being displayed by at least two of Australia’s major commercial institutions is far from satisfactory.

    In addition to more specific provisions dealing with the duties of directors, officers and others involved in banks and other organisations, there is also the fundamental obligation of all companies to operate an appropriate system of compliance. There are many examples in recent years in which other judges had to comment on the failure of companies to embrace and maintain appropriate risk-management compliance programs. The Royal Commission, while it will deal with significant matters around creating a more effective and acceptable set of standards in the banking and financial services community, cannot displace the need for appropriate action to be brought against organisations that engage in conduct that breaches the law.

    Banks pay up…

    In November 2017, ANZ Bank agreed to pay a total penalty of $50m after admitting its traders attempted to engage in unconscionable conduct on 10 occasions between 2010 and 2012, by trying to manipulate the bank bill swap rate (BBSW), a key market benchmark used to price bills, bonds, loans and derivatives.

    NAB had already admitted it broke the law by attempting to rig the swap rate on 12 occasions, also agreeing to pay a $50m penalty. The banks must also implement new compliance programs and guarantee their respective institutions will abide by the rules every year for the next three years. The fines represent less than one per cent of their combined annual profit.

    Westpac denies all ASIC allegations. The litigation continues in the Federal Court.

    On January 30, CBA was also charged with unconscionable conduct and swap rate manipulation.

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