Introduction
Illicit practices accompany financial markets throughout history. While some work hard to develop innovative products, others develop schemes to defraud clients and reap a quick profit. Manipulation, corporate misconduct, outright fraud, and white-collar crime came into focus once again after the 2007–2009 financial crisis. In response, governments arrived at a renewed recognition of the need for institutions and tools to deter agents from exploiting the freedom of markets illegally. Deterrence methods rely mainly on the theory of subjective expected utility (SEU) that describes criminals as rational utility maximizers (Becker,
1968). In modern psychology, such behavior may be characterized as extrinsically motivated (Amabile et al.,,
1994), focusing on material goods for the actors themselves, not others (Batson,
2011). Financial accounting practice describes this behavior as having a positive “net present value” (NPV). Economic actors choose extrinsically motivated actions that maximize their own utility; hence, governments try to impose a cost on perpetrators of misconduct that would outweigh benefits.
This paper considers the enforcement efforts of the US Securities and Exchange Commission (SEC), a key regulator in the global financial market. We show how the current model of market supervision exemplifies the subjective expected utility (SEU) logic to deterrence. According to Yeager (
2016), deterrence requires that penalties be severe and consistent in order to change the incentives of individuals and groups. Indeed, the total amounts ordered in penalties and disgorgements as a result of SEC enforcement activities have increased eightfold over the last three decades, from about $0.5 billion to over $4 billion per year (Steinway,
2014; US SEC,
2020a). However, despite these efforts, deterrence effects appear limited (Yeager,
2016). Punishment is turning out to be ineffective in curbing financial misconduct (Ciepley,
2019).
The main aim of this paper is to amplify the study of corporate misconduct by demonstrating the ineffectiveness of monetary penalties following the utilitarian logic in deterring crime in certain cases. We present evidence from the US financial market, which has been a reference for financial markets around the world. In the illustrative case we analyze, the economic benefits that accrue to perpetrators outweigh the costs and harms, yielding a positive NPV under any reasonable scenario. Due to unavoidable limitations in enforcement, in at least some cases crime pays in SEU terms.
As a consequence of the above, we address a second aim: we attempt to explain why more financial agents do not commit crime given that “crime pays.” Apparently, the SEU framework does not accurately describe the human motivational system in general, nor specifically in financial activities. There are other reasons besides net economic gains for oneself that incentivize human action in finance, just as in other realms. A more comprehensive and accurate description of motivations from psychology, including intrinsic and altruistic motivations (Eisenberg et al.,
2016), could contribute to improvements in deterring financial misconduct. Further, we would like to consider the rationality of financial activities from the viewpoint of virtue ethics (Sison et al.,
2019), which examines not only utility and motivations but also the moral excellence of actors in relation to flourishing (Grant et al.,
2018). Thus, we propose alternative models that extend from punishments and incentives (utility), through motivations, to the virtues to encourage fair and honest dealings in finance.
In light of the above-mentioned aims, the expected contributions are threefold. First, we hope to present some evidence for the ineffectiveness of financial crime deterrence exclusively focused on the utility approach. We apply the financial method of NPV in the analysis of misconduct to show that perpetrators secure gains despite fines and disgorgements. Second, we would like to present an alternative account of financial activity that bears in mind other motivations besides the extrinsic. That would open the door to a third contribution: the introduction of virtue ethics as a better explanation or rational model of financial activity that may curb illicit practices and promote honest behavior.
This is not a paper offering specific policy recommendations to curb financial misconduct. That would be too much to expect from the analysis of a case. Rather, it is a critique of the underlying utilitarian-economic rationality of the current legal regime. Neither is it a paper on how motivational theories apply to finance and inform particular behaviors. We would simply like to indicate that a motivational approach provides a better alternative to utilitarian-economic rationality in deterring financial misconduct. Likewise, this is not a purely theoretical paper on the precise way virtues are to be practiced in finance, following insights from Aristotle or MacIntyre, for instance. Too many intermediate issues would need to be settled first before such an attempt. Instead, we would merely like to broach this possibility as perhaps being a superior one, insofar as the virtues and the common good of flourishing combine both intrinsic and altruistic motivations, among other reasons.
The article is organized as follows. Section II defines corporate financial misconduct and presents the enforcement efforts of the US SEC. Section III frames financial misconduct as a rational decision according to the NPV method, discussing the benefits, costs, and the discount rate to be considered in illicit projects. Section IV analyzes a case of financial misconduct from the USA committed by a broker and applies the NPV method to illustrate the economic rationality of his actions. Section V presents a discussion of the findings from the perspectives of utility, motivations, and the virtues. Section VI outlines the implications for policy makers and managers. Section VII offers our conclusions.
Corporate Financial Misconduct
Corporate financial misconduct is generally addressed by civil law and involves civil statutes, although specific provisions may involve criminal penalties (Hanlon,
2009). Consequently, the use of the word “crime” in references to cases of fraud or money laundering, as it occurs in the media (Henry,
2017), is somewhat misleading. In fact, the wording used to describe such events varies from actor to actor (Vadera & Aguilera,
2015). Academic literature resorts to relatively neutral terms such as “corporate litigation” (Arena,
2018; Haslem et al.,
2017) and “corporate misconduct” (Karpoff et al.,
2017; Kedia & Rajgopal,
2011; Liu,
2016). When a study is devoted to a specific type of infraction, the authors tend to use terms defined in the statute considered. In the USA, securities fraud and accounting fraud is litigated under the Investment Companies Act of 1940, the Securities Act of 1933, or the Securities Exchanges Act of 1934, and the rules issued pursuant to them by the SEC. Misconduct by investment advisors falls under the same statutes and the Investment Advisers Act of 1940. Brokers can be disciplined by the Financial Industry Regulatory Authority (FINRA), a self-regulatory organization. Corporate corruption in non-US jurisdictions involves the Foreign Corrupt Practices Act (Schwartz & Goldberg,
2014).
Crime is not easily attributed to corporations, because crime is assumed to fall within the domain of individual human beings (Salinger,
2013, p. 219). First, punishment for criminal offenses involves sentences of incarceration or probation that can only be applied to individuals. The only type of punishment that can be ordered in the case of a corporation as a juridical person is a fine. Second, corporations are structured in a way that obfuscates responsibility and complicates the attribution of blame (Ciepley,
2019). Third, the pain of the punishment is not borne by the corporation per se, because it is not a real person. The punishment may result in layoffs and harm employees who had nothing to do with the crime. Corporate losses may hurt shareholders—including shareholders who did not own stock when the crime was committed—employees, and others saving for their retirement who have limited influence on the actions of the corporation. In sum, it has long been recognized in corporate litigation that the design of penalties is a complex problem (Coffee
1981).
Unless specific individuals can be identified as offenders, corporate offenses can rarely be enforced through the criminal justice system (Ciepley,
2019). The Federal Justice Statistics (US Department of Justice,
2017) published the following statistics: federal courts tried 8455 fraud cases in 2014, of which only 74 resulted in an order to pay a fine, indicating a possible corporate defendant. Thus, criminal cases do not typically involve corporations, despite the longstanding US legal tradition of treating corporations as if they were legal persons.
When corporations cause harm to individuals or the public, enforcement is pursued through civil litigation and remedies. The literature documents cases of bodily harm or death caused by managerial decisions which could not be tried before criminal courts, because the offense was attributed to a corporation rather than an individual (Salinger,
2013, pp. 220–221). Civil procedure is used instead of criminal procedure. One potential defect of civil litigation is that it tends to frame harms in monetary terms, which may encourage companies to engage in cost–benefit analysis. This effect is strengthened by a broad reliance on settlements, which reduces the legal process to a negotiation of the amounts to be paid. Another drawback of civil law litigation is that injured parties need to initiate it and face heavily resourced corporate legal teams. In the case of financial misconduct, however, there exists an institution designated to represent the interests of the public by litigating civil cases.
The US Securities and Exchange Commission (SEC) is an independent agency of the United States federal government created by the Securities Exchange Act of 1934 to regulate the securities markets. It litigates offenses in cases of financial misconduct involving securities, a term defined in both the 1933 and 1934 Acts. The jurisdiction of the SEC covers a wide range of offenses such as insider trading, accounting fraud, market manipulation, misreporting by issuers of financial instruments, and corruption. The Commission can initiate civil or administrative actions when an infraction warrants it. Cases associated with SEC rules and regulations can be handled by SEC Administrative Law Judges. The Commission generally litigates offenses attributed to individuals in civil actions brought in Federal US District Courts. A parallel criminal action can also be brought by the US Department of Justice Attorneys, although this frequently leads to a delay in the civil action until the criminal case is adjudicated. Some cases against corporations are not brought in district courts but rather settled in SEC Administrative Proceedings.
The mission of the SEC, according to the agency’s website, is to protect investors, maintain fair, orderly and efficient markets, and facilitate capital formation. This mission is achieved through a range of activities: bringing civil enforcement action against violators of securities laws, adopting and administering rules and regulations, facilitating access to information about financial instruments, and educating investors. The litigation of financial crime is the domain of the SEC Division of Enforcement, which employs roughly 1300 staff, and consumes more of the SEC’s resources than any of its other divisions (US SEC,
2020a,
2020b). Enforcement activities of the SEC are well staffed and funded relative to other federal agencies. Resources available to the SEC have increased by half since the financial crisis of 2008, strengthening its ability to enforce financial market regulation (Kedia & Rajgopal,
2011).
Discussion
Neoclassical economic theory is built upon the notion of utility as the driving force in the choices of individual consumers and workers. Thus, rationality is defined as the ability to maximize utility. Edgeworth (
1881, p. 16) claimed that “the first principle of Economics is that every agent is actuated only by self-interest.” Although he corrected himself later, saying it would be better to consider humans as impure egoists or mixed utilitarians, this perspective has persisted in economic and psychological models. The influence of utilitarianism goes beyond economics to law and ethics (McGee,
2009; Yunker,
1986). Becker’s (
1968) theory of subjective expected utility (SEU) describes criminals as rational utility maximizers in conditions of risk. Accordingly, he analyzed the amount of resources and punishment needed to enforce legislation. Regulators should determine how many offenses can be permitted and which offenders may go unpunished for the greater good (Becker & Stigler,
1974). However, some economists suggest that the neoclassical approach only considers the impact of external interventions on behavior and ignores the intrinsic motivation of economic actors (Frey,
1997). In social and developmental psychology other types of motivation, apart from utility, have also been analyzed (Bolino & Grant,
2016; Carlo,
2014; Penner et al.,
2005; Wuthnow,
1993).
Psychology offers a richer understanding of human behavior by acknowledging other motivations besides the extrinsic or utilitarian. Woodworth (
1918, p. 70) was probably the first to distinguish between activities “driven by some extrinsic motives” and those “running by their own drives” (intrinsic). Half a century later, de Charms (
1968) followed through by differentiating the “locus of causality” among actors: those who have the “locus of causality” external to them are extrinsically motivated, while those who find it within themselves are intrinsically motivated. More recent scholars speak of extrinsic motivation “whenever an activity is done in order to attain a separable outcome” (Ryan & Deci,
2000, p. 60) or when work is carried out to obtain external outcomes, such as rewards or recognition (Amabile,
1993; Amabile et al.,
1994; Brief & Aldag,
1977). By contrast, intrinsic motivation occurs when an activity is desired for its own sake, when it is performed for some inherent satisfaction, such as the fun or challenge it entails (Locke & Schattke,
2018; Ryan & Deci,
2000). People are intrinsically motivated “when they seek enjoyment, interest, satisfaction of curiosity, self-expression, or personal challenge in work” (Amabile,
1993, p. 186), showing competence and task involvement (Amabile et al.,
1994). They engage in behaviors even in the absence of reward or control (Deci & Ryan,
1985).
Furthermore, besides extrinsic and intrinsic motivations, there is a third type, called “altruistic motivation,” which has been studied since the late 1970s. Altruistic motivation is the desire to benefit others or to expend effort out of a concern for them (Batson,
1987), to protect or enhance their welfare (Schwartz & Bilsky,
1990). Examples of altruistic motivation at work would be seeking the welfare of one’s family, wanting to “make a positive impact” on society, truly looking out for the benefit of clients, and so forth. Altruistic behaviors include acts of helpfulness, charity, self-sacrifice, and courage, out of concern for others, without seeking rewards (Monroe,
1996,
2002; Rosenhan,
1972). Other scholars use the terms “transitive” or “transcendent” to designate altruistic motivation (Caprara et al.,
2005; Grant,
2008; Guillén et al.,
2015; Penner et al.,
2005; Perez Lopez
2014; Torres,
2001). In extrinsic and intrinsic motivations, the agent is self-centered, looking for social or material rewards (money, recognition, prestige, and so forth) or the enjoyment of an activity or personal achievement. In altruistic motivation the main purpose of action is the welfare of others (although secondary motivations are also admissible).
Utilitarian rationality and extrinsic motivation are transposed into the realm of financial investing in the following manner: An action is deemed rational if and only if its resulting net present value is greater than zero. Actors are extrinsically motivated in their behaviors by separable monetary rewards or outcomes exclusively, not by any values intrinsic to their performance. Correspondingly, an expected net present value less than zero would be considered irrational; it would not be motivating. A net present value of exactly zero indicates an exact balance of benefits and costs, implying indifference. Deterrence efforts by regulators and authorities, presumably, should endeavor to reduce the net present value of financial misconduct and fraud to below zero by increasing their costs in the form of monetary penalties and other sanctions to individuals and organizations. Extrinsically motivated actors refrain or curb their behaviors in response to external controls or punishments alone.
As suggested by the illustrative case and the terms of the foregoing rationale, a reliance on legal action directed primarily towards securing monetary penalties and other extrinsic sanctions is insufficient to obtain the predicted outcome. For an individual broker it is profitable to convert the funds invested by clients and file false statements over many years. Even if such a scheme is discovered and successfully prosecuted, the statute of limitations curtailed by the Supreme Court assures a positive NPV. Expected benefits outweigh the costs, making a choice to engage in misconduct “rational” in accordance with a standard utilitarian perspective. Thus, if financial activities are seen to be driven exclusively by the extrinsic motivation of monetary gains or external rewards, misconduct is unavoidable.
An inference and a question follow from the above. The inference is that, under the US regime, the costs of illegal financial activity, calculated in direct (fines, penalties, disgorgements, and so forth) and indirect (reputational, insofar as it affects stock price and profits) losses, do not outweigh economic benefits to organizations and individuals. Therefore, deterrence measures alone are ineffective given the terms of the subjective expected-utility approach. The extrinsic motivation of increased wealth sustains financial misconduct. Due to a positive expected NPV, it remains rational to engage in financial fraud and misconduct.
The question is why more people and organizations do not engage in illicit financial activities, given how profitable they are. Let us leave aside the instances of financial malfeasance which are neither discovered nor prosecuted. Given the favorable odds, why is not everyone committing financial misconduct, since it is supposedly the rational and profitable thing to do? Egan et al., (
2019) find an incidence rate of 7.3% among financial brokers, half of which is attributed to settled disputes, leaving some 3.6% for illicit activities. The rate drops to 1%, if one considers the entire industry (Parsons et al.,
2018). The vast majority of agents appear to be behaving honestly and honoring their fiduciary commitments. They do not actually behave as the simple utilitarian model predicts. There ought to be other models of rationality, therefore, that are not based on utilitarian premises. We have already seen how the utilitarian, neoclassical economic framework aligns with extrinsic motivation, insofar as external rewards and controls explain financial behaviors. This model of rationality can be depicted as egoistic as well, because of the focus on the actors’ own benefits and harms. Accordingly, other motivations beyond the extrinsic ought to be employed in describing the behavior of financial actors.
Our contention is that, given the inadequacy of utilitarian thinking and extrinsic motivation to explain actual financial behavior, we need to consider intrinsic motivation and altruistic motivation as well. Economists have gathered empirical evidence of motivations other than self-interest and external rewards (Fehr & Schmidt,
2006; Frey,
1997). Altruism, fairness, and reciprocity have been considered as strong motivators, apart from self-interest. Although psychologists held at first that motivation for all intentional action is egoistic, in the past thirty years researchers have gathered support for altruistic motivations (Batson & Shaw,
1991; Penner et al.,
2005). Not only do utility and extrinsic motivation fail to deter financial misconduct, but they are also insufficient to explain and predict the full range of actual financial decision-making. For this, recourse to intrinsic and altruistic motivations is necessary.
Financial organizations would do well, then, to acknowledge that, besides external economic utilities, actors take intrinsic motivation and altruistic motivation into account in their decision-making processes. These represent goals which are not externally separable and egoistic: in the case of intrinsic motivation, an improvement in a professional skill or ability, or the enjoyment of a task or job (Kanfer et al.,
2017); in the case of altruistic motivation, the direct welfare of others. Naturally, given the social nature of agents, one may at the same time benefit others indirectly and secondarily.
The different types of motivation affect not only the agents’ decision-making processes, but also their organizations. Many studies have confirmed the organizational benefits of intrinsic motivations (Cho & Perry,
2012) and altruistic motivations (Bolino & Grant,
2016; Thompson & Bunderson,
2003). Intrinsic motivation generates a sense of autonomy and competence (Deci & Ryan,
2000). It partially mediates the psychological empowerment-work performance relationship, and promotes a positive relation to research and development, contextual and innovation performance (Li et al.,
2015). Altruistic motivation enhances well-being and performance, productivity, and persistence (Bolino & Grant,
2016; Thompson & Bunderson,
2003). It creates ripple effects in organizations, increasing job satisfaction and making teams more successful (Aknin et al.,
2011). It predicts higher profitability, productivity, efficiency, and customer satisfaction, as well as lower costs and lower turnover rates (Podsakoff et al.,
2009).
When applying this alternative model of rationality, it is important to note that different kinds of motivations can enter into play simultaneously (Schmidtz,
1993). For instance, financial actors could be motivated to provide excellent service (altruistic), while seeking to earn money for themselves (extrinsic motivation) and improve job-related skills (intrinsic motivation). It is worthwhile to consider the interactions among extrinsic, intrinsic, and altruistic motivations. The interaction most studied until now is the one between intrinsic and extrinsic motivations, also called the “crowding in /crowding out” effect (Staw,
1974). Despite situational variance, it seems that adding extrinsic rewards corrupts natural intrinsic motivations (Deci,
1975; Frey,
1997). Once again, the utilitarian, neoclassical economic approach of the self-interested and extrinsically motivated actor offers a very limited account of actual behaviors.
Besides the motivational aspect of the agents, the impact of financial activities on the moral excellence or virtues of the actors themselves, especially insofar as these are constitutive of the flourishing they seek as a common end-goal, is also worth considering (Grant et al.,
2018; Sison et al.,
2019). Unlike motivations, largely limited to providing explanations of particular behaviors, virtues carry out descriptive and especially normative or evaluative functions of the actors themselves (Alzola,
2012,
2015). Virtues present a fuller picture of actors’ mental states (beliefs, desires, and emotions), more enduring explanations of conduct through stable character traits, and a reflection of value systems made firm through deliberate choices. Moreover, virtues are a necessary condition and partially constitutive of flourishing (Hursthouse,
1999). In the neo-Aristotelian version, flourishing encompasses utility (external, instrumental, and material goods such as wealth) and intrinsic (self-regarding) as well as altruistic (other-regarding) motivations. How, one might ask? The answer is through a hierarchical ordering, which actors establish by exercising the virtues. The challenge then becomes how to exercise the virtues in financial activities and business dealings in general. To the extent they are successfully exercised, not only will financial crimes and all sorts of misconduct be avoided, but the financial professionals themselves will also come closer to achieving flourishing while excelling in finance.
How does virtue ethics view utility, and by extension, extrinsic motivations such as wealth, outcomes separable from economic actors? They are seen as goods, not only as objects of desire, but as things that perfect the agents, satisfying their needs (Sison et al.,
2019). However, they are conceived as instrumental goods, desirable not in themselves but insofar as they lead to other goods, and eventually, to other goods desirable in themselves (and ultimately, to flourishing). There is nothing wrong in seeking profits or positive NPV in financial and business dealings, as that provides the means necessary to satisfy basic needs (food, clothing, housing) and others (health, education, leisure, and so forth) in a market economy. Among the goods material wealth obtains, some continue to be instrumental (food for sustenance), while others are goods in themselves (leisure).
Problems arise when we turn instrumental goods, such as wealth, into goods in themselves, mistakenly pursuing them in this manner. Also known as improper chrematistics, money or wealth is accumulated for its own sake, effectively converting it into an end instead of a means to acquire other goods (Rocchi,
2020). This would occur when we choose material wealth or NPV as an absolute end, regardless of anything else. Then we would not hesitate to mislead our clients about the pricing of trades or the use of their funds; neither would we have scruples about filing false reports with regulatory agencies or otherwise deceiving the SEC. The only thing that matters then would be to increase the financial return on transactions. Moreover, we would then fail to recognize any limit to the amount of material wealth propitious to flourishing, we would deduce that more is necessarily better and that we should accumulate as much as possible. This unrestrained pursuit of profits alone also often entails succumbing to an extremely short-term horizon or vision of success in finance (Van de Ven,
2011; Wyma,
2015). In virtue ethics, this would be giving in to the vice of greed or avarice, whose opposite virtue, moderation, establishes that there is a certain level past which wealth no longer contributes to flourishing but detracts from it (Rocchi et al.,
2020).
Although it might be the intent of punitive measures (e.g., jail time, fines, sanctions) to counteract the unbounded desire for wealth and profits, we not only have reason to doubt their effectiveness (in light of the illustrative case cited above), but also to suspect that by falling prey to the same assumption (more is good, less is bad), exclusive reliance on them might contribute to the very problem they seek to fix. It could even be argued that given the incentive structure in a capitalistic system, these financial actors were simply doing what they were supposed to according to their roles, and thus, without fault (Van de Ven,
2011). Having given in to falsehood and an unbridled desire for wealth, agents no longer balk at committing injustice, short-changing business partners, or engaging in craftiness, even seeking ways and means to hide wrongdoing. This same cunning is employed to make use of legal loopholes such as statutes of limitations, settlements, and so forth to wring out the best deal for oneself financially, without admitting guilt or expressing remorse. Thus, virtue ethics shows how instrumental goods (or extrinsic motivations) such as wealth and profits can be corrupted, with agents falling into opposite vices.
Virtue ethics enriches the understanding of the extrinsic, intrinsic or altruistically motivated agent’s impact on her- or himself and on others, by proposing the ultimate goal of flourishing as a common good (Sison et al.,
2019). Virtues as personal moral excellences constitutive of flourishing effectively combine intrinsic and altruistic motivations. As we have seen, some approaches only consider the existence of actors’ self-interested motivations. This is part of the liberal, post-Enlightenment legacy which views human beings essentially as individuals, capable of independent existence and agency (anthropological and methodological individualism), whose interactions are governed by quasi-mechanical laws, not very different from those of physics (MacIntyre,
1998). Thus the attempt in economics, business, and most social sciences to quantify human behavior and “discover” inexorable laws that predict behavior: for instance, the belief that rationality consists in maximizing individual utility, in whatever form. In MacIntyre (
1999), such individualism is closely linked to bureaucratic compartmentalization, the separation of human existence into independent life-spheres, each with its own set of rules and values. As a result, human life becomes fragmented, issuing in a loss of an overarching moral agency and responsibility.
By contrast, given its pre-Enlightenment roots, virtue ethics subscribes to a personalist view of human beings: people are always, simultaneously, and on equal counts, individuals and relational or social beings (Sison & Fontrodona,
2012; Sison et al.,
2019). Evidence for this may be found in biology (sexual reproduction), developmental psychology (the extended need for nurturing of children by parents within families to reach mature human status), and politics (humans as linguistic animals who use language and abstract thought to organize themselves into complex communities) (Kass,
1999). Similarly, MacIntyre (
2007 [1981]) insists that human identity and final end (
telos) are socially determined by our belonging to a variety of groups, not necessarily of our own choosing, which situates our existence in a web of reciprocal duties and obligations. Human beings are not originally individuals who only later choose to enter into social relationships to pursue self-interest. Rather, they are persons born into families who can achieve their ultimate goal of flourishing only within a political community and as a common good. Their flourishing,
telos or final end is never achieved in a universal, abstract way, but always in a socially, historically, and culturally embedded manner.
A common good is one that can be achieved only insofar as everyone else in the community achieves it; it is not divided and distributed, but shared and participated in (Sison & Fontrodona,
2012). A common good is an object of cooperation, not competition; it is not zero-sum, nor merely Pareto optimal distribution. Because human beings are personal, their ultimate goal of flourishing in political communities can be reached only if each member reaches it as well (MacIntyre,
2016). In the liberal, individualistic mindset, virtues are at best only a means to attain each one’s version of the good life, understood as the satisfaction of individual preferences, whatever these may be. But for MacIntyre (
2007 [1981]), virtues themselves are constitutive of flourishing, and true flourishing is one necessarily shared amongst all members of society. This understanding of flourishing sheds new light on the conceptual dichotomy between self-interested and other-interested motivations because among persons, there can be no strictly individual interest without repercussions on others; and conversely, there can be no purely social interest that does not affect one’s own. Given the personal nature of human beings, intrinsic motivations have a positive impact in others. The same holds true for extrinsic motivations. This does not deny the possibility of egoism or selfishness; rather, it shows why such behavior is an anthropological misconception that augurs moral failure.
How do financial activities, and excellence in them, contribute to the common good of flourishing (Grant et al.,
2018; Sison et al.,
2019)? Flourishing requires two kinds of goods: external, material goods, and internal, non-material ones (Nicomachean Ethics 1099a, The Politics 1323b–1324a). External, material goods lie within the purview of the economy, of which finance forms part (The Politics 1253b). Finance as a form of “wealth-getting” or
chrematistics (The Politics 1253b) represents the efforts, through proper investments or resource-allocation, to obtain the material goods or “returns” whose consumption forms part of the good life. But which financial activities, how, and in which measure? For all of these questions we need the virtues: an element of the internal, non-material goods we develop in ethics. The virtues enable us to respond appropriately to these questions. For instance, studiousness and diligence allow us to discover creative and productive investment activities; obedience ensures conformity with the law; truthfulness helps to gain trust among clients; justice encourages fair market competition; moderation curbs inordinate desires for instant wealth and promotes sustainable, long-term profits; and practical wisdom guarantees that we choose to do the right thing at the right time for the right reasons. Therefore, excellence in financial activities through the practice of the virtues affords us the material goods whose consumption leads to our common flourishing.
A MacIntyrean version of the neo-Aristotelian account of the virtues would pose further requirements. Above all, it would have to overcome MacIntyre’s explicit critique of finance (MacIntyre,
2015), “business ethics” (MacIntyre,
1977), and institutions of capitalism (MacIntyre,
1995 [1953]) as realms hostile to virtue. Only then could it put forward an understanding of financial activity as a “practice” with its own internal goods and standards of performance excellence supported by institutions (Moore,
2012), explain how the goods of such a practice may be sought by individuals navigating through multiple, often conflicting roles in their personal narratives or biographies (Robson,
2015), and demonstrate how both the goods of practice and the goods of individual practitioners contribute to the common good of flourishing of their communities embedded in their own traditions (MacIntyre,
1994,
2007 [1981]). Each of these steps are fraught with problems. Different authors have different accounts of how finance qualifies as a MacIntyrean “practice” (Sison et al.,
2019; Van de Ven,
2011; Wyma,
2015) or “domain-relative practice” (Rocchi et al.,
2020). Likewise, there are several narratives of how financial actors pursue professional excellence through a variety of seemingly incompatible duties and obligations (Roncella & Ferrero,
2020), and how their efforts further not only their practice and professions but also community flourishing (Sison et al.,
2018). Examining these issues in detail and drawing inferences and policy recommendations for financial crime deterrence is beyond the scope of this paper and constitutes directions for future study.
Implications for Policy-Makers and Managers
Let us now turn to the ways in which intrinsic and altruistic motivations, on the one hand, and virtue ethics, on the other, may contribute to better financial behavior than just fines and sanctions. How does the consideration of other types of motivations besides extrinsic, egoistic utility affect the regulation of financial conduct?
Among the generic remedies for corruption are increased monitoring, higher wages, and less discretion (Becker & Stigler,
1974; Kwon,
2012). According to some studies, extrinsic motivation, in the form of higher wages, for instance, leads to less corruption, but strong intrinsic and altruistic motivation can also boost ethical behavior. Bureaucrats with a strong public-service motivation, which includes attraction to public policymaking, commitment to the public interest, civic duty, social justice, self-sacrifice, and compassion possess stricter standards against corruption (Bolino & Grant,
2016; Perry,
1996). It seems that with higher wages as extrinsic motivation, one can “bribe” workers to observe a certain level of compliance, but intrinsically motivated workers have superior integrity. That is, they do not need to be bribed to be good.
Work motivation is of critical importance to public policymakers and organizations, given the repercussions on work environments, human resource policies, individual well-being and organizational success (Kanfer et al.,
2017). However, the current focus of regulation is mainly on punitive economic sanctions in response to extrinsically motivated financial misconduct. We believe financial misconduct can be more effectively deterred by introducing and reinforcing intrinsic and altruistic motivations within organizations, through a leadership style and an organizational culture that promotes them. These interventions would not be merely reactive to misconduct, but proactive and preventive as a result. They would foster an alignment of goals of better performance, well-being, and long-term success between financial regulators and agents instead of the conflicts brought about by external rewards or profits.
Our claim that disutility, a negative extrinsic motivation, is insufficient to prevent financial misconduct in individuals and firms is supported and reinforced by the observation that there appears to be no single effective method for the deterrence of financial misconduct. Schell-Busey et al. (
2016) focus on formal, legal, and administrative prevention and control strategies to deter corporate misbehavior in the US. In their meta-analysis of deterrence measures they find strongest evidence in favor of a mixed approach that includes law, punitive sanctions, and regulatory policy, all of which are examples of extrinsic motivation. Law and punitive sanctions refer to threats or the imposition of fines, prosecution, conviction, and imprisonment. Their effects on company or individual deterrence are inconclusive. Similarly, regulatory policy by itself, which comprises inspections and monitoring, yields mixed results on deterrence. Only a combination of these methods consistently produces a significant deterrent effect on corporate misconduct. Their tentative conclusion does not inspire confidence. Not only do extrinsic deterrents fail the test of NPV, as we have shown, but their composition and mix are apparently indeterminate.
We do not claim that utility or profit considerations are irrelevant or can safely be ignored. After all, a commitment to ethical behavior is correlated with superior corporate financial performance (Verschoor,
1998). We contend rather that in order to explain and predict the actual behavior of financial actors, other motivational factors must be taken into account. Consequently, the adoption of alternative methods of deterring financial malfeasance is likely to reinforce the actual bulwarks against it and improve results: e.g., educational efforts aimed at broadening the scope of financiers’ considerations, aims, and motivations. The main problem with focusing predominantly on utility or extrinsic motivation is that it reinforces an egoistic model of thinking in which agents seek their financial gain above everything else. Thus, it confirms financial actors in the very attitudes that prove inadequate to explain and predict their behavior. In a word, it is unrealistic. In the extrinsic deterrence model, whatever regard financial actors may have for others is subordinated to their own welfare, as if they really do not care about the consequences of their decisions and actions on others. Minimally, that flies in the face of evidence supporting acknowledgment of the effects that altruistic motivations exert on actual behavior. The challenge is to acknowledge and promote the development of motivations other than mere economic benefit for oneself. This implies designing deterrence strategies that promote intrinsic and altruistic motivations.
What further contributions can we expect from virtue ethics? Remember the prime objective of virtue ethics is to promote human excellence and flourishing; efforts to prevent misconduct are just means to this end (Sison et al.,
2019; Sison & Fontrodona,
2012). Pursuing virtues insofar as they are constitutive of flourishing in effect combines intrinsic with prosocial motivations. While motivations have been the object of numerous empirical studies in conformity with modern scientific standards and the virtues have rarely, if at all, been convincingly measured, nonetheless they possess certain advantages. Not only do virtues provide explanations of the purposes of behaviors, but they also fulfil descriptive functions of mental states and express normative or evaluative judgments of the actors themselves. Further, recall that virtue ethics is not opposed to external material goods, wealth, or extrinsic motivation; it only requires they be kept in their proper place as instrumental goods. Nor is virtue ethics contrary to punitive laws and regulations; their necessity is acknowledged in the form of “exceptionless prohibitions.” Virtue ethics is distinctive in advocating a three-pronged approach that includes laws, an account of goods, and instruction in the virtues to achieve its goal.
What does this mean for finance? First, accommodate all legitimate laws and regulations, recognizing, however, that they represent just a third of the solution. At their core would be the “exceptionless prohibitions”: regardless of intentions or circumstances, it is never permissible to lie or state the contrary of what one knows to be the truth in regulatory filings, for instance. Second, provide an account of the goods finance is supposed to deliver. These are external, material goods in the form of financial resources that are instrumental in nature. They are not goods in themselves that ought to be pursued at all costs. There is a limit beyond which they no longer help, but instead hinder flourishing. Moderation, among other virtues, helps one realize where this limit lies. In any case, external material goods such as wealth should always be subordinated to internal, non-material goods such as the virtues, with both put at the service of the common good of flourishing in society. From a MacIntyrean perspective, the goods to be pursued with the virtues are actually three-fold: the goods internal to financial “practices” (sustained by the external goods of “institutions”), the goods embedded in the individual lives of financial practitioners, and the goods that financial practices and practitioners contribute to the shared flourishing of their communities. And third, emphasize training in the virtues through character formation; this is the crucial factor. Virtues are essentially good habits that develop through repetition. Just like mental habits (speaking a language) and mechanical habits (driving), we can acquire the moral habits or virtues through instruction, the presentation of role models, and personal commitment and practice. Perhaps the educational function of the SEC could be broadened to cover not only the technical, but also the ethical, virtue-focused aspects. Certification in this area could be required as well as taking a professional oath, just as lawyers and doctors do. And to help nudge finance professionals toward virtuous practice, we could make use of tricks already learned in psychology regarding motivations. For example, something similar to the Federal Corporate Sentencing Guidelines could be enacted for financial regulation, creating incentives for providing ethical training among professionals in the sector (Palmer & Zakhem,
2001). Thus, we see how rules or laws, goods or motivations, and the virtues come together in the quest to push financial practice toward professional and moral excellence as well as flourishing.
Conclusions
This paper provides evidence to establish that on an NPV basis, crime pays. After inquiring as to why more financial actors do not engage in financial impropriety given that it is presumably “rational” under prevailing assumptions, it sketches alternative methods of deterring financial misconduct, given that crime pays. It examines the utilitarian and egoistic rationality embedded not only in the neoclassical economic account of financial behavior, but also in the legal and ethical measures employed to prevent misconduct. It draws the parallel between economic utility and extrinsic motivation in psychology. By way of a representative case, we show that regulatory measures depending exclusively on utility considerations and extrinsic motivations are ineffective on those terms. Under the current US regime, the NPV of illicit financial dealings can be positive and therefore deemed an example of rational conduct.
The fact that the US financial system perdures attests, however, that not everyone is behaving as this model of rationality describes; they are not taking advantage of an unfailingly favorable calculus. This leads us to think there is a need for change in the framework underlying the regulatory regime that could better explain actual financial behavior and better shape future deterrence efforts. We consider two options: the first, founded on the motivational approach, and the second, on virtue theory.
The motivational approach suggests there are other motivations at work besides utility or self-interest and indicates that intrinsic motivation and altruistic motivation may be operative in the economic and financial behavior of both individuals and organizations. Intrinsically motivated and altruistically motivated financial actors are unlikely to engage in misconduct.
Second, we examine virtue ethics insofar as it provides not only an explanation of behavior, as motivations do, but a descriptive and a normative account of agents as well. Further, the virtues link individual conduct to both personal moral excellence and the quest for the common good of flourishing within communities. Thus, the virtues combine intrinsic and altruistic motivations. Virtue ethics underscores the instrumental value of financial wealth in respect of the final end of flourishing. MacIntyrean virtue ethics, in particular, requires that financial activities constitute “practices”, that that these “practices” be embedded in the individual lives of practitioners who fulfil complex roles, and that “practices” and “practitioners” be embodied in the traditions of communities, contributing to their shared flourishing. A detailed explanation of these stages and their incidence on specific deterrence efforts, however, would merit a separate study of its own.
From the above we draw at least three conclusions.
The first conclusion concerns the very limited effectiveness of deterrence measures based exclusively on utility and extrinsic motivation, as the neoclassical economic theory and its extension into law and ethics dictates. In the current US regime, there are instances in which the NPV of illicit financial activities are overwhelmingly positive. It may also be the case that workers, through high wages, are in fact “bribed” into behaviors compliant with the law. But that cannot be a definitive or long-lasting solution, because the stakes can always be raised.
The second conclusion suggests that it is better to reframe financial-market behavior so as to include, for instance, intrinsic and altruistic motivations. Beyond punitive laws which focus on extrinsic motivations alone, it may be more effective to promote intrinsic and altruistic motivations through appropriate human resource management policies (selecting for the intrinsically or altruistically motivated employees), leadership styles, and organizational cultures. Special attention has to be paid to the interactions among the different kinds of motivation, due to the possible “crowding in/ crowding out” effects in the deterrence policy design.
Finally, we have also endeavored to show how virtue ethics integrates the best of a legalistic, punitive approach with inputs from motivational theories within a wider framework. Virtue ethics subscribes to a personalist view of human beings and an understanding of the final end of flourishing as a common good. The virtues as moral excellences constitutive of flourishing effectively integrate intrinsic and altruistic motivations. Virtue ethics acknowledges the need for, yet limited effectiveness of, laws; it also recognizes the value of wealth and extrinsic motivations. Yet both require the complement of the virtues for excellence in financial practice and to attain the ultimate goal of flourishing.