Change the culture

The Royal Bank of Scotland has agreed to pay $44 million as a settlement for an ongoing US criminal investigation.

The bank has been accused of lying to its clients regarding investments between 2008 and 2013.

Background

Royal Bank of Scotland

The Royal Bank of Scotland was established in 1724 and it headquartered in Edinburgh, Scotland. It is one of the retail banking subsidiaries of The Royal Bank of Scotland Group plc.  The bank has around 700 branches, mainly in Scotland. It also has branches in many larger towns and cities throughout England and Wales.

In 2007 Royal Bank of Scotland announced an operating profit of £10.3 billion. Only 18 months later the bank posted a loss of £28 billion. Between 2008 and 2013, the bank was allegedly lied about bond prices and charged commissions it did not earn. It reportedly cheated its customers and concealed the fraud in an effort to boost profit.

Financial crisis 2008

Post the September 11, 2001 attacks, the US Federal Reserve stimulated the struggling U.S. economy by cutting interest rates to historically low levels. This resulted in a boom in the real estate market. Lenders began to extend mortgages to millions who couldn’t qualify for traditional bank loans. Housing prices therefore peaked in early 2006 and began to decline in 2006 and 2007. Many of the subprime mortgages were affordable in the beginning but rates spiked in 2007. In the meltdown that occurred in the wake of this crisis, several banks in Wall Street had to declare bankruptcies and a global recession followed. It is considered one of the worst financial crises. The financial crisis ended up resulting in the collapse of many international banks worldwide – including the Royal Bank of Scotland. The British government put together a bank rescue package totaling approximately $850 billion was announced by on 8 October 2008. 

Analysis

The Royal Bank of Scotland has recovered from the financial crisis and has been able to post profits in the past three quarters. This is the second time since 2008 when the bank has been able to turn a profit for three consecutive quarters. The bank has revealed that it is on track for its projections for 2017 after seeing a £392m profit for the July-to-September period. The profits for the year so far is now at £1.3bn.

However, the bank may yet be pushed into loss for this year as it has to settle with US Department of Justice over alleged fraud. The DOJ is investigating on whether the bank RBS mis-sold mortgage bonds leading up to the 2008 banking crisis.

In addition, RBS has also reached a multi-million dollar settlement over a criminal investigation in the US. This is related to the bank lying to their customers over investments from 2008 and 2013. RBS will pay $44 million. US Attorney Deirdre Daly criticized the bank’s culture noting, “Those in a position of authority taught and encouraged fraudulent trading practices. Worse, those supervisors and compliance personnel then took steps to prevent victims and honest RBS employees from discovering and exposing the scheme.” Daly added, “By entering into this agreement, RBS has admitted the seriousness of its past criminal conduct and made a clean break.”

A spokesman for RBS said. “Having identified misconduct and self-reported the matter to the authorities, RBS has extensively co-operated with this investigation. Two former managing directors have pleaded guilty, and RBS has zero tolerance for market misconduct. We are pleased to be able to resolve this issue as we continue to build a simpler, stronger bank that is fully focused on serving our customers well."

RBS’ woes are far from over. UK’s Financial Conduct Authority is considering whether it can take action against Royal Bank of Scotland over the way it treated its small business customers in the five years after the 2008 banking crisis. "More progress, but no update on the DoJ investigation and the spectre of GRG still leaves a question mark over whether the bank really can return to profitability next year," said Neil Wilson, senior market analyst at ETX Capital. "Shares have risen 60% in the last year as RBS has begun to show profits, but if investors get a whiff that profits are not coming next year, they may lose patience.”

RBS is among the many banks across the world under scrutiny for unscrupulous activities. In June 2017, UK’s Serious Fraud Office charged Barclays along with four of its former executives with fraud over its actions during the 2008 financial crisis.

Assessment

Our assessment is that the culture within financial intuitions has to change across the world. There are lessons to be learnt from the 2008 financial crisis – banks and investors were chasing profits rather than serving their customers. The high pressure environment also resulted in employees cutting corners and breaking the rules in order to stay ahead. This resulted in a global recession. In order to avoid another global downturn, then a change must occur and such institutions should evolve.