Cultural failures at JP Morgan, Barclays and HBOS

Newly released reports into the failures of management at several major banks – HBOS, Barclays, and JP Morgan among them – show that some of the worst losses had roots deeper than the 2008 credit crisis. Toxic internal culture and poor management, not the subprime mortgage collapse, caused billion-dollar losses at some of the world’s largest banks

Bob Diamond, ex-Barclays chief executive, after giving evidence to the UK Treasury Select Committee in 2012

The original narrative of the financial crisis depicted an industry undermined by unwise investment in unexpectedly weak US subprime mortgage products. The knock-on effect of the subprime mortgage market's weakness, coupled with poor credit risk management and uncertainty about interbank exposures, caused a systemic crisis that brought down banks and other financial institutions in the US and elsewhere. To say the least, this account has now been shown not to be the whole story – instead, as a new wave of detailed reports on the failures at individual banks reveal, widespread and catastrophic failures of management meant that the industry was inevitably headed for a crisis of some sort even without the effects of the subprime crash.

The reports have different authors – an internal management task force in the case of JP Morgan; an outside expert in the case of Barclays; a parliamentary commission for HBOS. And it's easy to focus on the individual details of what specifically went wrong at each bank – the Libor-rigging emails at Barclays, for example, or the foolhardy expansion and lack of management expertise at HBOS. But beneath these there are common factors across all three, common problems embedded deep in the structure of the banks, and possibly their peers as well, that led them, for years at a time, inevitably towards crisis.

Slack management of the London Whale

The spotlight fell on the chief investment office (CIO) of JP Morgan in July 2012 after the bank announced that poor risk management of its synthetic credit portfolio had led to losses totalling "approximately $5.8 billion". Several responsible employees – including the office's head, chief investment officer Ina Drew – left the firm shortly after, and other senior executives suffered compensation cuts and bonus clawbacks of various sizes.

The details of the trades that went wrong, the failures of senior management – Drew in particular – and how changes in capital calculation rules may have contributed to the losses, have already been discussed in detail. But in its own internal task force report, released earlier this year, the bank pointed to several more systemic causes of what became known as the ‘London Whale' losses – causes that have been echoed in other very different disasters elsewhere in the financial sector.

Despite some attempts to establish group-wide values [within Barclays], the culture that emerged tended to favour transactions over relationships, the short term over sustainability, and financial over other business purposes

Risk management was weak and understaffed across JP Morgan – even by the standards of the rest of the sector. The group risk committee consisted of three people, only one of whom had any banking experience (James Crown, who spent five years at Salomon Brothers in the 1980s). And, the task force report noted, "a new CIO chief risk officer was appointed in early 2012 [Irvin Goldman, formerly of Cantor Fitzgerald, where his unregulated day trading had earned his employers a $250,000 fine from the New York Stock Exchange], and he was learning the role at the precise time the traders were building the ultimately problematic positions. More broadly, the CIO risk function had been historically understaffed, and some of the CIO risk personnel lacked the requisite skills."

The structure of the risk management and reporting functions was fatally weak as well, the report found – JP Morgan chief executive Jamie Dimon admitted that a history of good performance meant that there "was a little bit of complacency about what was taking place [in CIO] and maybe overconfidence". The overconfidence meant that group-level risk managers such as group chief risk officer Barry Zubrow rarely sat in on CIO risk meetings – increasing the tendency for CIO to see itself as a self-contained unit in which risk management was sidelined in favour of an (obscurely explained) trading strategy.

Especially within CIO, business line management had usurped some of the functions of risk management, including the vital aspect of recruitment. CIO management "had been the driving force behind the hiring of at least some of the risk personnel", the task force report noticed, with the result that Goldman – and his predecessor, the CIO's head of market risk Peter Weiland – felt more responsible to CIO management rather than to the firm and its risk management organisation as a whole.

This replicates, in small scale, an argument that has been happening across the industry for the last few years. As far back as 2008, several major banks were starting to shift reporting lines to allow chief risk officers to report directly to chief executives rather than to chief operating officers or chief finance officers as part of an effort to give the risk function greater independence and ensure that its voice was heard by senior management. Even at the time, though, industry observers worried that it would take more than a change in reporting lines to alter an entrenched culture of overconfidence about risk.

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Cultural failures at JP Morgan, Barclays and HBOS

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