Ethics in Finance

Ethics in Finance

EXCERPTS from the book “Case Studies in Finance”

Bruner, Eades, Schill

Ethics in Finance

Why One Should Care about Ethics in Finance


Managing in ethical ways is not merely about avoiding bad outcomes.  There are at least five positive arguments for bringing ethics to bear on financial decision-making.

Sustainability. Unethical practices are not a foundation for enduring, sustainable enterprise.  This first consideration focuses on the legacy one creates through one’s financial transactions.  What legacy do you want to leave?  To incorporate ethics into our finance mind-set is to think about the kind of world that we would like to live in and that our children will inherit.



What is “Good”? Consequences, Duties, Virtues


One confronts ethical issues when one must choose among alternatives on the basis of right versus wrong.  The ethical choices may be stark where one alternative in truly right and the other truly wrong.  But in professional life, the alternatives typically differ more subtly, as in choosing which alternative is more right or less wrong.  Ernest Hemingway said that what is moral is what makes me feel good after and what is immoral is what makes one feel bad after.  Because feelings about an action could vary tremendously from one person to the next, this simplistic test would seem to admit moral relativism as the only course, an ethical “I’m OK, you’re OK” approach.  Fortunately 3,000 years of moral reasoning provide frameworks for a better definition of what is right and wrong.

Right and wrong as defined by consequences. An easy point of departure is to focus on outcomes.  An action might be weighed in terms of its utility for society.  Who is hurt or helped must be taken into consideration.  Utility can be assessed in terms of the pleasure or pain for people.  People choose to maximize utility.  Therefore, the right action is that which produces the greatest good for the greatest number of people.

Utilitarianism has proven to be a controversial ideal.  Some critics have argued that this approach might endorse gross violations of the norms that society holds dear, including the right to privacy, the sanctity of contracts, and property rights, when weighed against the consequences for all.  And the calculation of utility might be subject to special circumstances or open to interpretation, making the assessment rather more situation-specific than some philosophers could accept.

Utilitarianism was the foundation for modern neoclassical economics.  Utility has proved to be difficult to measure rigorously, and remains a largely theoretical idea.  Yet utility-based theories are at the core of welfare economics, and underpin analyses of such widely varying phenomena as government policies, consumer preferences, and investor behavior.

Right and wrong as defined by duty or intentions. Immoral actions are ultimately self-defeating.  The practice of writing bad checks, for instance, if practiced universally, would result in a world without check-writing and probably very little credit, too.  Therefore, you should act on rules that you would be required to apply universally.  You should treat a person as an end, never as a means.  It is vital to ask whether an action would show respect for others and whether that action was something a rational person would do: “If everyone behaved this way, what kind of world would we have?”

Critics of that perspective argue that its universal view is too demanding; indeed, even impossible for a businessperson to observe.  For instance, the profit motive focuses on the manager’s duty to just one company.  But Norman Bowie responds, “Perhaps focusing on issues other than profits…will actually enhance the bottom line… Perhaps we should view profits as a consquence of good business practices rather than as the goal of business.”

Right and wrong as defined by virtues. Finally, a third tradition (1) in philosophy argues that the debate over values is misplaced.  The focus should, instead, be on virtues and the qualities of the practitioner.  The attention to consequences or duty is fundamentally a focus on compliance. Rather, one should consider whether an action is consistent with being a virtuous person.  This view argues that personal happiness flowed from being virtuous and not merely from comfort (utility) or observance (duty).  It acknowledges that vices are corrupting.  And it focuses on personal pride.  “If I take this action, would I be proud of what I see in the mirror? If it were reported tomorrow in the newspaper, would I be proud of myself?”  Warren Buffett, chief executive officer (CEO) of Berkshire Hathaway, and one of the most successful investors in modern history, issued a letter to each of his operating managers every year emphasizing the importance of personal integrity.  He said that Berkshire could afford financial losses, but not losses in reputation.  He also wrote, “Make sure everything you do can be reported on the front page of your loacl newspaper written by an unfriendly, but intelligent, reporter.”

Critics of virtue-base ethics raise two objections.  First, a virtue to one person may be a vice to another.  Solomon (1999) points out that Confucius and Friedrich Nietzsche held radically different visions of virtue.  Confucius extolled such virtues as respect and piety, whereas Nietzsche extolled risk-taking, war-making, and ingenuity.  Thus, virtue ethics may be context specific.  Second, virtues can change over time.  What may have been regarded as gentlemanly behavior in the nineteenth century might have been seen by feminists in the late twentieth centry as insincere and manipulative.

A discrete definition of right and wrong remains the subject of ongoing discourse.  But the practical person can abstract from those and other perspectives useful guidelines toward ethical conduct.

–How will my action affect others? What are the consequences?

–What are my motives? What is my duty here? How does this decision affect them?

–Does this action serve the best that I can be?



(1) This view originated in ancient Greek philosophy, starting with Socrates, Plato, and Aristotle.