The Divorce between ownership & control!

Here is a fine that the guilty party may find tough to repay.

Jerome Kerviel - rogue trader for Société Générale has been found guilty of breach of trust, forgery and entering false data into computers all linked to covering huge and illicit stock bets that are estimated to have cost France’s second biggest bank just under Euro 5 billion in losses. Kerviel faces three years in jail - in other words, plenty of time to organise the bring and buy sales, whip-rounds and begging letters to make a chink in the Euro 4.9bn bill.



One of the aspects of the case is that bank’s defence that it did not know what Kerviel was doing - in other words we see here an example of the principal agent problem, a massively costly failure of information and back office controls and systems.

The presiding judge told the court that he was confident that Société Générale was not aware of Jerome Kerviel’s fraudulent activities. The trader had taken speculative positions on selected stocks without the knowledge of the bank. Societe Generale has already been fined four million euros after admitting to lax financial controls. Kerviel himself was something of a loner and took home a meagre salary by city standards.

The principal agent problem stems in part from a separation of owners from managers where the agent (or manager) acts in their own self-interest, not in support of the aims of the principal (stockholder). Much has been written in recent years about the incentives to cheat (Dan Ariely has plenty of say on this in his two recent books - see this talk - “Finding Cheating’s Comfort Level ). For many the pressure or incentive to cheat is greatest when you are given the chance to ‘Play’ with other people’s money (you do not have the same sense of ownership). The Kerviel case highlights just how risky this can be for huge financial organisations if there is a failure of control over the trading floors.