Restoring trust could take generations

Feb 12 2009 by Nic Paton Print This Article

It's hardly surprising that people feel betrayed by the financial and federal institutions that up to 18 months ago seemed so solid and immutable.

But according to a new study by academics at two of America's top business schools, what we are now witnessing is a complete collapse in the confidence and trust people have in the country's financial leaders and key institutions.

The worry is what the long-term implications of this might be for the American economy and, more widely, for American society as a whole. Because once trust is broken, particularly if that cynicism and mistrust is then passed down from one generation to the next, it is very hard to restore.

The study by Luigi Zingales of University of Chicago Booth School of Business and Paola Sapienza of Kellogg School of Management has found that, as U.S unemployment continues to rise, the housing crisis deepens and pensions drain away, America's trust of its financial leaders and institutions has plummeted.

The Chicago Booth/Kellogg School Financial Trust Index analysed data from more than 1,000 American households, randomly chosen and surveyed over the phone over two weeks in late December.

This found that barely more than a fifth said they currently trusted the financial system.

Just 12 per cent of people said they trusted the stock market and more than a tenth said they had withdrawn money from the bank and kept it in cash during the crisis.

Trust in the financial sector as a whole had declined sharply over the past few months, with respondents indicating a decline across all categories, with perceptions of the stock market most soured.

The findings indicated just how deep America's declining trust ran and how strongly it is contributing to the country's financial problems, argued Sapienza.

"Trust is a powerful motivator of economic behaviour. Our previous research and anecdotal evidence suggest that lack of trust can have paralysing effects on financing and investments," he explained.

A key goal of the research was to determine to what extent (if any) the perception of current events and government policy had affected how much people trusted financial markets.

Those who identified the main cause of the 2008 financial crisis as being lax government oversight or regulation exhibited the least trust in the market. Levels of trust were also low among those who blamed companies, cited poor corporate governance or managerial greed as the root causes.

While the heavy financial losses suffered could in part explain this reduced trust, a crucial factor seems to be the way in which the government has intervened, the academics argued.

While the majority of those questioned favoured government intervention in financial markets, eight out of 10 said the way it had intervened had made them less confident in the market.

Even among those who felt federal intervention in the financial sector should increase, three quarters admitted they had still lost confidence as a result of recent federal intervention.

This percentage rose to 95 per cent among those who did not favour government intervention.

In other words, even among investors who were ideologically favourable to government intervention in financial markets, three out of four had been made less confident by the way the government has intervened, Zingales and Sapienza concluded.

"One of the key factors undermining trust," said Zingales "is the perception that the rules have changed in the middle of the game. The government has done exactly this. What is most shocking is how deeply this has affected the trust of the average American."

Further questions proved that "cosiness" between government and the financial industry, whether real or perceived, was clearly a problem in the eyes of many Americans.

Respondents were asked to choose what motivated former U.S Treasury Secretary Hank Paulson as he engineered and executed the government response.

While a fifth said they had no opinion, the remaining 80 per cent were evenly split.

Half, 40 per cent of the overall respondents, believed Paulson had acted in the interest of the country.

The other 40 per cent, however, believed Paulson's plan had been meant to benefit Goldman Sachs, the investment bank at which he served as chairman and chief executive prior to being appointed Secretary.