bad processes, ” that allow these outcomes to occur. i don ’ t believe, however, that either of these hypotheses tells the whole story. root cause analyses of many recent cases of misconduct in the financial sector suggest that misconduct is not just the product of a few individuals or bad processes, but rather the result of wider organizational breakdowns, enabled by a firm ’ s culture. from both a prudential perspective and a financial stability perspective, misconduct risk threatens our core supervisory objective to sustain the efficient provision of financial services to the economy. this suggests that supervisors have an obligation to promote strong internal practices and behaviors that mitigate misconduct risk and create a healthy culture. misconduct risk and cultural capital one way to think about this is “ cultural capital. ” 5 a firm ’ s cultural capital is a type of asset that impacts what a firm produces and how it operates. it is analogous to physical capital, like equipment, buildings and property, or to human capital, like the accumulated knowledge and skills of workers, 6 or reputational capital, like the franchise value or brand recognition. 7 cultural capital is an input into a firm ’ s production process — impacting how it does its business. cultural capital is an intangible asset. that is, we generally experience the impact rather than the thing itself — but its impact can be measured, assessed, and ultimately influenced. for example, in an organization with a high level of cultural capital, misconduct risk is low and observed structures, processes, formal incentives, and desired business outcomes are consistent with the firm ’ s stated values. the unspoken patterns of behavior reinforce this alignment. problems are escalated to senior managers routinely, as employees feel empowered to raise their hand and believe that their efforts will result in meaningful responses. and senior leaders advance through the organization because, in addition to strong business performance, they set a credible tone from above by modeling behaviors consistent with the firm ’ s values. by contrast, consider some characteristics of an organization with low levels of cultural capital. in these firms, formal policies and procedures do not reflect “ the way things are really done. ” the stated values of the organization are not reflected in senior leader behaviors and actions of the 2 / 5 bis central bankers'speeches organization ’ s members, and misconduct results from norms and pressures that drive individuals to make decisions that are not aligned with the values, business strategies, and risk appetite set by the board and senior leaders. employees do not speak freely when they have concerns, and senior

safety and soundness to ensure firms have the appropriate risk identification and risk management processes for prudent banking. we hold them to standards that require them to be resilient to a broad range of potential risks such as credit, market, liquidity, and operational risk. one specific risk is employee “ misconduct risk. ” we define this as the potential for behaviors or business practices that are illegal, unethical, or contrary to a firm ’ s stated values, policies, and procedures. the impact of employee misconduct extends beyond the individual and can impact the firm as a whole, as well as the economy and financial markets more broadly. that is, misconduct risk has both prudential and financial stability implications. for a firm, employee misconduct can make it less resilient by diverting management attention, by harming the firm ’ s reputation in a way that impedes its business, by driving adverse change in the composition of the workforce, or by depleting its capital through losses or fines. since 2008, 1 / 5 bis central bankers'speeches for example, firms have paid, in aggregate, in excess of $ 320 billion in fines related to misconduct. 2 for the broader economy and financial markets, misconduct can inflict harm directly on consumers and employees. in addition, over time, market participants may lose confidence in the financial sector as a whole and adversely impact the sector ’ s critical role in financial intermediation. in 2016, for example, gallup found that confidence in the financial sector had fallen by half over the previous decade. 3 these incidents of misconduct can introduce frictions and raise the cost of financial intermediation, which in turn, reduces the flow of productive financial services. these sorts of external effects that spill over to other firms, consumers, and businesses are a critical rationale for official sector intervention related to employee misconduct. in the u. s., official sector concern with the damage inflicted by employee misconduct dates back to the banking act of 1933. 4 more recently, supervisors have traditionally addressed firm ’ s management of misconduct risk by assessing the effectiveness of firms ’ risk management and internal control functions, such as compliance and audit. yet, despite regulations, supervisory focus, and firms ’ own efforts, significant misconduct risk and bad outcomes continue. why? what explains this persistence? one hypothesis is that recent problems are just a stream of idiosyncratic events, random draws of “ bad apples. ” another hypothesis is that some firms have operational weaknesses, “