and some of the corrective measures that have been, or might be, taken by both firms and regulators. while the title of the conference refers to both “ culture ” and “ behavior, ” i am going to focus mostly on the behavior that regulators and the public can observe, since culture is a somewhat contested academic concept and, however defined, is difficult to observe and assess from the outside. it is the behavior of the employees of banking organizations with which we, as regulators, are ultimately concerned, since it is only through its employees that a firm can act. where there is significant incidence of behavior that violates laws or regulations, or runs afoul of supervisory guidance, then we will need to consider some combination of tougher sanctions, additional regulation, or more intrusive supervisory oversight. after stating a few general premises relating to the manifold influences upon behavior in financial firms, i will briefly address two topics : first, what regulators have learned about the shaping of behavior within the firm from our work on risk management and, second, the role of reward and punishment systems in affecting employee behavior. bis central bankers ’ speeches influences on behavior without attempting a rigorous definition of “ culture ” or “ corporate culture, ” i think we can usefully posit that in every organization there is a set of norms that appear to inform behavior of those within the organization, even in the absence of explicit and specific rules or instructions. these norms are of course related to the rules, guidelines, structures, incentives, and punishments that the organization creates. indeed, one important determinant of behavior is the shared expectation as to which of the stated values and rules of an organization will be supported and reinforced by management action, and which are generally regarded as window dressing. the identifiable norms may well differ within an organization, especially a large one in which different functions are performed in pursuit of overall organizational ends. debates over the sources and nature of these norms are the stuff of the academic literature to which i referred a moment ago. i will not attempt to synthesize this learning, much less to fashion my own theory. again, though, i think one can pragmatically note that these norms are shaped by both internal choices and external influences and constraints. for a private, profit - making corporation the most important internal choices are obviously made by management under the oversight of the board of directors. however, the revealed preferences and choices of employees will also affect a firm ’ s culture. for a financial institution, external influences

the so - called risk - based capital standards, or the basle accord. the basle accord capital standards were adopted in 1988 by most of the world ’ s industrialized nations in an effort to encourage stronger capital at riskier banks, to include off - balance sheet exposures in the assessment of capital adequacy, and to establish more consistent capital standards across nations. the accord was a major advance in 1988, and has proved to be very useful since then. but in recent years calls for reform have begun to grow. i will outline briefly one of the key problems we are currently facing with the basle accord. the basle accord capital standards divide bank on - and off - balance - sheet assets into four risk buckets, and then apply a different capital weight to each bucket. these weights increase roughly with the riskiness of the assets in a given bucket. however, the relationship is rough. perhaps most troublesome, the same risk weight is applied to all loans. thus, for example, a loan to a very risky “ junk bond ” company gets the same weight as a loan to a “ triple a ” rated firm. this aspect of the accord clearly gives banks an incentive to find ways to avoid the regulatory capital standard for loans that their internal models say need less capital than is required by the basle accord. conversely, banks should want to keep loans which their models say require more capital than does the basle standard. and, guess what, banks have been doing just that. this so - called “ regulatory arbitrage ” may not be all bad, but it surely causes some serious problems as well. for one thing, it makes reported capital ratios - - a key measure of bank soundness used by supervisors and investors - - less meaningful for government supervisors and private analysts. finding ways around this problem is a high priority at the federal reserve. the arbitraging of regulatory capital requirements is but one of a host of similar conflicts between banks and bank supervisory rules and regulations. indeed, one can view much of the long history of bank supervision and regulation as something of a contest between supervisors who want to deter excessive risk taking and banks who seek ways around sometimes inefficient, or just plain uneconomic, regulations. this long history leads me to seek supervisory strategies that are, in the economist ’ s jargon, incentive compatible. by incentive compatible, i mean supervisory policies and procedures that give banks strong internal incentives to manage their risks prudently