In trust we trust...

There has been a lot of reason of late to feel a true breakdown of trust has occurred between the "common man" and their various elected and unelected institutional representatives. From the banking crisis, to the ongoing political situation in the UK over expense claims, our senses are weakened daily to the notion as to whether anybody can be trusted. The nostalgic media commentators tend to talk about the good old days, where trust was a consistent aspect of community living - where you knew your locals and they knew you and things worked better that way. There is some truth to the claim - my maternal grandfather’s job as a bank manager in the west of Ireland involved seeing the "whites of the eyes" of his very local borrowers, and their relationships were based on trust more than any legal framework or regulatory mandate, and that situation worked just fine.

The conspiracy theorists, who I think occupy most media positions, would like to suggest that society has become inherently more evil, and people truly can't be trusted for that reason. To me, that overstates things - people haven't inherently changed all that much. People are on average probably no less trustworthy or untrustworthy than they used to be. The real change has been the disparate nature of the daily interactions that people have now, which ends up altering the attitude that people bring to bear on their relationships with people. You are much less likely to act in an inappropriate way towards someone you will potentially see in your local pub, than a person who lives in Shanghai, but who you have “connected” with on the Internet.

It took 38 years for the radio to gain a global audience of 50 million. It took TV 13 years to achieve the same. It took the Internet 4 years, the iPod 3yrs and Facebook 2 years. We truly live in exponential times. A consequence of that is that the nature of interaction between people has changed exponentially too. With all these increases in communication channels, we ironically have not actually improved in the quality of our communication. Perhaps, we may have even seen a worsening in communication as we take it for granted that we are "connected".

This week I was directed towards a piece of research that was trying to understand the implications that different forms of corporate ownership have on the success and longevity of those businesses. Specifically the researchers at the London Business School were trying to establish some of the effects of having dispersed ownership structures - where the owners are both numerous and geographically disparate. Disparate ownership has developed rapidly with truly global capital markets where information technology has allowed owners to theoretically stay "informed" whether they are geographically local, or literally on the other side of the world.

The problem, however, for an investor who is geographically distant is that he can’t really stay “informed” in the truest sense. He’s not part of the community of the company directors, and he can’t look into the “whites of their eyes” on a regular basis. There is both a geographical and cultural divide. A consequence of this has therefore been an increase in cross-jurisdictional legal protections, which fill the cultural and geographical divide, or the “trust gap”. Instead of fostering relationships of trust, what we have done, is to establish a system that expects the worst and tries to protect for it through legal and regulatory structures.

The system is not as the London Business School research would say a "trust generating mechanism" - it is actually the opposite. As the research looks back over the 100 years of data, it was clear that relations of trust created the conditions in which interactions between firms and investors were repeated and where directors had incentives to sustain their reputations among local communities. The likelihood of acting improperly to an investor in Beijing and another one who lives on your street is quite different. The borrowers who were granted loans by my grandfather in the west of Ireland, were they to fall behind on payments, were very likely to bump into him in the local pub, or out shopping – and the public sense of shame was a sound motivator in the relationship.

From the data in the LBS research it was clear that in the less disparate ownership world of 50-100 years ago shareholders had little recourse in courts but much influence in the communities and local markets of which they and their firms were a part. Even as ownership dispersed in terms of numbers of shareholders, it remained geographically concentrated and directors were concerned to maintain their reputations among local investors. Eventually as local relations of trust became harder to sustain then formal investor protection emerged to substitute for them.

How is all of this relevant to today's turbulent and truly global trading environment? Well, the motto of the London Stock exchange remains "My word is my bond", as it has been for centuries since brokers traded with each other literally across the floor of the exchange. The globalization of the capital markets has changed all that. Trust is usually no longer so intimate an experience. But, we still need to create or generate new mechanisms of trust. Without some sense of trust in the figureheads who run our institutions we will become endlessly and bureaucratically tied up in oversight, regulation and legal process. Which is expensive, and not much fun.

The distant relationship between the mortgage broker in southern California and the German insurance company that would ultimately own the mortgage through a securitisation managed by a bank in New York or London, makes the creation of a relationship based on trust difficult to achieve. A legal process can help, but ultimately if the inclination of that broker isn't towards doing "the right thing", then with all the legal protection in the world you should probably be concerned about doing business with him. In the "old days" where the brokers clients lived in his community the potential shame of acting immorally, which would outcast him and his family in that society, was a good trust generating mechanism.

The irony of this situation is that we regularly told that we live in the Communication Age – the exponential growth of networking sights like Facebook, MySpace and Twitter show how people can connect without geographical boundaries. The 6 billion people in the world are merely six degrees of separation from eachother, which with the network effect is diminishing all the time. The irony though is that these networks aren’t necessarily making society any less secular. All of these networking tools allow the users to project an image of themselves out to their network that is self-created. For many that may mean that they aren’t connecting in a real sense with their network – they are conveying an artificial image out to a group of people who will probably rarely actually see the real image in person. Paul Saffo, who is a futurologist, is pessimistic about how society will be affected by the media revolution. "Each of us can create our own personal-media walled garden that surrounds us with comforting, confirming information and utterly shuts out anything that conflicts with our world view," he says. "This is social dynamite" and could lead to "the erosion of the intellectual commons holding society together. We risk huddling into tribes defined by shared prejudices".

Hopefully it won't come to that, but this sense has parallels to the world of international capital markets or politics where often your representative seems like a faceless figurehead who says all the right sound bites but never really makes you feel connected or fully engaged. The benefits of having global information networks, and global capital markets are clear and manifold. They provide the seeds upon which countries and individuals can participate in the worlds markets and have genuinely helped to increase wealth and reduce poverty. Nonetheless, the exponential increase in the global network has not actually increased the sense of trust across the system – it may have fostered the opposite.

Trust is an enormously valuable commodity. If trusting was a viable option in our daily interactions with people then we'd save ourselves a whole lot of grief and expense. If, for example, we could trust politicians to make reasonable expense claims, then we wouldn't have to establish any oversight committee, to oversee the oversee-ers and could consequently reduce the costs of the political system. To have a system that is entirely based on trust is obviously an unrealistic utopian concept. Nevertheless it's hugely important that we do have some "trust generating mechanisms" in place which if well established are typically cost free, but enormously cost saving in terms of diminished bureaucracy and oversight. If we don't have these mechanisms in place we will be in a vicious circle - lack of trust will distance decision makers even further from their stakeholders.

In trust we trust.