CORPORATE GOVERNANCE IN THE UK – Term Paper

1.0 Introduction

Globalization has had positive impacts to the participatory nations across the world. Economic development is a key benefit accrued from the activity. The economic integration that takes place between the countries is a factor that creates the necessity of globalization. However, financial crisis is a key issue associated with the failure of the globalization. Financial crisis is a situation that involves the fall of financial value of assets or institution (Forbes & Hodgkinson, 2014. The activity takes place when panic occurs in the banking sector as investors take the initiative of selling off their assets. The investors can also opt to withdraw the savings from the accounts. A look at the 2007-08 financial crises illustrates the point. Commonly, referred to as the global financial crisis it affected the financial system of almost every country around the globe with much impact being felt in the UK banking system. This research answers the question; did relation of agent-principal and corporate governance contribute to the financial crisis?

The system of practices processes and rules that companies apply in the control and directing of its operation is corporate governance. The activity involves the balance of interests of organization’s key stakeholder’s (Forbes & Hodgkinson, 2014). The stakeholders may include customers, management, shareholders, suppliers and employees (Forbes & Hodgkinson, 2014). The understanding of the entire financial crisis may be explained by the corporate governance applied by the banking sector. Conversely, according Jensen & Meckling (1976) agent principle refers to an entity or person (agent) that is capable of making decisions on behalf of or even impact another entity or person (principal). In corporate governance, the corporate management is the agent while the shareholders are the principal. The perfect control and directing of the banks daily activity is essential to avoid such crisis. A look at the British banking system in relation to the financial crisis plays an integral part in the activity. On the other hand, the legal arrangement that involves appointment of a party to represent the other is agent-principal relationship. The avoidance of conflicting interest is a key benefit derived from applying the system.

Research background

A look at the global crisis that took place in 2007 explains the role of corporate governance on the whole issue. The understanding of the British banking system plays a relevant role in explaining the reason behind the financial crisis. Firstly, the selection of a British bank and analyzing its operations before and during the period is essential. The activity would involve the understanding of the basic operations that the banks undertake when providing their services to the customers that seek their services. The corporate governance of the financial institutions in the UK banking system play a key role in creating a reliable set of factors that is relevant in the maintenance of the cash inflow and outflow. Ideally, the understanding of the corporate governance and the agent-principle relation is relevant for the researcher to conceptualize. In conclusion, the use of the British banking sector in understanding the crisis is a perfect choice.

Aims and objectives

The researcher seeks to look into details of how the relation of agent-principal and the corporate governance contributed to the financial crisis that was experienced between 2007 and 2009. To have an in depth understanding of the research topic, the following were the aims and objectives of this proposal.

1.    To find out what is corporate governance and how its internal operations run.

2.    To find out the need of a regulatory framework for contemporary UK banking system and other financial institutions.

3.    To find out how corporate governance is implemented and the key principles under which the corporate governance is based on in the UK banking system.

4.    To find the key reasons why there are continuous failures in the corporate governance in the UK.

5.    The consequences that result from the failure of UK based financial institutions.

2. LITERATURE REVIEW

Corporate Governance

A lot of research studies have been conducted on the topic of corporate governance. According to Fernando (2009), corporate governance refers to the processes, mechanisms, and relations through which corporations are directed and controlled. Mallin, (2016) argues that corporate governance mainly entails balancing the interests of the corporate’s primary stakeholders, such as customers, management, shareholders, financiers, suppliers, the community and the government. It encompasses all aspects of management from internal controls and planning to corporate disclosure and performance measurement since it provides a framework for achieving a company’s objectives. According to Monks & Minow, (2008) some of the governance mechanisms include monitoring the policies, actions as well as decisions of the affected stakeholders, corporations, and their agents. According to Ghofar & Islam, (2015) interest in the corporate governance activities or practices of current company’s especially based on accountability, increased as a result of the high-profile collapses of many large corporations during the period 2001 to 2002. Based on the ‘Government at a glance 2015: Country factsheet reports’ OECD report, most of the collapses were attributed to accounting fraud (Gramberger, 2001). Good or bad governance have a direct impact on a corporation’s operations. Rosam & Peddle (2004) puts forth that bad governance can cast doubt on a corporation’s integrity, reliability and obligation to stakeholders. Conversely, good governance creates a transparent set of policies and controls directors, shareholders and officers have aligned incentives. It is undoubtedly clear that most corporations thrive to attain high-level corporate governance. However, to stakeholders, success is not only measured by the profits accrued but rather also by demonstrating good citizenship through ethical behavior, environmental awareness as well as sound corporate governance practices.

Importance of regulatory framework for contemporary financial institutions

Financial institutions in the UK and also in other parts of the world are undergoing tremendous changes, the main issues addressed by banks and legislators relates to the required framework that can attain an effective and efficient financial market. Based on the increasing cross-border banking activities as well as the growing complexity of UK financial institutions, a regulatory framework is a mechanism that can attain an efficient environment for financial institutions operating in the UK (Castka, Bamber & Sharp, 2004). It has been established that despite having a regulatory framework though not being a perfect solution, it can be the most suitable model for helping financial institutions deal with the growing complexity of financial institutions in the UK. Having a regulatory framework has played an integral role for UK financial institutions in numerous ways. They include;

Consistency and coordination in financial institutions

Regulatory framework ensures competitive equality through avoiding arbitrage and prudential requirements which increase systemic risk. Managing systemic risks are attained through the elimination of differences in cost regulation for specific financial institutions (Calder & Moir, 2009). Formulating consistent prudential needs for different types of banks, consistency regulatory policies for different types of financial institutions and also coordination between supervisory and regulatory authorities in the financial sector are other ways of managing systemic risks.

Increasing financial market concentration

There has been development in the financial market resulting in increased number of financial conglomerates in the UK. Having a regulatory framework is essential to these groups. Based on the framework financial institution, supervision must take into account the coordination of approaches at the level of emerging markets and developed markets, the assessment of capital adequacy, the transparency of group structures and risk control in a bid to prevent the contagion effect (Carmichael & Pomerleano, 2002).

The success of financial regulatory framework can be measured when modern financial institutions engage, support and develop the economy and also support an inclusive, well balanced and diverse social development process.