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Sean Park

Fighting complexity with…more complexity!

(via BloggingStocks)

Citigroup (NYSE:C) will begin a new bonus plan aimed at getting its senior executives to work for common earnings improvement across the entire company instead of only driving profits within their departments. According to the FT, the new system is “an effort to increase co-operation and minimize in-fighting among the disparate parts of the sprawling financial services conglomerate.”

Readers won’t be surprised to see me rolling my eyes in disbelief… This is what passes for the leadership for which Citigroup shareholders are paying (hundreds of millions of dollars)?? Did Mr. Pandit expect the stock to bounce on the back of this latest additional coat of shiny eggshell-finish complexity?

However it’s nice to see Mr. Pandit despite living in a house entirely made up of glass (opaque of course) panels, finding the time to wax lyrical about the need for transparency in regulated financial markets. A little bird told me he may have actually just dusted off an old (c. 2005) executive committee strategy document and made a few adjustments to bring it more ‘in line with the prevailing environment’:

Yet transparency is difficult to avoid achieve. It requires continual vigilance to resist standardized products whenever possible appropriate, keeping them away from introducing them to exchanges, resisting creating counterparty clearinghouses and settlement systems and, finally, amassing accurate data on prices and transaction volumes for our proprietary use. Transparency must also include public disclosures to investors about pertinent risk and financial information that give the market the impression it has a chance to make informed judgments.

True, true. Inspiring stuff. Ok maybe not so much (as Felix notes):

If I were a Citigroup employee and I read this op-ed, all my fears about my bank being taken over by robots and consultants would have been confirmed at a stroke. Pandit simply doesn’t come across as human in this op-ed: instead he’s some kind of jargon-generation device, talking about “systemic risk umbrellas” and “alternative accounting approaches”.

I stand by my earlier views that – in it’s current configuration – Citgroup is too complex to be efficiently managed, at least using the prevailing standard corporate management paradigm.

I’m not suggesting that no economies of scale make sense in banking or financial services more generally, only that they are subsumed by complexity within these ‘integrated’ financial behemoths. I even have some sympathy for the seductive logic underlying integrated business models, however in my view the theoretical benefits of an integrated model – while possibly intellectually robust on paper – are impossible to exploit in reality. It ignores what I describe as corporate entropy: ie in any corporate process there exists an inherent tendency towards the dissipation of useful energy.

Indeed – sticking with the chemical analogy and without writing a book about it – it would be fair to say that giant bank mergers are at best an (intrinsically unstable) intermediate product in the reaction coordinate and to make any sense need to be followed by a subsequent division into multiple new end products (which individually release the benefits of economies of scale and synergy without the instability engendered by excessive complexity.) So Citigroup (or UBS or HSBC or RBS/ABN Amro, etc…) should naturally “decay” to form multiple specialist firms that are more focused and efficient than the multiple firms that had been combined first to form these giants.

I’m sure Mr. Pandit is an extremely intelligent and hard working person, my suspicion however is that will not be sufficient to ensure his success. I certainly don’t envy him, however I wonder if he could be more bold. And I forgive any Citi shareholders for hoping I am sadly misinformed. And I’ll admit that we are now (at 16 and change) closer to the bottom than the top, but I’ll abstain from considering a buy order until I see a material sign of reducing complexity…

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