The challenges

This report challenges all regulators of professions and occupations to prove that regulations serve the public interest more than they stifle competition and the benefits that consumers derive from fair competition in the marketplace. Foremost, it challenges regulators (particularly SROs) to be clear about what public interest is being protected by regulation.  Is it really public interest or the self interest of the profession that is being protected?  The Bureau’s view is that unnecessary regulation stifles the marketplace. The report is also clear that it is not about deregulation — it’s about unnecessary regulation.  In this category of unnecessary regulation the Bureau presents many challenges; here are three examples:

1. Prove the merit of advertising restrictions on professional services since these restrictions prevent the public from learning about and differentiating services and making better choices;
2. Prove the merit of overly restrictive entry to practice conditions that act as barriers to qualified newcomers who would otherwise add zest to a marketplace that is perhaps too comfortable for established incumbents;
3. Prove the merit of practice exclusivities and too broadly defined scopes of practice that limit work that can be competently performed by assistants or other professionals at lower cost.

The overall challenge is this, prove that your regulations serve a greater public interest because unnecessary regulations have a damaging effect on competition and in the aggregate, masses of unnecessary regulation damage overall productivity in the economy.

Concern about low productivity is driving this

On this theme, the report opens with this zinger, followed by a solid economic analysis:

Despite comprising a significant part of the service economy in Canada, perhaps as much as one fifth, the professions comprise one of the overall economy’s least productive sectors.

The economic analysis makes it clear that the costs associated with professional services find their way into every other product and service in the economy; hence the concern about low productivity.

Mission clarity is important

Harm reduction or protecting the public interest is the core mission of regulation and it’s reasonable that there needs to be clarity about the primary mission–about what public interest is being protected. Taking a cue from risk management, clarity about the objective is the starting point.  What harm are we to prevent or mitigate and what good are we trying to foster? For a regulator, it’s all about the public interest. If the public interest involves crime prevention, a safety issue, then the public interest is likely quite clear. Regulations are put in place to prevent theft, personal injury or worse. However, in some areas of social regulation or economic regulation, the idea of the public interest becomes harder to define–but nevertheless, important to define.  Regulators need to define the public interest or be vulnerable to the criticism of creating unnecessary regulations that damage another public interest–a healthy marketplace.

Defining the public interest

Standards are useful in establishing public interest-especially if they have been developed through an open process of stakeholder consultation. Public expectations are also useful if there is a systematic and reliable method of establishing this: perhaps through an analysis of complaints, surveys or media reports.

A recent strike by Toronto Transit Commission workers presents an interesting case demonstrating how unexpected behaviour can swiftly damage reputation.

From sigh of relief to gasp of disbelief

Last week, city of Toronto residents, collectively, took a huge sigh of relief. The city and union officials, representing the Toronto Transit Commission (TTC) workers, had just negotiated a deal that promised to advert a crippling strike.

Granted, the deal had to be ratified by the union executive and accepted by members. However, given that the deal seemed generous, and that negotiations seemed long and arduous, most residents did not expect a strike. Union spokespersons had also made it clear that any possible strike would be preceded by 48 hours of notice.

So when transit workers walked off the job on Friday evening (April 25th 2008), without notice, creating havoc for thousands of people whose plans depended on the service, the collective sigh of relief became a gasp of disbelief. A diverse mixture of views and emotions about TTC workers, union leadership, and city officials got thrown into a public pot that started to brew early Saturday morning.

Risk in the glare of public opinion

Public transit in Toronto generally has had the support of a wide constituency–thousands of daily riders, businesses, urban planning gurus, environmentalists, and even drivers who appreciate less traffic congestion. However, this support was about to evaporate.
Promptly on Saturday morning, Ontario’s Premier called for a rare Sunday emergency sitting of the provincial legislature. On Sunday, then, the legislature met and ordered transit workers back on the job. It was a rare vote with unanimous support of members and all parties. Surveying the damage From a reputation point of view, TTC workers created huge damage for themselves and the venerable transit institution. Reputation is based on trust or confidence. In this situation, trust encompasses the public’s confidence that management and workers are operating professionally with due regard for public interest and safety.

A rogue strike that clearly put workers’ interests ahead of public interest, even raising questions about the personal safety of stranded passengers who were asked to leave stations on Friday night, undermines this trust. It undermines the claim of being professional. Professionals, after all, receive specialized training to deal with consequential, uncertain situations — to deal with risk. Professionals also ascribe to an ethical code designed to eliminate conflict of interest. The client’s interest comes first; conflict of interest is to be avoided. When it is present, it’s a mark of professionalism to reveal the conflict so that the client can make an informed decision.
What does this mean for the institution?

In recent years, TTC has fought hard and been able to attract capital-investments from all levels of government for upgrades to the system: new buses, new streetcars, more service on surface routes, dedicated streetcar routes and extended subway routes. Supporters of the TTC would like even more investment. However, this damaging strike, predictably, has stalled that agenda. Investors, public or private, mitigate against the risk of making bad investments by entrusting their funds in the hands of managers and institutions in which they have high confidence. It will be harder to invest in the TTC of the future.
Trust and risk are uncomfortable partners

The lesson to be learned is that trust and risk are uncomfortable partners, but they are partners . Risk is uncertainty about a situation. Trust, on the other hand, is certainly about .. something. Risk and trust are partners because we need to be able to trust, at least, some minimal things in order to deal with uncertainty. To live in a state of having no trust and no confidence would be damaging to sanity for an individual and tending to anarchy for a nation.
In relation to public institutions, especially those with regulatory responsibilities, citizens are asked to trust that these institutions will act in expected ways concerning matters of uncertainty (risk) involving public interest or safety — a way that embodies principles of fairness, transparency, logic, ethics, law… and effectiveness. If events undermine one or more of these principles, trust in the institution goes down and its ability to carry on with its mandate is marred. The loss of reputation for any type of organization is a most significant failure, compromising its ability to carry on with its mandate.

The three pillars of reputation

Reputation has three pillars that must be in agreement. These pillars involve seeing, hearing and acting. We form opinions based on what we see and hear about the institution, from any source. Ultimately, actions speak louder than words, and the organization’s actions need to be true in every instance of communication. When actions are not true, trust is diminished and reputation suffers.

TTC workers took action that made it very clear to the public whose interest they were putting first. And the public, via its elected representatives, responded with an order to return to work.

Here’s our review of Felix Kloman’s new book, The Fantods of Risk, Essays on Risk Management.

The word fantod is an unusual word, especially coming from an expert on risk management. Felix Kloman has practiced the discipline and written authoritatively on the subject for many years.

The word, which refers to a mind in a state of restlessness, has an interesting literary history. It’s been associated with some … well, restless characters: for instance, Charles Dickens memorable Mr. Pickwick and Mark Twain’s Huckleberry Finn. Here’s how Huck uses the word in a comment about the impact of his Aunt’s “pictures” on him:
“These was all nice pictures, I reckon, but I didn’t somehow seem to take to them, because if ever I was down a little, they always give me the fantods.”

Huck was at unease about the practices of a civilized world, which he viewed through the lens of superstitions and his unconventional experiences.

The word fantod in the title of this book, then, serves to remind readers who think they know a lot about risk that they should never delude themselves about uncertainty. It is inappropriate to feel certainty in the face of uncertainty. It’s reasonable, however, that risk should give you the fantods!

This is not an admission that risk management has little value. It’s a statement of conviction that, when confronted with risk, a know-it-all attitude must never super-cede inquiry, curiosity, careful thinking, and even some humility.

The Fantods of Risk, Essays on Risk Management, then, aims to critically re-examine the discipline that deals with uncertainties to question those practices that may be held to be certainties by some. The value for readers is that this book makes us think. As a brief example of the kind of thinking, here are three cautions that Kloman presents, with commentary related to regulatory situations.

1. Understand that risk can be both favourable and unfavourable.

A balanced view of risk needs to consider “a reasonably rational assessment of all potential outcomes.” Connected with this caution is Kloman’s assessment that we should not respond to risk out of fear. An overly risk-adverse response diminishes the potential that something good could happen. From a regulatory perspective, for instance, the issuing of a new license or a renewal represents the possibility of the good that comes from the license holder operating effectively. This must be balanced against knowledge and experience that the license holder might operate in a way damaging to the public interest. The point is that uncertainty involves a range of possibilities from positive to negative and the regulator must balance these possibilities in a way that provides the greatest service to the public interest.

2. Avoid defining “risk management” too narrowly.

Risks are connected and there is interplay between them that goes beyond department walls, institution walls and beyond jurisdictions. Risk is not just the domain of regulatory employees that focus on enforcement matters. Neither is it just the domain of one regulator. For instance, the regulatee, whether an individual or an organization, with responsibility to self govern is also part of the risk domain.

Kloman focuses more attention on the private sector than the public sector, however, much of his thinking transfers across sectors. And, to the extent that public sector managers can benefit from a critical view of what effective governance looks like in relation to an organization’s capability to manage risk effectively and to be compliant, or to account for the use of government funds (transfer payments), or to be a trustworthy external partner, the book provides many insights.

3. The goal of risk management is easily corrupted.

It can be corrupted by not considering views of disparate stakeholders and also by failing to communicate with stakeholders about risks using clear, simple language.

The reason why the views of stakeholders should be considered stems from the idea that organizations exist to create and maintain value, an idea that comes out of the business world. However, it is often stated that corporations exist to create shareholder value. Kloman disagrees, substituting the word stakeholder for shareholder. The word stakeholder, of course, resonates more in the public sector than the business arena. Kloman uses the word stakeholder to make the point that a sharp focus on shareholder value, while having little regard for the investments made by other stakeholders, is a sure way to damage a corporation’s hard earned reputation-a most significant failure for any institution. The “investments” he refers to include: the time and effort invested by employees; the funds invested by customers; the public investments made by the communities that surround facilities; creditors who lend money; “and regulators who represent the interests of society at large.”

The Fantods of Risk, Essays in Risk Management is a worthwhile and enjoyable read for anyone who is curious to know more about risk management.

To reduce risk, expand your awareness of the risks and what’s happening in your jurisdiction

Bravado and confidence, admirable in some fields, can be disastrous if unchecked in high-risk professionals

In the past few months we’ve been reading about the public inquiry into Dr. Charles Smith, the Ontario pathologist whose questionable testimony led to wrongful convictions, and the financial scandal generated when French trader Jerome Kerviel evaded bank controls leading to the loss of 4.9 billion euros at Societe Generale SA.

The Dr. Smith case is particularly disturbing. Smith was a forensic child pathologist with no training in forensics - none was required or available in Canada when he rose to prominence. In frequent testimony as an expert witness, Smith, by his own admission, supported the prosecution in disregard of his obligation to provide balanced, objective testimony. Smith’s poor practices and mistakes, many of which date back to the early ’90s, resulted in wrongful imprisonment and financial and emotional devastation for several Ontario families.

Through the lens of risk management

The Smith (and Kerviel) examples illustrate how we are underestimating risk and using inadequate controls.

To understand the risks associated with professional behaviour, look at its two parts - Risk equals impact (the potential harm) times likelihood (the probability that harmful behavior will occur).
This classic risk definition helps to distinguish between risks of the job (profession + responsibilities) and risks associated with the person (skills + motivation). Impact depends on the job and likelihood depends on the person.

Risk controls - the boundaries around impact and controls to reduce likelihood - rest with the regulators and institutions that are accountable for protecting the public.

The Dr. Charles Smith case was a high-risk situation even before issues emerged

High impact: As Director of the Hospital for Sick Children’s Pediatric Forensic Pathology Unit and a frequent expert witness, his job was high impact with potential to strongly influence judicial outcomes.
Originally a child pathologist at the Hospital, his promotion to the director role increased his authority and endorsed his expertise.

High likelihood: With no training in forensics and a flawed understanding of the expert witness role, Dr. Smith was very likely to make mistakes. Yet he confidently presented himself as an expert in the courtroom and with his professional colleagues.
In terms of motivation, Dr. Smith was personally dedicated to his work and passionate about determining the causes of suspicious child deaths. This sense of mission likely reinforced his confidence and his reputation.
Not the typical physician’s job, forensic pathologist and medical expert witness roles are not covered by Canadian professional education or regulation, though they are in some other jurisdictions. The institutions accountable for Dr. Smith exercising these responsibilities properly - the Coroner’s Office, the Hospital and the judicial system - did not provide adequate oversight. By their own evidence at the inquiry, the Chief Coroner and Deputy Chief Coroner did not supervise Dr. Smith’s work, relying instead on reputation and friendship.

The Jerome Kerviel case is also instructive

Medium impact became high impact: Jerome Kerviel’s job as a junior trader for Societe Generale SA was to use large volume trades to arbitrage small price differences between equity index futures and forward contracts. In risk terms, this is medium, even low impact work, if the job is performed correctly within established boundaries.
However, Kerviel did not work within the boundaries of his job. Instead he engaged in high risk trading by taking bets on the European market’s direction. By his own admission, he exceeded his limits and faked e-mails to make it look like he had hedged his positions.
High likelihood: In this case, Kerviel’s skills included those he learned in his previous position within the bank’s compliance department. He understood the controls and devised ways to disguise his unauthorized activities. Though apparently not trading specifically for his own gain, he was a junior employee driven to succeed and eligible for bonuses worth several times his salary.

The bank’s controls failed to protect it from Kerviel’s activities. But there were signs. According to the bank, Kerviel described fake trades as mistakes, canceled them and then replaced them with other transactions.

So, what’s the prescription - how can we prevent risky professionals from harming the public?

• First and most importantly, gain a more complete understanding of risk - not just the profession, the actual job; not just the skills, but also the possible motivation.
• Determine who is responsible for managing risk - the regulators, the institutions, the professionals and the consumers of services. Each has a role.
• Put the controls and supporting tools in place - remedies are much easier to see in light of the risks that they are guarding against.
• Finally, always review specific issues in the context of overall risk - they are the warning signs that can help us prevent future harm
  

What was he thinking! If it offends your mother, your family, your constituents, or your professional colleagues, don’t do it!

PERSONAL CONDUCT - WHAT’S THE HARM?

When senior officials or professionals behave contrary to society’s mores or expectations, they undermine the reputations of their office or profession as well as themselves.

Look no further than the top news story of the week, and this week it’s all about New York Governor, Eliot Spitzer. His professional reputation is in shreds, a reputation built as as N.Y. Attorney General and as a crusader against corporate wrong doing. In the parlance of a regulatory client, his behaviour is DDU (disgraceful, disgusting, unprofessional). Based on reports, the Governor used the services of a prostitution ring, repeatedly. What was he thinking? What damage has he done to the reputation of the institutions he leads?

There are character requirements for public office and professions. Some of these are embedded in law and others are implicit in society’s expectations. The intangibles - trust and confidence - make a difference to whether people will accept leadership, use services or take advice. Plus shocking news stories divert public attention from the business at hand.

The impact is real and the likelihood of human misbehaviour, it seems, is pretty high.

The basic distinction between polling and a prediction market, using the example of an election poll, is that the poll takes a representative sample to find out how the group is going to vote. Prediction markets allow a diverse group of people to predict (or bet) who’s going to win.

With risk-based regulation, there are times when the consequences of a wrong decision are high enough that a best guess isn’t good enough. Prediction markets, or information markets, as they are sometimes called, present a technique of tapping into the “wisdom of the crowds” to get a better reading. New types of markets can be developed to assist in regulatory decision making. Already, prediction markets have proven themselves in diverse areas such as disease forecasting, Hollywood box office success, and economic and financial forecasts.

More information

Information Markets: A New Way of Making Decisions. This document captures the proceedings of a 2004 regulatory conference about information markets. The conference was hosted by the “Reg-Markets Center,” officially the AEI Center for Regulatory and Market Studies (formerly known as the AEI-Brookings Joint Center).

Our review of Wisdom of the Crowds by James Suroweicki.

A recent article in The New Yorker by Carl Elliott, a professor at the Centre for Bioethics at the University of Minnesota, asks questions about the ethics of recruiting healthy and cash-hungry “guinea pigs” to support the drug testing economy. In recent years, pharmaceutical companies have moved drug trials to the private sector where more than seventy percent are now conducted. There’s a lot of money on the table (thousands of dollars per subject) for recruitment and the potential to attract health professionals to participate in an area of questionable ethics. Specifically, Elliot discusses the situation of Frank Abuzzahab, a de-licensed physician in the U.S who now operates as a psychopharmacology researcher. He lost his licence through disciplinary action: he was deemed to be responsible for the injuries or deaths of forty-six patients under his care who he recruited for drug trials.

Health professionals are in a position of authority when dealing with clients, or even the public. Their codes of ethics place the interests of the client ahead of their own.

What’s your view on the ethics of this situation? Is it appropriate for doctors, nurses or other health professionals to do some moonlighting on the side like this or not?

Collectively, the diverse group is smarter than individuals. This is the core message of The Wisdom of the Crowds by James Surowiecki.

Surowiecki provides a framework with examples of when and how the knowledge of the crowd can impact decisions positively.

This idea applies well to regulation. Why? Because regulators are generally a step or two removed from the uncertainties they need to know about. First-hand knowledge about these risks reside with the regulated parties.

As well, the sources of uncertainty in most jurisdictions are dispersed and mostly invisible until they are brought to the attention of the regulator. The collective knowledge of constituents (regulatees and individuals who are affected by what regulatees do) is far greater than the regulator. Effective new methods for capturing this knowledge will improve regulatory oversight.

The reasons why a regulator might be cautious about open consultations are too obvious to mention. It’s a more challenging matter to think about how to make these kind of consultations work for a regulatory organization.

Internet technologies present one option. If you want examples and inspiration, read Wickinomics, by Don Tapscott and Anthony Williams. Or see how “wisdom of the crowds” works in the redevelopment of this book using wiki technology.

RISK DEFINES WHO WE ARE

If you have an image in your mind that risk management is a negative subject, always focused on bad things, you need to read Mumsipus Revisited by Felix Kloman and experience the humanity of the man who believes that “taking risk is the defining element of human existence.”

Kloman’s update on Descartes’ famous quotation is “perilitor ergo sum,” I risk, therefore I am. Life with no risk would be sterile and dull. It’s a cliché to say that risk and reward go hand in hand. It’s ironic, then, that the common perception about risk management omits the positive aspect to focus only on the negative. Kloman argues persuasively that risk management addresses both situations.

The essays in this book are from a 15 -year period since 1974 during which Kloman was editor of the newsletter, Risk Management Reports. You can order a copy from Seawrack Press.
The essays offer many thoughtful insights about the nature of risk and the discipline that has grown up around it.
The essays are organized by themes (chapters)– a few of which are noted here:

• History of risk management
• Issues in risk management (including a discussion of broad public policy issues)
• Risk communication: difficulties in this area and why it’s so important
• Insurance (Kloman is a critic of the industry that provides a tool for “sharing risk.” His views may be of interest to insurance regulators, and other regulators who oversee specific-purpose “captive” insurance plans)
• Catastrophes, the ultimate challenge for risk managers and regulators.

Kloman’s authority as a commentator stems from the perspective, independence, clarity of thought and humanity he brings to every essay. He’s been an practitioner and respected commentator throughout the development of the risk management profession: it’s a young profession; He reads widely and shares his sources; He loves good writing and his writing reflects the obvious care that he takes; And, his passion for risk management reflects his values and conviction that this discipline can improve outcomes for society.
It’s worth reading just to discover what he considers to be valuable. In the risk literature field, Peter Berstein’s book Against the Gods: The Remarkable Story of Risk is but one example.

The title of the book, Mumpsimus Revisited, makes reference to the story of a monk whose erroneous use of latin in the Mass was of little matter to him.The story is a reminder that we need to revisit our assumptions, especially as they relate to risk.

It is by reading novels, stories, and myths that we come to understand the ideas that govern the world in which we live; it is fiction that gives us access to the truths kept veiled by our families, our schools, and our society; it is the art of the novel that allows us to ask who we really are.

In another section, the reviewer again quotes Pamuk, “an imaginative novelist … can look directly into the center of things the way that only children can.” The child’s view is unconditioned by adults who may not see the obvious, or if they see it may have good reasons for keeping quiet about it. You’ll recall in the story of the Emperor’s Clothes that it was a child that revealed the veiled truth about the not so veiled Emperor, that he was buck naked.

Certainly, regulation is an idea or really a model that civilized society uses to manage behaviour. The danger within this model lies in the veiled truth that seasoned regulators know about and are sometimes quiet about; that regulation can really control societal risk. I know this sounds like heresy. Clearly, I think regulation can be an effective discipline on a jurisdiction. I also know that the systematic approach of risk management can help regulation be more effective. However, the danger lies in the naive belief that regulation alone sufficiently protects society’s interests. Citizens and regulatees also figure large in the protection equation. Everyone needs to have their antennae up when it comes to managing risk. The danger is in believing that because we have good regulation and that we do effective risk management we can feel safe.

Michael Power of the Centre for Risk and Regulation (CARR) at the London School of Economics labels this as the Risk Management of Everything. This is the title of a paper that cautions readers on over reliance of the corporate governance system. (And I would add, any method of self-certification.) Increasingly regulators rely on the effectiveness of the enterprise risk management systems of organizations. Certainly, it’s a good thing for organizations to have effective control measures in place. However, it’s equally important to know that underlying assumptions could very well undermine the entire artifice. The important assumptions relate to Pamuk’s notion about “truths kept veiled.”

This is also the ludic fallacy that Nassim Nicholas Taleb presents in The Black Swan. The fallacy is that we misinterpret the model for reality as reality itself. We’re too inside the box to see that high consequence outliers , black swans, can make a mockery of the carefully constructed model. The precise probabilities and defined rules in a model such as a game of chance don’t reflect the real world.

What’s the solution? Value experience over theory. Maintain skepticism. Seek outside views that challenge your assumptions. Read more imaginative fiction that reveals veiled truths.